The practice of securities holding, transfer and collateral has significantly changed over the past 200 years –moving from paper certificates and issuer registers to an intermediated environment, and from there to computerisation and globalisation. These changes made transacting more efficient and thus rendered markets more liquid. However, the law has lagged behind and is now itself an obstacle to efficiency because international securities transactions are subject to considerable legal uncertainty. The latest global market development, a cryptographic transfer process commonly called ‘the blockchain’, is the most recent efficiency-enhancing change. It offers a unique possibility to create a consistent legal framework for securities from scratch, on the basis of a legal concept that to some extent resembles bearer securities. This paper shows what the new international legal framework could look like, in the light of experience gained from earlier developments.

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‘Safe harbour’ is shorthand for a bundle of privileges in insolvency which are typically afforded to financial institutions. They are remotely comparable to security interests as they provide a financial institution with a considerably better position in insolvency. The common rationale for such safe harbours is that they protect against systemic risk. This paper submits that the true argument for the existence of safe harbours is rather liquidity in the financial market. Safe harbour rules do away with a number of legal concepts, notably those attached to traditional security, and thereby allow for the exponentiation of liquidity. The law sanctions safe harbours as modern economies are dependent on these high levels of liquidity. To the extent that safe harbours accelerate contagion in times of crisis, which in principle is a valid argument, specific regulation is well suited to correct this situation. To repeal or significantly restrict the safe harbours would be counterproductive.

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'Safe harbour' is shorthand for a bundle of privileges in insolvency which are typically afforded to financial institutions. They are remotely comparable to security interests as they provide a financial institution with a considerably better position as compared to other creditors should one of its counterparties fail or become insolvent. Safe harbours have been introduced widely and continue to be introduced in financial markets. The common rationale for such safe harbours is that the protection against the fallout of the counterparty’s insolvency contributes to systemic stability, as the feared ‘domino effect’ of insolvencies is not triggered from the outset. However, safe harbours are also criticised for accelerating contagion in the financial market in times of crisis and making the market more risky. This paper submits that the more important argument for the existence of safe harbours is liquidity in the financial market. Safe harbour rules do away with a number of legal concepts, notably those attached to traditional security, and thereby allow for an exponentiation of liquidity. Normative decisions of the legislator sanction safe harbours as modern markets could not exist without these high levels of liquidity. To the extent that safe harbours accelerate contagion in terms of crisis, which in principle is a valid argument, specific regulation is well suited to correct this situation, whereas a repeal or significant restriction of the safe harbours would be counterproductive.

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Close-out netting is a risk mitigation tool used by financial institutions. It is comparable to set-off and its effects in insolvency are loosely comparable to a super-priority. Therefore, it might conflict with the pari passu principle. Many jurisdictions have solved that conflict and adapted their laws so that close-out netting is enforceable even in the event of insolvency. However, as the financial market is global, the parties, their branches and assets might be located in different jurisdictions. Nevertheless, countries failed to agree on a harmonised conflict-of-laws rule, despite the obvious need, when they decided not to include a conflict-of-laws principle in the 2013 Unidroit Principles on the operation of close-out netting provisions. The relevant EU law, though patchy, already addresses this concern. This article identifies the underlying conceptual difficulties and proposes a solution for an improved framework for both the EU and other financial marketplaces.

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In its first part, the paper addresses issues relating to close-out netting and bank insolvency. In many financial markets repurchase agreements (repos) and securities lending agreements benefit from special insolvency treatment which - broadly speaking - consists of an exemption from a number of insolvency law mechanisms. There was some discussion triggered by the Financial Stability Board’s Recommendation 13 on repos and securities lending, aiming at changes of the special insolvency treatment of these transactions. However, this analysis submits that no changes should be made in this regard. Instead, the regulators should be given the power to temporarily stay close-out netting, as in bank resolution proceedings. At the same time, regulatory haircuts to collateral assets (FSB Recommendations 6 and 7) may buffer systemic consequences but are unable to act as a circuit breaker. In its second part, the paper addresses legal uncertainty in relation to proprietary interests in collateral securities. Repo and securities lending collateral assets face increased enforcement difficulties in cross-border settings, stemming from different national rules regarding good-faith acquisition and close-out netting. Haircuts, as proposed by some commentators, are not an appropriate solution. Instead, only harmonisation of securities law and of the relevant insolvency rules can guarantee a consistent cross-border framework.

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This comparative study analyses directors' duties and liabilities in all EU Member States, identifying regulatory strategies and trends across Europe and discussing enforcement strategies. The report has been prepared for the European Commission.

