## _cr0860 — Detailed Assessment of Canada’s Observance of the CPSS-IOSCO Recommendations for Securities Settlement Systems

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### Legal basis, enforceability, and participant protections
- All key laws, regulations, contractual arrangements, rules, and procedures governing CDSX operations are public and accessible to participants; documentation available on request and on the CDS website.
- Relevant statutes and instruments:
  - Payment Clearing and Settlement Act (PCSA) (federal), enacted in 1996 and amended in 2007 — empowers the Bank of Canada (BOC) to designate and oversee clearing and settlement systems that could pose systemic risk; provides protection for CDSX settlement rules and procedures.
  - Ontario Securities Act and Québec Securities Act — recognize, authorize, and regulate clearing houses.
  - Federal Bills of Exchange Act, Depository Bills and Notes Act (DBNA), Ontario Business Corporations Act, and provincial instruments govern issuance, immobilization, book-entry, and transfer of securities.
  - Canadian Securities Administrators National Instrument 54-101 grants non-registered and registered securities holders equivalent access to corporate information and voting rights.
  - CDS qualifies as an eligible foreign custodian with the U.S. Securities and Exchange Commission and is subject to the Investment Companies Act (1940).
- Customer asset protection and segregation:
  - Assets held in trust at custodians are held in segregated accounts and protected from seizure on custodian insolvency; intermediaries must keep customer holdings separate from their own.
  - Custodians legally obliged to have internal accounting systems to identify customer holdings at any time.
- Immobilization/dematerialization:
  - Approximately 95 percent of government securities, equities, and corporate bonds, and 90 percent of corporate money market instruments are immobilized.
  - CDS operates an indirect account holding system; transfer of ownership occurs via electronic book-entry on CDS and intermediaries’ books.

### Trade confirmation, settlement cycles, and rolling settlement (Recommendations 2–3)
- Trade confirmation timeliness:
  - CDSX capability: straight-through-processing (STP) of trade-for-trade confirmation on T+0.
  - Actual practice:
    - Direct/non-institutional: Exchange-traded transactions are confirmed or “locked-in” automatically at the exchange at T+0 and moved to CDSX with a “confirmed” status.
    - Dealer-to-dealer IDA Regulation 800.49: submit to an “acceptable trade matching utility” within one hour of execution.
    - Indirect/institutional: New CSA framework effective April 1, 2007; by July 1, 2008 market participants must confirm 90 percent of their trades by T+1 or submit an “exception report”. Current situation: about 70 percent of trades by volume are confirmed by T+1.
  - Assessment: Observed.
- Settlement cycles and failed trades:
  - Equities: T+3.
  - Government of Canada treasury bills and money market securities: T+0.
  - Government of Canada bonds and guaranteed bonds ≤ three years: T+2.
  - Longer-dated government, provincial, municipal, corporate bonds, equities, MBS: T+3.
  - Failed equities trades: about 0.5 percent of total number of trades executed on the stock exchange.
  - Approximately 5 percent of fixed income trades are not settled by the value date.
  - Failed trades are settled within 5 days after the settlement date and can remain within the system for 10 days.
  - Assessment: Observed.

### CCP role and assessment (Recommendation 4)
- Current CCP roles:
  - CDS becomes the CCP for cash payments arising from all securities transactions settled in CDSX.
  - Acts as CCP for securities leg of future-dated Canada bonds and treasury bills via DetNet, and for equities via CNS.
  - For DetNet, novation can occur before settlement date, exposing participants to replacement cost risk from T+0 until novation.
- Cost-benefit analysis and recommendation:
  - No explicit cost-benefit analysis for introducing a CCP for trade-for-trade (TFT) transactions has been done.
  - Assessment: Broadly observed. Comment: CDS should explicitly assess benefits and costs of acting as a CCP for TFT transactions to fully observe the recommendation.
- Policy comment:
  - International best practice: consider legal separation of CCP functions from settlement and custody functions into a distinct legal entity.

### Securities lending, repo markets, and immobilization (Recommendation 5–6)
- Market structure:
  - Well-developed bilateral securities lending and repo markets; majority involve Government of Canada securities.
  - No centralized automated securities lending facility; CDS investigated programs in 2006 but found no business case.
- Regulation and documentation:
  - Standardized documentation by IDA; OSFI guidelines for federally regulated institutions.
  - No specific regulatory regime for securities lending and repo markets; supervised by IDA and OSFI.
- Assessment and comment:
  - Observed. Comment: CDS might reconsider introducing a securities lending facility to reduce settlement failure for debt instruments given approximately 5 percent fixed income fail rate.
- Immobilization/dematerialization:
  - Assessment: Observed.

### Settlement finality, DVP, and netting processes (Recommendations 7–8)
- Finality and DVP:
  - Securities and fund transfers are settled simultaneously, irrevocably, and finally in CDSX when risk-control tests pass.
  - Net cash settlement between settlement members and CDS as CCP is conducted through LVTS on books of BOC; PCSA mandates finality and irrevocability upon entry.
  - DVP achieved: entries to securities accounts and corresponding fund-account entries are made simultaneously only after all risk control tests have been passed.
- CDSX settlement processes (three distinct):
  - Real-time gross settlement Trade-for-Trade (TFT) — continuous; DVP by gross movement with simultaneous funds movement.
  - Overnight Batch Settlement (OBS) — once per day at around 4:00 a.m. EST and takes approximately 2 hours.
  - Intra-day Continuous Net Settlement (CNS) and DetNet — CNS nets eligible exchange-traded equity transactions; DetNet nets eligible future-dated trades; in net settlement CDS acts as CCP.
- Trade extraction, provisional net positions, and exclusion/inclusion:
  - System extracts trades eligible for CNS and those that are TFT.
  - For each participant/account/security the system calculates provisional net securities position by adding: new CNS trades, previous CNS outstanding, new TFT trades, participant’s ledger position.
  - Negative positions trigger exclusion process; partial exclusions of CNS positions possible; TFT trades must be entirely removed if excluded.
  - After exclusions eliminated negative positions, inclusion attempts to include as many TFT and CNS positions as possible; ledgers updated and settled trades executed; excluded TFT trades marked pending.
- Intraday finality and re-consideration:
  - TFT settlement allows real time finality after DVP execution.
  - CNS/BNS process finality occurs after each batch; CNS transactions not settled in the ONB are re-attempted during one of four settlement windows over the processing day.
  - Assessment: Observed.

### Intraday credit, collateral, membership standards, and default management (Recommendation 9)
- Risk controls and collateral:
  - Limits on maximum payment obligations and collateralization via Aggregate Collateral Value (ACV).
  - ACV = haircut-adjusted estimated value of collateral; composed of securities in participant accounts and pooled securities contributed by category credit ring members.
  - Participants subject to Daily mark-to-market (MTM) on novated trades; funds pledged to cover potential default of MTM payments and replacement-cost risk.
  - Withdrawal option: participant may withdraw from a CCP service by first providing an additional 500 percent of its collateral requirement in that CCP service.
- Membership and monitoring:
  - Participants must be regulated and demonstrate financial and operational capabilities.
  - Risk Advisory Committee (RAC) meets at least once per month; representatives include participant categories, BOC, IDA, OSC, AMF, and CDS management.
- Default management and NYL link risk:
  - Payment obligations of suspended participants must be replaced on day of suspension; settled transactions cannot be unwound.
  - CDS and NSCC hold collateral to cover exposures arising from NYL; CDS mitigates NSCC loss allocation risk by participant indemnities (Rule 4.1.3 indemnity language).
- Observed policy comment:
  - Design intended to fully collateralize at least the largest intraday net debit position.

