The competition between two service providers to automate order routing and settlement for investment funds in the United Kingdom is heating up.

That means that fund managers, transfer agents and fund distributors are facing a tough choice, in replacing paper with electronic processing of purchases and redemptions.

The decision: whether to sign up with a combined service offered by Euroclear UK & Ireland and sister company EMXCo or a rival system from Calastone, a London firm that operates a cross-border transaction network for the mutual fund industry. Or use both.

Euroclear UK & Ireland's service is comprised of the EMX order-routing system and the central securities settlement platform operated by the depository for the United Kingdom, Ireland, Jersey, Guernsey and the Isle of Man. Calastone is privately held and independently developed.

Automation comes none too soon for the U.K. market-the fourth largest for investment funds in Europe. U.K. fund distributors often send orders on purchases and redemptions of investment fund units to fund managers via e-mail or fax. Payments are also often made via check.

The process can take up to 10 business days to complete. The U.K. Treasury has estimated that U.K. fund distributors and managers could save between $130 million and $475 million annually if they would automate their communications and settlement process.

The privately held Calastone opened its doors in 2008 and began offering settlement services in March 2010.

Over the past year, Calastone and Euroclear have been quick to issue press releases touting just who has become a member of whose service.

The latest salvo: a transfer agent that picked both. In late November, Euroclear UK & Ireland announced that IFDS will process its clients' investment fund transactions through the UK and Ireland's central securities depository. IFDS, the largest transfer agent for UK investment funds, previously signed up to use Calastone's settlement system in March and remains a Calastone customer.

For Kevin Lee, chief executive of Calastone, being the first to come to market with a live settlement platform validates Calastone's position. "Euroclear is offering a lot of smoke and an automated settlement system which is not currently being used," Lee said.

Not so, says Euroclear. The link between EMXCo and Euroclear went live in November 2009. Neither Euroclear nor Calastone are willing to disclose the volume of traffic passing through their pipelines but each cites some mega backers. Calastone says that U.K. investment fund distributors such as Cofunds, FNZ, Charles Stanley and Redmayne Bentley already use Calastone's order routing and settlement platform, and Euroclear says it has signed up Direct Sharedeal, Skandia and Rathbones to use the link between EMX and Euroclear UK & Ireland. Joint clients include Brewin Dolphin and Charles Stanley.

As for IFDS' clients, Calastone boasts fund managers Hendersone Schroders, M&G Gartmore, Aberdeen, Allianz, F&C, Jupiter, Old Mutual, Martin Currie, Neptune Investment Management and New Star as using it to settle their trades. Euroclear cites F&C, Old Mutual and Neptune as clients; so too are Artemis Fund Managers, Gartmore Fund Managers and Royal London Unit Trust Managers.

Fund managers and distributors that already settle their U.K. equities and bond trades through Euroclear UK & Ireland may favor Euroclear while independent financial advisers or large fund supermarkets might favor Calastone.

Fund managers will also be influenced by just which platform their distributors want to use. That's because the banks, brokerages and other promoters are the ones bringing in the investors' assets.

"Distributors connected to Euroclear UK & Ireland to settle other transactions have no required development to make, while new distributors can connect using a secure intuitive screen interface," said Andrew Rudd, investment funds product manager for Euroclear UK & Ireland. "Fund managers need only comply with Euroclear UK & Ireland's interface to supply the required data."

As a securities depository, Euroclear UK & Ireland serves as a central registry for securities. That means that when it shifts the ownership of shares between investors it does so in nominee name. That is the name of the broker-dealer or financial intermediary or distributor which actually placed the buy or sell order. Once that occurs on settlement date, the Euroclear UK system must then notify the registrar, which is the transfer agent for the issuer of the shares, of the change in ownership. Such a scenario requires the fund manager to reconcile its books with the Euroclear UK & Ireland system.

Unlike Euroclear, Calastone does not offer delivery versus payment settlement; rather, Castaslone only routes the orders to the relevant parties for settlement to take place elsewhere.

However, as Rudd noted, if a fund manager's transfer agent has not signed up to use Euroclear UK & Ireland's settlement platform, the fund manager won't be able to do so as well. That means it will have to settle outside the platform in a manual, non-automated basis.

In the case of Calastone, fund distributors and fund managers can communicate changes in the legal title of investment fund units directly through Calastone. That's because the firm doesn't act as a central registry. But that still means that fund managers and distributors must reconcile their books on a bilateral basis rather than through a single account at Euroclear UK & Ireland.

Calastone's settlement system also aggregates payments between the fund distributor and the fund manager. Rather than requiring a distributor to keep track of the multiple payments and receipt of funds it will have with each fund manager on a daily basis, Calastone will "net" such payments into a single lump sum at the end of the day.

Rudd counters that in the Euroclear UK & Ireland system, there is a simultaneous delivery versus payment process. This ensures there is no risk to either the fund promoter or distributor that either one will either fail to deliver the units of shares or the cash.

Calastone's response? "Euroclear and other large securities depositories promote the make-believe delivery versus payments model because it suits their current secondary market model designed for equities and bonds," Lee said. "They do not meet the needs of the funds market, which will then have to change its entire infrastructure."

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