Public CSD Rating Report

Transcription

1 KAZAKHSTAN Public CSD Rating Report Central Securities Depository of the Republic of Kazakhstan Publication Date: September 2014 Thomas Murray CSD Public Rating for: Central Securities Depository of the Republic of Kazakhstan is - Kazakhstan KACD Rating: A+ AA A A AA- AA- A+ A AA- The outlook for the rating is: On Watch Overall Risk Summary Thomas Murray completed KACD's public rating in September The end result of the exercise was an upgrade of the Public Depository Rating for The Central Securities Depository of the Republic of Kazakhstan (KACD) from A to A+. This upgrade, which makes KACD a low Overall Risk rating, was driven by upgrades in Liquidity Risk, Financial Risk and Governance and Transparency Risk. Liquidity Risk was upgrades from 'A-' to 'A' following the creation of a single registrar in the market. This change has significantly reduced the times for the re-registration of securities. Financial Risk was upgrades from 'A' to 'A+' due to an increase of the insurance policy from KZT 250 million to KZT 500 million. In addition to this, the CSD has continued to strengthen its financial reserves and currently has sufficient liquid assets to cover more than two years of operational expenses. Lastly, the establishment of a user group has triggered an upgrade of Governance and Transparency risk from 'A+' to 'AA-'. On exchange trades are settled T+0 and must be pre-funded. KACD freezes the security pending settlement immediately after matched settlement instructions are received. Settlements takes place concluded usually a few minutes minutes of matched settlement instructions being received. OTC trades are not pre-funded. KACD uses an RTGS model 1 to settle securities and cash. Turnaround trades are not possible since securities are only available for trade upon settlement. KACD does not provide credit facilities, but participants and foreign investors have access to credit via the banking sector or via the repo market. Banks have

2 access to intraday liquidity through the NBK. There is no stock borrowing and lending market in Kazakhstan. All securities are registered with the central registrar, TISR, owned by the NBK. All securities are held in nominee accounts with KACD for trading, primary placement and redemption so re-registration is effectively instantaneous. All securities held by KACD are in dematerialised form. In terms of depositored securities, KACD holds more than 99% of the entire market. 100% of government securities and KASE traded securities are held in nominee accounts with KACD. Counterparty risk exposure between participants is reduced as KACD provides DVP settlement (non-simultaneous but securities are blocked on the seller's account before the payment). Participants (mainly brokers) are exposed to KACD as the settlement bank. Investor s assets are fully identified at level of beneficial owner. In addition, KACD records are considered evidence of ownership. In that context, there is a limited Asset Safety Risk. A considerable degree of manual processing (even when information is received in automated form (from the ICSDs) remains in place at KACD. It should be noted that Asset Servicing Risk has also been given a lower weighting in the overall risk rating for KACD as a result of it mainly processes only fixed income (Government securities) which do not involve any voluntary instructions and do not provide the market with information on corporate actions. As mentioned above, Financial This risk was upgraded following the acquisition of an insurance policy covering all its business activities. KACD financial reserves have been increased during the last year, strengthening its capacity to operate without income under crisis conditions. KACD has formal documented internal controls in place covering all operational aspects. These controls are subject to review by the Board of Directors and regulatory bodies. That said, KACD needs to strengthen its key controls, especially in the OTC segment. BCP and DRP arrangements are well established KACD has reasonable board arrangements with an independent chairman and representatives from shareholders and the industry. The board is responsible for risk management. There are two committees in the board, which look at audit, strategy, risk, human resources, remunerations and social affairs. Outlook Summary The rating has been put On Watch as there are a series of developments taking place in 2015, which could cause a change in the rating, depending on the deployment of those projects. The main development is the change from a T+0 settlement cycle to a T+N model. While this initiative is driven by the Kazakhstan Stock Exchange (KASE), its successful implementation could improve KACD s rating. The new settlement cycle would imply alterations to the settlement model, the pre-funding conditions and the default mechanism in place in the on-exchange segment. Another project that could change KACD rating is the enhanced use of ISO standard SWIFT messages in the local market. Role of the Depository The Central Securities Depository of the Republic of Kazakhstan (KACD) began operations in September 1997 as a closed joint stock company. The KACD is a not-for-profit organisation founded by professional securities market participants and was incorporated under the Law 'On Economic Partnerships' dated 1995 (superseded by the Law On Joint Stock Companies dated 10 July 1998 and then by the Law 'On Joint Stock Companies' dated 13 May 2003). It provides the following services: nominal holding of securities, opening and maintenance of bank accounts and allocating of international identification numbers for securities. The legal framework for the KACD s activity is: Law of the Republic of Kazakhstan 'On Joint Stock Companies' dated 13 May 2003, 415-II; Law of the Republic of Kazakhstan On Securities Market dated 2 July 2003, 461-II; Law of the Republic of Kazakhstan "On Banks and Banking Operations in the Republic of Kazakhstan" dated 31 August 1995, #2444; Law of the Republic of Kazakhstan "On Payments and Money Transfers" dated 21 June 1998, 237-I; Rules of implementation of Central Depository's activities approved by the Order #238 by the Management Board of the Agency of

