THE Stock Connect, a scheme which allows international and mainland Chinese investors to trade securities in each other's markets, has begun implementing a real-time delivery versus payment (DVP) system that eliminates counterparty risk, particularly for UCITs funds, and gives investors using the special segregated account (SPSA) trading model a greater choice of brokers.
The implementation of the real-time DVP, beginning November 20, effectively eliminated the four hour time gap between the delivery of stocks and the receipt of payment for brokers using the SPSA model. The time gap was the main counterparty risk brokers and investors raised about the Stock Connect scheme.
The real-time DVP has been rolled out on both schemes under the Stock Connect: the Shanghai-Hong Kong Stock Connect and the Shenzhen-Hong Kong Stock Connect.
Before the real-time DVP, there were two trading models used on the Stock Connect. First is the “integrated model”, where the brokerage which trades the shares is also the custodian bank. Under this model, used by Citi and HSBC, there is no counterparty risk despite the time gap, because both the trading and payments are done through a single entity. However, the client is restricted to using a single entity as both their broker and their custodian.
Second is the SPSA model, where the client can use a different broker and a different custodian. Under this model, the time gap constitutes a counterparty risk because of the four hour time delay between when the stocks are delivered and when the payment for the stocks is received.
With the implementation of the real-time DVP, payment is received upon delivery of the stocks in real time, thus eliminating the counterparty risk under the SPSA model.
“Real-time DVP allows real-time settlement of cash and securities from 16:45 to 19:00 (HK time) by batch, whereas under the SPSA model, investors were subject to a maximum four hour intra-day counterparty risk,” says Alessandro Silvestro, head of sales, insurance and director of securities services for Hong Kong at Standard Chartered Bank.
The implementation of the real-time DVP also paves the way for UCITs funds to use the Stock Connect, while, allowing best execution. Previously, UCITs funds from Luxembourg and Ireland were not allowed to use the Stock Connect under the SPSA model because of the issues around counterparty risk.
On November 21, the Central Bank of Ireland approved the use of the SPSA for UCITs funds registered in Ireland, according to Silvestro.
“Standard Chartered was the first custodian bank to settle the first ever trade using SPSA-Real time DVP Stock Connect. The trade settled on November 21. Trading volumes are still small from a couple of clients,” Silvestro says.
Other brokers on the real-time DVP platform are Credit Suisse, Goldman Sachs, China Merchants, UBS, HSBC, Citi, CLSA, CICC, Haitong, among others.