FINAL DRAFT- CORPORATE LAW-I

ROLE OF CLEARING CORPORATIONS IN THE CAPITAL MARKET

Submitted by: Submitted to:

Ravi Prakash Mr. Shantanu Braj Chaubey

Roll no. 1362 Teacher Associate of Law

B.A.LL.B (Hons.)

CHANAKYA NATIONAL LAW UNIVERSITY, PATNA

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 ACKNOWLEDGEMENT
Writing a project is one of the most significant academic challenges, I have ever faced. Though
this project has been presented by me but there are many people who remained in veil, who gave
their all support and helped me to complete this project.

First of all I am very grateful to my subject teacher Mr. Shantanu Braj Chaubey without the kind
support and help of whom the completion of the project was a herculean task for me. He donated
his valuable time from his busy schedule to help me to complete this project and suggested me
from where and how to collect data. I am very thankful to the librarian who provided me several
books on this topic which proved beneficial in completing this project.

I acknowledge my friends who gave their valuable and meticulous advice which was very useful
and could not be ignored in writing the project. Last but not the least, I am very much thankful to
my parents and family, who always stand aside me and helped me a lot in accessing all sorts of
resources. I thank all of them!

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Table of Contents
ACKNOWLEDGEMENT ................................................................................................................................... 2
RESEARCH METHODOLOGY .......................................................................................................................... 4
Objectives of the Study ............................................................................................................................. 4
Research method: ...................................................................................................................................... 4
1.INTRODUCTION .......................................................................................................................................... 5
2.SETTLEMENT PROCEDURE ......................................................................................................................... 7
3. BREAKING DOWN SETTLEMENT AGENTS.................................................................................................. 9
4. LEGAL FRAMEWORK ............................................................................................................................... 11
5.CONCLUSION............................................................................................................................................ 12
BIBLIOGRAPHY ............................................................................................................................................ 13

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 RESEARCH METHODOLOGY
Objectives of the Study

The researcher in this work:

(1) shall be discussing about the clearing and Settlement process that are carried out by the
Clearing Corporations,

(2) shall be discussing about the settlement agents which along with the Clearing Corporations
play a significant role in clearing out a trade and shall also be highlighting the legal framework
under which the clearing corporations are covered.

Research method: The researcher while doing this research work has adopted the Doctrinal
Mode of Research and has looked after the Articles, Opinions, Reports and other authentic
information present on the web sources.

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 1.INTRODUCTION
“A clearing corporation is an organization associated with an exchange to handle the
confirmation, settlement and delivery of transactions. Clearing corporations fulfill the main
obligation of ensuring transactions are made in a prompt and efficient manner. Clearing
corporations are also referred to as "clearing firms" or "clearing houses."1
The Clearing Corporations play a very significant role in the Capital Markets. These
Corporations are the organizations which basically are entrusted with facilitating the transactions
between the seller and the buyer. Depending upon the circumstances, they can act either as a
buyer or as a seller. These players majorly belong to the stock markets. In the Primary Stock
market, the Clearing Corporations act as seller of stocks and raise the funds while in the
secondary Stock market, where the exchange of securities takes place, these corporations act as
Regulators.
The transactions in the secondary market comprises of three important steps:
(i) Trading, (ii) Clearing & (iii) Settlement.
These are the steps that are involved in buying and selling of securities. Once a person has
bought the shares, transaction will be said to be completed when he has received the shares and
has paid the money while in case when a person has sold his shares, transaction will be said to be
completed when he has got the money in his hand.
Trading basically deals with placing an order and its execution. In the process of clearing the
determination of obligations between the parties is done which is in the terms of funds and
securities while in the settlement/novation process the trade is said to have completed and this is
carried out with the help of “Settlement Agents”.2
Settlement Agencies
The Settlement Agencies comprise of different heads. These are: Clearing Corporations,
Clearing Members, Custodians, Clearing Banks and Depositories. The whole clearing process
which takes place in the execution of a trade is collectively carried out by all of these Settlement
Agents. Clearing Corporations are concerned in the execution of trade in a manner that the
Clearing Corporations take the help of the rest of these such as the Clearing Banks and

