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Securities Funda
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Fundamentals of Securities Operations
Mark AlexanderCIO and Head of Global Wealth and Investment Management Technology & Operations
Bank of America Merrill Lynch
March 9, 2011
Operations Industry Framework
Pricing, Market and Reference Data Providers
Clients Financial
Intermediaries
Market
Infrastructure
Global MarketsAsset Managers
Hedge Funds
Pensions / Insurance
Financial Institutions
Sovereigns
Municipalities
Corporations
Wealth Management
UHNW Individuals
HNW Individuals
Mass Affluent
Affluent
Mass Market
Institutions
Market Access ProvidersBrokers
Dealers
Underwriters
Banks
Custodians
BPOs
Issuing, Paying, Transfer,
and Calculations Agents
Wealth Management
Providers
Full-Service Brokers
Investment Advisors
Private Banks / Trust
Online / Discounters
Mutual Funds
Back Office Services
Trade Execution
Exchanges
Trading Networks
OTC Trading
Clearing, Settlement
and Custody
Central Counterparties
Central Securities
Depositories
Service Providers
Global Markets Fee Demographics
Fee Pools ~$300B
Rates &
Currencies
38%
Equities
20%
Credit
16%
Underwriting
14%
Mortgages &
Securitized
Products 7%
Commodities
5%
Wealth Management Demographics
Wealth Management Market Size (HNWIs)
~$39T
North
America
27%
Europe
24%
Asia
Pacific
25%
Latin
America
17%
Middle East
& Africa
7%
U.S. Financial Assets
by Wealth Segment
Mass Market 7%
Mass Affluent 11%
Affluent/HNW 82%
Global Markets: Key Broker/Dealer Services
Capital Raising
Product Innovation
Structured Products
Complex Derivatives
etc.
Research/Investing Advice
Market Making / Trade Execution
Clearing / Settlement - Mostly
Delivery Versus Payment (DVP)
Prime Brokerage & Financing
Pricing Mechanism / Liquidity
Securities and Derivatives
Principal
Agency / Riskless Principal
Middle / Back Office
Custody
Client Reporting
Stock Loan / Borrow
Repo / Reverse Repo
Synthetic Financing
FX / Derivatives
Wealth Management: Key Services
Basics
Trade Execution - Agency / Riskless Principal
Clearing / Settlement
Custody
Margin Financing
Client Reporting
Value-Added
Financial Planning
Wealth Structuring
Banking, Lending and Insurance
Managed Solutions
Family Office Services
Complex Financing Solutions
Philanthropic Services
Institutional Retirement and Benefit Plans
Small Business Services
Types of Securities and FeaturesEquities
Common Stock
Preferred Stock
Exchange Traded Funds
ADRs / GDRs
Corporates
Bonds / Notes
Investment Grade / High Yield
Structured Products
Listed Options/Futures
Puts
Calls
Single Name / Indices
Securities / Commodities
Mutual Funds
Loads
No-Loads
Share Classes
Open-Ended
Closed-End
Financing
Securities Borrowed / Loaned
Repos / Reverse Repos
Municipals
General Obligations
Revenue Bonds
Special Purpose
Money Markets
Certificates of Deposit
Commercial Paper
Securitized Debt
Mortgages (PassThrus / CMOs)
Asset-Backed
Collateralized Debt Obligations
Sovereign/Government
U.S. Treasuries
Agency Securities
Non-U.S. Governments
Emerging Markets
Features
Debentures (Unsecured)
Subordinated
Secured
Bearer vs. Registered
Bullets vs. Amortizing
Convertible / Exchangeable
Fixed vs. Structured Principal
Principal Protected
Inflation Protected
Floating vs. Fixed Rate
Zero Coupon vs. Income Bonds
Strips
Interest Accrual Rules
Callable / Putable
Refunding
Sinking Fund
Market-Linked
Step-Up / Down
Attached Warrants
etc.
Clearing Corporations/Central Counterparties
Roles:
Trade Comparison Trade Netting Trade Guarantee / Novation Risk Management Margining Audit Trail
Clearing Alternatives:
Continuous Net Settlement (CNS) Net Settlement / Balance Orders Trade-for-Trade
Other Services:
ACATS Mutual Funds
Select CCPs
U.S.
NSCC
FICC
OCC
CME
Non-U.S.
Eurex
LCH.Clearnet
EMCF
Euro CCP
Features
Central Securities Depositories
Roles:
Immobilization of Physical Certificates Book Entry Settlements Liquidity / Credit Management Collection / Disbursement of P&I Payments Notification / Processing of Corporate Actions Processing of Calls / Redemptions Transfers / Re-registration Safekeeping Physical Securities
Key Features/Services:
DVP Free Receipts and Deliveries Fail and Repo Tracking Fail Balancing Claims Processing (Interest)
Select CSDs
North America
DTC
Fedwire
CDS
Non-U.S.