3 the Republic of Kazakhstan on Regulation and Supervision of Financial market and Financial Organisations dated 29 December 2008; Rules of Registration of professional Participants of Securities market providing Services to minee Holding, Securities Transactions, provision of the bank Statement to the Securities Holders and information Disclosure by the minee Holders. The rules were approved by the Order #61 by the Management Board of the Agency of the Republic of Kazakhstan on Regulation and Supervision of Financial Market and Financial Organisations dated 25 February 2006; Rules of Opening, Operating and Closing of Clients' Bank Accounts in the Banks of the Republic of Kazakhstan approved by the Order #266 by the Management Board of the National Bank of the Republic of Kazakhstan dated 2 June 2000; Instruction on Requirements to Risk Management System of the Central Depository approved by the Order 5 by the Management Board of the Agency of the Republic of Kazakhstan on Regulation and Supervision of Financial Market and Financial Organizations dated 1 February 2010; and Internal Rules of KACD (Code of Rules, Operational Schedule, Tariffs and Fees and other internal documents). KACD is regulated by the National Bank of the Republic of Kazakhstan. KACD administers equities, fixed income and money market holdings being the authorised depository for government securities issued by the Ministry of Finance of the Republic of Kazakhstan, NBK and local Municipal Bodies (Akimats). Deposit of securities in KACD is compulsory for securities traded on Kazakhstan Stock Exchange (KASE) since KACD acts as a settlement organisation for exchange trades. KACD settles internal and external transactions for its participants. With regard to domestic securities only KACD may act as nominee for other nominees. All securities administered by the KACD are in book entry form only.

4 Risk Summary Risk Overall Risk A+ Asset Commitment Risk KACD clears and settles KASE trades on T+0 on a gross trade-by-trade basis. Money settlement precedes securities settlement; however both settlements are almost simultaneous. The standard settlement cycle is T+0 for on-exchange trades although OTC transactions can have a different settlement cycle as agreed by the counterparties. OTC and exchange transactions are settled on a trade-by-trade basis. Both Buyers and Sellers are exposed to minimal asset commitment risk and overall, asset commitment risk is low. The stock exchange is leading a project to change the settlement cycle from T+0 to T+N. The project is expected to be fully implemented during AA Liquidity Risk The depository uses a gross settlement system which does not allow for optimisation of settlement liquidity. Also, the lack of credit facilities, stock lending and fails management arrangements contribute to some degree of liquidity risk exposure in particular, for OTC settlements. However, the repo and reverse repo markets appear to be active. A fully pre-funded settlement model for on-exchange trades is in place, which virtually eliminates fails in the market. That said, KASE levies penalties for failing transactions. In terms of registration, given that there is a single registrar (since early 2013) and that all securities eligible for settlement in KACD are dematerialised, the registration process is swift, taking on average less than two hours. However securities cannot be traded or settled while out for registration. A Counterparty Risk Counterparty risk exposure between participants is reduced as KACD provides DVP settlement (non-simultaneous but securities are blocked on the seller's account before the payment). Participants (mainly brokers) are exposed to KACD as the settlement bank. The depository does not carry out regular surveillance of trading volumes or participants financial strength although the regulatory body does, as one of its licence requirements. In 2013 the authorities increased the capital requirements for participants by an average of approximately 300%. There is no CCP in the market. A Asset Safety Risk Segregation is mandatory for participants who must open separate accounts for proprietary and clients' assets reducing the exposure for end investors. The nominee concept is recognised in Kazakhstan. There are no liens on securities. Participants can reconcile transfers with KACD using end of day reports or on an ad hoc basis by importing an electronic security holdings file. Reconciliations with the Registrar take place every time there is a change in balance. KACD has reported that it has controls and procedures in place for account access control. Asset Servicing Risk KACD is not responsible for informing its participants about corporate actions and does not undertake proxy voting services. KACD accepts responsibility for direct losses where it has failed to correctly process information or instructions from participants. KACD acts as paying agent for government securities and it is expanding these services to non-government securities. AA- AA- Financial Risk A+ This risk has been upgraded following the acquisition of an insurance policy covering all its business

5 activities. KACD financial reserves have been increased during the last year, strengthening its capacity to operate without income under crisis conditions. The CSD has been consistently profitable for more than five years (note that KACD is a non-profit institution). The Central Bank s large stake in KACD provides an implicit guarantee, especially as KACD is a systemically important infrastructure. The other major shareholder is the exchange (KASE) with nearly 35% holding. Other shareholders can only be financial institutions. Operational Risk KACD has formal documented internal controls in place covering all operational aspects. These controls are subject to review by the Board of Directors and regulatory bodies. IT security measures have been tightened and efforts to strength its communications are being deployed. KACD s BCP and DRP arrangements are well established and the CSD maintains testing of that system on a regular basis. All data is mirrored throughout the day and copied to external disk storage kept in an external bank. A Governance and Transparency Risk KACD has reasonable board arrangements with an independent chairman and representatives from shareholders and the industry. The board is responsible for risk management. There are two committees in the board, which look at audit, strategy, risk, human resources, remunerations and social affairs. The Board of Directors reviews the performance standards of the Management Board against set performance targets. A user group has recently been created to discuss developments and changes. Some corporate and statistical information is provided on the website. AA- CSD on CSD Credit Risk A direct link operates with the Central Securities Depository of Kyrgyzstan, Russia's NSD, Clearstream Banking and Euroclear Bank. Central Depository of Armenia also has accounts at KACD. Links Exist