1
Clearing Corporation, Investopedia, available at: https://www.investopedia.com/terms/c/clearingcorporation.asp
2
What Is A Trading Cycle In Stock Market?, Dalal Street Investment Journal (04.03.2014), available at:
https://www.dsij.in/article-details/ArticleID/10048/WHAT-IS-A-TRADING-CYCLE-IN-STOCK-MARKET

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Depositories provide a necessary interface between the Custodians or Clearing Members for
settlement of funds and securities obligations of trading members..
Clearing Corporations perform the task of:
• Clearing all Trades
• Determining the Obligations of Members
• Arranging for pay-in of funds and securities
• Arranging for pay-out of funds and securities
• Assuming the counter-party risk of each member and guaranteeing financial settlement
In India, the clearing corporation for the NSE is the NSCCL3 and for the BSE it is BOI Share
Holding. The NSCCL, a wholly-owned subsidiary of the NSE, was incorporated in August 1995.
It is responsible for the post-trade activities of the NSE. It was set up for the following purposes:
➢ To bring and sustain confidence in clearing and settlement of securities;
➢ To promote and maintain, short and consistent settlement cycles;
➢ To provide counter-party risk guarantee, and
➢ To operate a tight risk containment system.4
Through NSCCL, the clearing and settlement procedures in the Indian Stock Market have been
brought in line with international markets. The clearing and settlement operations of the BSE are
managed by a company called BOI Share Holding, which is a subsidiary of the Bank of India
and the BSE and is known as a clearing house.5

3
About NSE Clearing, NSE, available at: https://www.nseindia.com/supra_global/content/nsccl/about_nsccl.htm
4
Ibid.
5
Company Overview of BOI Shareholding Ltd., Bloomberg, available at:
https://www.bloomberg.com/research/stocks/private/snapshot.asp?privcapId=60075679

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 2.SETTLEMENT PROCEDURE
Steps Involved In Settlement:
The steps involved in the settlement of a trade can be divided into four heads:
(i) Determination of Obligations: Obligations are determined by Clearing Corporation for the
traders and acts as a central counter-party (CCP) to the members. It determines the obligations of
the members as what they ought to give and receive on the due date.
(ii) Pay-in of funds and securities: The members, after knowing their obligations, make
available the funds and securities to the Clearing Corporation. The member’s depository having
obligation to pay-in the securities; get an instruction from the Clearing Corporation to pass the
required entry for the transfer of securities to them. For the members having an obligation to
pay-in funds, the Clearing Corporation gives an instruction to the clearing banks for the same.6
(iii) Pay-out of funds and securities: After processing the shortages of funds and securities and
arranging for the movement of the same, the Clearing Corporation sends out electronic
instructions to the clearing banks/ depositories to pass the required entries for the same.7
(iv) Risk management: Since there is a time lag between execution of trade and its settlement,
there are chances of default. To minimize the risk of defaults, NSCCL has framed a
comprehensive risk management and surveillance system. Under this, the organization keeps a
check through various systems (on-line and off-line monitoring) and in case of default panelizes
the respective trader for the same.
Settlement Cycle:
NSE Clearing follows a T+2 rolling settlement cycle. For all trades executed on the T day, NSE
Clearing determines the cumulative obligations of each member on the T+1 day and
electronically transfers the data to Clearing Members (CMs)8. All trades concluded during a
particular trading date are settled on a designated settlement day i.e. T+2 day. In case of short
deliveries on the T+2 day in the normal segment, NSE Clearing conducts a buy –in auction on
the T+2 day itself and the settlement for the same is completed on the T+3 day, whereas in case

6
The Mechanics of Pay-in and Pay-out, EtMarkets, (22.04.2016) available at:
https://economictimes.indiatimes.com/markets/stocks/news/the-mechanics-of-pay-in-pay-
out/articleshow/51935022.cms

7
Ibid
8
Settlement Cycle, Capital Market- Clearing and Settlement, available at:
https://www.nseindia.com/education/resources/download/ismr2009ch5.pdf

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of W segment there is a direct close out. For arriving at the settlement day all intervening
holidays, which include bank holidays, NSE holidays, Saturdays and Sundays are excluded.9 The
settlement schedule for all the settlement types in the manner explained above is communicated
to the market participants vide circular issued during the previous month.