### Cash settlement structure and concentration risks (Recommendation 10)
- Multi-tiered cash settlement:
  - Intraday: commercial bank money provided by CDS and commercial banks; end-of-day net balances between CDS and banks settled through LVTS on books of BOC.
  - Designated Bankers participate in Payment Exchange; CAD settlement banks must be LVTS members; USD settlement banks must be FedWire members.
- USD settlement concentration:
  - Cash settlement for USD effected through a single private bank (BMO Harris) acting as US dollar settlement agent.
  - Gross value of US dollar transactions in CDS: about USD 1.3 billion.
  - Daily net payment obligations for US dollar: about US dollar $520 million.
  - Minimum credit rating threshold for US dollar banker: ‘A’ (S&P) or ‘A2’ (Moody’s).
  - Assessment: Non-observed for US dollar settlement. Recommendation: reduce concentration on a single settlement bank and explore direct FedWire membership or access to US dollar central bank money via the BOC.
- Same-day funds:
  - Proceeds usable as soon as credited; participants must transfer cash and securities to clients on the same day.
- Transparency:
  - CDS’s taking on credit exposure as a CCP should be more transparent.

### Operational risk, business continuity, capacity, and outsourcing (Recommendation 11)
- Business continuity architecture:
  - Core services distributed between Toronto, Montreal, and Vancouver (completed by June 2006) with at least two locations capable of core services.
  - Two independent central operating sites with back-up in each and tertiary contingency arrangements; planned failover times within two-to-four hour international standards.
  - Business resumption plans (BRPs) updated semi-annually; disaster recovery tests in mid-November 2005 and May 2006 met recovery objectives (two-hour and four-hour targets).
- Service level targets and 2006 actuals:
  - Network availability: 99.8 percent annual average (2006 actual: 99.9 percent).
  - Operational reliability: 99.4 percent annual average (2006 actual: 99.8 percent).
  - Payment exchange: 99.6 percent annual average (2006 actual: 100 percent).
  - Capacity utilization target: about 50 percent of fully available operating capacity (rolling 20-day average).
- Outsourcing and audits:
  - Some processing operations out-sourced/co-sourced; annual independent operational risk audit (5970 audit) by KPMG LLP for year ending July 31, 2006 found controls appropriately designed and effective.
- Assessment: Observed.

### Custody, accounting, inventory controls, and asset protection (Recommendation 12)
- Indirect holding system and segregation:
  - Securities registered in nominee names; participants must segregate own holdings and customers’ holdings; separate electronic ledger accounts for securities pledged to CDS and participant assets held by CDS.
  - PCSA and PPSA protect assets held by CDS for participants against liens by creditors of CDS.
- Physical certificate controls:
  - Market value cap for immobilized single security certificates: $50 million Canadian.
  - Recommendation: eliminate circulation of physical securities through regional offices by immobilizing or, preferably, dematerializing them.
- Inventory reconciliation and insurance:
  - Monthly reconciliations, daily electronic inventory file for CDSX automated reconciliation, nightly reports with escalation.
  - CDS purchases insurance against fraud, theft, destruction, errors and omissions; liability limited to net recovery from insurers plus board-approved reserves.
- Assessment: Observed.

### Governance, access, communications, disclosure, oversight (Recommendations 13–18)
- Governance and transparency:
  - CDS ownership: major Canadian banks, IDA members, Toronto Stock Exchange (TSX).
  - Board composition: six seats for chartered banks, three seats for TSX, one seat for investment dealers, one CDS executive, and four independent directors; proposed changes include reducing TSX to two seats and increasing independent directors to five.
  - Three board committees: Executive (to be renamed Governance/Human Resources), Audit/Risk, Finance.
  - Assessment: Observed. Comment: committee workings could be more transparent and consider non-bank participants.
- Access criteria:
  - Publicly available criteria; foreign participants face minimum capital requirement Canadian $1 million and other conditions.
  - Governor of BOC can impose conditions or prohibit foreign participation if systemic risk concerns exist.
- Communications and standards:
  - Cross-border: SWIFT new messaging formats and ISIN ISO 6166.
  - Domestic: older proprietary message format; recommended adoption of a modern messages interface.
- Disclosure and oversight:
  - CDS completed and disclosed CPSS-IOSCO Disclosure Framework responses; publishes full risk model and internal controls update.
  - Bank of Canada oversight under PCSA; oversight agreement with CDS (2004); OSC and AMF oversee clearing functions under provincial statutes.
  - Resource allocation: BOC staff of 9 for ongoing oversight; OSC and AMF each have 3 dedicated staff for securities markets infrastructure.
  - Coordination between BOC, OSC, and AMF: ad-hoc and informal; recommendation to formalize cooperation domestically and cross-border.

### Cross-border links and link-specific risks (Recommendation 19)
- Link types and characteristics:
  - North-South: NYL Service and DTC Direct Link; CDS/DTC Cross-Border Movement Service (CBM) for free-of-payment transfers.
  - East-West: custody links with Euroclear France (free-of-payment, very low volume), CREST (DVP or free-of-payment), indirect link with Swedish CSD via Skandinaviska Enskilda Banken AB.
  - Foreign settlement systems linked to CDSX: DTC CAD settlement link processes CAD transactions through DTC omnibus account at CDS; Japanese CSD has a CDSX account for free-of-payment link.
- DTC/Dollar link risks:
  - CDS credits participant securities accounts only after confirmation of settlement finality on the local market, but DTC allows provisional transfers.
  - CDS uses a single private bank as USD settlement agent; concentration risk noted.
  - Observance: Observed for links to United Kingdom, France, Japan and Sweden. Non-observed for links to DTC.
- Recommended actions:
  - Do not allow transfer of securities delivered through DTC links to participants until those securities reach settlement finality in DTC.
  - Reduce concentration on a single bank for settlement of the cash leg in DTC.

### Recommended Action Plan — selected key recommended actions (table summary)
- Recommendation 4 (CCP):
  - Action: CDS should explicitly assess the benefits and costs of acting as a CCP for trade-for-trade (TFT) transactions.
- Recommendation 5 (Securities lending):
  - Action: CDS might re-consider introducing a securities lending facility to reduce settlement failure.
- Recommendations 9 and 10 (CSD risk controls and Cash settlement):
  - Action: Separate CCP functions from settlement and custody functions; CCP services provided by a distinct legal entity.
  - Action: Reduce concentration of settlement cash for USD-denominated securities on a single settlement bank; explore direct membership of FedWire or access to US dollar central bank money through the BOC.
- Custody:
  - Action: Eliminate circulation of physical securities through regional offices by immobilizing or, preferably, dematerializing them.
- Governance (Recommendation 13):
  - Action: Make committee workings more transparent and consider non-bank participants’ interests.
- Communication procedures (Recommendation 16):
  - Action: Adopt a modern messages interface that is more user-friendly.
- Regulation and oversight (Recommendation 18):
  - Action: Strengthen and formalize cooperation between BOC and provincial securities regulators and with relevant U.S. authorities for cross-border links.
- Cross-border links (Recommendation 19):
  - Action: Do not allow transfer of securities delivered through DTC links to participants until these securities reach settlement finality in DTC; reduce concentration on a single bank for the settlement of the cash leg in DTC.

