UBS develops prototype settlement coin to improve bank settlement systems

The current process of settling transactions is slow, inefficient, and expensive, but Swiss banking giant UBS has a solution using blockchain technology. UBS is reportedly working on their own digital currency, which they call a “多用途结算币.”

“The development of this coin will be a key element in ensuring widespread adoption of blockchain-based platforms in financial markets.”

—Oliver Bassmann, Chief Information Officer, UBS

The current process involves a number of intermediaries verifying each step of the process. Initially, clients place orders with their brokers, who then execute the orders on the exchange. Funds undergo a clearing and settlement process before being registered in a central bank account.

Most markets in the US settle within 3 days, T+3. Most markets in Europe settle within 2 days, T+2. The move to T+2 in 2014 was so successful that other markets are considering doing the same to benefit from a coordinated settlement cycle.

Soon after, the European Financial Markets Association released a research report on the positive impact of implementing T+2. "T+2, which shortens the settlement cycle, will improve efficiency and reduce post-trading risks."

HSBC, a British multinational banking and financial services company, said: “T+2 will help reduce counterparty risk by moving trades to settlement quickly, enabling capital to be reinvested more quickly and reducing credit and contract exposure.”

“The move to T+2 and shorter settlement cycles will reduce counterparty risk for all industry participants.”

—— HSBC

In April, the Depository Trust & Clearing Corporation (DTCC), a financial services company that provides clearing and settlement services, recommended reducing the settlement cycle for U.S. trades “after significant industry input and discussion, as well as thorough due diligence including risk and cost-benefit studies.”

DTCC revealed that both institutional and retail investors need shorter settlement cycles. “Investment managers often request shorter liquidation cycles for their securities portfolios, using public fund redemption transactions to adjust the sale of securities portfolios. Retail investors require shorter liquidation cycles to meet the needs of large transactions and tax expenses.”

The firm also recommended that there should be industry research into moving to a further one-day settlement cycle, T+1. The industry investigated the feasibility of this 13 years ago, but the plan was abandoned due to "competitive priorities".

Many financial institutions and agencies also believe that shortening the settlement cycle will reduce risks, and switching to T+1 will achieve the same effect as switching to T+2.

“T+1 will not work due to the heavy use of paper and straight-through trading at the lower levels of the industry.”

——Settlement Cycle Coordination Working Group

According to UBS, its prototype settlement coin will be linked to real-world currencies and connected to a central account, meaning funds will be registered at a central bank within seconds of a transaction taking place.

Research by international management consulting firm Aowei Consulting shows that the global cost of clearing, settlement and managing post-trade processes is between 65 billion and 80 billion US dollars a year. According to a joint report by Aowei Consulting and Santander Bank, this cost can be significantly reduced by using a distributed ledger system.

“Our analysis suggests that distributed ledger technology could reduce banks’ infrastructure costs by $15-20 billion per year by 2022 through cross-border payments, securities trading and regulatory compliance.”

-- Santander Bank and AVC

Last October, UBS’s chief information officer,奥利弗•巴斯曼, told financial news that blockchain has the potential to “change not only the way we pay, but the entire rules of trade and settlement.” He further said the technology has the greatest potential to disrupt the financial services industry and simplify banks’ processes and cost structures.

UBS has been researching blockchain technology for some time, and according to Bassman, has identified 20 to 25 potential uses for blockchain technology in the financial industry. "The limitations are also great. Blockchain still can't handle the volume of processing that we do in our traditional business," Bassman explained.

Banks aren’t the only ones researching blockchain technology. Overstock.com CEO帕特里克•伯恩launched his new company, tØ, a blockchain equity trading platform in August. British retail banking giant Barclays has also begun researching the technology in its London lab.

UBS hopes that its new currency can be used to process transactions on institutional financial platforms that are also based on blockchain technology. The bank plans to work with market participants such as buy-side firms, regulators and market infrastructure providers to create industry-wide products. "It is clear that we need to work with other peers in the market, regulators and central banks to move forward", explained Haider Jaffrey, head of e-commerce at UBS Investment Bank.

The new electronic currency is being developed at the bank’s Cryptocurrency Lab, which opened in April. Located on a 39th floor in London’s financial district, the tech lab’s mission is to explore how blockchain technology can be used more efficiently in financial transactions.

More details are being developed in partnership with Clearmatics, a London-based blockchain startup that develops blockchain-based clearing and settlement software for financial transactions. The company uses what it calls the Decentralized Clearing Network (DCN) to implement distributed ledger and smart contract concepts.

“Clearmatics’ mission is to provide financial institutions with an intelligent platform that allows participants to run their post-trade processing in the most secure, stable and clear manner, and then deliver permissionless contracting and execution innovation.”

—— Clearmatics

Supporting financial innovation has become an important part of the UK government's strategy. In March, the UK government announced that it would launch a new research program to fund 10 million pounds to support research on electronic currency technology.

“The application of decentralized technology to electronic information platforms will have a far-reaching impact. Electronic products in other industries have been reshaped by new technologies. In addition to the payment field, the impact of distributed ledgers on the financial industry will be more extensive.”

—— Bank of England

However, some Bitcoin enthusiasts have also expressed skepticism about the use of these blockchain technologies. "Without leveraging Bitcoin's network effects, it will eventually become the same as our current centralized payment network," said Jon Matonis, the founder and director of the Bitcoin Foundation.

Toby托比•科佩尔, co-founder and partner at Mosaic Ventures, also worries that the system is being hired. “It’s questionable whether cryptography can produce new private blockchains,” he said.

Settlement coins are the latest initiative to emerge from UBS’s London Lab. The team is working on a prototype of a “smart bond” platform based on the Ethereum blockchain. All of the lab’s projects are works in progress, but UBS executives say the prototype has already demonstrated the technology’s potential.

“Cultivating an open and collaborative environment between the bank, startup and investor communities is necessary to ensure synergies between ourselves and accelerate innovation opportunities and create real value for the industry.”

-- Oliver Basman

Because UBS’s multi-purpose settlement coin is still in the conceptual stage, it remains to be seen how successfully it will improve the process of trade settlement. The bank said more details about the project will be revealed before the end of 2015. Whatever the outcome, the move shows that participants are working together to use blockchain technology to improve the current system.