9
Settlement Cycle, IIFL Trade, available at: https://ttweb.indiainfoline.com/Trade/FAQs/SettlementCycle.aspx

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 3. BREAKING DOWN SETTLEMENT AGENTS
Clearing Members: The Clearing Members can be the members of the Clearing Corporations/
Clearing Houses who help in speeding and facilitating the process of pay-in and pay-out of
securities. These can be the brokers or custodians. The Clearing Member can be either trading as
well as clearing members i.e. those who trade as well as take the responsibility to settle their
trades and those who act only as clearing members i.e. they are responsible for settling their
obligations as determined by the Clearing Corporations.10
Custodians: They hold the documentary proof of securities, keeping the title of securities intact
in the name of the holder. In NSCCL, custodian is only a clearing member and not a trading
member. A custodian is required to settle the trades only after confirming to the NSCCL that it
will be settling the trade or not. If it takes the obligation, it will have to settle the trades and if
not, then the obligation is assigned back to the trading member for whom the custodian works.11
Clearing Banks: Every Clearing Member has to have a Clearing Bank account with one of the
Clearing Banks for the purpose of pay-in and pay-out of funds. Depending upon the obligations
entrusted with, in a trade, the clearing member makes available the funds in the Clearing Bank
Account for pay-in and receives through the account in case of pay-out. The NSE Clearing, a
wholly owned subsidiary of NSE has empanelled 13 clearing banks12 namely Axis Bank Ltd.,
Bank of India, Canara Bank, Citibank N.A, HDFC Bank, Hongkong & Shanghai Banking
Corporation Ltd., ICICI Bank, IDBI Bank, IndusInd Bank, Kotak Mahindra Bank, Standard
Chartered Bank, State Bank of India and Union Bank of India.
Every Clearing Member is required to maintain and operate clearing accounts with any of the
empanelled clearing banks at the designated clearing bank branches.
Depositories: A depository is an organisation created under Companies Act 1956 for the
purpose of facilitating electronic transfer of securities in a dematerialized environment/form. The
clients/investors do not open an account with the depository. Instead that job is performed by the
agents of depositories known as depository participants. The earlier settlement system followed
by the Indian stock exchanges was very inefficient as it was unable to take care of the transfer of
securities in a speedy manner. Since the securities were in the form of physical certificates, their

10
Introduction: Clearing Members, CDSL, available at: https://www.cdslindia.com/cm/introduction-cm.html
11
Custodians, NSE, available at: https://www.nseindia.com/supra_global/content/nsccl/custodians.htm
12
Clearing Banks, National Stock Exchange, available at:
https://www.nseindia.com/products/content/derivatives/equities/clearing_bank.htm

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quick movement was difficult which led to settlement delays, theft, forgery, mutilation and bad
deliveries. In order to do away with these troubles the Depositories Act of 1996 was passed. “The
Act establishes the depository system in India by providing for setting up of one or more
depositories to enable the investors to hold securities in non-physical form (known as
dematerialized form) and to affect transfer of securities by way of book entries in accounts
maintained by the depository.”13 A Clearing member or a custodian opens a securities account
with a depository participant of any of the Depositories registered with SEBI so that the
securities can be made available in the account on the settlement day. There are two Depositories
in India14 as listed on the official web portal of SEBI viz. Central Depository Services Ltd.
(CDSL) & National Securities Depository Ltd. (NSDL). CDSL was established in February,
1999 and has been promoted by the Bombay Stock Exchange (BSE) jointly with leading banks
such as the State Bank of India, Bank of India, Bank of Baroda, HDFC Bank, Standard Chartered
Bank, Union Bank of India, Bank of Maharashtra, Canara DS Bank & The Calcutta Stock
Exchange.15 On the other hand, NSDL was established in August 1996 and has been promoted by
NSE, IDBI and UTI (Unit Trust of India).