### Selected exact numeric and threshold figures cited
- Approximately 95 percent of government securities, equities, and corporate bonds immobilized.
- 90 percent of corporate money market instruments immobilized.
- Failed equities: about 0.5 percent of total number of trades executed on the stock exchange.
- Approximately 5 percent of fixed income trades are not settled by the value date.
- CNS/BNS process occurs around 4:00 am. EST.
- Four settlement windows for intra-day CNS processes.
- Gross value of US dollar transactions in CDS: about USD 1.3 billion.
- Daily net payment obligations for US dollar: about US dollar $520 million.
- Withdrawal option requires additional 500 percent of participant's collateral requirement before effective.
- Market value cap for immobilized single security certificates: $50 million Canadian.
- Minimum capital for foreign participants: Canadian $1 million.
- Minimum credit rating threshold for US dollar banker: ‘A’ (S&P) or ‘A2’ (Moody’s).
- Service level targets and 2006 actuals:
  - Network availability: 99.8 percent annual average (2006 actual: 99.9 percent).
  - Operational reliability: 99.4 percent annual average (2006 actual: 99.8 percent).
  - Payment exchange: 99.6 percent annual average (2006 actual: 100 percent).
- Capacity utilization target: about 50 percent of fully available operating capacity (rolling 20-day average).
- OBS: occurs once per day at around 4:00 a.m. EST and takes approximately 2 hours to complete.
- Failed trades settled within 5 days after the settlement date and can remain within the system for 10 days.

*Source: _cr0860 - 1. Detailed Assessment of Canada’s Observance of the CPSS-IOSCO Recommendations for Securities Settlement Systems (PDF filename: _cr0860; canonical URL: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2008/_cr0860.pdf)*

### 1. Detailed Assessment of Canada’s Observance of the CPSS-IOSCO Recommendations for

### 1. Detailed Assessment of Canada’s Observance of the CPSS-IOSCO Recommendations for Securities Settlement Systems

### 1. Detailed Assessment of Canada’s Observance of the CPSS-IOSCO Recommendations for Securities Settlement Systems
- Page reference: 4

### 2. Summary Observance of CDSX of the CPSS-IOSCO Recommendations for Securities Settlement Systems
- Page reference: 33

*Source: _cr0860 - 1. Detailed Assessment of Canada’s Observance of the CPSS-IOSCO Recommendations for (PDF filename: _cr0860 - 1. Detailed Assessment of Canada’s Observance of the CPSS-IOSCO Recommendations for; canonical URL: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2008/_cr0860.pdf)*

### 3. Recommended Action Plan to Improve Observance of CDSX of the CPSS IOSCO

### 3. Recommended Action Plan to Improve Observance of CDSX of the CPSS IOSCO

### Legal basis and accessibility of the regulatory framework
- CDS is the operator of the securities settlement system (CDSX). All key laws, regulations, contractual arrangements, rules, and procedures governing CDSX operations are public and accessible to participants; documentation is available on request and on the CDS website.
- Relevant statutes and regulatory instruments:
  - Payment Clearing and Settlement Act (PCSA) (federal), enacted in 1996 and amended in 2007 — empowers the Bank of Canada (BOC) to designate and oversee clearing and settlement systems that could pose systemic risk; provides protection for CDSX settlement rules and procedures.
  - Ontario Securities Act and Québec Securities Act — recognize, authorize, and regulate clearing houses.
  - Federal Bills of Exchange Act, federal Depository Bills and Notes Act (DBNA), Ontario Business Corporations Act, and equivalent provincial instruments govern issuance, immobilization, book-entry, and transfer of securities.
  - Canadian Securities Administrators National Instrument 54-101 grants non-registered and registered securities holders equivalent access to corporate information and voting rights.
  - CDS qualifies as an eligible foreign custodian with the U.S. Securities and Exchange Commission and is subject to the Investment Companies Act (1940).

### Book-entry transfers, pledges, and provincial STA/PPSA reforms
- Ontario, Alberta, and British Columbia have enacted the Securities Transfer Act (STA) combined with amendments to Personal Property Security Acts (PPSA), closely modeled on Article 8 of the U.S. Uniform Commercial Code (UCC).
- STA establishes that a credit entry to a securities account creates a “security entitlement” conferring a bundle of rights to the credited account holder; security entitlements can be used to perfect priority security interests.
- DBNA governs transfers of bankers’ acceptances and commercial paper; entries to securities accounts of clearing agency participants constitute transfer of possession for ownership and perfection of security interests.
- The federal government is considering whether to amend or repeal the DBNA in response to provincial STAs.

### Enforceability of transactions, protection of customer assets, and segregation
- Contractual arrangements between CDS and participants are fully enforceable under Canadian laws; CDSX regulations can be enforced by legal action.
- PCSA provides protection against stays being imposed on CDS realizing on security granted by insolvent participants.
- Assets held in trust at a custodian are held in segregated accounts and protected from seizure on custodian insolvency; intermediaries must keep customer holdings separate from their own.
- Custodians (banks, investment firms, other intermediaries) are legally obliged to have internal accounting systems to identify customer holdings at any time.

### Immobilization, dematerialization, and transfer of title
- The great majority of securities issued in Canada are dematerialized or immobilized in CDSX; securities deposited in CDS—both dematerialized and immobilized—are recorded, managed, and transferred through an electronic book-entry system.
- Approximately 95 percent of government securities, equities, and corporate bonds, and 90 percent of corporate money market instruments are immobilized.
- CDS operates an indirect account holding system; securities are kept in the name of custodians who act as nominees for customers. Transfer of ownership occurs when securities are transferred among participants in the books of CDS and intermediaries are notified electronically.
- CDS does not perform registrar functions; listing of beneficial ownership is done by private transfer agents acting on behalf of issuers.

### Netting, insolvency protections, and securities lending arrangements
- PCSA ensures validity of netting arrangements defined by settlement rules notwithstanding federal or provincial insolvency laws; OSTA provides that clearing agency rules are effective even if conflicting with OSTA or PPSA.
- Securities lending and pledges (including close-out netting) are explicitly protected in insolvency by the “eligible financial contract” provisions in federal insolvency statutes; OSTA and PCSA ensure transfers and pledges in CDSX to settle SLA transactions are legally effective.
- Cross-border securities held in the United States cross-border services are held by DTC in New York and are subject to U.S. law (UCC Articles 8 and 9); New York law applies to cross-border transactions settled in DTC.
- CDS has obtained legal opinions in Alberta, British Columbia, New York, Ontario, and Québec confirming high degree of certainty that CDS will have a valid and first-priority security interest (or hypothec) in relevant jurisdictions; CDS registers its security interest/hypothec against participants in Ontario and in jurisdictions of participants with executive offices outside Ontario.

### Finality of settlement and Delivery-versus-Payment (DVP)
- Securities and fund transfers are settled simultaneously, irrevocably, and finally in CDSX. Finality is defined in CDSX rules as discharge of a securities settlement obligation through the transfer of securities and funds irrevocably and unconditionally.
- Net cash settlement between settlement members in CDSX and CDS as central counterparty is conducted through Large Value Transfer System (LVTS) payments on the books of the Bank of Canada; LVTS adheres to Core Principles on Systemically Important Payment Systems (CPSIPS) and is a designated payment system under the PCSA. PCSA mandates that settlement of payment obligations on the books of the BOC is final and irrevocable upon entry.
- Intraday settlement of individual securities transactions and end-of-day net amounts are protected from unwinds by PCSA.
- DVP is achieved: entries to securities accounts and corresponding fund-account entries are made simultaneously only after all risk control tests have been passed; CDSX rules and system design prevent settlement unless securities are available and there is sufficient cash or credit.

