CONFIRMATION AND SETTLEMENT
LEADING PRINCIPLE
Market Participants are expected to put in place robust, efficient, transparent, and risk-mitigating post-trade processes to promote the predictable, smooth, and timely settlement of transactions in the FX Market.
The principles below relate to systems and processes surrounding the confirmation and settlement of FX trades. These principles should be applied in a manner consistent with the size and complexity of the Market Participant’s FX Market activities, and the nature of its engagement in the FX market.
I. Overarching Principles
Principle 42
Market Participants should establish consistency between their operating practices, their documentation, and their policies for managing credit and legal risk.
Operating practices (including processes for confirming and settling trades) should be consistent with legal and other documentation. Similarly, the use of mitigants for credit risk should be consistent with this documentation and with the Market Participant’s credit risk policies.
Principle 43
Market Participants should institute a robust framework for monitoring and managing capacity in both normal and peak conditions.
At a minimum, Market Participants should have sufficient technical and operational capability to support end-to-end FX processing in both normal and peak market conditions without undue impact on the processing timeline.
Market Participants should have defined mechanisms in place to respond to extreme changes in demand, as required and on a timely basis. Furthermore, clearly defined and documented capacity and performance management processes should be in place and reviewed regularly, including with external vendors.
Principle 44
Market Participants are encouraged to implement straight-through automatic transmission of trade data from their front office systems to their operations systems.
Such transfer of trade data should be facilitated by means of secure interfaces where the transmitted trade data cannot be changed or deleted during transmission. When trade data cannot be transmitted automatically from the front office to the operations system, adequate controls should be in place so that trade data are captured completely and accurately in the operations system.
Principle 45
Market Participants should conduct any novations, amendments, and/or cancellations of transactions in a carefully controlled manner.
Processes for novating, amending, or cancelling transactions should be clearly defined and should provide for the maintenance of appropriate segregation between operations and sales and trading personnel. Reporting on amendments and cancellations should be made available to management in these areas on a regular basis.
II. Confirmation Process
Principle 46
Market Participants should confirm trades as soon as practicable, and in a secure and efficient manner.
Market Participants should confirm FX trades as soon as practicable after execution, amendment, or cancellation. The use of automated trade confirmation matching systems, when available, is strongly recommended. Market Participants should also implement operating practices that segregate responsibility for trade confirmation from trade execution.
Confirmations should be transmitted in a secure manner whenever possible, and electronic and automated confirmations are encouraged. When available, standardised message types and industry-agreed templates should be used to confirm FX products. Trades arranged via an IDB 1Interdealer Broker (IDB): A financial intermediary that facilitates transactions between broker-dealers, dealer banks, and other financial institutions rather than private individuals. This includes brokers executing by voice or electronic means, or a hybrid thereof. Brokers with any degree of electronic execution are also a subcategory of FX E-Trading Platforms should be confirmed directly between both parties to the transaction. Market Participants should receive an affirmation from the IDB to assist in accurately booking trades.
Open communication methods such as e-mail can significantly increase the risk of fraudulent correspondence or disclosure of Confidential Information 2Confidential Information: Information that is to be treated as confidential, including FX Trading Information and Designated Confidential Information to unauthorised parties. If confirmations are communicated via open communication methods, those methods should comply with information security standards (and also see Principle 23 in Information Sharing).
If Market Participants bilaterally choose to match trades using front-end electronic dealing platforms in place of exchanging traditional confirmation messages, the exchange of trade data should be automated and flow straight-through from the front-end system to operations systems. Strict controls should be in place so that the flow of data between the two systems is not changed and that data are not deleted or manually amended. Any agreements between the parties to use electronic dealing platforms for trade matching rather than exchanging traditional confirmation messages should be documented in the legal agreement between the parties.
Principle 47
Market Participants should review, affirm, and allocate block transactions as soon as practicable.
Block transaction details should be reviewed and affirmed as soon as practicable following execution. Investment managers or others acting as Agent 3A Market Participant that executes orders on behalf of its Clients pursuant to the Client mandate, and without taking on market risk in connection with the order on behalf of multiple counterparties may undertake block transactions that are subsequently allocated to specific underlying counterparties. Each underlying counterparty in a block transaction should be an approved and existing counterparty of the dealer-counterparty prior to allocation. Each post-allocation transaction should be advised to the counterparty and confirmed as soon as practicable.
Principle 48
Market Participants should identify and resolve confirmation and settlement discrepancies as soon as practicable.
