China Securities Depository and Clearing Corporation Limited CSDs

China Securities Depository and Clearing Corporation Limited CSD’s Risk Management in HFT Era Dr. DAI Wenhua October 2013 www. chinaclear. cn

CONTENTS Ø Boom and Bust Brought by HFT Ø Clearing and Settlement Risks Brought by Trading Bust Ø How to Solve the Problem Ø Food for Thinking China Securities Depository and Clearing Corporation Limited

Boom and Bust Brought by HFT -Boom HFT Pushes Market Boom—Dark Pools, Flash Order, etc. Main Board SME Board Source: TABB Group China Securities Depository and Clearing Corporation Limited

Boom and Bust Brought by HFT -Boom Favourable Factors for HFT—Modern Science& Technology and Digitalization Main Board Securities industry takes the brunt to be dragged into digitalization by waves of HFT, programming trade, data-based automatic regulation, individual information disclosure(micro-blog, text Chi. Next message, etc ). China Securities Depository and Clearing Corporation Limited

Boom and Bust Brought by HFT -Boom Favourable Factors for HFT — Push from Rules and Regulations • The US Regulation NMSMain • The EU Mi. FID Board SME Board Chi. Next China Securities Depository and Clearing Corporation Limited

Boom and Bust Brought by HFT -Boom Favourable Factors for HFT—Implications of Regulation NMS and Mi. FID Main Board l Improve market transparency, fairness and liquidity. Increase market competition and promote exchanges to be SME Board allied and company-oriented. l l Improve performance and connectivity of technical platforms. Promote the connections between clearing and settlement platforms. l l Encourage the promulgation of unified market standards. China Securities Depository and Clearing Corporation Limited

Boom and Bust Brought by HFT -Bust HFT results in trading failures. —Case Studies Time Incident Main Board Aug. 23, 2013 NASDAQ 3 1/2 hours trading shutdown Aug. 21, 2013 Goldman Sachs Erroneous Options Trades SME Board Impact loss of market confidence $100 million a 53 % surge in volume (SHCOMP), up about 5. 96% in 2 minutes Aug. 16, 2013 China Everbright fat finger incident May 25, 2012 NASDAQ Computer failure in the public debut Two-hour halt of Facebook May 6, 2010 2005 Loss $32 million $500 million for dealers Wall Street flash crash DJIA plunged by 998 points, down 9. 2%, the biggest daily drop $1 trillion Japan Mizuho J-Com fat finger error a 301 -point fall on the Nikkei 225, down almost 2% $230 million China Securities Depository and Clearing Corporation Limited

Boom and Bust Brought by HFT -Bust New risks emerge from HFT. Unbridled science and technology will jeopardize financial market. Main Board Technology will never be perfect. Unsupervised technology will be dangerously far from perfect and the SME Board industry will be confident its technology is safe right up until it isn’t. How many more failures do regulators need to see before they stand up and do something? Chi. Next ——Comment: Unsupervised technology hurts modern markets, Financial Times , by RT Leuchtkafer，August 23, 2013 China Securities Depository and Clearing Corporation Limited

Clearing and Settlement Risks Brought by Trading Bust Risk Transmission Pathway Main Board Participant B … SME Board Participant A CSD/CCP Participant C Participant D … … China Securities Depository and Clearing Corporation Limited

Clearing and Settlement Risks Brought by Trading Bust • Risk Management for CSD Main with the Function of CCP Board • Risk Management for CSD without the Function of CCP SME Board • Risk Management for Dv. P and Non-Dv. P • Case study (Everbright Fat Finger incident- CCP& non. Dv. P ) China Securities Depository and Clearing Corporation Limited

How to Solve the Problem Principles for CSD in CPSS-IOSCO PFMI Main Central securities depositories and exchange-of-value settlement Board systems Principle 11: Central securities depositories A CSD should have appropriate rules and procedures to help ensure the Boardand manage the risks associated with integrity of securities issues and. SME minimize the safekeeping and transfer of securities. A CSD should maintain securities in an immobilized or dematerialized form for their transfer by book entry. Principle 12: Exchange-of-value settlement systems If an FMI settles transactions that involve the settlement of two linked obligations (for example, securities or foreign exchange transactions), it should eliminate principal risk by conditioning the final settlement of one obligation upon the final settlement of the other. China Securities Depository and Clearing Corporation Limited

How to Solve the Problem PFMI are not Enough. • Different regulatory markets Main principles Board and conditions of different Board • Efforts and timetables to. SME implement PFMI can not be unified. • No risk management mechanisms for CSDs’ new Hi-tech challenges. China Securities Depository and Clearing Corporation Limited

How to Solve the Problem CSD’s Risk Prevention Capability Regulatory Authorities PFMI Principle • Dv. P • Informationized supervision and risk warning of Main unsecured settlement Board • CCP+CSD central bank bailout mechanism • Strengthen control of trade measures: Regulations SME Board and rules for HFT, dark pool, and flash order, etc, license management, fuse mechanism and front-end trade control. • CSDs should coordinate with each other to promote the implementation of PFMI. China Securities Depository and Clearing Corporation Limited

Food for Thinking Ø CSD, with the function of CCP or at least having close Main connections with CCP, should serve as the firewall against risks as the final link in the Board securities trading chain. ØPFMI are comprehensive and systemic in covering risk SME Board management system and various institutions. However, PFMI are not detailed enough for CSDs to tackle the new Hi-tech challenges. ØCSDs should strengthen exchanges and cooperation. The establishment of the Fifth Task Force by CDCPL is of great necessity. China Securities Depository and Clearing Corporation Limited

China Securities Depository and Clearing Corporation Limited (CSDC) Address: No. 17 Taipingqiao Street, Xicheng District, Beijing Tel： 8610 -59378818 Fax： 8610 -66210938 Post Code： 100033 www. chinaclear. cn