### Cross-border participation and conflict-of-law issues
- OSTA reduces uncertainty on governing law for transfers and pledges in CDSX by ensuring Ontario laws govern when participants acknowledge CDS is governed by Ontario law.
- Remote risk: courts outside Ontario might not apply STA conflict-of-law provisions in certain circumstances (e.g., physical certificates held outside Ontario or characterization of security interest as non-possessory governed by pledgor’s principal place of business).
- For cross-border arrangements with DTC, New York law applies; legal opinions indicate New York courts would apply Ontario law to determine validity and priority of CDS’s security interest, but even under New York law CDS would have a valid and perfected security interest under UCC Article 8.

### Recommendation 2 — Trade confirmation timeliness
- CDSX capability: straight-through-processing (STP) of trade-for-trade confirmation on T+0.
- Actual practice:
  - Direct/non-institutional: Exchange-traded transactions are confirmed or “locked-in” automatically at the exchange at T+0 and moved to CDSX with a “confirmed” status. Dealer-to-dealer trades in non-exchange CDS-eligible securities must be submitted to an “acceptable trade matching utility” within one hour of execution per IDA Regulation 800.49.
  - Indirect/institutional: New CSA framework effective April 1, 2007; by July 1, 2008 market participants must confirm 90 percent of their trades by T+1 or submit an “exception report” to regulators. Current situation: about 70 percent of trades by volume are confirmed by T+1.
- Assessment: Observed.

### Recommendation 3 — Rolling settlement and settlement cycles
- CDSX uses rolling settlement. Regular schedule:
  - Equities (T+3).
  - Government of Canada treasury bills and money market securities (T+0).
  - Government of Canada bonds and Government of Canada guaranteed bonds having remaining maturity of three years or less (T+2).
  - Government of Canada bonds and Government of Canada guaranteed bonds with remaining maturity of over three years, all provincial, municipal, corporate and other bonds or debentures, equities, or other certificates of indebtedness including mortgage-backed securities (T+3).
- OTC trade settlement is negotiable but majority settled similarly to exchange-traded securities.
- Failed trades:
  - Failed equities trades accounted for about 0.5 percent of total number of trades executed on the stock exchange.
  - Approximately 5 percent of fixed income trades are not settled by the value date.
  - Failed trades are settled within 5 days after the settlement date and can remain within the system for 10 days.
- Facilities and incentives:
  - CDS does not provide an automated securities lending facility; well-developed bilateral securities lending and repo markets exist.
  - CDS actively monitors participants’ outstanding positions; collateral is required to cover risks. Market participants are required to file short position reports.
  - CNS outstanding positions are marked-to-market daily and participants must pledge collateral; compensation outside of CDSX exists for failures to deliver.
- Closing open positions:
  - CDS can execute a buy-in if participants fail forced-on CNS obligations; buy-in purchases are made on commercially reasonable terms and terminate forced-on obligations.
- Industry assessment of shorter cycle: Canadian securities industry has explored shortening settlement cycle in response to G-30 Recommendations and agreed any further shortening take place at a later stage.
- Assessment: Observed.

### Recommendation 4 — Central counterparty (CCP) assessment
- CDS roles:
  - CDS becomes the CCP for cash payments arising from all securities transactions settled in CDSX.
  - CDS acts as a CCP for securities leg of future-dated Canada bonds and treasury bills via DetNet, and for equities via CNS.
  - For DetNet, novation can occur before settlement date, exposing participants to replacement cost risk from T+0 until novation.
- Cost-benefit analysis:
  - No explicit cost-benefit analysis has been done for introducing a CCP for trade-for-trade (TFT) transactions.
  - Pros and cons of offering TFT with or without CCP were implicitly evaluated in deciding to offer TFT without a CCP.
  - Regulators intend to raise with CDS the issue of providing TFT on a CCP basis.
- Risk management: CCP risk management (margin, financial resources, default procedures) should be assessed separately against CPSS/IOSCO Recommendations for CCPs; CDS’s credit and liquidity exposures in settlement are assessed (see Recommendation 9).
- Assessment: Broadly observed. Comment: CDS should explicitly assess benefits and costs of acting as a CCP for TFT transactions to fully observe the recommendation.

### Recommendation 5 — Securities lending and repo markets
- Institutional framework:
  - Well-developed securities lending and repo markets exist; the vast majority involve Government of Canada securities but also include provincial, municipal, corporate bonds, equities, money market instruments.
  - Typical borrowers: investment dealers, banks, insurance companies, hedge funds, individuals. Typical lenders: pension funds, investment funds, mutual funds, investment dealers, third-party lenders (trustees). Custodians act mainly as agents.
  - Since Canadian dollar securities are held in CDS, transfers of loaned/repoed securities occur as CDS book-entries.
  - Canadian tax regime does not differentiate between repo and securities lending.
  - Standardized documentation developed by IDA includes Securities Loan Agreements and Repurchase Agreements; OSFI publishes guidelines for federally regulated financial institutions.
- Market infrastructure:
  - No centralized automated securities lending facility; transactions are bilateral.
  - In 2006 CDS investigated “Automatic Lending Program” and “Voluntary Lending Program” but concluded business cases did not exist as failed trades were not a significant problem.
- Supervision and regulation:
  - No specific regulatory regime for securities lending and repo markets; participants supervised by IDA (self-regulatory) and OSFI for federally regulated institutions. IDA and provincial securities regulators impose rules; Bank of Canada, Department of Finance, and IDA developed Policy No. 5 code of conduct related to domestic debt markets.
- Assessment: Observed. Comment: CDS might reconsider introducing a securities lending facility to reduce settlement failure for debt instruments given approximately 5 percent fixed income fail rate.

### Recommendation 6 — Immobilization/dematerialization
- Majority of securities in Canada are dematerialized or immobilized in CDS; immobilization percentages noted above (approximately 95 percent / 90 percent).
- All securities deposited in CDS are recorded and transferred via electronic book-entry.
- Transfer of title occurs on CDS books; intermediaries update sub-accounts upon electronic notification from CDS.
- Assessment: Observed.

### Recommendation 7 — Eliminate principal risk; DVP and settlement processes
- CDSX maintains three distinct trade settlement processes:
  - Real-time gross settlement Trade-for-Trade (TFT) — runs continuously throughout the day; DVP achieved by moving securities on a gross basis with simultaneous final debit/credit to participants’ accounts.
  - Overnight Batch Settlement (OBS) — occurs once per day at around 4:00 a.m. EST and takes approximately 2 hours to complete; increases settlement efficiency by combining CNS trades with TFT trades and excludes trades until one final “notional” position is achieved per participant/account/security; DVP achieved because system settles all non-excluded transactions with the same timestamp.
  - Intra-day Continuous Net Settlement (CNS) and DetNet — CNS nets eligible exchange-traded equity transactions; DetNet nets eligible future-dated trades in Government of Canada bonds and treasury bills; in net settlement CDS acts as CCP.
- For TFT-eligible transactions, DVP is achieved by gross movement of securities with simultaneous funds movement after real-time risk control tests are passed.
- OBS processing cycle detailed in source material.

*Source: 3. Recommended Action Plan to Improve Observance of CDSX of the CPSS IOSCO — _cr0860*

### 1. The system extracts all of the trades available for settlement that are

### _cr0860 - 1. The system extracts all of the trades available for settlement that are

### Trade extraction and classification
- The system extracts all trades available for settlement that are eligible to settle CNS.
- The system also extracts all trades that are not eligible to settle CNS (that is, TFT).

### Provisional net position calculations
- For each participant, for each account, and for each security, the system calculates a provisional net securities position by adding together:
  - new CNS trades,
  - previous CNS outstanding,
  - new TFT trades,
  - the participant’s ledger position in the securities.
- The system nets the funds amounts from the CNS activities and the TFT trades to arrive at a provisional net funds position.