6 Asset Commitment Risk Summary KACD clears and settles KASE trades on T+0 on a gross trade-by-trade basis. Money settlement precedes securities settlement; however both settlements are almost simultaneous. The standard settlement cycle is T+0 for on-exchange trades although OTC transactions can have a different settlement cycle as agreed by the counterparties. OTC and exchange transactions are settled on a trade-by-trade basis. Both Buyers and Sellers are exposed to minimal asset commitment risk and overall, asset commitment risk is low. The stock exchange is leading a project to change the settlement cycle from T+0 to T+N. The project is expected to be fully implemented during Processing Cycles On-exchange settlements: KASE manages a T+0 settlement process. Before KASE opens for trading, it receives a list of trade participants securities and cash account balances at KACD. Participants cash balances are uploaded to the KASE system at 9.30am. Cash prefunding is required for all buy orders placed by trade participants. Participant bank cash balances at the KACD transition account can be increased/decreased throughout the day using SWIFT MT100 and MT910 for confirmation. Brokers can increase/decrease cash balances at their KACD transition account indirectly by instructing their bank. KASE is advised of cash credits throughout the day but must approve both security and payment debits for all OTC transactions (irrespective of the counterparties). Prior to a trade being confirmed for settlement, KASE checks the underlying seller has sufficient security on their sellers sub-account. If the security is available then KASE sends trade settlement details to KACD. (There seems to be a risk of settlement failure at this stage as the security is not frozen until after settlement details are received by KACD this is mitigated by KASE being noted and approving any security debits that may arise from OTC transactions). KASE sends KACD electronic matched trade details which are settled DVP real-time on a FIFO basis usually in less than 10 minutes. KACD notifies KASE once settlement is complete - security and money has been credited. On receipt of the settlement instruction from KASE, the KACD system automatically: Blocks securities in the seller s sub-account Debits the funds from the buyer s respective KACD account which are then transferred to the KACD s transition account. For banks, funds may be directly debited from their NBK account and credited to the KACD transition account by an electronic payment order via ISMT. KACD then debits its transitory cash account and credits the sellers KACD cash account. Once KISC confirms the funds transfer to KACD s transition account is complete, KACD credits the seller s KACD cash account. The security is transferred from the seller s sub account to the buyer s sub-account. The gap between the securities and cash transfers or broker to broker trades is very short given that brokers maintain a bank account at KACD and therefore the DVP is almost simultaneous. Off-exchanges and OTC Settlements: OTC trade details must be key entered by the participant and matched for acceptance. There are about 6 matching parameters. Matching only takes place on SD (not the date entered for forward dated trades). If successfully matched, KACD sends a confirmation message to the participants. However, unmatched trades are rejected with no fail message pushed to the participant until the end of the value date. The system does not identify why the match failed. Unmatched

7 trades must be re-entered but this means transactions cannot be recycled for settlement on contractual settlement date. Errors in OTC operations in 2013 have highlighted serious deficiencies in the matching model, due to the lack of a pre-matching mechanism. KACD accepts instructions from counterparties on a T+N basis, mostly electronically (via the proprietary system) with less than 0.5% by paper. Trades remain unmatched in the system until SD when matching is initiated. If trade settlement details do not match, the trade must be deleted and settlement details re-entered by the party which made the mistake. Once matched, trades are settled as above - DVP real-time on a FIFO basis usually in less than 10 minutes. Unsettled trades are deleted at the end of day. Since on-exchange trades are pre-funded, KACD checks with KASE before transferring securities to the buying party. Settlement takes place once both securities and cash are available and settlement takes place in real-time on a gross basis. The gap between the securities and cash transfers are not simultaneous given that banks maintain their cash accounts at the central bank (instead of KACD) and therefore the communication between KACD and the Central Bank delays the process for some minutes. T+N Project KASE, the regulator and other participants have been preparing a project to change the settlement model from T+0 to T+N. The project is expected to be implemented during 2015 but there are no details on dates at this stage, given that it is necessary to enact a change in legislation. One of the main features of the project is that the full pre-funding model will be replaced with a partial pre-funding model, which will depend on the features of the securities in question (i.e. pre-funding requirements will depend on degree of risk and level of liquidity of each security). Cash Cash settlement is carried out through KISC. NBK is the authorised operator of KISC. KACD and banks maintain accounts with NBK. KACD acts as settlement bank for brokers who maintain bank accounts with KACD for settlement purposes. Banks usually settle through their accounts at NBK. Asset Commitment Periods Securities are irrevocably committed to settlement upon receipt by KACD of matching instructions in real-time during SD. For extended settlement orders (T+n) assets are not blocked or committed during the period between the execution day and SD. There is a minimal asset commitment period for both Buyer and Seller between the time funds are debited from the Buyer's account, subsequently transferred to the Seller and then the Seller s securities released to the Buyer. Irrevocability Settlement is considered to be final and irrevocable when both cash and securities are credited to the seller s and buyer s accounts respectively. Finality There is no definition of finality in the current legislation. Asset Commitment Risk - Key Indicators Irrevocable commitment to the processing cycle

