A Uniform Choice of Law Rule for the Taking of Collateral Interests in Securities: Using Private Law Approaches to Reduce Credit and Legal Risk in Financial Systems

Traditionally, securities were held, traded, and settled in direct holding systems in which owners of securities were either recorded on the issuer's register or were in physical possession of bearer securities certificates. Today, most-publicly traded securities are recorded electronically on the books of a financial intermediary, which in turn holds its interest in another intermediary and/or central securities depository. These multi-tiered structures are known as indirect holding systems, in which there are one or more tiers of intermediaries between issuer and investor, and interests in the underlying securities are recorded by book entries in fungible custody accounts at various levels in the chain. The transfer of such interests occurs by book entry without any form of actual or constructive delivery. Credit and liquidity risks arise in the cross-border context because there is uncertainty as to which legal system's rules apply to the disposition of collateral interests in securities. This legal uncertainty may lead to increased credit and liquidity risk. This paper analyses a recent Hague Conference Report that proposes a uniform conflict of law rule for determining which law should apply to the disposition of collateral interests in securities held in indirect holding systems. This paper argues that more legal uniformity across national systems is needed to devise common principles and rules for the creation, perfection, and protection of collateral interests in securities.