CLS Bank Best Practices for Third Party Service Providers and Third ...

CLS Bank Best Practices for Third Party Service Providers and Third Parties, as ofAugust 2012.As a financial market infrastructure and systemically important financial market utility, CLS BankInternational (“CLS Bank”) seeks to identify, monitor, and manage risks that may arise from thesubmission of payment instructions by Members to the CLS settlement system, including risksrelating to third party participants to the underlying foreign exchange transactions. Accordingly,CLS Bank Rule 2.1.1 provides that CLS Bank Members may not have business practices, internalrisk management controls, or any other factor or condition that would create undue risk for CLSBank or its Members.Approved by the Risk Management Committee on August 21, 2012, Best Practices are designed toidentify and mitigate the systemic risks posed by both Third Party users of CLS as well as thoseSettlement Members that provide services to Third Parties.1. Conversion of Third Parties to Settlement MembershipCLS will monitor the following settlement and funding metrics of Third Parties on a regular basisto identify those Third Parties whose level of activity is similar to the activity of a CLS SettlementMember.a) A Third Party’s share of total CLS daily settlement volume (i.e. number of transactions).b) A Third Party’s share of total CLS daily settlement value (i.e. the gross value oftransactions)c) A Third Party’s average daily multilateral net pay-in requirement.For these thresholds CLS will identify concentration levels that would place the applicable ThirdParty in the top half of current CLS Settlement Members. CLS will first contact the Third PartyService Provider (TPSP) of a Third Party exceeding these thresholds and discuss with the TPSPan appropriate plan for converting the identified Third Party to full Settlement Membership.CLS will also notify the applicable regulatory supervisors of both the TPSP and the Third Partyof the conversion opportunity identified.CLS recognizes that not all Third Parties would be eligible for Settlement Membership under thecurrent CLS Rules criteria. CLS will explore the feasibility of expanding its SettlementMembership eligibility to other types of non-bank institutions.1

2. Best Practices for Third Party Service ProvidersThe following set of best practice recommendations for TPSPs are designed to mitigate the risksassociated with the provision of Third Party services.a) A TPSP should fully understand and manage the principal, credit and liquidity risks itincurs from its Third Party clients. In particular a TPSP should closely monitor itsextension of intra-day liquidity overdrafts by currency (to its Third Parties) that exceedpre-determined levels set by the TPSP.b) A TPSP should ensure that its Third Parties have sufficient funding and other financialresources to cover these credit and liquidity risks including peak day exposures.c) If a TPSP intends to rescind the CLS instructions of a Third Party customer for creditreasons, the TPSP should provide reasonable advance notice to the SettlementMembers of the counter parties of the Third Party. CLS can be used to channel thisnotification.d) Regulators in many jurisdictions are formulating special resolution regimes to provide aframework for dealing with troubled institutions. A TPSP should understand the nature ofthese regimes in the jurisdictions of its Third Party customers. TPSPs are encouraged tocontinue to provide CLS settlement services to a Third Party customer that is subject to aspecial resolution regime.3. Best Practices for Third PartiesThe following set of best practice recommendations for Third Parties are designed to mitigatethe risks associated with the provision of Third Party services.a) A Third Party should fully understand and manage the principal, credit and liquidity risksit incurs from its TPSP. In particular the Third Party should perform the appropriate duediligence to ascertain that its own CLS settlement activity can be accommodated by theTPSP.b) A Third Party should have contingency plans in place in the event that its TPSP is nolonger able to provide the Third Party with CLS settlement services. A large Third Partymay wish to consider the desirability of splitting its CLS settlement activity among severalTPSPs. A large Third Party should also periodically assess the costs and benefits ofbecoming a CLS Settlement Member.c) A Third Party should fully understand the scope of the benefits that it receives from CLSsettlement. In particular the Third Party should understand how the CLS Rules regardingsettlement finality apply to its own transactions.Best Practices are subject to change as approved by the Risk Management Committee.Explanatory notes will be added to each Best Practice for further clarification and to reflect anyamendments to the CLS Bank International Rules or Member Handbook.Please contact asuljic@cls-bank.com for additional information.2