### Provisional changes and negative positions
- Based on the net obligations, provisional changes to the securities, funds and Aggregate Collateral Valve (ACV) positions are carried out.
- At the end of the changes, the securities, funds and ACV positions reflect the balances that would be there if the entire obligations were settled.
- Shortages of securities, funds, and ACV result in negative positions.

### Exclusion process and settlement priority
- Settlement requires participants to have sufficient securities, funds, and ACV; therefore, all negative positions must be eliminated.
- CNS positions and TFT trades are removed from the settlement by an exclusion process.
  - Partial exclusions of CNS positions are possible.
  - For TFT trades, the entire trade must be removed.
- Settlement priority plays an important role in deciding which positions are excluded.
- CNS positions and TFT trades that have the higher priority are removed last.

### Inclusion process and ledger updates
- Once all negative positions are excluded, the inclusion process attempts to include as many TFT trades and CNS positions as possible without causing negative positions in securities, funds, and ACV.
- After exclusion and inclusion are complete:
  - the outstanding CNS positions are created,
  - the ledgers are updated to reflect the settled CNS and TFT trades.
- If necessary, the system excludes TFT transactions until the provisional negative position is eliminated.

### Final execution and status updates
- The system executes all non-excluded CNS trades as settled.
- The system executes non-excluded TFT trades as settled.
- The system updates excluded TFT trades as pending.

*Source: _cr0860 - 1. The system extracts all of the trades available for settlement that are*

### 8. All of the pending TFT trades are re-considered for settlement in the real

### 8. All of the pending TFT trades are re-considered for settlement in the real

### Settlement finality and DVP (Recommendation 8)
- Real-time finality and intraday finality:
  - TFT settlement process allows real time finality after execution of DVP settlement.
  - Overnight CNS/BNS settlement process achieves finality after execution of each batch.
  - The CNS/BNS process occurs once per day after the overnight period around 4:00 am. EST.
  - CNS transactions not settled in the ONB are re-attempted on a net basis during one of four settlement windows over the processing day (intra-day CNS processes).
- Settlement result:
  - Settlement of a trade results in a final and irrevocable delivery of securities and funds on the books of the two trading parties, allowing reuse intraday or in real time.
- Need for intraday real time finality:
  - Bank of Canada (BOC) settles securities related to monetary policy and collateralized credit operations predominantly via same-day DVP in the TFT service; most collateral transfers involve real-time transfers on a “free delivery” basis or through DetNet.
- Links to foreign CSDs and DVP caveat:
  - CDS credits participant securities accounts only after confirmation of settlement finality on the local market, but DTC allows provisional transfers (see Recommendation 19).

### Risk controls for intraday credit and net systems (Recommendation 9)
- Intraday funds accounts and credit exposure:
  - CDS provides intra-day funds accounts; positive net funds positions = end-of-day claim on CDS; negative net amounts = claim by CDS on participant.
  - End-of-day balances of banks (cash clearers) are settled via LVTS and FedWire.
- Enterprise risk management and governance:
  - Structured enterprise risk management program: divisional risk assessments reviewed by a dedicated risk committee; annual risk review reported to audit/risk committee of the board.
  - New services and significant enhancements require a complete risk review integrated into development lifecycle.
- Risk management functions (selected):
  - designs, tests and implements risk controls and enhancements to the risk model;
  - monitors participant settlement activity;
  - applies measures to participants contributing excessive risks;
  - maintains procedures to resolve participant defaults.
- Risk Advisory Committee (RAC):
  - Meets at least once per month; representatives include participant categories, BOC, IDA, OSC, AMF, and CDS management.
  - Monthly report includes metrics on collateral pools, credit facilities, largest aggregate risk, single participant exposure, back-tests for CCP participant funds, DetNet losses, CNS losses, and liquidity exposure in both currencies.
- Operational monitoring and escalation:
  - CDS staff monitor system and risk metrics in real time with standard escalation; internal crisis management and Problem Management Group procedures are in place.

### Membership, credit controls, collateral and default protections
- Membership standards:
  - Participants must be regulated and, if applicable, members of an SRO; demonstrate financial and operational capabilities.
- Credit risk controls:
  - Limits on maximum payment obligations and collateralization via Aggregate Collateral Value (ACV).
  - Category credit rings group participants that share characteristics; Extenders of Credit and Receivers of Credit structure.
- Limits on payment obligations (“Funds Edit”):
  - Negative funds balance limits based on:
    - Caps assigned by formula in rules (some participants may have cap of zero); only participants in collateralized category credit rings receive a cap.
    - Lines of Credit granted by credit granters (Extender ultimately responsible).
- Collateralization (“ACV Edit”):
  - ACV = haircut-adjusted estimated value of collateral; composed of securities in participant accounts and pooled securities contributed by category credit ring members.
- Collateral pools and Early Warning procedures:
  - CAD Receiver’s of Credit Pool monitored via MOU with IDA.
  - Members on “Early Warning Level One” subject to special collateral charge equal to normal collateral requirement or may elect cap equal to 50% of calculated cap.
  - Members on Early Warning Level Two must collateralize their calculated cap dollar-for-dollar.
- Replacement cost risk mitigants:
  - Daily mark-to-market (MTM) on novated trades; losing party pays MTM payment equal to difference between trade price and current market price.
  - Participant funds pledged to cover (i) potential default of MTM payments and (ii) replacement-cost risk on outstanding positions.
  - Two additional measures: CCP service exposure cap and survivor withdrawal option.
    - Exposure cap: predefined limit measured against potential replacement cost risk daily.
    - Withdrawal option: participant may withdraw from a CCP service by first providing an additional 500 percent of its collateral requirement in that CCP service; cannot avoid an immediately available loss but limits future loss allocation after withdrawal.

### Liquidity risk management and stress-testing
- Liquidity risk controls:
  - Haircuts applied to collateral; sector limits; eligibility restrictions for collateral in collateral pools and participant funds; back-up lines of credit with commercial banks; regular stress-tests.
- Stress-testing:
  - Ongoing development of stress-testing capabilities; results used for internal risk management and selectively disclosed to participants.

### Default management and NYL link risk treatment
- Default/suspension procedures:
  - Payment obligations of suspended participants must be replaced on the day of suspension; settled transactions cannot be unwound; alternative source of funds must be available on day of suspension.
  - Close-out transactions executed for outstanding CCP obligations; resulting losses/gains become obligations of the CCP participant fund for the originating service.
- New York Link (NYL) risk handling:
  - CDS and NSCC hold collateral to cover exposures arising from NYL.
  - CDS manages NSCC loss allocation risk by participant indemnities to CDS (Rule 4.1.3 indemnity language).
- Multiple failures:
  - CDSX designed to fully collateralize at least the largest intraday net debit position and uses membership standards, collateral pools, participant funds, monitoring, and early intervention to avert/handle multiple failures.
- Observed policy comment:
  - International best practice recommendation: separate CCP functions from settlement and custody functions into a distinct legal entity.

