The final countdown?
08 Mar 2023
ISITC Europe CIC’s senior research team talk to Jenna Lomax about the association’s research with the SWIFT Institute into the global implications of T+1
Image: BKM creative
To say the move to a one-day settlement cycle (T+1) is a mammoth task for the financial industry would be one of the understatements of the decade. With the US and Canada expected to make the leap in 2024, no other topic has come close to matching the tallied mentions of T+1. On 15 February, the US Securities and Exchange Commission (SEC) reaffirmed that the US market will move to T+1 by May 2024. The rule changes will shorten the standard settlement cycle for most broker-dealer transactions in securities from two business days after the trade date (T+2) to T+1.
To help the industry interpret the scale of the change, ISITC Europe CIC (ISITC) has been commissioned by the SWIFT Institute to carry out academic research on the global impacts of the US and Canada move to T+1. The research is scheduled to be published in May.
Gary Wright, ISITC’s director of the association’s industry affairs, who will co-lead the business research aspect of the study, told Asset Servicing Times (AST) why he thinks ISITC were picked for the task.
“I think we won the contract because of our broad industry knowledge, experience and focus on helping the capital markets industry to understand the difficulties of T+1 as a not-for-profit,” he says.
“We are looking at this from beyond the central market of large sell-side firms, including the complete ecosystem around the settlement of the transaction. The SWIFT Institute commissioned us to collect the data on a global market basis, and not just from the largest capital markets. The data has been collected over many months via detailed interviews with leading settlement experts who have a wide understanding of all aspects of settlement.”
The SWIFT Institute is not directly linked to SWIFT, but assists universities and academics to collate high-quality data and provides an ongoing legacy to improve research that benefits and educates the finance industry.
With this in mind, Wright states: “Financial services, as an industry, really suffers reputationally — in fact, within society, broadly speaking. As an industry, we have to be mindful that the changes T+1 makes will be an overall benefit to society.”
Sitting alongside Wright on the project is ISITC’s Tony Freeman, director of policy and co-lead of the business research with Dr Tony Gandy, director of academic research and visiting professor at the London Institute of Banking and Finance. Freeman and Wright will formulate the executive summary drawn from the academic papers.
Gandy outlines that ISITC’s publication will include interviews and workshops to gather different forms of feedback. “We’ll use sentiment indicators to understand the attitudes, or the sentiment toward moving to T+1. We’ll also look at the operational challenges of different sub-sectors of the industry,” he says. “This will include custodians, the central market and the buy-side. Structure market organisations and software vendors have also captured our attention.”
“The discussions we have had shine a light on significant challenges for each market sector, highlights Wright. “Those on the large sell-side have different challenges to investing institutions with a global footprint. Each challenge is largely dictated by the reach of organisation operations into the central securities depositary, or via an agent. This increases if it’s international cross-border investing.”
“It’s very common to have a global investment outlook, but not very common to have a global operational footprint,” notes Freeman. “One of the key factors that’s already emerging from the research we’ve gathered is the real-time nature of operational processing. In a T+1 environment, it’s effectively mandatory. But, if there are fundamental operational changes to make, then there’s not an awful lot of time left to do them.”
US and Canada
India has already moved to T+1, and the US and Canada will make the move in the first half of 2024.
When asked to summarise the most pressing domestic concerns for the US market come T+1 implementation, Freeman indicated that pre-funding will be a priority. “It could have a high cost, and it’s unknown who will bear that,” he notes. “Automatic buy-ins, and a significant increase of failed settlements, are all unpalatable to just about everyone.”
“Paper certificates need to be eliminated in the face of any semblance of paper that brings about rekeying. As Tony points out, for many firms, some sort of process for pre-funding is needed, and this brings a significant involvement of the Treasury operations,” affirms Wright.
“The SEC hasn’t given us too much information on how it is going to counter this particular issue, or for that matter, numerous others,” he adds. “How to manage technology and operational change are fundamental elements that need to be addressed by all areas of the capital markets and FX markets. These are facts that the SEC must understand. We are particularly concerned about the retail market.”
