Many people watch the news and see the financial reports, but have never understood the mechanism of securities. People may just assume that to buy securities you just walk across the counter and buy. That is where the central depository system comes in. The central depository system can be described as a system that keeps track of securities or shares when bought and sold, and how ownership changes hands.

It is used to purely settle accounts. The central depository system consists of three elements – the account holder, the issuers who may be the registrar, and the potential buyers or eligible pledges.

Accounts
In the first element, the account holders are subdivided into two the account holders and the participants. Both have access to the central depository system, but in slightly different ways. The account holders would usually posses a house account and also a main account for all the securities that belong to them.

While the participants will have group client accounts and sub-accounts. The participants will be allowed to custodian services to their clients, meaning that they can keep securities on behalf of their clients. Most participants would be commercial banks and security investment firms who would be actively trading on behalf of their client at the stock exchange.

For securities to be eligible for central depository system, they would have to meet a certain criteria, and once that is met then they are provided software to facilitate the trading and necessary connection. The criteria is put in place to safeguard the whole process from theft and fraud. It may seem a very complex chain cycle, but each of the complexities has a purpose of why they are in place.

Stockbrokers have been known in the past to take advantage of their clients by trading securities without the direct approval of the clients, though some may authorize the stockbrokers to freely trade their portion of security and give limits on what can be done.

Corporate clients would find it convenient to just have a set of accounts incorporating all their clients rather than have individual accounts. They would open a group client account, which is used in serving the purpose of having many accounts in one main account. The fine details of individual accounts would be accessible only to the main account holder. Even the central depository system would not keep the break down of the main account holder. These corporate clients would be banks, financial institutions or even stockbrokerage firms.   

There is also the cash account where one makes cash deposits that can then be used to in DVP transition settlement.

How the CDS operates
It has been ascertained that the securities have met the standards of the set criteria by the central depository system. These criteria may include having securities from firms that have been trading for more than a year, having securities priced at a certain price and ensuring that their accounts are audited on a regular basis. The actual security certificate will be deposited to facilitate the subsequent transactions.

The main account holder would then enter the security certificate details or at times referred to as share certificate. Once the details are input into the computer, one can then get hard copy print-outs. The share certificate together, print-outs and any other relevant accompanying document can then be sent to the registrar of companies.  

When one wants to withdraw the shares, the person withdrawing can fill out a withdrawal form online and just like the purchase, the system will give a hard copy print-out and follow a more or less similar procedures as purchasing securities.

Bonus issue and rights issue
A bonus issue may not involve actual money exchanging hands while a right issue issues securities to existing customers at a lower rate and this may involve money exchanging hands, unlike a bonus issue. It must be said that the existing customers are not obliged to purchase the securities; they may choose to buy, sell their rights or buy the additional securities. If you are an investor in securities, you should be aware of the benefits that come with rights issues or bonus issues and how they will affect the worth of your securities.

Recording these transactions maybe a little tricky when companies make a rights issue or a bonus issue, but we will not go into the details of that.

Conclusion
Central depository systems are very common worldwide and have made the security transactions a lot more efficient and effective. It has also instilled confidence in the capital markets worldwide.

Though many people do not understand how the CDS operates, once you go through the system once, you will realize that it is very simple.

For those that are looking to put a foot hold on to the security market, it is important that even though you may not necessarily be a stockbroker, that you have an idea how the central depository system operates.