Recommendation 1 Recommendation 2 Recommendation 3 Recommendation 4

Recommendation 5 Recommendation 6 Recommendation 7 Recommendation 8

Market selection

Recommendation 8

Local laws and regulations should ensure that there is segregation of client assets from the principal assets of their custodian; and no possible claim on client assets in the event of custodian bankruptcy or a similar event. Regulators and markets, to further improve investor protection, should work:

• to ensure clarity on the applicable law on cross border transactions
• to seek international agreement on a legally enforceable definition of finality in a securities transaction
• to ensure that local law fully protects the rights of beneficial owners
• to strengthen securities laws both to secure the rights of the pledgee and the protection accorded to client assets held in Securities Systems.

1.	Under local rules and regulations, what are the segregation requirements for keeping client assets and custodian assets in the depository?	Austraclear Participation is by membership and each member has individual access. The depository participates on the same basis as any other member and cannot access other members' properties. RITS Segregation of the depositories and participants assets is achieved in the same manner as for Austraclear. Please refer above for details. Each Member may segregate its activities by establishing separate branches, eg. a branch for its own assets and another for each of its clients' assets. Assets within a branch may be further segregated using Securities Sub-Accounts. However, the RITS Regulations and Conditions of Operation provide only for recognition of ownership of securities at the member level. Nominee and custodian members generally maintain records of client assets outside of RITS. CHESS CHESS is a name-on-register system, rather than a depository. Securities are held in the registered holder's name on the issuer's register. Client assets held by a custodian will typically be held in a registered omnibus holding in the name of the custodian's nominee on the CHESS sub-register. Custodians All client assets held by custodians are held to the order of or registered in the name of the custodian's nominee name. No custodian proprietary asserts are held to the order of or registered in the custodian's nominee name. Custodian client assets are further segregated within custodian's records through the use of segregated and individually numbered client security holding accounts.
2.	How are clients' assets protected in the event of insolvency of a custodian or depository?	The answers to this question depends upon the status of the assets in the hands of the custodian or Depository. Assets held by custodians and depositories pursuant to custody contracts are usually regarded as trust property, however in agreements with clients this matter is not dealt with specifically. However, it is our opinion that the relationship created by the Agreement would be regarded by the courts in Australia as one of bare trust: the question has been answered on the basis that a trust would be found to exist. It is arguable that, in the case of fungible custody there is no certainty of subject matter and there can be no valid trust. If this were the case, the client would have contractual rights against the custodian rather than proprietary rights in relation to the assets, rendering the client an unsecured creditor. However, it is also arguable that, in relation to a trust of commingled intangible assets, the question of certainty does not require the segregation or appropriation of assets. Rather, in such circumstances it is sufficient if the purported trust can be properly executed. The better view appears to be that fungible custody does not preclude the existence of a trust. The current state of the law in Australia is that property held on trust, subject to the existence of any charges, liens or other security interest that the eligible foreign custodian or third parties may have over the custodially held assets, is not available to an administrator for bankruptcy purposes, rather it would vest in the beneficial owner and be dealt with in terms of the beneficial owner's instructions.
3.	Does local law recognise the existence of beneficial owners who may differ from the legal owner of a security?	Yes. Australian law recognises that fungible custody does not preclude the existence of a trust. The current state of the law in Australia is that property held on trust, subject to the existence of any charges, liens or other security interest that the eligible foreign custodian or third parties may have over the custodially held assets, is not available to an administrator for bankruptcy purposes, rather it would vest in the beneficial owner and be dealt with in terms of the beneficial owner's instructions.
4.	Does local law clearly define the point of time when a settlement, both for the security and the cash involved, achieves finality and thus cannot be unwound?	Common Law recognises the transfer of the ownership of traded securities and all associated entitlements as having taken place from the time the trade is effected in the market. However the absolute finality of settlement of traded securities is as follows: Austraclear Austraclear has developed an On-Line Real Time system which enables Members to record both same day and future day obligations to settle security transactions. Same day transactions may be recorded for settlement on either an immediate settlement basis, end of day settlement basis or external settlement. Whilst Austraclear remains an approved RTGS system under the Payment Systems and Netting Act (1998, Cwth), interbank cash payment obligations arising from transactions between Members recorded for settlement in Austraclear are settled through an irrevocable payments system in real time (i.e. RITS/RTGS). Settlement of transactions in final and can not be unwound. Upon settlement, Austraclear records title to the securities as passing to the buyer immediately upon the paying Member's bank making the corresponding cash payment. RITS The RBA defines irrevocability and finality as occurring from the point of settlement in RITS and Austraclear. This is supported but not defined by relevant local law, the Payments System and Netting Act (1998, Cwth). Under this, the RBA can designate systems as approved RTGS systems. This designation affords protection from the application of the "zero-hour rule" for payments and securities settlements. Both RITS and Austraclear have been so designated by the RBA. CHESS CHESS settlement provides irrevocable delivery versus payment by holding uncertificated shares in a computerised register. At the time of settlement, securities are automatically exchanged for funds already cleared electronically between participants' banks.
5.	Does a pledgee have an absolute right to realise their security at all times?	Austraclear Under the operating rules of the Austraclear System, Austraclear is required to recognise an encumbrancee as the only participant (including to the exclusion of the encumbrancer) entitled to enter (as the transferor) a transaction involving the transfer of the encumbered security from the encumbrancee and to remove the encumbered security from the System. RITS Under the RITS Regulations and Conditions of Operation, the Mortgagee must reassign the Secured Property (the subject of the mortgage) to the Mortgagor on payment to the Mortgagee of the amount agreed as being secured under the mortgage. CHESS The rights of a pledgee to realise securities held as collateral for a money loan are determined by the contract governing the loan and insolvency law. The presence of CHESS as a "securities system" does not alter these fundamental requirements. As a name-on-register system, CHESS enables a pledgee to become the sponsor of pledged securities. As sponsor the pledgee then controls pledged securities holdings, although the securities remain registered in the name of the owner, and dividends and other corporate actions continue to flow directly to the owner from the issuer.
6.	Does the depository have loss sharing provisions in its rules, and how would these be applied?	Austraclear The Austraclear System operates on a real-time gross settlement basis. However, if RITS (the RTGS system) is unavailable, the System may revert to a deferred net settlement basis. The operating rules for the Austraclear System allow for Austraclear, as operator of the depository, to establish a multilateral net position for each Participating Bank at the end of any day in which the System is operating on a deferred net settlement basis. The operating rules also set out loss-sharing arrangements to apply as between surviving Participating Banks if a defaulting Participating Bank has insufficient funds in its exchange settlement account with the Reserve Bank of Australia to meet its net settlement obligation on the next day. RITS Not applicable. CHESS No, but the Corporations Law includes provisions regarding replenishment of the Guarantee Fund. These provisions include the right to impose a levy on stock exchange transactions.