### Cash settlement structure and concentration risks (Recommendation 10)
- Multi-tiered structure:
  - Throughout the day, transactions settle in commercial bank money provided by CDS and commercial banks; end-of-day net balances between CDS and banks are settled through LVTS on the books of BOC.
  - Designated Bankers (settlement banks) participate in Payment Exchange; only Extenders of Credit or Active Federated Participants may be Designated Bankers; non-Designated Banker participants must appoint one.
  - For CAD settlement, settlement banks must be members of CPA’s LVTS; for USD settlement, settlement banks must be members of FedWire Funds.
- CAD cash settlement:
  - CAD pay-ins received in CDS’s settlement account at BOC; CDS instructs BOC for pay-outs via LVTS.
  - Assessment: Observed for Canadian dollar settlement.
- US dollar cash settlement:
  - Cash settlement effected through transfers on books of a private bank (BMO Harris) acting as US dollar settlement agent.
  - Minimum credit rating threshold for US dollar banker: ‘A’ (S&P) or ‘A2’ (Moody’s).
  - Gross value of US dollar transactions in CDS is about USD 1.3 billion, resulting in daily net payment obligations of about US dollar $520 million.
  - Concentration risk: single private bank used for USD settlement; failure during pay-in/pay-out interval could leave CDS responsible for pay-outs and expose members to losses and possible systemic risk.
  - Assessment: Non-observed for US dollar settlement; CDS should reduce concentration on a single settlement bank and explore direct FedWire membership or access to US dollar central bank money via BOC.
- Same-day funds:
  - Proceeds of securities settlements can be used as soon as credited; participants must transfer cash and securities to clients on the same day.
- Transparency:
  - CDS practice of taking on credit exposure as a CCP should be more transparent.

### Operational risk, contingency planning, and capacity (Recommendation 11)
- Operational risk model and service level standards:
  - CDS employs service level standards for depository, clearing, settlement, and ancillary services; internal audit performs >20 disaster recovery tests annually.
- Business continuity and site architecture:
  - Core services distributed between Toronto, Montreal, and Vancouver (completed by June 2006) with at least two locations capable of core services.
  - CDSX operating facilities involve two independent central operating sites with back-up in each and tertiary contingency arrangements; planned failover times within two-to-four hour international standards.
  - Business resumption plans (BRPs) updated semi-annually; disaster recovery tests in mid-November 2005 and May 2006 met recovery objectives (two-hour and four-hour targets).
- Joint BCP coordination:
  - Joint Business Continuity Planning Group with CDS, CPA, and BOC established in 2003 to identify operational risks to same-day cash settlement and next-day readiness.
- Data protection:
  - Backups of computer files, secure off-site storage, and data mirroring; system stress monitored for early warning.
- Availability and scalability targets and results:
  - Service level targets: network availability 99.8 percent annual average; operational reliability 99.4 percent annual average; payment exchange 99.6 percent annual average.
  - 2006 actuals: network availability 99.9 percent; operational reliability 99.8 percent; payment exchange 100 percent.
  - Capacity utilization target: about 50 percent of fully available operating capacity (rolling 20-day average).
  - 2006 processing changes almost doubled peak intra-day capacity of existing platform without substantial hardware upgrades.
- Outsourcing and audits:
  - Some processing operations out-sourced/co-sourced; service agreements require compliance with operational risk controls.
  - Annual independent operational risk audit (5970 audit) by KPMG LLP for year ending July 31, 2006 found controls appropriately designed and effective.
- Assessment: Observed.

### Custody, accounting, and asset protection (Recommendation 12)
- Indirect holding system and account segregation:
  - Securities registered in broker/dealer or custodian nominee names; participants must segregate own holdings and customers’ holdings; separate electronic ledger accounts for securities pledged to CDS and participant assets held by CDS.
  - PCSA and PPSA protect assets held by CDS for participants against liens by creditors of CDS.
- Physical certificate controls and limits:
  - On-site security standards, personnel, electronic monitoring, restricted access, and periodic security checks.
  - Securities certificates housed in CDS vaults; registered securities held in nominee name in non-negotiable form.
  - Market value cap for immobilized single security certificates: $50 million Canadian.
  - Physical transfers use armored courier services and extensive controls.
- Inventory reconciliation and audits:
  - Custodians provide monthly inventory listings reconciled against CDS internal reports; daily electronic inventory file for CDSX automated reconciliation; nightly reports produced and exceptions escalated.
  - Inventory management subject to annual external audit and regulator audits by OSC and AMF.
- Insurance and liability limits:
  - CDS purchases insurance against fraud, theft, destruction, or disappearance; errors and omissions; general liability; direct damage.
  - CDS limits liability to net amount recovered from insurers plus any amount agreed by Board of Directors available through reserves.
  - Third-party custodians must meet board-approved security and insurance standards; domestic/foreign custodians selected from BOC/recognized central banks, regulated securities depositories/clearing agencies, or regulated trust/banking firms with minimum capital/credit rating requirements.
- Assessment: Observed.
- Comment: To reduce custody risk, CDS should eliminate circulation of physical securities through regional offices by immobilizing or, preferably, dematerializing them.

### Governance, access, standards, and user information (Recommendations 13–17)
- Governance and board composition:
  - CDS ownership: major Canadian banks, IDA members, Toronto Stock Exchange (TSX).
  - Board composition: six seats for chartered banks, three seats for TSX, one seat for investment dealers, one CDS executive, and four independent directors; proposed changes include reducing TSX to two seats and increasing independent directors to five.
  - Three board committees: Executive (to be renamed Governance/Human Resources), Audit/Risk, Finance; each has documented mandates.
  - CDS submits significant rule changes to BOC for systemic risk control; OSC and AMF require statements that rule changes are not contrary to public interest.
- Transparency and user participation:
  - Rules, procedures, fees, and major decisions published on external website; annual reports and risk model published.
  - Formal committees with user representation (Strategic Development Review Committee, Risk Advisory Committee); some participants note committee workings and candidate selection not entirely transparent and limited representation of non-bank participants.
  - Assessment: Observed; comment that committee workings could be more transparent and consider non-bank interests more.
- Access criteria (Recommendation 14):
  - Participation criteria publicly available; eligible participants include regulated financial institutions, brokers-dealers, securities clearing organizations, central banks, and government agencies.
  - Foreign participant requirements include: minimum portfolio of CAD-denominated securities as specified by Board; minimum capital equivalent to Canadian $1 million or other acceptable evidence of financial soundness; acceptable legal opinions on enforceability of CDS rules; Board discretion on ability to protect CDS and participants.
  - Foreign participation in CDSX may require Governor of BOC approval; Governor can prohibit or place conditions if systemic risk or BOC risk concerns exist.
  - Ongoing participation requirements: ability to meet financial obligations, adequate personnel and technology, sufficient insurance, and other Board standards.
  - Participant categories determine functionality; Bank of Canada in its own category.
- Cost-effectiveness and capacity (Recommendation 15):
  - Pricing reviewed against costs; external benchmarking and user surveys performed.
  - Capacity planning: business units provide projected volumes; IT plans resources plus contingency; processor upgrades can be implemented within several days.
  - Liquidity information: participants can access funds position info via CDS terminal; stress-testing model being implemented to provide exposure measures.
  - System changes implemented during four annual change windows (“Releases”); changes presented to Strategic Development Review Committee and published on external website at least 15 days prior to implementation and submitted for regulatory approval.
  - Assessment: Observed.
- Communications standards (Recommendation 16):
  - For cross-border transactions, CDS uses SWIFT new messaging formats and ISIN ISO 6166.
  - For domestic transactions, CDS uses an older proprietary message format that is less flexible.
  - Comment: CDS may wish to adopt a modern message interface more user-friendly for participants.

