With high-frequency trading issues commanding the headlines these last few weeks, the story line has been about slowing down that which may be too fast. There is another issue concerning securities markets, however, that is about speeding up that which is too slow – the securities settlement cycle.
Last week, the Depository Trust & Clearing Corporation (DTCC), published a white paper advocating the move from a three-day settlement cycle (T+3) to a two-day cycle (T+2) for U.S. equities, corporate and municipal bonds and unit investment trust (UIT) trades. The paper is the next step after a DTCC-commissioned study by the Boston Consulting Group, which looked at the costs and benefits of a move away from T+3. According to DTCC’s Neil Henderson, shortening to T+2 will “reduce both operational and systemic risk, as well as streamline operational flows.”
Come to think of it, these were the same reasons put forth back in 1995 when we moved from T+5 to T+3. Back then it was the 1987 financial crisis and the bankruptcy of Drexel Burnham Lambert. This time it was the 2008 financial crisis and the bankruptcy of Lehman Brothers.
With the speed demanded in today’s markets combined with modern computing abilities, a move to T+2 seems like a no-brainer. Other jurisdictions, including some in the emerging world, have already implemented T+2. Europe has set January 1, 2015 as the target date for all nations to be at T+2, as later next year the ECB will migrate to the new Target-2 Securities platform, which is based on a T+2 settlement cycle. Just last week, Singapore announced its move to T+2, and Australia released a white paper outlining its plans as well. So, what’s the holdup?
According to Henderson, the “thoughtful approach” is more appropriate. “We’re not under such a constraint here because we are not putting up a brand new settlement platform as they are in Europe so we have the luxury to consider the issues in a thoughtful way and make sure everybody can buy into the implementation date.” He points out that the issue is not whether a move from T+3 is appropriate, but whether the U.S. should move to T+2 or go straight to T+1. The BGC study concluded, however, that a move directly to T+1 would be too difficult to achieve at this point. Specifically, Henderson points to trade-date matching, the move to real-time systems from overnight batch processes and the need for more rapid settlement in the FX market as chief impediments to achieving T+1 at this point.
It is important to remember that financial firms have other things on their plates right now, such as the implementation of Dodd-Frank and Basel III capital requirements. The goal is to transition in such a way that “everyone can achieve T+2 without undue hazard or being put at risk in any way.” he says.
In the end, T+2 will be good for the industry. The BGC study estimated the total cost would be $550 million, but the annual operational savings would be about $170 million and an extra $25 million in annual savings could be achieved through the reduction in margin costs. This puts the payback period at a little less than three years. (To view the BGC study, along with summary and links, visit MarketsReformWiki HERE).
The next step is for DTCC to work with SIFMA and other participants through steering committees and working groups, to develop the timeline for implementation. Henderson assures us that the approach will be thoughtful, but will move along at a pace in keeping with the rest of the world. “After we achieve T+2,” he says, “we will look at the T+1 issue, and the willingness, appetite and readiness of the industry to move there…Obviously, this is several years out, but it is quite possible that the state of technology will be quite different, so T+1 as we look at it in a few years might be a lot easier than as we look at it today.”
Not exactly HFT speed, but for a market this big with the number of participants that need to play along, it seems the right pace.