8 Transaction Type Start Finish Securities Securities 9.30am 5.30pm for DVP trades and 6.30pm for free of payment trades Cash Cash 9.30am 5.30pm Comments (i.e., on pre-funding and irrevocability) Securities become unavailable upon trading. Securities processing cycle outlined Securities are delivered in real time subsequent to cash settlement. The gap is minimal. Cash processing cycle outlined Cash settlement is carried out by Kazakhstan Interbank Settlement Centre (KISC) of the National Bank of Kazakhstan (NBK). All custodians must have cash accounts with KISC. KACD is authorised to manage those accounts. Broker/dealers have cash accounts with KACD. KACD operates those accounts.

9 Liquidity Risk Summary The depository uses a gross settlement system which does not allow for optimisation of settlement liquidity. Also, the lack of credit facilities, stock lending and fails management arrangements contribute to some degree of liquidity risk exposure in particular, for OTC settlements. However, the repo and reverse repo markets appear to be active. A fully pre-funded settlement model for on-exchange trades is in place, which virtually eliminates fails in the market. In terms of registration, given that there is a single registrar (since early 2013) and that all securities eligible for settlement in KACD are dematerialised, registration process is swift. On average it takes less than two hours. Admittedly, securities cannot be traded or settled while out for registration. Processing Model All transactions are processed on a trade-for-trade basis (gross-gross settlement), which puts considerable pressure in terms of settlement liquidity. Final delivery of funds precedes the final transfer of securities with a very short gap. Cash is transferred between cash accounts with KACD for broker/dealers and between cash accounts with KISC for custodians. KACD operates both cash accounts. In the context of the T+N project, the settlement model will change from BIS model 1 (gross-gross) to BIS model 3 (net-net). This type of model reduces the liquidity pressure on the system. Matching Issues in the OTC Segment On-exchange matching is done at KASE and the process works well. However, in the OTC segment there are some weaknesses as matching only takes place on SD (not the date entered for forward dated trades). If successfully matched, KACD sends a confirmation message to the participants. However, unmatched trades are rejected with no fail message pushed to the participant until the end of the value date. The system does not identify why the match failed. Unmatched trades must be re-entered but this means transactions cannot be recycled for settlement on contractual settlement date. Fails Management Fails in the Kazakhstan OTC market stood at 7.6% in This included repo trades and FOP transactions. During the same period, the fail rate of OTC trades that were conducted on a DVP basis was 16.7%, which is deemed as high. KASE imposes penalties for brokers although KACD does not apply any to defaulted participants. There are no buy-in or other fails management arrangements in place. For on-exchange trades, there is a pre-funding requirement in place which eliminates fails on the sell side. After the implementation of T+0 settlement on a gross trade-by-trade basis at KACD, KASE now imposes penalties to trading participants in the following cases: 1) If a participant fails to settle a transaction due to a shortage of cash. In that case, the following penalties apply: 1.A) The buyer will pay the seller 0.5% of the transaction value, if the seller does not wish to re-execute the transaction; 1.B) The buyer will pay the seller 5% of the transaction value, if the transaction has been re-executed but failed to settle; 1.C) If the re-executed transaction settles, then 50 Monthly Calculation Index (MCI) factors will be payable to KASE. In 2014 one MCI was equal to KZT 1,852 2) If a transaction fails to settle for any reason other than a shortage of cash, then the defaulting party will be required to pay the counterparty 5% of the gross settlement amount. 3) If a participant of the Confirmation System fails to confirm his liabilities on delivery or refuses to confirm a securities purchase deal by the deadline set by the KASE regulations, then he will be subject to a penalty of 50 MCI. Furthermore, such participant must submit a letter to KASE on the next business day, explaining the reasons for not meeting the confirmation requirement. Credit Facilities