“Eradicating the practice of faxing in the USA and Canada is another priority for the buy-side,” says Wright. “Fax, and even paper checks, are still prevalent in the US where digitalisation is not as mature compared to other markets; we see nothing yet to indicate that faxing or paper cheques are going to be eradicated before T+1 is introduced.”
“The US has also got to bear in mind that the value of the S&P 500 heavily relies on foreign investment conducted in Europe and Asia,” Wright adds. “With so many challenges not yet met, or possible unintended consequences not yet realised, international investors may be deterred from investing in North America under T+1.”
Buy-side and sell-side
There is a world of difference between what the sell-side needs to ensure for T+1 readiness, in comparison to its counterparts on the buy-side. Wright gives special mention to DTCC for its efforts to help both sides of the market understand T+1’s implications, particularly at conferences and online webinars. The company will continue to explore the impact of T+1 in its series of virtual industry forums scheduled throughout this year.
In addition, last August, the post-trade service provider collaborated with two industry associations — the Securities Industry and Financial Markets Association (SIFMA) and the Investment Company Institute (ICI) — to publish a T+1 Implementation Playbook. The Playbook will guide the transition to next-day securities settlement in the US. Through the initiative, DTCC also seeks to extract the lessons learned from the industry’s T+3 to T+2 transition in 2017.
These types of initiatives can only help the industry, Wright notes, as “the level of understanding and the level of readiness varies greatly.” He says: “There are buy-side firms, of many different sizes, who think: ‘This is not really my problem. This is something my custodian will take care of.’”
Expanding on Wright’s point, Freeman explains: “If you are investing in the US market, and you have a responsibility to instruct your service providers and your custodians of a trade — and you do a trade confirmation process with your broker counterparty — that’s your job, not your custodian’s job.”
“One of the area’s that’s clearly being considered, but not had much attention, is how to trade globally when you don’t have a global operational presence.” Freeman adds. “The US market’s new cut-off time is 9pm on trade dates. For US trades, it’s 2am in London and 3am in Frankfurt. What do you do if you have a mismatch with the trade an hour before that cut-off?”
On 2 May 2022, a mistyped transaction by the London desk of New York bank, Citi, caused an error for the European market which sent equities into a freefall, momentarily wiping off US $315 billion from the European stock market. A fat-finger trade, as it has been coined in the financial industry, is a major mistake made by human error instead of a computer or automated process, with the wrong information manually inputted for a trade. The Citi incident came almost two years after another Citi fat-finger error in August 2020, when the bank accidentally sent creditors at make-up giant Revlon a combined payment of almost US $900 million, when it only intended to send (a comparatively mere) US $7.8 million in the form of an interest payment. These types of errors are almost certain to increase if the market is not ready for further settlement time compressions.
“Mismatching happens,” Freeman indicates. “You can’t resolve that without speaking to the trader — the sell-side firm, or the broker dealer — to ask: ‘What was the commission arrangement for this transaction?’”
Wright expands: “Particularly on the business side, having time to resolve a problem is vital to ensure the markets are as protected as possible when time is running short to put solutions in place. There is always a likelihood the problem remains unresolved and exposed to the market.”
“Market resilience has to be a focus for everyone involved in the market. For regulators and governments these are really clear problems, but they seldom get aired in a public forum,” he adds.
Firms that have big investment positions in the US will face complex and expensive hurdles when looking for the right technology solutions, while also running up against the clock. However, building a collective US processing capability, as an alternative, could also create more complexity. As Freeman outlines: “If you’re going to be carrying out large numbers of transactions in the US market, it may become mandatory to have a US location to manage those trades.”
The UK
In December 2022, the UK Government set up HM Treasury’s Accelerated Settlement Taskforce to investigate the UK’s potential for faster settlement of financial trades.