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UNIDROIT has recently launched an intergovernmental process intended to set an international non-binding standard for close-out netting legislation. This paper, first, provides insights into the question of why harmonisation is needed. The colossal exposures inherent in the derivatives, securities lending, repo, forex and similar markets are generally covered by close-out netting provisions, which are contained in the relevant master agreements. Close-out netting reduces mutual exposure by about 80–90%. The ‘net’ exposure is taken as a basis for the calculation of collateral and underlying capital, thus being vital for market participants' risk management, as well as for prudential supervision. Even though most developed markets have adopted netting-friendly legislation, the international nature of the modern financial market complicates enforceability of close-out netting in cross-jurisdictional situations, in particular in insolvency scenarios. Further, the Article explains the current difficulties in transposing the concept of close-out netting across jurisdictional borders and advocates a functional approach alongside the five criteria (immediate discharge of obligations? obligations due? obligations of the same kind?). Lastly, it sheds light on the concepts underlying the current UNIDROIT draft principles.

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Modern patterns for holding investment securities face three basic legal challenges: first, negotiability and the possibility of good faith acquisition must be ensured as they are the basis of today’s anonymous trading and settlement of securities. In the past, securities have been incorporated in paper certificates to achieve this result, allowing for the application of principles of property law to what in substance is a set of mutual rights and obligations. Second, account holders need to be protected against intermediary risk. Traditionally, concepts like safekeeping or trust were applied to achieve this result. Since there is a need to adjust to modern, basically electronic holding of securities, these concepts are now stretched to a considerable extent. Third, 40% of holdings entail cross-jurisdictional questions. Therefore, the issues of both negotiability/good faith acquisition and protection against intermediary risk need to be addressed from an international perspective. Modern conflict-of-laws concepts, in particular PRIMA, lead to the application of different laws to the 'same' securities, with potentially differing legal analyses in respect of these securities. The EU legislator was so far unable to address these problems. The Geneva Securities Convention and the Hague Securities Convention provide for answers but face criticism and are not yet implemented.

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This paper sets out eight principles designed to ensure the cross-jurisdictional enforceability of close out-netting. Close-out netting is heavily used by the financial industry and used in many regulatory mechanisms like in particular bank’s capital requirements (Basel II). However, as soon as banks located in different jurisdictions agree to apply close-out netting between them, they risk that the relevant provisions are unenforceable in the event of insolvency of either of them. About 40 countries do allow close-out netting, however on differing terms. The Principles shall provide guidelines to legislators on how to amend national insolvency laws so as to be compatible with each other. Principle 1 defines close out netting. Principles 2 and 3 set a standard regarding the circle of netting-eligible parties and netting-eligible financial transactions. Principles 4-6 deal with formal requirements, promoting in particular the idea that unenforceability as a consequence of non-compliance with formal requirements is not the right means to achieve regulatory goals. Principle 7 is the core rule and defines the relationship between close-out netting and insolvency avoidance rules. Principle 8 clarifies the role of Principle 7 in respect of bank resolution procedures as recently promoted by the Financial Stability Board. Each Principle is accompanied by a detailed commentary explaining its background and reasoning. The paper is the final one in a sequence of four that the Author has produced for UNIDROIT. It has greatly benefited from the input of other Members of the UNIDROIT Study Group and will serve as a basis for intergovernmental negotiations.

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The Geneva Securities Convention was adopted in October 2009 with a view to creating an international framework for the alignment of the laws governing securities holding and disposition. Its 48 Articles follow an extremely complex architecture designed to accommodate the need for rights over securities which are robust in case of insolvency of intermediaries while at the same time being neutral in respect of different legal concepts in place around the globe. Dr Paech was one of the main contributors to the Convention and is the initial author of the commentary accompanying the definitions of intermediated securities, securities account, intermediary, securities clearing system, securities settlement system ,and the relevant commentary on articles relating to central banks and regulated intermediaries, transparent systems (excluded functions), prohibition of upper-tier attachment, insolvency of system operator or participant.

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This study was commissioned by the European Parliament as a briefing paper for its Committee on Economic and Monetary Affairs (ECON), in view of the Commission’s preparatory work on securities law. The study attempts to break down this highly complex area to the origins of the legal uncertainties surrounding intermediated securities. It explains the tensions of legal concepts stemming from the fact that securities in their substance are obligations but as  a legal concept are treated as chattel in most jurisdictions. Further complication results from the internationalisation of the financial market, where securities are transferred, pledged and lent across jurisdictional borders. The fact that they are legally treated like movables leads to confusing results of the conflict-of-laws analysis, following which more than one law might influence the securities’ legal status. The paper compares the various legal models that are applied to securities holding and explains which aims would need to be achieved by the law in order to make cross-jurisdictional holdings legally sound.