10 KACD does not provide credit facilities to its participants, nor does it provide credit facilities through intermediaries such as commercial banks. Securities Lending Securities lending is not permitted. Securities may be obtained by reverse repos. However, the use of reverse repos is not as efficient to mitigate liquidity risk since there is a change in ownership and therefore the "lender" losses the entitlements. Registration Model Securities deliveries are achieved by automated entries. All securities that are deposited in KACD are treated as fungible and are able to be transferred or pledged by book-entry. In 2013 a single registrar in Kazakhstan was introduced. All registration / re-registration activities for securities ownership are conducted by the Integrated Securities Registrar (TISR), which is currently owned by NBK. KACD has a nominee account at TISR. Operations are registered in book-entry form at KACD. Registration at KACD is instantaneous. The consolidation of registers under TISR has implicitly reduced the average time of registration. According to the Law "On Securities Market" issued in July 2003 nominees (custodians and broker/dealers), except for KACD, cannot open accounts for other nominees in relation to safekeeping of domestic securities. Consequently, transactions with domestic securities between nominees are settled via KACD. Deposited securities All securities held by KACD are in dematerialised form. Registration of other securities (deposit of securities in KACD) can take place up to three days by law but it is generally executed within two hours, depending on the specific arrangements in place. By volume, KACD holds around 99% of all securities eligible for deposit. Given that TISR has yet to complete its consolidation process, there are gaps in the methodology to assess the value of securities in the whole market. 100% of government securities and KASE traded securities are held in nominee accounts with KACD. Deposit and Withdrawal of securities All securities in Kazakhstan are registered at TISR and can be deposited in KACD or withdrawn from the CSD at will. Participants may request that securities be moved to/from KACD at book entry-level. The instruction must be confirmed by TISR in order to carry on the deposit/withdrawal of the securities. TISR and KACD exchange information on securities withdrawals/deposits through the CSD s depository system. Given that securities are held in dematerialised form, the process takes place in less than two hours. Liquidity Risk - Key Indicators Settlement Models Model 1 - gross simultaneous settlement of securities and funds transfer. Processing Periods

11 Overnight (by batch) End of day Batch daylight processing Real-time and on-line Other Credit Facilities Central bank money used to settle cash elements of trades Credit facilities provided by the CSD Credit facilities provided by commercial banks Comments KACD conducts cash settlement for brokers Stock Lending Is stock lending permitted in the market Are stock lending facilities provided by the CSD?

12 Are stock lending facilities provided by commercial banks/brokers? Transfer of Securities Are securities deliveries achieved by book-entry? Registration of Securities Period of time required to register a holding? Registration of market transactions is done on book entry form at KACD. The CSD has a nominee account at TISR. Transference of holdings from/to KACD account is usually undertaken within two hours, but can take longer (up to three days).

13 Counterparty Risk Summary Counterparty risk exposure between participants is reduced as KACD provides DVP settlement (non-simultaneous). Participants (mainly brokers) are exposed to KACD as the settlement bank. The depository does not carry out regular surveillance of trading volumes or participants financial strength although the regulatory body does, as one of its licence requirements. In 2013, the authorities increased the capital requirements for participants by an average of around 300%. There is no CCP in the market. Participant Counterparty Risk KACD does not act as central counterparty and does not guarantee settlement of trades. KACD takes no responsibility for the meeting of outstanding settlement obligations in relation to any participant who defaults. Participants are therefore directly exposed to each other. There is a system of penalties applied by KASE to defaulting participants. KACD does not monitor or manage participant risk. The market regulator has the power to suspend participants. Since buyers, who do not have an account at the NBK, make payment to KACD s account at NBK, they are exposed to KACD until such time as the funds are transferred to the counterparty and securities released. KACD assumes responsibility for losses suffered by participants as a result of downtime at the KISC or the link between KACD and KISC. Delivery Versus Payment The transfer of securities and cash is handled separately but is controlled by KACD. n-simultaneous DVP is controlled by KACD, the settlement of cash precedes the settlement of securities so there is no simultaneous DVP. However securities are blocked on the seller's account before the payment. If the settlement of cash doesn t occur, then the securities are unblocked, otherwise the securities are moved to the buyer's account. Cash is settled through accounts at KISC. KACD and Bank participants have accounts at the central bank. Brokers have cash accounts with KACD and therefore are exposed to KACD overnight and intra-day. Role of Central Counterparty (CCP) KACD does not act as central counterparty to cash market transactions. There is no CCP in the market. Participant Criteria Eligible participants include: banks (29 banks including the National Bank of Kazakhstan and KazPost), brokerage companies (21), and foreign depositories (3). As defined in the current legislation, professional stock market participants holding a licence to perform custody, broker-dealer activities, foreign depositories and custodians are eligible to open accounts with KACD. KACD does not have its own formal participation criteria, including a minimum capital requirement. The only requirement is that participants shall hold a broker/dealer, custody or depository licence. The same criteria apply to all participants and all participants are required to sign identical contracts with the KACD. Participants are actively monitored by KACD to ensure that their actions are in accordance with the depository's rules and procedures. However, the authorities impose strict requirements in order to grant a license to an organisation wishing to act as a market participant. The Committee for the Control and Supervision of the Financial Market, and Financial Organizations of the National Bank of the Republic of Kazakhstan impose the following minimum capital requirements for brokers and banks: Brokers and dealers having the right to maintain client accounts as a nominal holder, equity capital of KZT 740m (USD 4m); Brokers and dealers, without a right to maintain client accounts, equity capital of KZT 740m (USD 4m). Banks with one branch require KZT 1billion (USD 5.5m) plus a schedule of additional capital depending on the number and location of branches.

