What is Continuous Linked Settlement (CLS)?
Which currencies are eligible for CLS?
How is CLS managed?
How does Continuous Linked Settlement (CLS) work?
What considerations are there for banks thinking of using Continuous Linked Settlement (CLS)?
What is the Continuous Linked Settlement (CLS) day?
What is Continuous Linked Settlement (CLS)?
Continuous Linked Settlement (CLS) began operation in September, 2002. It is a way of eliminating the settlement risk in foreign exchange transactions (for example, one leg of the transaction is settled but the other is not).
Trades done via CLS settle intra-day and are final. The CLS bank has accounts at the central banks of each eligible currency and links the central bank Real Time Gross Settlement (RTGS) systems. Trade settlement occurs during the five-hour window of the overlapping business hours of the RTGS systems.
Which currencies are eligible for CLS?
As of March 2008 there are 15 currencies eligible for CLS:
Australian Dollar | AUD |
Canadian Dollar | CAD |
Danish Krone | DKK |
Euro | EUR |
Great Britain Pound | GBP |
Hong Kong Dollar | HKD |
Japanese Yen | JPY |
Korean Won | KRW |
New Zealand Dollar | NZD |
Norwegian Krone | NOK |
Singapore Dollar | SGD |
South African Rand | ZAR |
Swedish Krona | SEK |
Swiss Franc | CHF |
U.S. Dollar | USD |
As of March 2008 there are 69 banks that are shareholders of CLS.
Settlement Members have direct links to CLS to input deals on their own and their customers' behalf. They effect settlement on the due dates through accounts held at the CLS Bank.
User Members have the same direct access, but use a Settlement Member to handle their settlement on the due dates.
Third Parties have no direct links to CLS, and their trades must be sent to CLS via a Settlement or User Member. Most banks (as well as major corporates with their own FX departments), that wish to use CLS, will do so as Third Parties.
How does Continuous Linked Settlement (CLS) work?
When a foreign exchange deal is struck between banks, each counterparty transmits the details to CLS Bank, where they are matched and held until the settlement date. At the start of day, each Settlement Member's net position in each currency for that day is calculated. This includes trades to be settled on behalf of User Members and Third Parties. The Settlement Member will be long in some currencies (a net receiver) and short in others (a net payer). For short currency positions a payment schedule is devised by CLS, and, by given times during the CLS day, the Settlement Member must make the payments to CLS Bank. The Settlement Member pays only net amounts. CLS Bank actually settles both sides of each trade simultaneously, thereby eliminating the normal settlement risk. Throughout the day CLS Bank will pay out the net amounts for the long currencies to Settlement Members.
Settlement Members will settle separately with User Members and Third Parties their own net short and long positions.
What considerations are there for banks thinking of using Continuous Linked Settlement (CLS)?
Foreign Exchange Risk
To what extent do you currently record and manage the settlement risk? How important is it for you? If you trade generally with larger banks you may feel that the real risk is small. Conversely, you may want to reduce your risk on smaller banks.
Pressure from Trading Partners
Trading partners may already be committed to CLS and request that you use CLS to trade with them. Some banks may decide to charge a premium for eligible trades outside CLS.
Regulatory Environment
Central Banks in many countries are seriously concerned about the risks inherent in foreign exchange settlement (amongst other things). There is pressure from them to reduce the risk, and penalties may be imposed on banks that do not.
Changes to Procedure
Differences will exist in the way deals are struck and settled when using CLS, even as a third party. A confirmation of the trade will have to be copied to your appointed Settlement Member at the time of the deal. Your settlement process will be different. You will now have to settle through the Settlement Member, and you will have to agree upon the method of settling. It may also be necessary to hold nostro accounts with the Settlement Member, which will require funding. For non-CLS trades, the existing process must continue, therefore the two will have to operate together.
Costs
Inevitably, changes to systems will incur an expense. The costs associated with individual payments for each trade will disappear, but your Settlement Bank will still charge for each trade. Therefore, several questions may arise such as: "What will the overall impact be if new nostro accounts are required?" and "What will these accounts cost to maintain?"
Benefits
If a significant percentage of your foreign exchange trades can be processed via CLS, you may find that the procedures are simpler and more effective. Overall costs and settlement risk may be reduced. Using CLS may avoid the possibility of premium exchange rates or capital charges imposed by Central Banks.
What is the Continuous Linked Settlement (CLS) day?
The CLS settlement day is between 7am and 12midday, Central European Time (CET).
Email This Page
Printer Friendly Version
