Industry prepares for T+1 settlement compliance

While the compliance timeline for shortening the U.S. securities settlement cycle presents challenges, industry leaders say they're confident the transition will go smoothly, though months of intense planning and testing lie ahead.

The Securities and Exchange Commission in February finalized a rule to accelerate the settlement cycle to T+1 — settling a trade one business day after it is executed — from T+2, or two business days. The move is designed to benefit investors, including fund managers and pension plans, and reduce the credit, market and liquidity risks in securities transactions faced by market participants, the SEC said.

Trades executing and settling in a shortened period of reduces risk in the entire system, sources said.

In its final rule, the SEC pushed back the compliance date to May 28, 2024, which is the Tuesday after Memorial Day weekend, from the date outlined in the proposal — March 31, 2024. But several industry groups and stakeholders that submitted comments to the SEC requested that the implementation date be delayed until Sept. 3, 2024, the Tuesday after Labor Day weekend.

"We didn't understand the benefit in moving (the timeline to May instead of September) when industry experts are saying, 'Hey, we need these three months for testing and coordination,'" said Joanne Kane, Washington-based chief industry operations officer at the Investment Company Institute, an association of regulated funds including mutual funds, exchange-traded funds and closed-end funds. "We're not asking for two years, we're asking for three months."

But now that the May 2024 date is final, Ms. Kane said the ICI, the Securities Industry and Financial Markets Association and the Depository Trust and Clearing Corp., three groups that have been industry leaders in advocating and planning for the shift to T+1, will be working hard to ensure firms are prepared in time.

In December 2021, the groups published an "industry implementation playbook" outlining a road map for market participants to identify the implementation activities, timelines, dependencies and risk impacts that could arise when planning for the transition to T+1.

Bob Walley, a New York-based principal at Deloitte & Touche LLP who assisted in crafting the playbook, said the Labor Day weekend date was requested to allow for sufficient time for industry planning and testing.

"I don't think it was unreasonable for that time, so you've introduced additional risk that you potentially could have mitigated," he said of the SEC. "I have no doubt the industry will get there, but it may be a little bit bumpier."

The SEC's two Republican commissioners voted against the final rule in February over concerns about the compliance timeline. Commissioner Mark T. Uyeda said he supports the move to T+1 but couldn't approve the rule.

"In my view, we are in an imprudent rush away from a sensible transition date and, for that reason, I am unable to support the final rule," Mr. Uyeda said at the February meeting.

SEC Chairman Gary Gensler said at the same meeting that he was "comfortable" with a 15-month transition period and noted that some commenters were pushing for a March 2024 or May 2024 compliance date.

Commissioner Hester M. Peirce, a Republican, responded to Mr. Gensler that added time for testing could be beneficial to firms and investors. "It seems like a small price to pay — three additional months — to get some of the additional testing done and to allow for alignment with our Canadian neighbors," she said.

Canada is also shifting to T+1 next year and both countries have simultaneous three-day Labor Day weekends.

But Canada, which was planning on shifting to T+1 at the same time as the U.S., does not have a three-day weekend in late May, so it will begin settling T+1 trades on May 27, 2024, one day sooner that the U.S.

With roughly 14 months to go before the compliance date, the industry is in good position, but the real work is just beginning, said Thomas F. Price, New York-based managing director of technology, operations and business continuity at SIFMA, a trade group that represents securities firms, banks and money management companies.

It's important for all market participants, including asset owners, to put plans in place and do adequate testing before May 2024, Mr. Price added.

"Firms should go back and under- stand where your fails are happening," he said. "Is it because of a certain customer type? Is it a certain product type? Is it a certain technology? And then (they have) to make the necessary changes to address those because this is a new paradigm."

The settlement cycle in the U.S. was shortened to T+2 from T+3 in 2017, but a shift to T+1 is more complex as there will be even less time to make sure a trade is settled correctly, sources said.

Nadia Cobalovic, Chicago-based co-chief operating officer at Northern Trust Hedge Fund Services LLC, said a big part of the preparation for asset managers should be looking at trade affirmation rates and diagnosing any areas of concern, like whether there are certain brokers or counterparties whose trades are typically delayed. Also, managers should be reaching out to their vendors to ensure they're undertaking the necessary preparations, Ms. Cobalovic added.

Ross Tremblay, a Boston-based managing director in Accenture's capital markets practice, said the shift to T+1 will impact a wide swath of trades that include exchange-traded funds, securities lending and collateral. In establishing a course of action, "It's really a broad net that needs to be cast during that initial assessment and then only at that point could the firm be confident that it's setting itself up to meet the timeline," Mr. Tremblay said.

Making the necessary system changes, conducting testing and leaving time for remediation will be a heavy lift for firms, Ms. Kane said.

Some stakeholders were waiting to see a final rule from the SEC before budgeting resources to the T+1 shift.

But now time is of the essence.

"People are not going to make a big investment unless they have the rule," Mr. Price said. "Now that we have a date certain, folks are going to expedite their activities to get there, but we have a short time frame."

The level of preparedness now varies from firm to firm, Mr. Walley said, but the "state of the economy has put a lot of firms in caution mode and therefore (they) have not necessarily allocated the budgets that are necessary. The 'do with what you've got' mentality is a challenge for a lot of firms."

He added, "Every day past is a day lost, so the clock continues to tick."

Mr. Tremblay wondered that with "all of the current priorities in the industry, with the current economic climate as well, is this something that's really bubbling up as prioritized and funded moving forward?"

The SEC rule-making agenda also concerned Ms. Kane.

"The SEC has been extraordinarily busy and there are a lot of other rule proposals that will be final around the same time and so firms are going to have a lot of draw on their resources," she said. "I think it's imperative that members are aware of that, they start working on the ones that the can as soon as possible because the SEC is putting a lot of pressure on the industry."

RJ Rondini, Washington-based director of securities operations at ICI, has his concerns as well about the compliance timeline, but now that a date has been set, it's all about executing.

"We have the regulatory finality which we were looking for a long time, and I think the industry is going to do what we always seem to do, which is roll up our sleeves and try to get it done" he said. "It doesn't mean that there won't be challenges along the way, but … I think we'll get there."