14 In 2013, the required level of capital was increased by 300% in an effort to impose some discipline among these organisations and reduce the risk from this sector An applicant must submit the required documents and open a cash account with KISC or a cash account with KACD. Participants may open one securities account and an unlimited number of sub-accounts, two cash accounts, including one account for client money and the second for own money. Principal stock accounts and agent stock accounts are required to be segregated. To facilitate segregation, participants normally hold a mandatory sub-account for principal stock, and mandatory sub-accounts for agent stock. The relationship between the KACD and its participants, as well as administration of securities transactions, is regulated by the Charter of the KACD and the KACD s Internal Code. The relationship is also governed by relevant laws and regulations, a standard participation agreement, established terms and conditions of participation and by-laws of the depository. Participants are not required to contribute to the depository capital. Participant Concentration There is a high concentration in the on-exchange market with 60.73% of transactions (by value) executed by the largest five participants, which represent less than 10% of participants (59) by number. By number of transactions, there is less concentration since they are more widely spread out (the largest five participants have 36.7% of all transactions). The repo market is equally highly concentrated since four participants (less than 10%) account for 60% of trades. Financial Compliance/Surveillance KACD does not undertake any surveillance / monitoring of participants financial position, market standing or counterparty exposures but rely on the regulator. The FSA, a department within the NBK, is responsible for the supervision of banks and brokers. The lack of surveillance is partially mitigated by KASE trades being prefunded except for the trades executed by banks. However, there is no monitoring of participants exposure in the OTC market. Guarantee Funds There are no settlement guarantee funds. KACD does not support designated funds to cover its losses and risks. In the context of the T+N project KASE is considering a sound default risk management mechanism, which would constitute of margin, contribution to a default fund and KASE s assets. The details of the scheme have yet to be finalised and approved by the authorities. This approach will be adopted along with the change in settlement cycle at one point in Counterparty Risk - Key indicators Capacity of CSD Agent Surveillance of Participants by CSD Settlement Assurance

15 Minimum Capital (local currency) Banks: KZT 5 billion Development Bank of Kazakhstan: KZT 30 billion National Bank of Kazakhstan: KZT 20 billion Brokers/dealers: KZT 740 million Foreign depositories N/A Size of Guarantee Fund - (Name, local currency, Euro and USD - (millions)) KACD does not operate a guarantee fund. Does the CSD act as a Central Counterparty? Participant Concentration (Local Currency Millions) Value of transactions in the market by top 10% of participants 60.7% Volume of transactions by top 10% of participants N/A Volume of largest individual participant statistics

16 Asset Safety Risk Asset Safety Risk Summary Segregation is mandatory for participants who must open separate accounts for proprietary and clients' assets reducing the exposure for end investors. The nominee concept is recognised in Kazakhstan. There are no liens on securities. Participants can reconcile transfers with KACD using end of day reports or on an ad hoc basis by importing an electronic security holdings file. Reconciliations with the Registrar take place every time there is a change in balance. KACD has reported that it has controls and procedures in place for account access control. Segregation of Securities Principal security accounts and agent security accounts are required by the Law on Securities Market to be segregated (Section 74(2)(2)). To facilitate segregation, participants normally hold a mandatory sub-account for principal securities, and mandatory sub-accounts for each client s securities. Clients who have the right to open omnibus accounts for their foreign non-resident customers may do so. KACD maintains separate securities accounts from its participants under Section 10 of the Depository Services regulations and Section 45(5) of the Securities Market Law. Securities undergoing settlement are not commingled with those of KACD participants at any point in the settlement process. Securities posted as collateral remain in the same account but are flagged as unavailable. Legal Conventions Client securities held in a client omnibus account using a custodian nominee, are recognised under Section 60(3) of the Law On Securities Market dated 2 July 2003 which recognises the nominee convention, and provides for the procedures of confirmation of a client s title to securities. Under insolvency proceedings, custodian, or CSD recognised client assets are not included in the proprietary assets of the insolvent participant. The court has the power to freeze/free disputed assets held at the client level until resolution. The registry records are considered the legal record to which differences must be reconciled. Section 83(2)(2) of the Bankruptcy Law stipulates that assets not forming property of the debtor cannot be used to satisfy claims of a creditor. Section 9 of the Custody Services Regulations ensures custodians cannot utilise the assets of clients to fulfil its own interests. Forms of Securities 100% of assets are held in registered dematerialised form. Reconciliation and Audit KACD reconciles its security holdings with participants monthly according to rules but can be requested more frequently (up to daily). Participants can reconcile transfers with KACD using end of day reports or on an ad hoc basis by importing an electronic security holdings file. KACD reconciles its total issue balances with the registries each time there is a change in balance, or no less than monthly. This process is automated where there is an electronic link with the registrar. Typically reconciliation breaks are addressed and resolved on the same day. There is no apparent monitoring of reconciliation breaks or escalation procedures. Book-entry positions are audited internally in accordance with the overall audit plan. However, there is no book-entry audit

