Fundamentals of

Securities Operations
Mark Alexander
CIO and Head of Global Wealth and Investment
Management Technology & Operations
Bank of America Merrill Lynch
March 9, 2011

Operations Industry Framework

Clients

Financial
Intermediaries
Market Access Providers

Global Markets
Asset Managers
Hedge Funds
Pensions / Insurance
Financial Institutions
Sovereigns
Municipalities
Corporations

Wealth Management
UHNW Individuals
HNW Individuals
Mass Affluent
Affluent
Mass Market
Institutions

Market
Infrastructure

Brokers
Dealers
Underwriters

Back Office Services

Banks
Custodians
BPOs
Issuing, Paying, Transfer,
and Calculations Agents

Wealth Management
Providers
Full-Service Brokers
Investment Advisors
Private Banks / Trust
Online / Discounters
Mutual Funds

Trade Execution
Exchanges

Trading Networks
OTC Trading

Clearing, Settlement
and Custody
Central Counterparties
Central Securities
Depositories
Service Providers

Pricing, Market and Reference Data Providers

Global Markets Fee Demographics

Fee Pools ~$300B

Mortgages &
Securitized
Products 7%

Commodities
5%

Underwriting
14%

Rates &
Currencies
38%

Credit
16%
Equities
20%

Wealth Management Demographics

Wealth Management Market Size (HNWIs)
~$39T

Asia
Pacific
25%

Middle East
& Africa
7%

Latin
America
17%

North
America
27%

Europe
24%

U.S. Financial Assets

by Wealth Segment
Mass Market
Mass Affluent
Affluent/HNW

7%
11%
82%

Global Markets: Key Broker/Dealer Services

Capital Raising
Product Innovation
Structured Products
Complex Derivatives
etc.
Research/Investing Advice
Market Making / Trade Execution

Pricing Mechanism / Liquidity

Securities and Derivatives
Principal
Agency / Riskless Principal

Clearing / Settlement - Mostly

Delivery Versus Payment (DVP)
Prime Brokerage & Financing

Middle / Back Office

Custody

Client Reporting

Stock Loan / Borrow

Repo / Reverse Repo

Synthetic Financing

FX / Derivatives

Wealth Management: Key Services

Basics

Value-Added

Trade Execution - Agency /

Riskless Principal

Financial Planning

Clearing / Settlement

Banking, Lending and Insurance

Custody

Managed Solutions

Margin Financing

Family Office Services

Client Reporting

Wealth Structuring

Complex Financing Solutions

Philanthropic Services

Institutional Retirement and

Benefit Plans
Small Business Services

Types of Securities and Features

Equities
Common Stock
Preferred Stock
Exchange Traded Funds
ADRs / GDRs
Corporates
Bonds / Notes
Investment Grade / High Yield
Structured Products
Municipals
General Obligations
Revenue Bonds
Special Purpose
Money Markets
Certificates of Deposit
Commercial Paper
Sovereign/Government
U.S. Treasuries
Agency Securities
Non-U.S. Governments
Emerging Markets

Features
Debentures (Unsecured)
Subordinated
Secured
Bearer vs. Registered
Bullets vs. Amortizing
Convertible / Exchangeable
Fixed vs. Structured Principal
Principal Protected
Inflation Protected
Floating vs. Fixed Rate
Zero Coupon vs. Income Bonds
Strips
Interest Accrual Rules
Callable / Putable
Refunding
Sinking Fund
Market-Linked
Step-Up / Down
Attached Warrants
etc.

Securitized Debt
Mortgages (PassThrus / CMOs)
Asset-Backed
Collateralized Debt Obligations
Mutual Funds

Loads
No-Loads
Share Classes
Open-Ended
Closed-End
Listed Options/Futures
Puts
Calls
Single Name / Indices
Securities / Commodities

Financing
Securities Borrowed / Loaned
Repos / Reverse Repos

Clearing Corporations/Central Counterparties

Features
Roles:
Trade Comparison
Trade Netting
Trade Guarantee / Novation
Risk Management
Margining
Audit Trail
Clearing Alternatives:
Continuous Net Settlement (CNS)
Net Settlement / Balance Orders
Trade-for-Trade

Other Services:
ACATS
Mutual Funds

Select CCPs

U.S.
NSCC
FICC
OCC
CME

Non-U.S.
Eurex
LCH.Clearnet
EMCF
Euro CCP

Central Securities Depositories

Features
Roles:
Immobilization of Physical Certificates
Book Entry Settlements
Liquidity / Credit Management
Collection / Disbursement of P&I Payments
Notification / Processing of Corporate Actions
Processing of Calls / Redemptions
Transfers / Re-registration
Safekeeping Physical Securities
Key Features/Services:
DVP
Free Receipts and Deliveries
Fail and Repo Tracking
Fail Balancing
Claims Processing (Interest)

