Yuzayo
- Let the effects: A T+1 shift in US equity settlement could impact global market participants, especially index fund managers who experience redundancy challenges due to new settlement times.
- Market Structure Monitoring: The FTSE Russell Index monitors the stock market closely Changes through the country classification process, focusing on the quality of regulation, nature of dealing, and settlement procedures within individual markets.
- Continuous review process: By conducting annual and interim country rating reviews, FTSE Russell ensures a transparent and consistent methodology for assessing market practices, including the impact of T+1 settlement changes.
As a provider of global indices, FTSE Russell’s role is to provide an objective view of the behavior of markets. This means creating and managing a wide range of indicators, data and analytical solutions to meet the needs of clients across asset classes, styles and strategies.
It also means looking beyond the daily headlines to market movements and… In the way those markets work, especially from the point of view of non-local participants. Clearing and settling stock trades may not seem like the most exciting topic, but it is an important topic. This year, something big will happen.
On May 28, 2024, the US stock market moved to a shorter settlement cycle: causing trades in US stocks to be settled the day after the trade date (i.e. “T+1”), instead of two days after the trade date (“T+2”). Trading in US corporate bonds and unit investment funds will also move to the shorter session, as will national stock markets in Canada and Mexico.
This would put the US stock market on a shorter settlement cycle than most other developed markets, which operate on a T+2 or T+3 cycle.
Faster settlement protects market participants by reducing systemic risk, operational risk, liquidity needs and counterparty risk. It also helps reduce margin requirements and allows investors to faster access to returns from a sell trade.
The rapid exchange of securities for cash is in keeping with technological progress, and we may still have a long way to go: if we can send money instantly (as most of us can now via faster payment systems), why can’t we move the cash associated with our money? Trade stocks in real time as well?
The answer is that money and securities move on different settlement “rails”, with different operating procedures. Furthermore, we still operate in the world of national currencies and national stock markets. Transferring money between them is not always smooth.
Why does this matter to a global index provider?
All of this is important because our mission as a global index provider is not just limited to looking at the stock market from the perspective of local traders and investors. In fact, an American trader or investor who buys and sells Amazon or Microsoft shares probably won’t notice that much has changed at the end of May.
But when we consider non-domestic investors in US stocks, some of the complexities surrounding T+1 are revealed.
For anyone outside the United States who buys or sells US stocks, there will likely be a foreign exchange (FX) transaction involved. A buyer of US stocks may need to sell his or her currency to buy US dollars to obtain the stock. Likewise, a seller of US stocks may want to convert the dollars he has acquired into another currency.
The FX market agreement is for T+2 settlement. Therefore, while the settlement time frames for forex and stocks are currently similar, there will soon be a mismatch between the two cycles.
In short, a shortening of the settlement cycle for US stocks may have different impacts on other financial market participants around the world. This may be exacerbated depending on the time zone in which the investor operates.
Index fund managers could be among those affected: the replicability of regional or global benchmarks may be tested if the new settlement cut-off times are out of reach for a typical index-tracking portfolio (and remember, US stocks currently account for more than 60% of global stocks). Stock indices (weighted).
Monitor the structure of the stock market
Changes in the operating procedures of stock markets are inevitable and ongoing. These are matters that FTSE Russell monitors closely through our equity country ratings process, one of the key themes of which is the quality of regulation, dealing landscape, and custody and settlement procedures within individual equity markets.
We conduct a formal annual review of a country’s ranking within the FTSE global equity indices in September of each year using a comprehensive, transparent and consistent methodology, in addition to an interim review of the country’s ranking in March of each year. We publish the results of each review shortly afterwards.
In the past three decades, we have seen a welcome shift towards smoother post-trade procedures and shorter settlement times. But changes in market practices resulting from the impending downturn in the US equity settlement cycle is one area we will be monitoring closely.
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Editor’s note: The summary points for this article were selected by Seeking Alpha editors.