Market Participants that identify discrepancies between received confirmations or alleged trades and their own trade records should investigate internally and inform their counterpart with the aim to resolve such discrepancies as soon as practicable. Market Participants should also carefully reconcile all alleged trades and inform senders of unknown confirmations that the recipient cannot allocate to any internal trade record.
Escalation procedures should be established to resolve any unconfirmed or disputed terms as a matter of urgency, and processes should be in place to detect and report adverse trends that emerge in the discrepancies.
Escalation procedures should also include notification to trading and other relevant internal parties so that they know which counterparties may have practices that do not align with best practices regarding confirmation of trades. Senior management should receive regular information on the number and latency of unconfirmed deals so that they can evaluate the level of operational risk being introduced by maintaining dealing relationships with their firms’ counterparties.
Principle 49
Market Participants should be aware of the particular confirmation and processing features specific to life cycle events of each FX product.
Market Participants should establish clear policies and procedures for the confirmation, exercise, and settlement of all FX products in which they transact, including those with unique features. Where applicable, Market Participants should familiarise personnel responsible for operations with the additional terms and conditions associated with various FX products and the protocols and processes around life cycle events in order to reduce operational risk. Market Participants should also be fully versed in the appropriate terminology, contract provisions, and market practices associated with FX products.
III. Netting and Settlement Processes
Principle 50
Market Participants should properly measure, monitor and control their Settlement Risk equivalently to other counterparty credit exposures.
Where PVP settlement is not practicable, Settlement Risk 4Settlement Risk: The risk of outright loss of the full value of a transaction resulting from the counterparty’s failure to settle. This can arise from paying away the currency being sold, but failing to receive the currency being bought. (Settlement Risk is also referred to as “Herstatt Risk.”) should be properly measured, monitored and controlled. To avoid underestimating the size of the exposure to a counterparty, Market Participants should recognize that the exposure includes the full value of all payments that cannot be recalled or cancelled, and any trades not confirmed to have settled with finality.
To avoid underestimating the duration of exposures, Market Participants should recognize that Settlement Risk exposure to their counterparty begins when a payment order for the currency can no longer be recalled or cancelled and ends when the purchased currency is confirmed to have settled with finality.
Market Participants should set ex ante limits not greater than the maximum exposure they are willing to take with a particular counterparty and use controls equivalent to those that are applied to other credit exposures to the same counterparty. Market Participants should monitor usage to ensure that exposures do not exceed limits. When a decision is made to allow a counterparty to exceed a limit, appropriate approval should be obtained.
Where settlement amounts are to be netted, the initial confirmation of trades to be netted should be performed as it would be for any other FX transaction. All initial trades should be confirmed before they are included in a netting calculation. In the case of bilateral netting, processes for netting settlement values used by Market Participants should also include a procedure for confirming the bilateral net amounts in each currency at a predetermined cut-off point that has been agreed between the counterparties.
Principle 51
Market Participants should use Standard Settlement Instructions (SSIs).
SSIs 5SSI: Standing settlement instruction should be in place, where practicable, for all relevant products and currencies for counterparties with whom a Market Participant has a trading relationship. The responsibility for entering, authenticating, and maintaining SSIs should reside with personnel clearly segregated from a Market Participant’s trading and sales personnel and ideally from those operational personnel responsible for trade settlement. SSIs should be securely stored and provided to all relevant settlement systems so as to facilitate straight-through processing.
The use of multiple settlement instructions (as opposed to a single SSI) with the same counterparty for a given product and currency is discouraged and should only be used where a business risk or reason necessitates it. For example, where are Market Participant has different business lines and operates a separate SSI per business line; or where a market Participant uses multiple custodians for the same currency.
Because of the Settlement Risks it introduces, the use of multiple settlement instructions with the same counterparty for a given product and currency should have appropriate controls. Where multiple settlement instructions are used, there should be a default SSI that applies until otherwise advised.
SSIs should be set up with a defined start date and captured and amended (including audit trail recording) with the appropriate approvals, such as review by at least two individuals. Counterparties should be notified of changes to SSIs with sufficient time in advance of their effective date. Changes, notifications, and new SSIs should be delivered via an authenticated, and standardised, message type whenever possible.
All transactions should be settled in accordance with the SSIs in force on the value date. Trades that are outstanding at the time SSIs are changed (and have a value date on or after the start date for the new SSIs) should be reconfirmed prior to settlement (either bilaterally or through an authenticated message broadcast).