17 conducted by external parties. Clients verify the results of the audits themselves. Lien KACD has no right of lien against participant s securities and cash held in the depository. KACD cannot apply a lien for non-payment of fees, but can suspend services. Account Control KACD has complete controls and procedures governing its staff access to the securities accounts. These controls and procedures have been audited by Deloitte under the SAS70 Audit Participants also have the tools to manage their staff access. Access to the accounts is by electronic entry initiated by the participant, or manual dual entry of the client s instruction by two authorised KACD operators. Settlement is still subject to the transaction being matched by the counterparty. Cash Deposit The CSD has not sought a counterparty credit rating. KACD has a separate licence for banking operations which are limited to processing settlement of transactions from brokers and income payments. Brokers balances are held in a transitory account at NBK. KACD are the paying agent for government and NBK securities. KACD also provides paying agent services for two issuers on the securities held at the depository. Monies held by KACD are held in a transit NBK settlement account and are distributed the same day. Other corporate action payments are made direct by the issuer or their agent. KACD can take at least 10 minutes to transfer the funds received from the issuer to beneficiaries. The maximum would be until the close of business day. Cash from clients is segregated from KACD s proprietary funds. So in case of insolvency of the CSD, investors are protected. KACD does not provide segregated settlement cash accounts. Investors funds are commingled with participants at KACD. KACD does not retain any liens on the assets or due to court orders. The cash is retained directly by the issuer. However, KACD informs their clients electronically of any sum retained. Asset Safety Risk - Key indicators Asset Safety - Key Indicators Segregation by Law / Regulation: minee concept recognised: Frequency of reconciliation with participants: Liens asserted by CSD: CSD holds cash deposits: Daily

18 Asset Servicing Risk Summary KACD is not responsible for informing its participants about corporate actions and does not undertake proxy voting services. KACD accepts responsibility for direct losses where it has failed to correctly process information or instructions from participants. KACD acts as paying agent for government securities and it is expanding these services to non-government securities. Information processing There is no central source of information in Kazakhstan. KACD does not search actively for information on corporate actions. Information for domestic securities is received from issuers, government bodies and the Integrated Securities Registrar (TISR) by letter and fax. However, KACD is not responsible for informing clients about upcoming corporate events. In the case of domestic securities, KACD is responsible only for preparation of share/bond holders lists and submitting them to TISR. The information on government and other fixed income securities is known in advance and clients are informed via electronic notification through KACD s system KACD tends to send information to clients usually during the same day or the next business day. In the case of foreign securities, SWIFT messages MT564, MT566, MT568 received from Clearstream and Euroclear are forwarded via fax. An electronic notification is also sent through KACD s system. Receipt is confirmed by the recipient by fax or phone. The information is not cross-checked against another source, but the department head and two corporate action specialists check the information before it is sent. KACD does not charge for its information service. Instruction processing Receipt of Voluntary Event Instructions For domestic fixed interest, KACD has a three day advance approval process for payments which acts as a check that the right interest and principal payments are made on time. KACD has an electronic approval process with NBK but not with the Ministry of Finance (MOF). MOF pay cash around 11.00am on SOD and payment is mostly completed by 4.00pm. In the case of domestic equities, an entitlement schedule is received directly from the registrar/issuer. For other domestic securities, participants provide the list of beneficial owners to KACD via physical paper. For foreign securities, participants provide instruction by template (letter or fax). KACD has written procedures to verify that a received instruction is correctly and accurately completed. Execution of Corporate Actions Execution of corporate actions at KACD is a highly manual process. A team is responsible for manually processing instructions on foreign securities. KACD does maintain a log of late receipt of money on corporate or foreign securities. The depository does not accept separate instructions by way of sub-account. Payments and transfer of securities are processed on the same day when money or other assets are received from the issuer on KACD's account. Late crediting is possible if there is a need to address discrepancies. Principal and interest payments for Government, and local authority fixed income securities are made via KISC on payment date. In the case of domestic equities, Issuers are responsible for processing the payments to participants providing KACD with instructions to create/allocate securities to beneficial holders accordingly. KACD acts as paying agent for government bonds issued by the Ministry of Finance, short-term notes issued by NBK (interest and