The launch of the taskforce was announced at the Edinburgh Reforms — a meeting for the UK Chancellor to discuss the future plans for the country’s financial services.
However, Wright says he became aware of the “political slant” of T+1 before the UK Government announced the taskforce. “The UK is different from the EU market and is closer to the American market because of Brexit,” he affirms.
“We correctly predicted the level of political interest there would be surrounding T+1, even if it wasn’t originally part of our research. The overall intention of the Edinburgh Reforms is to make the UK market more attractive. A shortened settlement cycle sounds very appealing, because it structurally reduces risk. If the US and Canada are going to do it, there is a competitive angle to think about; markets do not want to be perceived as being less structurally efficient or more risky than other markets.”
Beyond the UK, there is another factor to consider: the size of the investment into the US.
“Investment activity in the US comes from outside the US. Japan, Korea and China invest hugely into the US market, but that data is not available to us, so we have been collating published data from an array of sources,” says Wright.
“Does anybody actually know how much activity comes from outside the US, and therefore, how much does that translate into additional foreign exchange costs and additional funding costs?” he adds.
“ISITC is going to do a reasonable, sustainable estimate to answer these questions.”
Technology
When the US and Canada do transition to T+1, automatic buy-ins and a significant increase in failed settlements may be inevitable, agree Wright, Freeman and Gandy.
“Clearly, there’s going to be an impact on increased sales, because we are asking the whole industry to take a unified step in a very short space of time, without any real leadership,” says Wright.
“There’s no party that says they are going to lead the way on this, it’s a market convention.”
Despite the collective understanding, Freeman says there is not a “big, structural new platform being built” for the whole market to use. “That has been tried in the past, but there isn’t time to do that now,” he says.
With this in mind, Wright references the Australian Securities Exchange’s (ASX’s) failure to carry out its seven-year CHESS replacement project, which he labels as “a marker for other markets to analyse.”
In November, the exchange announced that it had paused the project to “reassess all aspects” of its planned update.
“It effectively put a hole below the waterline, in terms of using distributed ledger technology (DLT),” Wright asserts. “Australia, not being one of the biggest markets in the world, failed abysmally in all aspects of developing and implementing a solution that was acceptable to all players in the settlement ecosystem.”
“Initially, the confidence that people felt towards DLT as a potential infrastructure solution for system and process replacement, has shifted towards uncertainty. DLT requires significant planning to be introduced as an industry structure replacement.”
He adds: “To carry out such a project, on an industrial level, requires not only strong project management, but also a mandate for the whole market to invest in, and be motivated to achieve. DLT has potential, but there is a big rethink about how this can be released and introduced at a low cost, with maximum return and minimal risk.”
“The problem is delivering a solution or system that could handle the massive volumes of transactions, which is perhaps not DLT’s natural strong point,” affirms Gandy. “That’s not to say it’s not up to the task. However, to prove that such a mechanism could work, on the experimentation side, in the timeframe remaining, is not likely.”
Looking ahead
When asked what steps ISITC’s Post-Trade Forum will be taking to help European market participants prepare for the US and Canadian transition to T+1 this year and into the next, Wright explains: “The most important factor is developing awareness. [Our forum] gives us a focal point to talk to people at a senior level in the market and through the media. It’s fundamental to talk to people and gain an understanding of how they perceive things.”
Freeman adds: “We can reach quite a wide community of people through trade associations in the European markets, and we’re hoping to gather as many of them as possible.”
Returning to the discussion of ISITC’s upcoming research publication, Gandy said it will “obviously produce outputs which are anonymised and be comprehensive enough to compare different sectors of the market — whether it be buy-side, sell-side or custodians.”
Wright predicts the academic research will likely “create more avenues of research,” as T+1 is an “ongoing story,” as made evident by the SEC’s 15 February announcement made just before our deadline to print.