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Close-out netting is typically applied to transactions such as derivatives, repurchase and securities lending agreements, and other kinds of transaction that tend to carry a high counterparty and/or market risk. Regulatory authorities strongly encourage the use of such close-out netting provisions (alongside collateral) because of their beneficial effects on the stability of the financial system. The reason is that referring market participants’ claims in the event of default of the counterparty to regular insolvency proceedings on a gross basis instead of on a net basis might expose the non-defaulting party to levels of credit risk and market risk that are difficult to calculate and manage for the relevant types of contract due to rapid changes in market values and uncertainty regarding the risk of repudiation of contracts during the proceeding. However, these beneficial effects can be particularly felt in the event of the insolvency of a party. In that case, the use of close-out netting assumes that the legal effects stipulated to that end by the parties (the close-out netting provision) will be recognised by and be enforceable under the applicable insolvency law. However, the current situation is that, even if about 40 jurisdictions recognise netting in insolvency, the extent to which they do so and the scope and legal effects of close-out netting provisions differ significantly. Furthermore, some jurisdictions do not clearly recognise netting, and the legal practice in such jurisdictions often resorts to the principles governing set-off, failing to recognise the fundamental differences between the two mechanisms. This patchwork is unsatisfactory in cross-jurisdictional situations, since it exposes the financial market participants’ risk management to unnecessary legal uncertainty and may even jeopardise it. An additional aspect of the enforceability of netting provisions has come to the fore since the beginning of the recent financial crisis: regulatory authorities, while underlining the usefulness of netting, have contemplated the need for a brief stay on the netting mechanism in pre-insolvency or insolvency situations affecting a financial institution, so as to allow the regulator the time needed to decide if and how to resolve an ailing financial institution in an orderly fashion so as to mitigate risks to financial stability. The paper analysis the commercial and insolvency law issues arising in relation to close out netting as well as the interplay with regulatory rules. This paper is the first in a series of four paper which the author produced for UNIDROIT.

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A set of 19 Principles designed to capable of enhancing the cross-jurisdictional enforceability of close-out netting provisions. The principles address different issues of commercial and insolvency law as well as conflict of laws. The paper is an Annex to and is build on the findings of the study (above) and serves as basis for the work of the UNIDROIT Study Group.

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The UK and Germany have introduced, in 2009 and 2010 respectively, special resolution regimes for banks. Amongst the various tools like ‚bail in‘ and ‚bad bank‘ allowing regulators to wind up failing banks also figures the power to stay contractual termination rights that the non-defaulting party might otherwise exercise against the defaulting party. However, the non-defaulting party might be located abroad. As a consequence, the regulatory effect of such regulatory stay is questionable and the consequences in terms of commercial and insolvency law remain widely unclear. The paper therefore concludes that effective implementation of the relevant regulatory powers requires simultaneous changes to the insolvency and commercial law

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The financial crisis has shown that regulatory tools to either save or wind up failing financial institutions are inadequate. As a consequence, the Cross-Border Bank Resolution Group of the Basel Committee developed a blueprint of the design of a future framework for bank resolution. Both collateral and netting play a vital part in this framework as they are directly connected to issues of solvency (under Basel II) and liquidity of financial institutions. The CBRG proposes to change the framework for close-out netting. The working paper analyses this proposal in the context of insolvency law and securities law and concludes that certain of the proposed measure risk being less effective than predicted as long as the legal concept of close-out netting and its treatment in insolvency are approached piece-meal on a global scale. It is the initial paper of a series of works that ultimately leads to a proposal for global close-out netting principles (cf. above).

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This article considers the latest proposals of the EU's Legal Certainty Group to tackling the legal barriers to post trading of securities.

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To increase the efficiency of both local and cross-border transfers and collateral transactions, today the vast quantity of securities are being held, transferred and pledged by entries to securities accounts with intermediaries (eg banks, brokers, clearing and settlement systems, etc), rather than in physical form by the investors or directly with the issuers. Unfortunately, more often than not choice-of-law and substantive law rules continue to reflect assumptions that securities were held, transferred and pledged by physical delivery and were supposedly mainly purely domestic transactions.

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