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requirements, which are designed to mitigate those risks, represent cost to members. Currently, an average of over $13.4bn billion is held in margin every day to manage counterparty default risk in the system, according to the US Depository Trust & Clearing Corporation (DTCC), which sees a shortening of the settlement cycle as a key step in striking a balance between risk-based margining and reducing procyclical impacts.
The key area in which T+1 affects banks is in reconciliations, which must happen swiftly, efficiently, cost-effectively and with few or no errors. The matching of data – and the rapid correction of any errors in the reconciliation process – is prone to human error unless it is highly automated, and shortening the settlement cycle will only ramp up that risk. “T+1 is a big thing, but its impact is underestimated,” says Roland Brandli, director, business strategy at SmartStream . “It is all about settlement and we see that a lot of banks struggle in the securities middle office to do settlement reconciliations. T+1 affects market standards and connectivity to the payments system, so shortening the trade settlement cycle has an impact on many processes.”
A stepping stone to global change According to a recent survey by Citi, which formed part of its Securities Services Evolution 2023 white paper, accelerated settlements (to T+1) is “the single largest area of focus across all FMIs and participants globally”. So, as Brandli says, it is a big issue, though he fears that some market players may take the same kind of approach they adopted for EU Regulation on Central Securities Depositories (CSDR).
CSDR targets post-trade harmonisation in Europe by enhancing the legal and operational conditions for cross-border settlement in the EU. Like T+1 this brought about a big change, but the significance was not necessarily fully appreciated before the new rules came into effect.
“T+1 is a global regulation in that anyone who trades in US securities faces problems of cut-off times, but it may well end up like CSDR, where people only realise the implications afterwards,” he remarks. “There is also a lot of distraction because of Swift’s introduction of ISO 20022, which affects all payments messaging between banks, and that has put T+1 on the back burner.”
The ISO 20022 standard for exchanging electronic messages is characterised by its use of structured, rich data. That data will enable many things, including the ability to uniquely identify all financial institutions involved in cross-border payments in an internationally recognised and standardised way,
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which could in turn enable pre-validation processes that would reduce the risk of rejected trades. The richer data required by ISO 20022 will also support much more comprehensive checks on things like AML and KYC, as beneficiary details, addresses and other information will provide more transparency. “Some banks are holding back on T+1 because ISO formats in the securities world have not been finalised and there is no deadline,” says Brandli. “In capital markets, banks have disparate systems. They identify a product to sell at a profit and then worry about the process, and start looking for software. For now, CTOs are getting ISO 20022 for payments in place before moving on to deal with T+1.” Any system that touches the richer set of data will need to be upgraded, so there is a lot for banks to do even before they tackle T+1, but T+1 cannot be put off for too long, not least because it is just the latest step in a global drive for faster settlement that will continue beyond 2024.
Other locations besides the US are adopting accelerated trade settlement. Canada intends to bring in T+1 settlement to coincide with the US, while India has already started a phased transition to a T+1 cycle. Many jurisdictions in Europe and Asia are also weighing up the benefits of a similar move.
“T+1 is a big thing, but its impact is underestimated. It is all about settlement and we see that a lot of banks struggle in the securities middle offi ce to do settlement reconciliation.”
At EU level, the improvement of settlement times is a key regulatory goal in Europe, although the bloc is taking a different approach to the US. The CSDR, for example, introduces cash penalties intended to deter participants that cause settlement failures, while creating an incentive for the timely settlement of securities.
“For me, T+1 has a different flavour than CSDR,” says Brandli. “Europe is softer and just imposes penalties on late or early settlement of trades, though some are quite stiff for capital markets with high margins. The penalties need to be big in order to have any impact. Europe has tightened the screw in a different way because it is about meeting what you commit to, whether that is T+1, T+2 or T+3, so it has just chosen a different tack.”
The UK, for its part, set up an industry task force in 2022 to explore the potential for faster settlement of financial trades. The Accelerated Settlement Taskforce, will publish its initial findings by December 2023, with a full report and recommendations made by December 2024.
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Roland Brandli, director, business strategy
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