Select CSDs

North America
DTC
Fedwire
CDS

Non-U.S.
Euroclear +
Clearstream
Local CSDs

Life Cycle of a Typical U.S. Equity Trade

Buy

Order /
Execution

Order

Sell

NYSE /
NASDAQ /
ECNs

Order

Locked-in
Trade

Broker /
Client Confirm Dealer

NSCC
Matching

Netted
Settlement
Instructions

DTCC
Book
Entry
Receive

Book
Entry
Delivery

Broker /
Client
Dealer Confirm

CNS in Action
Broker/Dealer A
Buy
100 IBM
Buy
200 IBM
Sell
500 IBM
Net Sell 200 IBM

Broker/Dealer B
Sell
100 IBM
Buy
200 IBM
Net Sell 100 IBM

Broker/Dealer C
Sell
200 IBM
Sell
200 IBM
Buy
500 IBM
Net Buy 100 IBM

Obligations marked to market with theoretically one net settlement per

security per Broker / Dealer per day

Money settlements are further netted across all securities with

adjustments for margin calls, fail marks-to-market and other activity to
create one net money settlement per Broker / Dealer per day

Life Cycle of a Typical U.S. Equity Institutional Trade

Institutional Client

Order
Average
Price
Trade

Order

Broker /
Dealer

Allocations

NYSE /
NASDAQ /
ECNs

Execution
(Multiple
Fills)
Matching

NSCC

Confirms
Custodian A
Settlement
Messages

Custodian B
Custodian C

Settlement
Messages

DTCC

Life Cycle of a Complex Cross-Border Equity Trade

Order

Order /

Institutional Client

Execution
VWAP

Order /

Broker /
Dealer

Execution

Non-US
Broker /
Dealer

Master
Settlement
Messages Custodian

Alternative
Trading Facility

CCP

CCP

Non-US
Market
Makers

Allocations

Confirms

Local
Exchange

Matching / Settlement
Messages

Sub
Custodians

Local
CSD

Collateralized Financing Transactions

Transactions
Reverse Repos / Repos

Product
Categories
Sovereigns

Securities Borrowed /
Loaned

Agencies
Delivery vs. Payment
Triparty

Mortgages/
Asset-Backed
Securities

Hold-In-Custody
Corporates
Synthetic Derivatives
Equities

Features
Terms
Overnight
Term
Open
Flex
Fixed vs. Variable Interest Rates

Collateral
Cash
Securities
Letters of Credit
General Collateral vs. Special
Issues
Cross-Product
Substitutions
Credit
Initial Margin (Haircuts)
Mark-to-Market & Margin Calls

Repos/Reverse Repos
Principal Money
Securities

Repo
Counterparty

Reverse Repo
Counterparty
Securities
Principal Money Plus Interest

OTC Derivatives
Transaction
Types

Swaps

Options

Futures

Features

Product
Categories

Rates

Currencies

Credit

Forward
Rate
Agreements

Equities

Caps /
Floors /
Collars

Commodities

Notional / NPV

Terms and Conditions

Fixed vs. Floating

Total Return

Index vs. Single Name

Amortizing

Puts / Calls

American vs. European

Swaptions / Captions

Barriers

Knock-ins / Knock-outs

Collateralized

etc.

Simple Interest Rate Swaps Illustration

S&L

Bank

Asset LIBOR +1/2%

Liabilities 10-Year
Bond @ 4%

Pay
5%

Pay
LIBOR

Broker/Dealer
(Intermediary)
Receive
5%

* Illustration excludes Broker/Dealer spread

Asset Fixed Rate

Mortgage @ 6%

Liabilities MMDA at
Receive T Bill +1/2%
LIBOR

Life Cycle of a Typical OTC Derivatives Trade

Exchange ISDA Agreements with CSAs
Negotiate Contract Terms (Price,
Collateral, Margin, etc.)
Exchange/Sign Documentation
(Confirms)/Match Terms *

Broker /
Dealer

Matching Service Providers

(Markitwire, DTCC)
Exchange Upfront Fees / Premiums
(where applicable)

Lifecycle Events / Payment Resets

Service
Providers (DTCC)

Mark-to-Market Margin / Collateral Movements

* CCPs (CME, ICE, LCH) clear certain interest rate and credit derivatives

Client /
Counterparty

Operations Functions in Broker/Dealers

Client Onboarding

Trade / Trader
Support

Pre-Settlement
Processing

Cash / Security
Settlements

Custody

Books and
Records

Margin / Collateral
Management

Operations Risk
Management

Reference /
Market Data

Client Reporting

Client Services

Specialized
Product Support

Functions in Broker/Dealers
Client Onboarding

Trade/Trader Support

Order Management

Account Opening
Anti-Money Laundering
Patriot Act
Office of Foreign Assets Control
Account Documentation
Contract Documentation

Pre-Settlement Processing
Trade Figuration and Enrichment
Trade Clearance
Allocations
Confirmations (Securities &
Derivatives)
Pairoffs / Bulking / Netting
Custodial Matching
Payment Resets (OTC Derivatives)
Life Cycle Event / Trigger Management
(Derivatives)
FX Funding

