Preparing for the Change to T+2 Settlement
What Do Advisors and Investors Need to Know about T+2 Settlement?
By Lana Calton, Managing Director – Head of HilltopSecurities Clearing Services
For the first time since 1995, the Securities and Exchange Commission (SEC) is reducing the settlement cycle for broker-dealer transactions on equities and corporate and municipal bonds. The reduction from a T+3 cycle (i.e., trade date plus three business days) to a T+2 cycle is scheduled to take place on September 5, 2017.
As noted in SEC Amended Rule 15c6-1(a) the intention of shortening the T+3 settlement cycle is to reduce the credit, market and liquidity risk in public markets. In doing so, the systemic risk for participants in U.S. markets should also be reduced.
SEC Acting Chair Michael Piwowar explained in a March 22, 2017 press release, “As technology improves, new products emerge, and trading volumes grow, it is increasingly obvious that the outdated T+3 settlement cycle is no longer serving the best interests of the American people. The SEC remains committed to ensuring that U.S. securities regulation is reflective of modern times, and in shortening the settlement cycle by one day we aim to increase efficiency and reduce risk for market participants.”
What does it all mean?
When talking about securities, the settlement cycle is the official time it takes for the transfer of a security from seller to buyer to be complete. Under the current T+3 cycle, if Company A stock is sold on Monday (i.e., Trade Date) the buyer would have the stock and the seller would have the cash on Thursday or T+3:
In a T+2 cycle, that dynamic would change in most cases: Trades made on Monday would, for the most part, settle on Wednesday. T+2 requires that the buyer and seller must produce their assets — cash and securities certificates, respectively — a day earlier or in a different manner than they currently do.
Why is this change necessary?
The move to T+2 is a risk-reduction measure inspired by the market upheaval over the past decade. Following the 2008 financial crisis, the financial community began considering the switch from T+3 to T+2. The reduction specifically targets credit, market and liquidity risk, and, naturally, systemic risk. HilltopSecurities supports a move to a T+2 settlement cycle for U.S equities, corporate bonds and municipal bonds. We believe this change will benefit investors and the industry as a whole by reducing counterparty risk, decreasing clearing capital requirements which have been steadily on the rise, reducing margin and liquidity demands, and increasing global settlement harmonization.
Hong Kong, Australia, most European Union member states and New Zealand have already converted to T+2, with the United States and Canada now in the process. Recent industry surveys revealed that a move to T+1 in today’s environment would involve significant investment and infrastructure, whereas the benefits of moving to a T+2 settlement cycle outweigh the costs. However, it seems evident that a continued march toward straight through processing (STP) is still the ultimate goal for the industry.
With that said, the T+2 settlement cycle is a fundamental change to existing market practices and client behavior that needs to be communicated and implemented with great care to avoid any operational disruptions that could negatively impact investors.
Why should I communicate this change to my clients? How can I prepare them for a smooth transition?
Switching to T+2 requires process, technology, behavioral (Broker-Dealer, Advisor and Client) and regulatory changes in order to migrate to the shortened settlement cycle, achieve efficiencies and realize the aforementioned benefits. Several of these changes can be accomplished by modifying existing processes and the supporting technology.
HilltopSecurities wishes to help advisors make this change painless for their clients. Below are a few suggestions to help navigate the upcoming transition:
- Ensure that clients know about the upcoming switch to T+2 and the rationale behind it.
- Discuss the benefits — faster payment when a security is sold, risk reduction, etc.
- Review the types of securities affected (i.e., anything that currently falls under T+3).
- Urge clients to register for online access and enroll in eDelivery services to expedite the communication and notification process.
- Inform clients that they will need to pay for securities a day earlier and set up electronic-funds transfers.
Clients who frequently trade without funds in their account will need to be informed of this change and modify their trading practices accordingly.
HilltopSecurities offers On-Demand ACH as a free service, which allows clients to send funds between their brokerage and bank accounts in the amount of their choosing whenever needed. This process
happens overnight in most cases when submitted before the cutoff. When speaking to your clients about the upcoming migration to T+2, this service might be a good option to discuss.
For more information about T+2 settlement and ways to manage client expectations, please contact your HilltopSecurities Relationship Manager. You can also find more information about the latest developments by visiting the official T+2 Settlement site (http://www.ust2.com/questions/) or the SEC (https://www.sec.gov/index.htm).
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