In summary of the meeting, Wright told AST: “It is surprising that the SEC has agreed 28 May as the T+1 execution date for the US. There appears to be an overly positive view that the benefits of risk and cost reduction for clearing members far outweighs the significant costs inflicted on the industry, but mainly on the buy-side. For many, the work will start from this announcement. The SEC does not appear to recognise that approximately 35 per cent of US activity comes from the international market, yet the T+1 changes have been made with only the domestic investor in mind. Overseas investors will now have to review how they invest into the US, and how they process their transactions.”
To help the industry interpret the scale of the change, ISITC Europe CIC (ISITC) has been commissioned by the SWIFT Institute to carry out academic research on the global impacts of the US and Canada move to T+1. The research is scheduled to be published in May.
Gary Wright, ISITC’s director of the association’s industry affairs, who will co-lead the business research aspect of the study, told Asset Servicing Times (AST) why he thinks ISITC were picked for the task.
“I think we won the contract because of our broad industry knowledge, experience and focus on helping the capital markets industry to understand the difficulties of T+1 as a not-for-profit,” he says.
“We are looking at this from beyond the central market of large sell-side firms, including the complete ecosystem around the settlement of the transaction. The SWIFT Institute commissioned us to collect the data on a global market basis, and not just from the largest capital markets. The data has been collected over many months via detailed interviews with leading settlement experts who have a wide understanding of all aspects of settlement.”
The SWIFT Institute is not directly linked to SWIFT, but assists universities and academics to collate high-quality data and provides an ongoing legacy to improve research that benefits and educates the finance industry.
With this in mind, Wright states: “Financial services, as an industry, really suffers reputationally — in fact, within society, broadly speaking. As an industry, we have to be mindful that the changes T+1 makes will be an overall benefit to society.”
Sitting alongside Wright on the project is ISITC’s Tony Freeman, director of policy and co-lead of the business research with Dr Tony Gandy, director of academic research and visiting professor at the London Institute of Banking and Finance. Freeman and Wright will formulate the executive summary drawn from the academic papers.
Gandy outlines that ISITC’s publication will include interviews and workshops to gather different forms of feedback. “We’ll use sentiment indicators to understand the attitudes, or the sentiment toward moving to T+1. We’ll also look at the operational challenges of different sub-sectors of the industry,” he says. “This will include custodians, the central market and the buy-side. Structure market organisations and software vendors have also captured our attention.”
“The discussions we have had shine a light on significant challenges for each market sector, highlights Wright. “Those on the large sell-side have different challenges to investing institutions with a global footprint. Each challenge is largely dictated by the reach of organisation operations into the central securities depositary, or via an agent. This increases if it’s international cross-border investing.”
“It’s very common to have a global investment outlook, but not very common to have a global operational footprint,” notes Freeman. “One of the key factors that’s already emerging from the research we’ve gathered is the real-time nature of operational processing. In a T+1 environment, it’s effectively mandatory. But, if there are fundamental operational changes to make, then there’s not an awful lot of time left to do them.”
US and Canada
India has already moved to T+1, and the US and Canada will make the move in the first half of 2024.
When asked to summarise the most pressing domestic concerns for the US market come T+1 implementation, Freeman indicated that pre-funding will be a priority. “It could have a high cost, and it’s unknown who will bear that,” he notes. “Automatic buy-ins, and a significant increase of failed settlements, are all unpalatable to just about everyone.”
“Paper certificates need to be eliminated in the face of any semblance of paper that brings about rekeying. As Tony points out, for many firms, some sort of process for pre-funding is needed, and this brings a significant involvement of the Treasury operations,” affirms Wright.
“The SEC hasn’t given us too much information on how it is going to counter this particular issue, or for that matter, numerous others,” he adds. “How to manage technology and operational change are fundamental elements that need to be addressed by all areas of the capital markets and FX markets. These are facts that the SEC must understand. We are particularly concerned about the retail market.”
“Eradicating the practice of faxing in the USA and Canada is another priority for the buy-side,” says Wright. “Fax, and even paper checks, are still prevalent in the US where digitalisation is not as mature compared to other markets; we see nothing yet to indicate that faxing or paper cheques are going to be eradicated before T+1 is introduced.”
