Continuous linked settlement
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Continuous Linked Settlement (CLS Group Holdings AG and subsidiary companies) was created in September 2002 by a number of the world's largest banks, for the purpose of settling foreign exchange flows amongst themselves (and their customers and other third-parties). Technically it is a bank regulated by the Federal Reserve Board of New York and, as of April 2006, there are 56 member (shareholder) banks, and 711 third-party institutions that participate in the system.
Since it began operations, CLS has rapidly become the market-standard for foreign exchange settlement between major banks, and as of April 2006 it settles about 300,000 instructions a day in 15 currencies (which represent some 98% of global fx trading) and with an average daily value exceeding US$2.5 trillion.
A key feature of CLS is multi-lateral net settlement of gross-value instructions. On average, CLS netting efficiency is in the region of 98%; that is to say, each trillion dollars of gross value settled might require aggregate pay-ins of "only" $20 billion.
CLS settles transactions on a "Payment versus Payment" basis, also known as PVP. When a foreign exchange trade is settled, each of the two parties to the trade pays out (sells) one currency and receives (buys) a different currency; PVP ensures that these payments and receipts happen simultaneously. Without PVP there is a (small - but with potentially devastating financial consequences) chance that one or more parties could pay away funds to another institution but not receive any reciprocal funds due (generally for reasons of credit-related default) - this is known as settlement risk, or Herstatt risk.
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