Settlement Fails Emperil U.S. Treasury Market

The unprecedented decline in short-term interest rates since November has had a drastic effect on the U.S. Treasury market. Reacting to this situation, the Treasury Market Practices Group (TMPG) has announced new market practices aimed at addressing settlement fails in Treasury securities, and enhancing liquidity and improving functioning of the U.S. Treasury market. The TMPG is a group of market professionals sponsored by the Federal Reserve Bank of New York composed of senior business managers, and securities compliance professionals from banks and buy-side firms. Among the TMPG's recommendations were:

• The development of a fails charge, wherein legal documents and market conventions permit counterparties to agree that failure to deliver securities on their originally scheduled settlement date will allow the buyer to make a claim for a kind of "late charge" for the duration of the fail. More information and details about the the fails charge are available at: http://www.newyorkfed.org/tmpg/pr090105a.pdf
  
  
• Margining of settlement fails: The TMPG plans to announce protocols and implementation timelines related to this recommendation by the end of the second quarter of 2009. The working groups exploring this recommendation identified a number of issues, but given the greater complexity of margining protocols decided that further study was needed before a road map for this recommendation could be published.
  
  
• Bilateral cash settlement of fails after five business days: The TMPG is working with the Securities Industry and Financial Market Association (SIFMA) toward the development of a protocol with recommended standard practices and expects to provide further guidance in the first quarter of 2009. This process is expected to build upon some documents originally drawn up by SIFMA to implement mandatory buyins to support the voluntary buy-in process.
  
  
• Support development of broader multilateral netting solutions: The TMPG and the Depository Trust and Clearing Corporation (DTCC) will report further progress on this front by mid-year 2009. The TMPG has convened a working group which is researching development of a standing multilateral netting arrangement to more adequately address round robin settlement fails while remaining mindful of the confidentiality concerns of market participants. To this end, a TMPG working group is involved in discussions with the DTCC regarding an expanded use of its comparison-only service for this purpose.

The full text and diagrams of the TMPG announcement are available at: http://www.newyorkfed.org/tmpg/pr090105c.pdf