### Disclosure, regulation, oversight, and cooperation (Recommendations 17–18)
- Disclosure and participant information (Recommendation 17):
  - Laws, regulations, system rules, and fees are contractual and available on CDS website.
  - CDS completed and disclosed responses to CPSS-IOSCO Disclosure Framework; responses posted on CPSS website.
  - CDS publishes full risk model and annual internal controls update on website.
  - Monthly financial risk monitoring report distributed to participants and committees with back-testing and disclosure of uncollateralized losses; updated regularly.
  - Assessment: Observed.
- Regulation and oversight roles (Recommendation 18):
  - Bank of Canada (BOC) oversight at federal level for CDSX (designation under Payment Clearing and Settlement Act - PCSA).
  - Provincial regulators: OSC and AMF oversight for CDS clearing functions.
  - BOC powers under PCSA include requiring disclosure, oversight agreements, issuing directives to control systemic risk, and disapproval of initiatives introducing systemic risk.
  - BOC has an oversight agreement with CDS (2004) and publishes oversight guidelines and reports (June Financial System Report).
  - OSC regulatory powers from Ontario Securities Act; AMF powers from Québec Securities Act; both focus on governance, access, operational reliability, fees, capacity, investor protection.
- Resources:
  - IDD in BOC has approved staff of 9 for ongoing oversight; OSC and AMF each have 3 dedicated staff for securities markets infrastructure.
- Cooperation:
  - Coordination between BOC, OSC, and AMF is ad-hoc and informal; recommendation to strengthen and formalize cooperation.
  - Cross-border cooperation with U.S. authorities limited; BOC preparing review of oversight of cross-border links recommending regular consultation with foreign regulators.
  - Assessment: Observed; comment to strengthen formal cooperation domestically and cross-border.

### Cross-border links and link-specific risks (Recommendation 19)
- Link types:
  - North-South links: NYL Service and DTC Direct Link; CDS/DTC Cross-Border Movement Service (CBM) for free-of-payment security transfers between CDS and DTC.
    - NYL: CDSX participants become sponsored members of DTC and NSCC; trading predominantly processed via CCP model.
    - DTC Direct: CDS sponsors members in DTC for trade-for-trade activity only.
    - CBM: free-of-payment transfers to sponsored DTC accounts; such transfers are free-of-payment and any payment must be via correspondent banking (not DVP).
  - East-West links: custody links with Euroclear France (free-of-payment, very low volume), CREST (sponsored participants, DVP or free-of-payment settlements in GBP, EUR, or USD), indirect link with Swedish CSD (VPC) via Skandinaviska Enskilda Banken AB (free-of-payment; currently one eligible equity).
  - Foreign settlement systems linked to CDSX: DTC CAD settlement link processes CAD transactions through DTC omnibus account at CDS; Japanese CSD has a CDSX account for free-of-payment link.
- Risk analysis and link management:
  - Links examined for unacceptable financial risks; ACCESS omnibus link terminated effective January 31, 2006 in favor of sponsored participant models consistent with risk strategy.
- DVP and finality across links:
  - CDSX operates DVP with intraday finality; DTC operates DVP without full certainty of intraday finality, allowing provisional deliveries that may be booked before DTC settlement finality.
  - CDS mitigations: costs of replacing securities imported via DTC borne by defaulting sponsored participant and surviving CDS-sponsored participants per CDS rules.
- Settlement agent risk in DTC and USD links:
  - CDS uses a single private bank as settlement agent for cash leg in DTC and for USD-denominated securities; single-bank failure could leave CDS responsible for pay-outs and expose members to losses.
- NSCC participation:
  - CDS as NSCC participant shares loss allocations; CDS and NSCC hold collateral to cover exposures; collateral collected based on NSCC risk methodology and held partly by CDS and partly by NSCC.
  - CDS mitigates NSCC loss allocation risk by participant indemnities.
- Observance:
  - Observed for links to United Kingdom, France, Japan and Sweden.
  - Non-observed for links to DTC.
- Comments and recommended actions:
  - CDS should not allow transfer of securities delivered through DTC links to participants until those securities reach settlement finality in DTC.
  - CDS needs to reduce concentration on a single bank for settlement of the cash leg in DTC.

### Selected exact numeric and threshold figures cited in the text
- Four settlement windows for intra-day CNS processes.
- CNS/BNS process occurs around 4:00 am. EST.
- Gross value of US dollar transactions in CDS: about USD 1.3 billion.
- Daily net payment obligations for US dollar: about US dollar $520 million.
- Withdrawal option requires additional 500 percent of participant's collateral requirement before effective.
- Market value cap for immobilized single security certificates: $50 million Canadian.
- Minimum capital for foreign participants: Canadian $1 million.
- Minimum credit rating threshold for US dollar banker: ‘A’ (S&P) or ‘A2’ (Moody’s).
- Service level targets:
  - Network availability: 99.8 percent annual average (2006 actual: 99.9 percent).
  - Operational reliability: 99.4 percent annual average (2006 actual: 99.8 percent).
  - Payment exchange: 99.6 percent annual average (2006 actual: 100 percent).
- Capacity utilization target: about 50 percent of fully available operating capacity (rolling 20-day average).
- Planned failover times within two-to-four hour standards; actual recovery tests achieved two-hour and four-hour objectives (some recoveries in under 2 hours and under 3 hours as noted).

*Source: _cr0860 - 8. All of the pending TFT trades are re-considered for settlement in the real*

### 1. Securities settlement systems should have a well-

### _cr0860 - 1. Securities settlement systems should have a well-

### Legal basis and framework
- The design and operations of the CDS are covered by a solid legal basis; and the contractual arrangements between the CDS and its participants are fully enforceable.
- The regulatory framework is clear and transparent to market participants.

### Pre-settlement risk: trade confirmation, settlement cycle, and CCP
- Trade confirmation timing:
  - Confirmation of trades between market participants should occur as soon as possible after trade execution, but no later than the trade date (T+0).
  - Indirect participants: confirmation preferably on T+0, but no later than T+1.
  - Observed: Trade confirmation for regulated markets occurs the same day between direct participants, and the next day for indirect participants. For OTC transactions, the market convention is to confirm the trade on the same day.
- Settlement cycle and rolling settlement:
  - Recommendation: Rolling settlement should be adopted; final settlement no later than T+3. Assess benefits/costs of a cycle shorter than T+3.
  - Observed: Transactions on exchanges are settled on a rolling basis. The settlement cycle is T+3 for equities and T+0, T+2 or T+3 for debt instruments. OTC settlement dates are negotiable; conventionally follow traded instruments.
- Central counterparty (CCP) assessment:
  - Recommendation: Assess benefits and costs of a central counterparty; where introduced, CCP should rigorously control assumed risks.
  - Observed: CDS acts as CCP for the cash leg of all securities transactions and on the securities leg of transactions settled in net settlement procedures.
  - Observed risk: CDS often acts as CCP only at the date of settlement for the majority of transactions (measured by number of transactions), exposing participants to counterparty risk from trade execution until novation, which can be as long as T+3. International best practice: CCP assumes responsibility immediately after trade execution.
  - No explicit cost-benefit analysis has been done for introducing a CCP for trade-for-trade (TFT) transactions.
  - CDS completed a self-assessment against CPSS/IOSCO Recommendations for CCP; risk management procedures have not been externally assessed against CPSS/IOSCO.

### Securities lending and immobilization
- Securities lending and borrowing:
  - Recommendation: Encourage securities lending/repurchase agreements to expedite settlement; remove barriers.
  - Observed: CDS does not provide a securities lending facility; CDS analysis suggests no business case to support development. No specific barriers inhibit securities lending.
- Immobilization/dematerialization:
  - Recommendation: Securities should be immobilized or dematerialized and transferred by book entry in CSD to the greatest extent possible.
  - Observed: The great majority of securities issued in Canada are either dematerialized or immobilized in CDS. Increasing dematerialization would significantly reduce costs and increase efficiency of settlement and custody.

