Monday, October 24, 2022

IAA has recommendations for shortening the securities settlement cycle

By R. Jason Howard, J.D.

The Investment Adviser Association (IAA) has issued supplemental comments on the SEC’s proposal to shorten the securities settlement cycle for most broker-dealer transactions from two business days after the trade date (T+2) to one business day after the trade date (T+1), and recommends that the Commission:
  • Set the T+1 settlement cycle compliance date for September 3, 2024;
  • Replace the proposed requirement of a written agreement with a requirement that investment advisers adopt policies and procedures reasonably designed to facilitate the allocation, confirmation, and affirmation process as soon as technologically practicable and no later than the end of the day on the trade date; and
  • Take further action to reduce disruption in the foreign exchange (FX) markets.
In the supplemental comments, the IAA agrees that the securities industry needs sufficient time to adjust to the transition from T+2 to T+1 and suggests that setting the compliance date to begin after the Labor Day weekend in 2024 “would better ensure minimal disruption to markets and investors. It would also align the U.S. timing for transition with Canada, where there are significant dual-listed securities.”

The IAA also states that the Commission should provide greater flexibility to investment advisers with respect to the allocation, confirmation, and affirmation process as many investment advisers rely on a third party to allocate of affirm trades. Because of this, the IAA recommends that the Commission “require investment advisers to adopt and implement policies and procedures reasonably designed to ensure that allocations, confirmations, and affirmations are completed on a timeline that allows settlement on T+1 or, in some cases, on T+2.”

This approach, according to the IAA, would “relieve investment advisers from the burden of negotiating and having to regularly update written agreements,” and it would “create incentives for investment advisers to work with broker-dealers and other third parties to complete the process in a timely manner.”

The IAA also recommends that the Commission take additional actions to reduce disruptions in the FX markets. The proposal, according to the IAA, does not sufficiently address the misalignment scenarios that the shift to T+1 will create for U.S. Markets and market participants.

The IAA expresses concerns that the move to T+1 may not provide sufficient time for investment advisers to match FX amounts and settle trades. The IAA also mentions the difficulty that will result if there is a market holiday in a non-U.S. leg of the currency pair and states that “investment advisers will face additional expenses in that they will either need to set up an FX trading and settlement presence in the U.S. or add staff abroad to create, execute, and settle FX transactions to meet a T+1 timeline.”

To reduce disruptions in the FX market, the IAA suggests several options for actions the Commission could take, separately or with the CFTC, including:
  • The Commission could consult with the Commodity Futures Trading Commission (CFTC), which has primary responsibility for overseeing foreign currency trading, to determine whether that agency can take any action in the FX markets to support the SEC’s move to T+1 settlement.
  • The Commission could encourage banks to agree to extend the day of their FX trading activities in the United States and continue to provide liquidity up until at least 6:00 pm EST, five days a week, for T+1 settlement.
  • The Commission could allow for a mismatch of FX settlement dates as a valid reason for T+2 settlement arrangements without it breaching an investment adviser’s best execution obligation. While the IAA appreciates that the Proposal would allow parties to agree to a longer settlement cycle, in order to avail themselves of that extended settlement date, the parties must reach that agreement at the time of the transaction. IAA understands that this would be difficult to implement in the context of trades that require the settlement of FX transactions to occur and that a standing option to settle at T+2 would be far more effective.