Thinking about T+1 – Is a crisis always obvious?

Thinking about T+1 – Is a crisis always obvious?

Posted on March 24, 2023 by Cathy Wright

Thinking about T+1 – Is a crisis always obvious?

How do you define a crisis? It may sound like a dumb question – surely, it’s obvious! If your house is on fire – certainly. But is it always obvious?

The reason I raise this issue is the efficiency of post-trade operations in buyside firms. For the past 5 months I, and three ISITC Europe colleagues, have been researching the impact of T+1 settlement in the US markets. (Our research, sponsored by the SWIFT Institute, will be published in May.) We’ve done 39 interviews with market participants in 17 countries.

A by-product of this research is that we’ve gained significant insight into the post-trade processes of buy-side firms – the segment that will be impacted most by the move to T+1. It certainly has the biggest scope for improvement. As ever, with the buyside, it is not a homogenised picture. In general terms the biggest firms, operating globally, have highly efficient processes. Their real-time STP rates are extremely high because it’s an essential factor in a productive relationship with outsourcers and global custodians. A small number of the bigger buyside firms have global follow-the-sun capabilities which is a crucial advantage in a T+1 environment where batch processing, especially overnight, is not viable. But the majority do not.

If you explore the smaller firms, many of which are highly focused on their domestic market you see a different picture. In this segment end-of-day and overnight batch processing still happens. Operating hours are typically 8am-6pm with no out of hours coverage. We’ve come across a firm which does just 300 trades per day but has 17 staff in its back office. We’ve heard from a household name global custodian which receives 50,000 fax instructions per week – mostly from Luxembourg and Germany. These firms typically don’t use a Trade Confirmation system.

In the UK, where paper stock certificates are still prevalent, many now settle retail trades on a T+10 basis! Obtaining accurate data on settlement failure rates is near impossible – but it would appear to be high. Figures of 5% are often cited. And if you want to generate some laughs ask a room full of Operations Managers if they know their cost per trade. It seems perfectly obvious that this community will struggle to achieve efficient T+1 settlement – especially in the US with its incredibly tight deadline. It’s clearly an issue – but is it a crisis?

In defining “crisis” I’m assisted by a family member who works as a “crisis scenario designer”. (It’s a rapidly growing and innovative new segment.) She tells me a crisis is commonly defined by three factors: visibility, harm, and urgency. The issue of post-trade efficiency wouldn’t seem to qualify. But what about the issue of cost? Inefficiency is expensive and we, the underlying customers, are paying for it. The ISITC Europe research has highlighted that this issue is not generally regarded as a priority. Why? I suspect this is for three reasons: long-term persistence, opacity of costs, and the lack of regulatory focus. So, the issue has festered.

Can you imagine Amazon being tolerant of a 5% delivery-failure rate? I can’t. Would Apple be sanguine about 5% of MacBook’s being returned as faulty? Definitely not. Nobody in a new economy firm is likely to define their importance by the number of staff members they manage. But this is still a criterion widely used in financial services back-offices. There doesn’t seem to be an incentive to innovate and improve. Clearly the excess cost issue isn’t driving change either. But is it a crisis? I would say yes – but it will need a spark to turn into a fire.

T+1 settlement could be that spark because it marks the end of batch processing. Any firm that invests into a T+1 market will need to operate in real-time and have out-of-hours operational coverage. For many firms this will be a  transformational change. The old joke about asking directions in Ireland seems apposite: “If I was going there, I wouldn’t start from here”. T+1 implementation in the US and Canada is just 430 days away. Implementing the necessary changes will expose a lot of cost and efficiency issues. Can it be done – and not become a crisis that meets the standard tests: visibility, harm, and urgency? I hope so.

I’d love to get your feedback. Maybe send me a fax!

Written by Tony Freeman, Director of Policy – ISITC Europe