### Settlement risk: DVP, finality, credit concentration
- Delivery versus Payment (DVP):
  - Recommendation: Link securities transfers to funds transfers to achieve DVP and eliminate principal risk.
  - Observed: CDS provides a DVP facility for execution of settlement.
- Final settlement timing:
  - Recommendation: Final settlement on a DVP basis no later than end of settlement day; intra-day or real-time finality where necessary.
  - Observed: CDS provides both intraday and end-of-day settlement finality.
- Intraday credit and net settlement risk controls:
  - Recommendation: CSDs that extend intraday credit should institute controls (collateral and limits) to ensure timely settlement if the participant with the largest payment obligation fails.
  - Observed: Settlement and custody functions are integrated with CCP function, exposing settlement/custody to credit and liquidity risks from CCP activities, mitigated by current CCP risk management procedures.
- Cash settlement asset risk:
  - Recommendation: Assets used to settle cash legs should carry little or no credit risk; if Central Bank money is not used, protect members from settlement bank failure.
  - Observed: for CAD: [blank]; NO for USD.
  - Observed detail: Cash leg settlement takes place in commercial bank money during the day; banks' end-of-day balances are ultimately settled through the BOC accounts. Settlement risk for securities denominated in U.S. dollar is concentrated on a single bank.

### Operational and custody risk
- Operational risk management:
  - Recommendation: Identify and minimize operational risk; systems reliable, secure, scalable; contingency plans and back-up facilities; regular testing with participants.
  - Observed: CDS has adequate measures to identify and monitor operational risk; developed contingency plan allowing short-notice resumption and information retrieval; procedures tested regularly with market participant involvement.
- Custody protections:
  - Recommendation: Entities holding securities in custody should employ accounting and safekeeping procedures that fully protect customers' securities; protect against custodian creditors.
  - Observed: Adequate measures in place; participants obliged to segregate assets from customers and perform regular reconciliation.

### Governance, access, cost-effectiveness, communication, disclosure, oversight, and cross-border links
- Governance and transparency:
  - Recommendation: Governance should fulfill public interest and promote owners' and users' objectives.
  - Observed: CDS is owned by major users; Board reflects shareholders, users, and public interest. Rules, procedures, fees, and major decisions are published on its external website; annual reports and most recent financial risk model available.
  - Suggested improvement: The workings of CDS committees could be made more transparent, taking into account non-bank participants.
- Access:
  - Recommendation: Objectives and publicly disclosed criteria for participation permitting fair and open access.
  - Observed: Access and exit criteria are clearly defined and publicly disclosed. Foreign participants face a specific regulatory regime based on limiting systemic risk.
- Cost-effectiveness:
  - Recommendation: Systems should be cost-effective while maintaining safety and security.
  - Observed: CDS reviews pricing against costs, benchmarks using external consultants, and assesses user satisfaction.
- Communication standards:
  - Recommendation: Use or accommodate relevant international communication procedures and standards to facilitate cross-border settlement.
  - Observed: Domestic: CDS uses a proprietary system with an old fashioned messages interface. Internationally: uses recognized standards such as SWIFT’s new messaging formats.
  - Suggested improvement: Adopt a modern messages interface that is more user-friendly.
- Disclosure of risks and costs:
  - Recommendation: Provide sufficient information to participants to identify risks and costs.
  - Observed: Laws, regulations, system rules, and fees are part of contractual agreements; participants’ rights, obligations and costs defined and available on the CDS website. CDS publicly disclosed the questionnaire set out in the CPSS/IOSCO disclosure framework.
- Regulation and oversight:
  - Recommendation: SSSs should be subject to regulation and oversight with clearly defined responsibilities of securities regulator and central bank; cooperation and resources required.
  - Observed: CDS is subject to adequate regulation and supervision. The BOC oversees CDS from a systemic risk perspective; securities regulators supervise for orderly market functioning and investor protection. Cooperation between securities regulators and BOC is informal and on an ad-hoc basis.
  - Suggested improvement: Strengthen and formalize cooperation between the BOC and provincial securities regulators; similarly formalize cooperation with relevant United States authorities for cross-border activities.
- Cross-border links:
  - Recommendation: Links to settle cross-border trades should reduce effectively cross-border settlement risks.
  - Observed: CDS has links with systems in the United States, United Kingdom, Japan, France, and Sweden. Links to the United States markets are most important.
  - Observed risks: CDS and participants exposed to potential credit and financial risks when using United States links. CDS permits delivery of cross-border securities delivered through DTC links before settlement finality is achieved in DTC system.
  - Specific grading: NO for DTC links.

### Table 3 — Recommended Action Plan (selected key recommended actions)
- Recommendation 4: CCP
  - Action: CDS should explicitly assess the benefits and costs of acting as a CCP for trade-for-trade (TFT) transactions.
- Recommendation 5: Securities lending
  - Action: CDS might re-consider introducing a securities lending facility to reduce settlement failure.
- Recommendation 9 and 10: CSD risk controls and Cash settlement
  - Action: Separate CCP functions from settlement and custody functions; CCP services provided by a distinct legal entity to protect CDSX from CCP-related credit and liquidity risks.
  - Action: Reduce concentration of settlement cash for USD-denominated securities on a single settlement bank; explore direct membership of Fedwire or access to US dollar central bank money through the BOC.
- Custody:
  - Action: Eliminate circulation of physical securities through regional offices by immobilizing or, preferably, dematerializing them.
- Governance (Recommendation 13):
  - Action: Make committee workings more transparent and consider non-bank participants’ interests.
- Communication procedures (Recommendation 16):
  - Action: Adopt a modern messages interface that is more user-friendly.
- Regulation and oversight (Recommendation 18):
  - Action: Strengthen and formalize cooperation between BOC and provincial securities regulators and with relevant U.S. authorities for cross-border links.
- Cross-border links (Recommendation 19):
  - Action: Do not allow transfer of securities delivered through DTC links to participants until these securities reach settlement finality in DTC; reduce concentration on a single bank for the settlement of the cash leg in DTC.

### Authorities’ response — summary of key points
- CCP for TFT transactions: No explicit cost-benefit analysis undertaken; pros and cons implicitly evaluated; regulators intend to raise the CCP issue with CDS for consideration.
- Legal separation of CCP: Regulators raised the issue in corporate restructuring discussions; despite controls mitigating CCP risks, regulators approved a corporate structure that did not legally separate CCP activities from depository and settlement activities.
- USD cash settlement concentration: BOC has discussed solutions with CDS; CDS is considering contracting a second bank as contingency for USD settlement services. BOC views potential financial losses as relatively small and has accommodated the situation while continuing to raise the issue with CDS.
- Regulation and oversight cooperation: Current BOC–provincial regulator coordination is ad-hoc; growing working-level links noted. Authorities view that regular, formal meetings (for example, annually or semi-annually) among BOC, OSC, and AMF would be worthwhile, with a potential to build more frequent interactions if useful.
- Foreign oversight and U.S. authorities: BOC staff preparing a review of oversight of cross-border clearing and settlement links; draft recommends regular consultation with relevant foreign regulators, for example an annual visit with key foreign regulators.
- DTC link finality question:
  - Observed: In DTC, credit entries to a receiver’s securities account are not final until the receiver has paid at end-of-day; however, finality can occur during the business day if the receiver instructs DTC to effect a delivery, pledge, or withdrawal.
  - Observed conclusion: Whether CDS permits the transfer of securities via DTC links prior to settlement finality in DTC depends on particular DTC rules and U.S. law. From an oversight perspective, definitive answer not required because CDS is protected through general risk controls. If CDS permits such transfers and DTC later requires replacement, costs would be borne by the defaulting participant and surviving CDS-sponsored participants in accordance with established CDS rules.

* _cr0860 - 1. Securities settlement systems should have a well-_

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2008/_cr0860.pdf_