Instant settlement of debt securities is frequently cited as something that can be achieved with electronic debt capital markets platforms and digital bonds. But it is simply not realistic when the current payments system in bonds markets is flawed.
The developments in digital bond markets, ways to improve the inefficiencies in primary debt markets and the challenges faced by issuers were discussed in detail at the Public sector debt summit, hosted by OMFIF’s Sovereign Debt Institute in London. This exclusive, in-person event brought together around 20 global sovereign, supranational and agency borrowers, a similar number of investors as well as other key market participants to explore the important issues facing the public sector bond market.
Speed over efficiency
Settlement of SSA bonds typically takes five to seven days. This is referred to as ‘T+5’ and ‘T+7’, where T is the transaction date and the number being the amount of days after which the bonds settle – when the security clears from seller to buyer. Electronic DCM platforms and digital bonds can speed up this settlement and even bring same-day settlement. But this has its problems: one head of funding at a leading supranational borrower at the summit described T+0 settlement as ‘fundamentally problematic’.
‘I’m not convinced at the moment when we have failed now to be able to make very simple payments correctly through the systems in a way that it should that [T+0] is actually even desirable,’ she said. ‘Maybe at the moment we need to be working out how we go back to basics to ensure that we can all agree payments in a very seamless way before we then start trying to take the next steps.’
It is simply not possible to digitalise the entire chain of issuance in the bond markets, particularly on payments where not all systems agree on the same number. ‘Sometimes we need to go back to Excel spreadsheets, because our system is not going to produce the same answer as a bank system, which is going to be different than the paying agent, which is going to be different than the other leads,’ she explained.
When new risk-free reference rates were being rolled out a few years ago, public sector borrowers ran into many issues with the first coupon payments for those deals. The issuers’ internal and external systems all produced different figures thanks to differences in rounding, causing issuers to manually calculate the coupons on Excel spreadsheets before a new structure for those transactions was introduced. This is an example of where digitalisation and real-time settlement would have created more problems rather than a solution.
Business problem, not technology
In addition to the issues around payments, there are concerns for global investors in different times zones. As safe-haven assets and highly rated, SSA bonds are high-demand securities with investors all over the world entering the books of these deals.
‘Fundamentally, it is a business problem, not a technology problem,’ said a senior official at a settlement house. ‘And the business problem first needs to be addressed, before we run with the technology.’ In a poll of the attendees at the summit, 75% said T+0 was not achievable from a business perspective.
T+2 or T+3 settlement is perhaps more realistic to take into account the different time zones for investors across Asia, Latin America and other regions. Any settlement quicker than that is problematic for custodian banks to get all the information from investors and send the money for settlement.
There was unanimity among issuers at the summit on the need to improve the inefficiencies of the technology and systems in bond markets before the advancement in technology and the introduction of digital assets.
‘We always forget that internal digitalisation is probably the biggest challenge,’ said a senior funding official at a European agency borrower. ‘To go from paper to a purely digital document and how to integrate that in the process.’ The official said the issuer was working on a test trade via a digital post-trade platform to see how they could digitalise the process of issuing bonds.
‘What I’ve learned is that we have to take small steps, so that’s what we’re trying to do,’ said a treasurer at another European agency borrower, who said they were onboarding a digital platform’s workflow system. ‘We issue bonds many times a year, so how can it be that legal documentation takes such a long time, because I would assume that the legal documentation is the same every time and that you only have to adjust the coupon and maturity?’
The reality is that bond markets have not moved a long way towards digitalisation and there is much more work for all parties in the debt capital markets to get on with.
Burhan Khadbai is Head of Content, Sovereign Debt Institute, OMFIF.