The Two-Day Maneuver

Spend a little money to make a little money, essentially.

For something relatively simple in concept, the shortening of settlement cycles can be rather complex in practice. Moving away from T+3, though, is inevitable, and it has a solid groundswell of support within both the buy and sell sides.

At least, that was the finding of a report from the Boston Consulting Group, commissioned by the Depository Trust and Clearing Corporation (DTCC), on cost benefits for moving to T+2 or T+1 in the US. The group estimates that T+2, that is, settlement two days after transaction, will cost around $550 million industry-wide to implement, which includes systems revamp, end-to-end testing and other areas. The savings are enormous, though, with a clawback of the investment estimated within three years. Operational cost savings per annum are estimated at $170 million, and clearing fund reductions─of particular interest to broker-dealers─are around $25 million annually. Furthermore, the reduction in risk exposure for unguaranteed buy-side trades is $200 million.

T+1, though, is a different story. Recouping investment on that, which is placed at $1.7 billion, will take around 10 years for only $5 million in additional annual savings on operational costs, and an additional $10 million on clearing fund reductions. Given, from the group's sample base, around 68 percent of respondents favor T+2, it seems likely that T+1 will remain a long-term goal at best for now. There is also a healthy degree of skepticism around how much behavior would actually be modified for T+1, although the clawback period could be halved in a best-case scenario.

Risk and Reduction
The reasons behind this support are clear enough. The buy side wishes to attenuate its exposure to long settlement cycles, while the sell side wants the clearing fund reductions, processing efficiency and risk reduction. Furthermore, harmonization with Europe and across asset classes is seen as important.

I've had many, many conversations with people from all through the spectrum of financial services on the topic of settlement shortening. I've yet to find many who fully oppose it, whether it's on the institutional side or the retail side, large or small. Some are concerned about the costs, of course─a large institutional broker-dealer will be looking at a bill of around $4.5 million for systems and testing─but the idea itself is just common sense.

Indeed, it's quite remarkable that in an industry where trades in other markets can be conducted in microseconds, and data can be transmitted by microwave, it still takes three days to settle.

It's quite remarkable that in an industry where trades in other markets can be conducted in microseconds, and data can be transmitted by microwave, it still takes three days to settle.

Rocky Road
Even if this goes ahead right now, though, there won't be settlement in T+2 by Christmas. The report estimates that it will take around three years for systems and participants to be ready for T+2, with an "aspirational" move to T+1 possible four or five years after the move to T+2. Don't even mention T+0 yet, pal.

As for reasons why it would take so long for a single day for settlement, the report says that tangible behavioral change in trade date compliance would be necessary, along with real-time processing. Psychological as well as technological, then, which is never an easy shift to accomplish. Just ask any modern-day cloud evangelist.

To talk T+2, T+1 and settlement in any flavor, please feel free to e-mail me at [email protected] or give me a call on +44207 316 9811.

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