By Ed Tyndale-Biscoe, Product Owner for Secured Funding at ION Markets
In March 2024, the time it takes firms to settle their trades will half. The move to a T+1 settlement time has the potential to increase operational efficiencies within firms and ensure a smoother trading process. However, with the current background market volatility from macroeconomic factors the last thing any market participants want is further disruption. In fact, against the backdrop of inflationary and interest rate instability, the war in Ukraine, confidence in the banking sector being impacted from the collapse of Silicon Valley Bank and the acquisition of Credit Suisse, the potential impact of operational efficiency gains is even larger.
Therefore, it is essential to ensure that the transition to the new settlement time is as seamless as possible – the key to which is greater automation. Especially in a market which has historically lacked a full-scale adoption of electronic trading and suffers from the impact of disconnected legacy systems and data siloes, encouraging interoperability and transparency through greater automation is essential.
The transition
The move to T+1 is expected to have a significant impact on the financial industry, similar to the impact of the move to T+2 in 2017, and can be considered a dress rehearsal for an eventual move to T+0. Currently, most trades are still settled on this basis, meaning that it takes two business days for the buyer and seller to exchange payment and securities. The intention of the Depository Trust and Clearing Corporation (DTCC) is for trade settlements to soon take just 24 hours.
Settling trades in a condensed timeframe has many benefits, most significantly are the potential improvements to counterparty risk and operational efficiency. However, this significant change to the market means that firms’ current trading systems may not be quite up to scratch anymore.
Automation to the rescue
Previously, less attention has been given to the automation of post-trade processes than to the front office operations. Today, the automating of post trade systems no longer signifies that a firm is undertaking best practice or is at the very top of its game. Automation of post trade systems is necessary for firms to future-proof their technologies and ensure they can survive in a T+1 market.
The condensed timeframe places a greater emphasis on acquiring immediate insights into the market and predictive analysis. Traders must be able to observe what deals are taking place as close to real-time as possible. As trades are expected to take place more frequently and at greater speeds, any firm analysing the market with a significant delay will be left behind.
By increasing automation, firms can increase their competitive advantage as they will gain the ability to analyse current settlements more quickly and more accurately identify the reasons behind settlement errors and failures. This, in turn, allows for more correct and completed trades. According to a whitepaper by SIFMA, ICI and DTCC, firms using automated post trade processes have been achieving a near 100% affirmation rate by 21:00PM on the date of trade thanks to the reduction in the number of post-trade exceptions and costly reconciliation efforts.
Overcoming volatility
In periods of volatility, reducing the time period between trade execution and settlement can lead to a reduction of risk not only for individual firms, but across the entire settlement ecosystem. This consideration makes it even more necessary for firms to ensure they are future-proofing their technologies to thrive in a condensed settlement environment.
The move to T+1 is not without its challenges. For financial services firms, it is not as simple as increasing automation, it is important to remember that they are part of a wider financial ecosystem. The success of T+1 settlement, and hence more productive and less volatile markets, hinges on market participants ensuring that their systems are compatible with each other. There is no market that needs to focus on this more than the repo market.
What’s next?
In order to gain from the potential operational efficiencies of greater automation, improved resiliency and faster settlement, firms must ensure that interoperability and transparency is at the heart of their systems.
Embracing greater automation is essential for firms to stay afloat as markets move towards T+1, not just to maintain or gain a competitive advantage thanks to improvements in accuracy and efficiency, but also if they wish to thrive in a volatile market. It is not just in the US where the transition will impact market behaviour. European and UK markets are in the sights to follow-suit, and the complexities involved – multiple currencies and clearing paths – make this no less of a complex challenge.
Automation will be the backbone of a seamless transition to the new standard. What’s more, we can expect to see more advanced technologies such as distributed ledger (DLT) become more commonly adopted to help firms settle trades not only faster but also more securely and accurately.
