Regulatory reforms are forcing markets and firms to rethink the way they do business. There is an increasing emphasis on utilising ever more capital resources as a protective measure rather than for generating alpha. This ramps up demand for liquid assets, leading in turn to market contraction and price distortion as firms retain such assets to meet their own capital and risk management demands.
At the same time, distributed ledger technology (DLT) and other technologies such as AI and robotic process automation (RPA) provide the tools and capabilities to support the end-to-end trade lifecycle via speedier processes and more accurate outcomes. As such, they are capable of removing some of the key barriers to T+0.
Same day settlement in the cash and securities financing markets would have a significant and positive effect on liquidity flows, reduce overnight and short-term funding costs and allow for the optimal use of proprietary assets for collateral and capital purposes. There are also benefits from the perspectives of credit and counterparty risk, collateral, liquidity, margin management and capital requirements.
Barriers to adoption
There are a number of factors that are an impediment to T+0 adoption: technological capabilities, settlement liquidity, cross-border inefficiencies and market operating hours.
Many market infrastructures and market participants operate on ageing legacy technology that has been adapted over the years to accommodate changes to market settlement cycles and functionality in order to enhance settlement efficiency. This has been achieved with limited success at best, and we are now at the point where operational constraints and complexity are preventing a move to T+0.
This is further compounded by firms whose platforms cannot process in real-time and still depend upon overnight maintenance windows to ensure they are operationally ready for the next business day.
Settlement liquidity presents another barrier. CSDR’s settlement discipline regime goes a long way to enforcing timely settlement via the threat of financial penalties and, ultimately, enforced buy-ins. However, it will not necessarily solve the issue of short-traded positions and the need to cover those positions to avoid settlement failure.
Inventory management remains highly fragmented, manual and time-consuming, and even in a T+2 settlement environment the ability to borrow securities in a timely fashion can be challenging. Operational infrastructures are not adequately resourced in terms of process capability and tooling or access to securities pools to support a T+0 environment whilst remaining CSDR compliant.
Moreover, cross-border inefficiencies remain. Increasingly, holdings in the same instrument are distributed across multiple CSDs, making it difficult to effectively manage the inventory and meet local settlement needs. Very few firms operate a single inventory management platform that provides real-time intelligence on holdings and settlement exposures across multiple markets. Without this capability, effective management of inventory in a T+0 environment is unachievable.
The final barrier is market operating hours. The ability to settle cross-border transactions across different time zones is extremely limited due to little (and in some case, no) overlap between individual market operating hours and cut-off times, making T+0 settlement impossible.
Time to rethink settlement
So how can DLT break down our four barriers to T+0?
- Technology capabilities – DLT can be applied to provide the full range of issuer and investor CSD services supporting the whole securities trade lifecycle, and is capable of replicating a custodians’ books and records within the same architecture. The use of nodes to maintain privacy and security of books and records for each participant and smart contracts can be applied to manage key lifecycle events such as issuance, securities and cash settlement, asset servicing and collateral management.
- Settlement liquidity and cross-border inefficiencies – DLT can capture the securities (and cash) positions for multiple entities across multiple markets and time-zones. It can be aligned with AI capabilities to expose data to make faster, accurate securities lending and borrowing decisions on both a cross-entity and cross-market basis, regardless of time-zone.
- Market Operating Hours – DLT is capable of supporting 24/7 settlement across multiple time-zones. This obviates the need to enforce traditional market operating hours for settlement, and financial institutions are not constrained by having a local processing presence, whether by region or market, unless regulation explicitly dictates otherwise.
T+0 is very much a reality in a DLT environment – and even more effective if it captures all participants in a transaction chain and provides full transparency of asset and cash availability across all those participants and allows them to take immediate action to remediate potential fails. DLT offers the opportunity to reimagine settlement in a true borderless, 24/7 operating environment – providing access to, and transparency around, securities and cash pools to facilitate real-time, intra-day settlement whilst delivering near 100% settlement rates.