Next-day settlement promises greater efficiency and lower costs for asset managers and offers an opportunity to build systems and processes for long-term competitive advantage, writes Christopher Farrell, Head of US and Global Head of Strategy at FINBOURNE Technology.

Tomorrow never comes, goes the old saying, but for post-trade settlement that is no longer true.

On May 28, 2024, US securities trading will move to next day or T+1 settlement. The move has long been expected but in February the Securities and Exchange Commission (SEC) formalized the change, meaning asset managers have just nine months left in which to adapt.

The gap between trade (the agreement to exchange) and settlement (the transfer of securities and cash between parties) was last cut in 2017 when settlement within three days (T+3) was replaced by the current T+2. Cutting the settlement period to a single day will bring many benefits to individual firms and markets. Liquidity and settlement risk will be reduced and margin requirements will fall, which all adds up to greater efficiency and lower costs.

The shift to T+1 is not a purely US affair. At the very least, any buy-side entity trading in US equities will have to ensure their system can comply with T+1. Meanwhile, other jurisdictions are also adopting next day settlement for their domestic equity trading. Canada is moving to T+1 in May next year and other major markets seem set to follow suit. The Association for Financial Markets in Europe published a report in September 2022 outlining the potential benefits and challenges of moving to T+1 and in December the UK Government established an Accelerated Settlement Task Force to examine the case for a similar move.

If you trade securities, wherever you are based, T+1 is coming.

Don’t settle for the basics

The benefits of T+1 come at a price in preparation and investment, but the transition is also a rare opportunity for firms to take a major step forward in their technology infrastructure. The most obvious will be in the effect on unique customized processes used in settlement and, in particular, on any manual interventions.

The time constraint is also likely to be more rigorous than the jargon suggests. Moving from T+2 to T+1 sounds like simply halving the time available for settlement, but the time for firms to act between trade and the settlement beginning will be cut by even more, with the consensus among market consultants being that T+1 will reduce the time available to firms by about 80%.

This will leave very little wiggle room and weaknesses or inadequacies in legacy IT systems and manual processes will be thrown into sharp relief. To avoid settlement fails, asset managers will need to review their existing processes and their current IT infrastructure well in advance of 28^th May to assess what changes will be needed and whether systems can cope with the new time constraints.

The challenge is not fundamentally new, as these are the bread-and-butter issues of data management and processing: providing real-time access to data; reconciling, analyzing and integrating that data with management and strategic tools; and ensuring data security and quality at all times.

Adapting to T+1 will mean some processes will need to move from being manual to automated, while some existing automated systems may need to be completely replaced. Some legacy systems may be adaptable only with enhancements. However, along with the challenge comes an enormous opportunity to not just adapt to T+1 but to use the process of assessment and adaptation to take an even greater step forward.

Using T+1 to gain a competitive edge

Now that the SEC have formalized the change, the T+1 adaptation is a must for asset managers. To comply, it is crucial for firms to simultaneously upgrade and enhance systems to reap other efficiency gains. T+1 is a significant single step, but the pace of technological advancement is not slowing, and systems need adaptability and flexibility to keep pace. To ensure efficiency in the post-trade settlement process, firms are in urgent need of technology that can help them solve the inherent challenges of error-prone, manual settlement processes.

Implementing an Operational Data Store (ODS) brings several key benefits to asset managers, particularly the most active traders who need to understand their positions and carry out reconciliations rapidly, and error-free.  With an ODS, data is collected and centralized securely. It reduces operational friction, especially process automation, with regular data quality checks managed by a user-defined workflow.

An ODS provides asset managers with the ability to create and accurately maintain standard settlement instructions (SSIs) and client data. It provides a Security Master which enables firms to rapidly update and curate a complete securities universe, creating a unified source of truth and reducing data silos. This enhanced data flow ensures a streamlined decision-making process in rapid settlement periods, where instant access to accurate data is crucial.

Those firms that recognize both the challenge and the opportunity of T+1 will not only weather the transition more smoothly and reap the benefits of faster settlement, but they will also leverage that transition to gain a competitive advantage.

The coming nine months are an opportunity for firms to prepare not just for settlement tomorrow, but for the future of trading for years to come.