Euroclear +
Clearstream
Local CSDs
Features
Life Cycle of a Typical U.S. Equity Trade
Client
Buy SellNYSE /
NASDAQ /
ECNs
NSCC
DTCC
Book
Entry
Receive
Book
Entry
Delivery
Locked-in
Trade
Netted
Settlement
Instructions
ClientBroker /
DealerBroker /
Dealer
Order
Confirm
Order /
Execution
Matching
Order
Confirm
Money settlements are further netted across all securities with
adjustments for margin calls, fail marks-to-market and other activity to
create one net money settlement per Broker / Dealer per day
Broker/Dealer A
Buy 100 IBM
Buy 200 IBM
Sell 500 IBM
Net Sell 200 IBM
Obligations marked to market with theoretically one net settlement per
security per Broker / Dealer per day
Broker/Dealer B
Sell 100 IBM
Buy 200 IBM
Net Sell 100 IBM
Broker/Dealer C
Sell 200 IBM
Sell 200 IBM
Buy 500 IBM
Net Buy 100 IBM
CNS in Action
Life Cycle of a Typical U.S. Equity Institutional Trade
Broker /
Dealer
NYSE /
NASDAQ /
ECNs
NSCC
DTCCCustodian A
Custodian B
Custodian C
Order
Average Price Trade
Allocations
Confirms
Ins
titu
tio
na
l C
lie
nt
Order
Execution (Multiple
Fills)
Settlement
Messages
Matching
Settlement
Messages
Life Cycle of a Complex Cross-Border Equity Trade
Broker /
Dealer
Order
VWAP
Allocations
Confirms
Ins
titu
tio
na
l C
lie
nt
Master
Custodian
Non-US
Broker /
Dealer
Non-US
Market
Makers
Local
Exchange
CCP CCP
Alternative
Trading Facility
Sub
CustodiansLocal
CSDSettlement
Messages
Order /
Execution
Order /
Execution
Matching / Settlement
Messages
Collateralized Financing Transactions
Terms Overnight Term Open Flex
Fixed vs. Variable Interest Rates
Collateral Cash Securities Letters of Credit General Collateral vs. Special
Issues
Cross-Product Substitutions
Credit Initial Margin (Haircuts) Mark-to-Market & Margin Calls
Product
Categories
Sovereigns
Agencies
Mortgages/
Asset-Backed
Securities
Corporates
Equities
Transactions
Reverse Repos / Repos
Securities Borrowed /
Loaned
Delivery vs. Payment
Triparty
Hold-In-Custody
Synthetic Derivatives
Features
Repos/Reverse Repos
Repo
Counterparty
Principal Money
Reverse Repo
Counterparty
Securities
Principal Money Plus Interest
Securities
OTC Derivatives
Swaps
Options
Futures
Forward Rate
Agreements
Caps / Floors / Collars
Rates
Currencies
Credit
Equities
Commodities
Notional / NPV
Terms and Conditions
Fixed vs. Floating
Total Return
Index vs. Single Name
Amortizing
Puts / Calls
American vs. European
Swaptions / Captions
Barriers
Knock-ins / Knock-outs
Collateralized
etc.
Transaction
TypesProduct
Categories
Features
Simple Interest Rate Swaps Illustration
Asset LIBOR +1/2%
Liabilities 10-Year Bond @ 4%
Asset Fixed Rate Mortgage @ 6%
Liabilities MMDA at T Bill +1/2%
Pay
LIBOR
Broker/Dealer
(Intermediary)
Receive
LIBOR
Receive
5%
Pay
5%
Bank S&L
* Illustration excludes Broker/Dealer spread
Life Cycle of a Typical OTC Derivatives Trade
Broker /
Dealer
Exchange ISDA Agreements with CSAs
Negotiate Contract Terms (Price,
Collateral, Margin, etc.)