Where SSIs are not available (or existing SSIs are not appropriate to the particular trade), the alternate settlement instructions to be used should be delivered as soon as practicable. These instructions should be exchanged via an authenticated message or other secure means and subsequently verified as part of the trade confirmation process.
Principle 52
Market Participants should request Direct Payments.
Market Participants should request Direct Payments 6Direct Payment: The transfer of funds in settlement of an FX transaction to the account of the counterparty to the transaction when conducting FX transactions and recognise that Third-Party Payments 7Third-Party Payment: The transfer of funds in settlement of an FX transaction to the account of an entity other than that of the counterparty to the transaction may significantly increase operational risk and potentially expose all parties involved to money laundering or other fraudulent activity. Market Participants engaging in Third-Party Payments should have clearly formulated policies regarding their use and any such payments should comply with such policies.
At a minimum, these policies should require the payer to be furnished with a clear understanding of the reasons for Third-Party Payments and for risk assessments to be made in respect of anti-money laundering, counter-terrorism financing, and other Applicable Law 8Applicable Law: With respect to a Market Participant, the laws, rules, and regulations applicable to it and the FX Market in each jurisdiction in which it does business. Arrangements for Third-Party Payments should also be agreed upon and documented between the counterparties prior to trading. In the event a Third-Party Payment is requested after a trade has been executed, the same level of due diligence should be exercised and relevant compliance and risk approvals should be sought and secured.
Principle 53
Market Participants should have adequate systems in place to allow them to project, monitor, and manage their intraday and end-of-day funding requirements to reduce potential complications during the settlement process.
Market Participants should appropriately manage their funding needs and ensure that they are able to meet their FX payment obligations on time. A Market Participant’s failure to meet its FX payment obligations in a timely manner may impair the ability of one, or more, counterparties to complete their own settlement, and may lead to liquidity dislocations and disruptions in the payment and settlement systems.
Market Participants should have clear procedures outlining how each of their accounts used for the settlement of FX transactions is to be funded. Whenever possible, those Market Participants with nostro accounts should be projecting the balance of these accounts on a Real-Time basis, including all trades, cancellations, and amendments for each tenor (value date) so that they can diminish the overdraft risk from the nostro account.
Market Participants should send payment instructions as soon as practicable, taking into consideration time zone differences as well as instruction receipt cut-off times imposed by their correspondents. Market Participants should communicate expected receipts (via standardised message types, when possible) to allow nostro banks to identify and correct payment errors on a timely basis and aid in the formulation of escalation procedures.
Market Participants should communicate with their nostro banks to process the cancellations and amendments of payment instructions. Market Participants should understand when they can unilaterally cancel or amend payment instructions and should negotiate with their nostro banks to make these cut-off times as close as possible to the start of the settlement cycle in the relevant currencies.
IV. Accounting Reconciliation Processes
Principle 54
Market Participants should perform timely account reconciliation processes.
Market Participants should conduct a regular reconciliation process to reconcile expected cash flows against actual cash flows on a timely basis. The sooner reconciliations are performed, the sooner a Market Participant can detect missing or erroneous entries and know its true account balances so that it can take appropriate actions to confirm that its accounts are properly funded. Reconciliations should be carried out by personnel who are not involved in processing transactions that would affect the balances of accounts held with correspondent banks.
Full reconciliation should occur across nostro accounts as early as possible. To aid in the full reconciliation of their nostro accounts, Market Participants should be capable of receiving automated feeds of nostro activity statements and implement automated nostro reconciliation systems. Market Participants should also have measures in place to resolve disputes.
Escalation procedures should be in place and initiated to deal with any unreconciled cash flows and/or unsettled trades.
Principle 55
Market Participants should identify settlement discrepancies and submit compensation claims in a timely manner.
Market Participants should establish procedures for detecting non-receipt of payments, late receipt of payments, incorrect amounts, duplicate payments, and stray payments and for notifying appropriate parties of these occurrences. Escalation procedures should be in place for liaising with counterparties that fail to make payments and more broadly for the resolution of any disputes. Escalation should also be aligned to the commercial risk resulting from fails and disputes. Market Participants that have failed to make a payment on a value date or received a payment in error (for example, a stray payment or duplicate payment) should arrange for proper value to be applied or pay compensation costs in a timely manner.
All instances of non-receipt of payment should be reported immediately to the counterparty’s operations and/or trading units. Market Participants should update their settlement exposure with the most recent projected cash flow movements. Market Participants may wish to consider a limited dealing relationship with counterparties that have a history of settlement problems and continue to fail on their payments.