19 redemptions) and for securities issued by local municipal bodies. KACD also has an agreement with two domestic equity issuers to pay dividends of shares held at the KACD. Payment is done through KISC to banks and into brokers accounts at KACD. The instruction of foreign securities is transformed and sent to Clearstream or Euroclear as a Swift MT599 message. The instruction has three checks (including the HOD and Secretary) against the clients received instruction before forwarding to Clearstream or Euroclear. Reports/confirmations on money transfers under redemption or interest payment on government securities are transmitted electronically to clients via KACD's information system but seem to be limited Payment confirmation of corporate events on domestic and foreign securities is made via SWIFT with notices on dividend payments sent through ARMDEPONET (KACD s proprietary system). KACD accepts liability in the event of infliction of loss to a participant induced by the failure to perform or due to the improper performance of obligations based on the Agreement. Improper performance is and understood as failure to execute instructions in a timely fashion and/or inaccurately. Liability is limited to direct losses only. KACD provides same-day confirmation to participants once it has processed the action and supplies full accounting statements. An execution/non-execution report is sent electronically the day instructions have been processed. Proxy Voting KACD operates a passive proxy voting service advising participants of general meetings, but only if the issuer has sent a notification of the meeting to KACD. tifications and confirmations are sent via ARMDEPONET (KACD s proprietary system). Participants deal directly with the issuer thereafter. KACD does not attend the company annual and special meetings. Other services KACD does not provide any taxation services. Asset Servicing Risk - Key indicators Information processing Securities covered Equities, corporate debt, government debt and money market instruments Information sources used Information provided in English Number of Events during last full year Dividends 75 (2013) Interest & Redemptions 520 (2013)

20 Corporate actions 1 Electronic notification is also sent through KACD s system. SWIFT message types (for communication to overseas depository only) tification within 3 days Instruction processing Use of depository Mandatory Settlement on due date Optional corporate actions supported Cash account credited Central paying agent Entitlements based on Books closed date (record date) Instruction processing comments KACD provides central paying agent services for securities issued by the government, NBK, local municipal bodies and two domestic equity issuers. Proxy voting services On-line

21 Outsourced Announcement of meetings Elections (Voting) Results reporting Proxy voting services comments

22 Financial Risk Summary This risk has been upgraded following the acquisition of an insurance policy covering all its business activities. KACD financial reserves have been increased during the last year, strengthening its capacity to operate without income under crisis conditions. The CSD has been consistently profitable for more than five years (note that KACD is a non-profit institution). The Central Bank s large stake in KACD provides an implicit guarantee, especially as KACD is a systemically important infrastructure. The other major shareholder is the exchange (KASE) with nearly 35% holding. Other shareholders can only be financial institutions. Financial and other Resources Capital Structure KACD s total capital at the end of 2013 was KZT 2.28 billion (USD 14.8 million), up KZT 0.38 billion (USD 2.45 million) over the previous year as a result of increased retained earnings Capital was made up of paid-in capital of KZT billion (USD 0.35 million) and retained earnings KZT 2.2 billion (USD million). Most of KACD capital is held in the form of short term financial investments - KZT 1.9 billion (USD 12.4 million)is held in money and short term financial assets, up from KZT 1.3 billion in 2012). KACD's authorised capital can increase through placement of its shares. The Board of Directors makes the decision on whether to place additional shares of the depository. The shareholders have the right to buy but they are not obliged to buy KACD's shares. The shareholders have pre-emptive rights. KACD has 23 shareholders, the largest being the NBK with 54.98% of issued shares and KASE with 34.69%. Other shareholders include banks and brokerage companies with shareholdings of either 0.74% or 0.37%... Shareholders are restricted to financial institutions and the KASE and the stake for individual financial institutions is limited to 5% by law. The NBK is required to hold over 50% of the shares. Shareholders have no liability and losses are limited to their shareholding. twithstanding the financial obligation, NBK is tasked under law to assure the stability of the financial system of which KACD is an integral part, being deemed a systemically important institution. In accordance with the Regulation on Depository Activity and KACD's Charter, profits of KACD may only be used to cover expenses and develop the depository system. distributions have been or will be made to shareholders or participants. Earnings Performance KACD has been steadily increasing its operating revenues over the last five years and has remained profitable over this period. Operating revenues stood at KZT 1.06 billion (USD 6.9 million) as at 31 December In 2012, revenues were KZT 879 million (USD 5.9 million), in 2011, 872 million (USD 5.9 million), in 2010 KZT 775 million (USD 5.3 million), and in 2009 KZT 721 million (USD 4.9 million). KACD revenue is mainly generated by custody fees, which were 94% of the depository s total income. Changes to the fee schedule must be approved by the Board. There is no need to obtain authorisation from the regulator. KACD has maintained a stable ratio of operational expenditure to operational revenue in the last two years. The net profit generated in 2013 was 382 million (USD 2.5 million), 63% higher than the KZT 234 million (USD 1.5 million) reached in In 2011 net profit was KZT 240 million (USD 1.6 million), 2010 KZT 341 million, 2009 KZT 240 million, 2008 KZT 129 million and KZT 216 million in KACD staff costs were KZT 342 million (USD 2.22 million) in 2013 whilst KZT 323 million (USD 2.14 million) in Variables costs, which mainly consist of KISC, SWIFT, registrars, financial, stood at KZT 76 million (USD 0,49 million) in Guarantee Funds (Central Counterparty Funds Only) KACD does not act as central counterparty and does not guarantee settlement of trades.