13
Shekar Kumar, Summary of “The Depositories Act-1996”, available at
http://www.shareyouressays.com/knowledge/summary-of-the-the-depositories-act-1996/112245

14
List of Depositories, Securities and Exchange Board of India, available at:
https://www.sebi.gov.in/depositories.html
15
What is CDSL?, IIFL, available at: https://www.indiainfoline.com/article/news-top-story/what-is-cdsl-
118022800228_1.html

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 4. LEGAL FRAMEWORK
As far as the legal framework for the Clearing Corporations in India are concerned, the Securities
and Exchange Board of India, which regulates and promotes the securities in the market and
looks after the protection of the Interests of the Investors, is the authority which also regulates
these clearing and settlement Organizations. The Board supervises the actions of these
corporations. These Corporations have to follow the SEBI Regulations such as Securities
Contract (Regulation) Act, 195616. Also, Since SEBI is a member of International Organisation
of Securities Commission the Clearing Corporations have to follow the regulations laid down by
IOSCO which are termed Principles for Financial Market Infrastructures (PFMIs). “IOSCO is the
leading international policy forum for securities regulators and is recognized as the global
standard setter for securities regulation. The organization's membership regulates more than
95% of the world's securities markets in more than 100 jurisdictions and it continues to
expand”.17The official web portal of SEBI lists down the following Clearing Corporations:18
India International Clearing Corporation (IFSC) Limited
Indian Clearing Corporation Ltd.
Metropolitan Clearing Corporation of India Ltd.
National Securities Clearing Corporation Ltd.19
NSE IFSC Clearing Corporation Limited

16
The Securities Contract (Regulation) Act, 1956 has been amended by the Finance Act, 2017. The Current Act as
amended is available at: https://www.sebi.gov.in/legal/acts/feb-1957/the-securities-contracts-regulation-act-1956-as-
amended-by-finance-act-2017-_4.html
17
The International Organization Of Securities Commissions (IOSCO), SEBI, available at:
https://www.sebi.gov.in/sebi_data/internationalAffr/IA_IOSCO.html

18
List of Clearing Corporations, SEBI, available at: https://www.sebi.gov.in/clearing-corporations.html
19
The National Securities Clearing Corporation Ltd (NSCCL), a wholly owned subsidiary of NSE, was incorporated
in August 1995 and started operations in April 1996. It was the first clearing corporation in the country to provide a
novation/settlement guarantee mechanism.

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 5.CONCLUSION
Clearing houses act as third parties to all futures and options contracts – as a buyer to every
clearing member seller and a seller to every clearing member buyer. Clearing houses either focus
on a type of produce or on a specific country or region, or sometimes both. The 1990s saw a
trend of merger in exchanges leading to a number of clearing houses associated with those
exchanges also merging and consolidating. This led to a number of clearing houses that cover
multiple countries and all three major types of securities, bonds, stocks and derivatives. Each
futures exchange has its own clearing house. In the US, the merger of the Chicago Mercantile
Exchange, the Chicago Board of Trade and the New York Mercantile Exchange into the CME
Group saw it set up its own clearing operation ClearPort. In Europe, LCH.Clearnet serves major
international exchanges and platforms, as well as a range of OTC markets.

In India, the clearing and settlement system has become very transparent and therefore, people
have also started having faith in the market and its operations. The use of super computers to
carry out the trades and to maintain their records has actually made the market operations crystal
clear. Apart from the state of art information technology, the latest innovations include:

• Emergence of clearing corporation to assume counterparty risks; ·

• Replacement of account period settlement by rolling settlement system leading to shorter
settlement cycles
• Dematerialization of securities has been adopted in place of physical securities
• Electronic transfer of securities through book entry system
• Fine tune risk management system, etc

Though many of these have not been implemented fully as they are yet to reach the masses and
penetrate the whole market. One of the greatest achievements of the current system is settlement
of trades within three working days i.e. T+2 rolling settlement which has replaced account period
settlement, which used to take at least a week to define the obligations. Rolling settlement has
now been introduced for all securities. Rolling settlement involves shrinking the netting period to
one day. This is part of the historical progression that we have followed in India's equity market.
The length of the netting period has gone from an undisciplined fortnight to a disciplined week,
and with rolling period it now goes to a day.

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BIBLIOGRAPHY

Statutes:

Securities Contract (Regulation) Act, 1956

Web Sources:

1. www.sebi.gov.in
2. www.indiainfoline.com
3. www.cdslindia.com
4. www.nseindia.com
5. www.dsij.in
6. economictimes.indiatimes.com
7. www.bloomberg.com
8. www.shareyouressays.com

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