Trade Execution Matching / Balancing

Trade Verification

Position / P&L Balancing

Cash/Security Settlements
Securities Settlements (DVP and Free)
Cash Receipts / Disbursements
Funding / Settlement Liquidity
Management
ACATS / Broker Transfers
Financing Desk Coordination (Reverse
Repo / Securities Borrow)
Fails Management
Claims Processing
Network Management
Wealth Management Banking Services
Visa, Checking, ACH, Wires,
Deposits, Loans, Sweeps

Functions in Broker/Dealers
Custody
Corporate Actions Notifications
Corporate Actions Election Management
Interim Accounting
Income / P&I Entitlement Processing
Tax Withholding / Collections
Transfers / Re-registrations
Physical Securities Processing /
Safekeeping (Vault)
Security Deposits / Withdrawals
Specialty Asset Services

Margin/Collateral Management

Books and Records

Operations Risk Management

Management Reporting and Metrics
SEC Rules 15c3-1 and 15c3-3
Reporting
Client Money Compliance (Including
SEC Rule 15c3-3 Reserve Formula)
Sec Rule 15c3-3 Possession or Control
Compliance
Escheatment (Abandoned Property)
Fraud Management
Systems Implementations / Testing

External Reconciliations (Cash / Nostro,

Box / Depot)
Internal Reconciliations (Inter / IntraCompany, Suspense, Fails)
Receivable / Payable Tracking
Stock Record Maintenance
Customer Account Bookkeeping
Fees and Billing

Reg T Initial Margin and Cash Payments

NYSE Rule 431 Margin
Financing Transactions Margin

Forward Trade Margin (e.g., Mortgage

TBAs)
Central Counterparty Collateral Posting
OTC Derivatives Margin / Collateral
Management

Functions in Broker/Dealers
Reference/Market Data

Client Services

Product Data Maintenance

Call Centers

Client Data Maintenance

Wealth Management Branch Liaison /

Support

Standing Settlement Instructions

Maintenance

Institutional Client Relationship

Management

Pricing

Prime Brokerage Client Services

Client Reporting

Specialized Product Support

Mutual Funds
Managed Solutions
Insurance
Alternative Investments
Mutual Funds Transfer Agency / SubAccounting
Trust Services
Portfolio Administration / Valuation
Benefit Plan Recordkeeping & Services
Structured Products
Special Purpose Vehicles

Statements
Tax Reports

Performance Reporting / Client

Reviews
Fails (Institutional Clients)
Derivatives Pricing / Client Valuations
Print and Mail

Key U.S. Regulations

Anti-Money Laundering

Know Your Customer

SEC Rule 15c3-1 (Net Capital)

SEC Rule 15c3-3 (Customer Protection)

Possession or Control

Reserve Formula

SEC Rule 17a-3 & 17 a-4 (Timely and Accurate Books & Records)

SEC Rule 17a-13 (Quarterly Security Count)

SEC 10b-10 & MSRB G-15 (Confirmation Disclosure)

Regulation T (Credit Extension)

NYSE 431

Operational Risks
Key Concepts

Financial Exposure
Debits / Short Market Value
Unsecured
Deficits (Partly Secured)
Aged Items
Counterparty Events
Regulatory
Policies & Procedures
Audit Trails
Reputational
Credits / Long Market Value
Service Levels
Timeliness / Accuracy
Business Disruptions
System Outages
Natural Disasters

Key Risks & Metrics

Unauthorized Transactions

Manual Processing

Failed Data Feeds

Trigger Events / Deadlines

Reconciliation Breaks

Uncollected Receivables

Fails

Data Accuracy

Aged OTC Derivatives Confirms

Missing Documentation

Uncollected Margin Calls

Technology Stability / Capacity

Service Levels

Vendor Management

Fraud

Industry Trends

More Volume

More Products & Complexity

More Technology

Margin Compression

Global Convergence

Multi-Currency

Multi-Lingual

Sourcing / Off-shoring

Regulatory Scrutiny

Leverage of CCPs / Industry Utilities for OTC Derivatives

Banking and Brokerage Convergence

Bad News TravelsFaster Than Ever

What Great Operations Teams Do

Get the Basics Right
Manage by Metrics
Provide World-Class Service
Facilitate / Drive Revenue Growth

Competitively Reduce Expenses

Manage Operations like a

Business
Build Strong Business
Relationships as an Equal Partner
Balance Speed and Control
Balance Strategy and Tactics
Leverage Global Capabilities

Proactively Manage Risks

Be the Employer of Choice for
Great Talent

Always Raise the Bar .

Continuously Improve
Challenge the Status Quo

Questions?

Fundamentals of
Securities Operations
Mark Alexander
CIO and Head of Global Wealth and Investment
Management Technology & Operations
Bank of America Merrill Lynch
March 9, 2011