Exchange/Sign Documentation
(Confirms)/Match Terms *
Mark-to-Market Margin / Collateral Movements
Lifecycle Events / Payment Resets
Service
Providers (DTCC)
Exchange Upfront Fees / Premiums
(where applicable)
Matching Service Providers
(Markitwire, DTCC) Client /
Counterparty
* CCPs (CME, ICE, LCH) clear certain interest rate and credit derivatives
Operations Functions in Broker/Dealers
Client OnboardingTrade / Trader
SupportPre-Settlement
ProcessingCash / Security
Settlements
CustodyBooks and
RecordsMargin / Collateral
ManagementOperations Risk
Management
Reference / Market Data
Client Reporting Client ServicesSpecialized
Product Support
Client Onboarding
Account Opening
Anti-Money Laundering
Patriot Act
Office of Foreign Assets Control
Account Documentation
Contract Documentation
Trade/Trader Support
Order Management
Trade Execution Matching / Balancing
Trade Verification
Position / P&L Balancing
Pre-Settlement Processing
Trade Figuration and Enrichment
Trade Clearance
Allocations
Confirmations (Securities & Derivatives)
Pairoffs / Bulking / Netting
Custodial Matching
Payment Resets (OTC Derivatives)
Life Cycle Event / Trigger Management (Derivatives)
FX Funding
Functions in Broker/Dealers
Cash/Security Settlements
Securities Settlements (DVP and Free) Cash Receipts / Disbursements Funding / Settlement Liquidity
Management
ACATS / Broker Transfers Financing Desk Coordination (Reverse
Repo / Securities Borrow)
Fails Management Claims Processing Network Management Wealth Management Banking Services
Visa, Checking, ACH, Wires, Deposits, Loans, Sweeps
Custody
Corporate Actions Notifications Corporate Actions Election Management Interim Accounting Income / P&I Entitlement Processing Tax Withholding / Collections Transfers / Re-registrations Physical Securities Processing /
Safekeeping (Vault)
Security Deposits / Withdrawals Specialty Asset Services
Functions in Broker/Dealers
Books and Records
External Reconciliations (Cash / Nostro, Box / Depot)
Internal Reconciliations (Inter / Intra-Company, Suspense, Fails)
Receivable / Payable Tracking
Stock Record Maintenance
Customer Account Bookkeeping
Fees and Billing
Margin/Collateral Management
Reg T Initial Margin and Cash Payments
NYSE Rule 431 Margin
Financing Transactions Margin
Forward Trade Margin (e.g., Mortgage TBAs)
Central Counterparty Collateral Posting
OTC Derivatives Margin / Collateral Management
Operations Risk Management
Management Reporting and Metrics SEC Rules 15c3-1 and 15c3-3
Reporting
Client Money Compliance (Including SEC Rule 15c3-3 Reserve Formula)
Sec Rule 15c3-3 Possession or Control Compliance
Escheatment (Abandoned Property) Fraud Management Systems Implementations / Testing
Reference/Market Data
Product Data Maintenance
Client Data Maintenance
Standing Settlement Instructions Maintenance
Pricing
Client Services
Call Centers
Wealth Management Branch Liaison / Support
Institutional Client Relationship Management
Prime Brokerage Client Services
Client Reporting
Statements
Tax Reports
Performance Reporting / Client Reviews
Fails (Institutional Clients)
Derivatives Pricing / Client Valuations
Print and Mail
Functions in Broker/Dealers
Specialized Product Support
Mutual Funds Managed Solutions Insurance Alternative Investments Mutual Funds Transfer Agency / Sub-
Accounting
Trust Services Portfolio Administration / Valuation Benefit Plan Recordkeeping & Services Structured Products Special Purpose Vehicles
Key U.S. Regulations
Anti-Money Laundering
Know Your Customer
SEC Rule 15c3-1 (Net Capital)
SEC Rule 15c3-3 (Customer Protection)
Possession or Control
Reserve Formula
SEC Rule 17a-3 & 17 a-4 (Timely and Accurate Books & Records)
SEC Rule 17a-13 (Quarterly Security Count)
SEC 10b-10 & MSRB G-15 (Confirmation Disclosure)
Regulation T (Credit Extension)
NYSE 431
Operational Risks
Unauthorized Transactions
Manual Processing
Failed Data Feeds
Trigger Events / Deadlines
Reconciliation Breaks
Uncollected Receivables
Fails
Data Accuracy
Aged OTC Derivatives Confirms
Missing Documentation
Uncollected Margin Calls
Technology Stability / Capacity
Service Levels
Vendor Management
Fraud
Key Concepts Key Risks & Metrics
Financial Exposure
Debits / Short Market Value
Unsecured
Deficits (Partly Secured)
Aged Items
Counterparty Events
Regulatory
Policies & Procedures
Audit Trails
Reputational
Credits / Long Market Value
Service Levels
Timeliness / Accuracy
Business Disruptions
System Outages
Natural Disasters
Industry Trends
More Volume
More Products & Complexity
More Technology
Margin Compression
Global Convergence
Multi-Currency
Multi-Lingual
Sourcing / Off-shoring
Regulatory Scrutiny
Leverage of CCPs / Industry Utilities for OTC Derivatives
Banking and Brokerage Convergence
Bad News TravelsFaster Than Ever
What Great Operations Teams Do
Get the Basics Right
Manage by Metrics
Provide World-Class Service
Facilitate / Drive Revenue Growth
Competitively Reduce Expenses
Proactively Manage Risks
Be the Employer of Choice for Great Talent
Manage Operations like a Business
Build Strong Business Relationships as an Equal Partner
Balance Speed and Control
Balance Strategy and Tactics
Leverage Global Capabilities
Always Raise the Bar . Continuously Improve
Challenge the Status Quo
Questions?
Fundamentals of Securities Operations
Mark AlexanderCIO and Head of Global Wealth and Investment Management Technology & Operations
Bank of America Merrill Lynch
March 9, 2011