Risk management technology: Vermeg

The European Central Bank has big plans to modernise collateral management facilities across the Eurosystem during the next four years. Its vision to create a single harmonised platform for collateral operations to replace the existing systems operated by 19 central banks is bold and ambitious, building on the previous success of Target2 (T2) and Target2-Securities (T2S) – which it also plans to merge into one system – in harmonising cash and securities settlement across the bloc. The concept of the Eurosystem Collateral Management System was unveiled in December 2017 and it is expected to launch in November 2022. The five-year development project is being led by Banque de France and the Bank of Spain, while banking and insurance technology provider Vermeg won a competitive tender process in early 2018 to deliver the technology.

“For the Eurosystem central banks and their monetary policy counterparties, ECMS will be a major step forward because it will create one central point, one set of procedures and one platform to manage all of the collateral. We looked at several providers, but Vermeg was competitively priced, and is already running collateral management software that is used by central banks in the Eurosystem, so was best placed to meet our requirements,” says Philippe Leblanc, operational director of European market infrastructures at the Banque de France.

Vermeg has enjoyed a particularly successful year, bolstered not only by the high-profile ECMS contract, but also by the February 2018 acquisition of reporting and collateral management provider Lombard Risk, which took its annual revenues from €54 million to €100 million ($61.2 million to $113.4 million), and further extended its client base. Bringing together the best of Vermeg’s Megara and Lombard Risk’s Colline systems has allowed Vermeg to deliver a more extensive collateral hub that can include monetary policy management, stock lending and borrowing, and risk management.

Megara was launched in 1995, and is now used by more than 25 clients in 18 countries, including custodians, central securities depositories and central banks. Vermeg’s success in the ECMS tender process came about through its proven capabilities in collateral management, which it had already delivered to four sizeable central banks, including the Bank of England and Norges Bank.

“Our collateral management module for central banks was initially developed in 2006, leveraging our successful stock lending and borrowing solution, in collaboration with Banque de France as it moved from a repo model to a single collateral pool model, which improves the efficiency of collateral usage and reduces both the risk of margin calls and the operational risks related to moving the collateral,” says Christian Cure, country manager for France and central banks business development at Vermeg.

Under the single collateral pool model, participants in a central bank’s official operations maintain a pool of securities, which the central bank uses to collateralise its current and potential future exposures to market participants. This is considered a more accurate and efficient model that avoids a central bank being overcollateralised or undercollateralised, and also decreases the operational risks associated with moving collateral between operations.

The Banque de France began using Megara for collateral management in 2008, while the Bank of England went live in 2014. Another eurozone central bank also went live in 2014, while Norges Bank was the most recent addition, in January 2016. In spite of the extensive work on ECMS, Vermeg has continued to invest in the collateral hub, with upgrades over the past year including the addition of new types of collateral, such as credit claims, an improved dashboard and web portal, and an increased volume-processing capability. Feedback from Vermeg’s central bank clients is overwhelmingly positive.

“Megara allows us to keep track of all of the collateral pledged by the commercial banks to secure loans from Norges Bank. The system also calculates the value of the underlying securities and the credit line provided to each bank. We issued a public tender and looked closely at several providers. Vermeg was the best rated, based on a review of the system’s capacity to meet our requirements, the company’s ability to deliver maintenance services, references from other clients and price,” says Kjetil Harald Watne, director of the interbank settlement unit at Norges Bank.

An equally positive endorsement comes from Geneviève Deanaz, head of the collateral team at Banque de France: “We have been amply satisfied with Megara, which we find easy to use, robust and customisable to our needs. The ECMS will completely change the monetary policy collateral management infrastructure of the Eurosystem.”

We looked at several providers, but Vermeg was competitively priced, and is already running collateral management software that is used by central banks in the Eurosystem, so was best placed to meet our requirements

Philippe Leblanc, Banque de France

The move towards a shared platform for collateral management across the entire Eurosystem is a step change that will rely on Vermeg’s technology as much as on the operational expertise of the central banks. When it goes live in 2022, the ECMS will replace 19 local systems, based on in-house or third-party technology, that are currently used for managing eligible assets as collateral.

Following the selection of Vermeg earlier this year, work began in June 2018 on the detailed specifications for the ECMS, which has been split into eight key areas, and this phase is expected to continue well into 2019. Vermeg anticipates that it already has 80% of the functionality that will be required, but there is still a great deal of work to be done over the next four years to harmonise collateral management practices across the Eurosystem.

“ECMS comes as a further major step in the global project comprising T2 and T2S, thus forming the three pillars of the Eurosystem aiming to increase the efficiency of liquidity management,” says Khaled Ben Abdeljelil, executive director at Vermeg.

“At the heart of this undertaking is the harmonisation of collateral management across all 19 central banks based on Vermeg’s Megara solution. There are still some areas where further work is needed to harmonise collateral arrangements as the project develops, particularly around processes and workflows for credit claims and tri-party.”

It is too early to predict the ultimate success of ECMS, but Leblanc remains confident in the selection of Vermeg, and believes the project is progressing well: “Vermeg has most of the functionality that will be needed, but the main difference is that the collateral module in Megara was developed to manage the operations of a single entity, whereas with the Eurosystem, there will be 19 central banks, so the platform has to include all of the entity definitions and clear segregation so that each central bank will only be able to access its own data.”

The Central Banking Awards were written by Christopher Jeffery, Daniel Hinge, Dan Hardie, Rachael King, Victor Mendez-Barreira, Joel Clark, William Towning and Tristan Carlyle