Countdown to T+2

In the recent consultation paper on the regulation of Central Securities Depositories, the European Commission has advocated T+2 as the favored settlement cycle for Europe. While the markets have become accustomed to divergent cycles, there is substantial evidence that nonharmonization in this area increases operational risk, which would be mitigated by a move to shorter settlement cycles.The commission has now published all the responses and most respondents favor the proposal. You can read the public responses here.The smooth transition to T+2 by a potential deadline of 2012 will be dependent on a number of important operational and environmental prerequisites. That said, if the goal of shorter settlement cycles is to be achieved, market participants will need to reengineer operational processes and create higher levels of post trade automation.For example, in 2010, Omgeo conducted a study that showed that verifying a trade on the day that it has been executed creates much greater settlement efficiency and in fact may be a prerequisite for shortened settlement cycles. The full report, Mitigating Operational Risk & Increasing Settlement Efficiency with Same Day Affirmation (SDA) can be found here.From an operational perspective, faster confirmation of trades is an important building block in achieving T+2. It is something we refer to as same day affirmation (SDA) and is defined as the agreement of all trade details on trade date between a broker/dealer and investment manager.The case for SDA is based on the single premise that by agreeing on the details of a trade more quickly, operational risk, costs and efficiencies are significantly reduced. If trade details are locked in sooner rather than later and confirmed on trade date, there is greater opportunity to identify and resolve any potential errors.Settlement failures are an indicator of trade processing inefficiency and add cost as well as operational risk to the trading activities of buyside and sellside firms, many of which are already under strain from processing increased volumes due to smaller trade sizes. The speed and accuracy of trade processing in the middle office has a direct impact on the efficiency of the settlement function for these firms and therefore deserves close attention in the policy debate which in truth has been lacking in comparison to the downstream processes of clearing and settlement.One of the principle objectives of the middle office is to capture and disseminate accurate trade details as efficiently as possible. It is a vital function that drives efficiencies downstream since it is not possible to minimize operational risk without having an accurate near realtime picture of what has been traded.The financial services industry has made important steps toward improving operational efficiencies and this latest consultation process on CSDs and the harmonization of settlement practices launched by the European Commission provides an opportunity for the industry to streamline processes in the middleoffice, thereby reducing operational risk.Working with policymakers to achieve the proposed T+2 settlement cycle and ensuring that the operational processes are in place to enable its implementation should be a significant focus for the securities industry over the next 12 months.