Middle office professionals will work more closely with the front office professionals as the securities industry moves towards shortened settlement cycles (SSC), a new industry paper from Omgeo reveals. In the paper, titled The Road to Shorter Settlement Cycles: Creating a trade date environment in the US and across the global markets, Omgeo sets out the benefits of SSC and what needs to be done across the industry in order to adapt.
By reducing the amount of time that assets are tied up in the settlement process, the paper attests that market participants will be able to reinvest faster, as well as manage their capital more efficiently. This is particularly important as investment opportunities sought in new markets will be preceded by an assessment of post-trade infrastructures in these markets and, as such, central platforms will, again, become increasingly significant, says the paper. With mounting pressure to manage costs, meet shorter settlement cycles and reduce all forms of risk, the middle office will unquestionably play a pivotal role in the operations of investment management firms and broker/dealers, it adds.
Trends in capital and asset allocation are an indicator of how the middle and back office of tomorrow will look and operate, says the paper, noting two trends in particular: first, investors are looking to high-growth markets for new investment opportunities, meaning that more than ever before they are focused on the global outlook and the ability to trade with counterparties located anywhere in the world; second, investors are continuing to move towards multi-asset strategies as they seek to diversify their portfolios in the quest for investment returns. These investment trends are taking place against a backdrop of ongoing cost cutting and increased focus on operational and counterparty risk mitigation.
Essentially, this means that manual processing will only survive in the mid-to-back office in the short to medium term, says the paper. A combination of regulatory pressure and technological innovation will drive automation and standardization. In turn, this will provide the solution for firms looking to process trades across asset classes and geographies, or simply manage volume fluctuations.
Omgeo will provide central matching services to allow the same day affirmation (SDA) required in a T+2 or T+1 environment and exception management. Regarding the latter, market participants have, historically, processed, checked and repaired each trade one by one. Now, they can no longer afford to spend the time or expose themselves to the operational risk of manual intervention. Central matching allows users to proactively manage exceptions, as both counterparties have visibility into the matching process, says the paper. They can instantly spot exceptions, and modify, repair or reject them.
Moves are currently in place to move from a T+3 to a T+2 settlement cycle in the US and Canada while in Europe, the European Commission mandated the move towards T+2 from January 2015. In Asia Pacific it appears that T+2 settlement is both achievable and beneficial to the region, with many local markets that remain on T+3 regarding a move to T+2 as both inevitable and positive.
The paper also explores the integral part of data in the middle office STP processing chain. This data will be automatically validated, matched and enriched with account and standing settlement instructions that can be routed between counterparties. Data quality and accuracy will be significantly improved through technologies, where clients can easily identify and correct non-compliant settlement instruction data, thereby promoting more efficient processes and reducing the chances of failed trades. In addition, legal entity data capture will become integral to the middle office process and will mean that the industry as a whole will benefit from more accurate measurement and monitoring of systemic risk.
The SSC initiative will occur first in Europe through the forthcoming CSD Regulation (CSDR), with the US likely to follow. To achieve SSC, a trade date environment (TDE) is required. TDE can only be obtained through mandated trade date matching (encompassing a settlement matching requirement)
In order for the shift to SSC to be successful, the move to a trade date environment needs to be adopted on an industry-wide basis, says the paper. Only then can systemic risk be reduced. According to the Boston Consulting Group, if the US settlement cycle shifts just one day, moving from T+3 to T+2, the total savings in buy-side risk in the US alone would be $200 million. When a second day is saved, moving from T+3 to T+1, the overall reduction in buy-side risk jumps to $410 million.
Marianne Brown, president and CEO, Omgeo said: Securities settlement is a critical component of operational risk management since faster and more efficient settlement practices reduce counterparty risk exposure and promote the efficient use of capital. If achieved on a global scale, improved settlement efficiency could be one of the most tangible and positive examples of changes to post-trade infrastructure since the onset of the global financial crisis.
(JDC)