“The US has also got to bear in mind that the value of the S&P 500 heavily relies on foreign investment conducted in Europe and Asia,” Wright adds. “With so many challenges not yet met, or possible unintended consequences not yet realised, international investors may be deterred from investing in North America under T+1.”
Buy-side and sell-side
There is a world of difference between what the sell-side needs to ensure for T+1 readiness, in comparison to its counterparts on the buy-side. Wright gives special mention to DTCC for its efforts to help both sides of the market understand T+1’s implications, particularly at conferences and online webinars. The company will continue to explore the impact of T+1 in its series of virtual industry forums scheduled throughout this year.
In addition, last August, the post-trade service provider collaborated with two industry associations — the Securities Industry and Financial Markets Association (SIFMA) and the Investment Company Institute (ICI) — to publish a T+1 Implementation Playbook. The Playbook will guide the transition to next-day securities settlement in the US. Through the initiative, DTCC also seeks to extract the lessons learned from the industry’s T+3 to T+2 transition in 2017.
These types of initiatives can only help the industry, Wright notes, as “the level of understanding and the level of readiness varies greatly.” He says: “There are buy-side firms, of many different sizes, who think: ‘This is not really my problem. This is something my custodian will take care of.’”
Expanding on Wright’s point, Freeman explains: “If you are investing in the US market, and you have a responsibility to instruct your service providers and your custodians of a trade — and you do a trade confirmation process with your broker counterparty — that’s your job, not your custodian’s job.”
“One of the area’s that’s clearly being considered, but not had much attention, is how to trade globally when you don’t have a global operational presence.” Freeman adds. “The US market’s new cut-off time is 9pm on trade dates. For US trades, it’s 2am in London and 3am in Frankfurt. What do you do if you have a mismatch with the trade an hour before that cut-off?”
On 2 May 2022, a mistyped transaction by the London desk of New York bank, Citi, caused an error for the European market which sent equities into a freefall, momentarily wiping off US $315 billion from the European stock market. A fat-finger trade, as it has been coined in the financial industry, is a major mistake made by human error instead of a computer or automated process, with the wrong information manually inputted for a trade. The Citi incident came almost two years after another Citi fat-finger error in August 2020, when the bank accidentally sent creditors at make-up giant Revlon a combined payment of almost US $900 million, when it only intended to send (a comparatively mere) US $7.8 million in the form of an interest payment. These types of errors are almost certain to increase if the market is not ready for further settlement time compressions.
“Mismatching happens,” Freeman indicates. “You can’t resolve that without speaking to the trader — the sell-side firm, or the broker dealer — to ask: ‘What was the commission arrangement for this transaction?’”
Wright expands: “Particularly on the business side, having time to resolve a problem is vital to ensure the markets are as protected as possible when time is running short to put solutions in place. There is always a likelihood the problem remains unresolved and exposed to the market.”
“Market resilience has to be a focus for everyone involved in the market. For regulators and governments these are really clear problems, but they seldom get aired in a public forum,” he adds.
Firms that have big investment positions in the US will face complex and expensive hurdles when looking for the right technology solutions, while also running up against the clock. However, building a collective US processing capability, as an alternative, could also create more complexity. As Freeman outlines: “If you’re going to be carrying out large numbers of transactions in the US market, it may become mandatory to have a US location to manage those trades.”
The UK
In December 2022, the UK Government set up HM Treasury’s Accelerated Settlement Taskforce to investigate the UK’s potential for faster settlement of financial trades.
The launch of the taskforce was announced at the Edinburgh Reforms — a meeting for the UK Chancellor to discuss the future plans for the country’s financial services.
However, Wright says he became aware of the “political slant” of T+1 before the UK Government announced the taskforce. “The UK is different from the EU market and is closer to the American market because of Brexit,” he affirms.
“We correctly predicted the level of political interest there would be surrounding T+1, even if it wasn’t originally part of our research. The overall intention of the Edinburgh Reforms is to make the UK market more attractive. A shortened settlement cycle sounds very appealing, because it structurally reduces risk. If the US and Canada are going to do it, there is a competitive angle to think about; markets do not want to be perceived as being less structurally efficient or more risky than other markets.”
Beyond the UK, there is another factor to consider: the size of the investment into the US.
“Investment activity in the US comes from outside the US. Japan, Korea and China invest hugely into the US market, but that data is not available to us, so we have been collating published data from an array of sources,” says Wright.
“Does anybody actually know how much activity comes from outside the US, and therefore, how much does that translate into additional foreign exchange costs and additional funding costs?” he adds.
“ISITC is going to do a reasonable, sustainable estimate to answer these questions.”
Technology
When the US and Canada do transition to T+1, automatic buy-ins and a significant increase in failed settlements may be inevitable, agree Wright, Freeman and Gandy.
“Clearly, there’s going to be an impact on increased sales, because we are asking the whole industry to take a unified step in a very short space of time, without any real leadership,” says Wright.
“There’s no party that says they are going to lead the way on this, it’s a market convention.”
Despite the collective understanding, Freeman says there is not a “big, structural new platform being built” for the whole market to use. “That has been tried in the past, but there isn’t time to do that now,” he says.
With this in mind, Wright references the Australian Securities Exchange’s (ASX’s) failure to carry out its seven-year CHESS replacement project, which he labels as “a marker for other markets to analyse.”
In November, the exchange announced that it had paused the project to “reassess all aspects” of its planned update.
“It effectively put a hole below the waterline, in terms of using distributed ledger technology (DLT),” Wright asserts. “Australia, not being one of the biggest markets in the world, failed abysmally in all aspects of developing and implementing a solution that was acceptable to all players in the settlement ecosystem.”
“Initially, the confidence that people felt towards DLT as a potential infrastructure solution for system and process replacement, has shifted towards uncertainty. DLT requires significant planning to be introduced as an industry structure replacement.”
He adds: “To carry out such a project, on an industrial level, requires not only strong project management, but also a mandate for the whole market to invest in, and be motivated to achieve. DLT has potential, but there is a big rethink about how this can be released and introduced at a low cost, with maximum return and minimal risk.”
“The problem is delivering a solution or system that could handle the massive volumes of transactions, which is perhaps not DLT’s natural strong point,” affirms Gandy. “That’s not to say it’s not up to the task. However, to prove that such a mechanism could work, on the experimentation side, in the timeframe remaining, is not likely.”
Looking ahead
When asked what steps ISITC’s Post-Trade Forum will be taking to help European market participants prepare for the US and Canadian transition to T+1 this year and into the next, Wright explains: “The most important factor is developing awareness. [Our forum] gives us a focal point to talk to people at a senior level in the market and through the media. It’s fundamental to talk to people and gain an understanding of how they perceive things.”
Freeman adds: “We can reach quite a wide community of people through trade associations in the European markets, and we’re hoping to gather as many of them as possible.”
Returning to the discussion of ISITC’s upcoming research publication, Gandy said it will “obviously produce outputs which are anonymised and be comprehensive enough to compare different sectors of the market — whether it be buy-side, sell-side or custodians.”
Wright predicts the academic research will likely “create more avenues of research,” as T+1 is an “ongoing story,” as made evident by the SEC’s 15 February announcement made just before our deadline to print.
In summary of the meeting, Wright told AST: “It is surprising that the SEC has agreed 28 May as the T+1 execution date for the US. There appears to be an overly positive view that the benefits of risk and cost reduction for clearing members far outweighs the significant costs inflicted on the industry, but mainly on the buy-side. For many, the work will start from this announcement. The SEC does not appear to recognise that approximately 35 per cent of US activity comes from the international market, yet the T+1 changes have been made with only the domestic investor in mind. Overseas investors will now have to review how they invest into the US, and how they process their transactions.”
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