The following is an excerpt from Jim Mctague | December 24, 2011 | Barrons.com |
T-time should become a hot U.S. investment topic, now that Europe has decided to go from T+3 to T+2 in 2014.
T stands for “transaction.” Most stock trades in the U.S. now settle in three days, or on T+3. During that period, some market maker has your shares or funds at his disposal. Since the Europeans are switching to T+2, our regulators probably will follow suit, so that our markets remain competitive. If three days strikes you as an awfully long time to settle a trade in an era when buying and selling takes place at the speed of light, then consider that a loophole in the law lets market makers for exchange-traded funds settle on T+6. That’s not a typo.
The wiggle room allows the ETF crowd to engage in hedging and arbitrage strategies that help pay their overhead, using your stocks or funds. If T+6 were to disappear, some of them might disappear, too. This might result in the type of reduced liquidity and heightened volatility we see in equity markets, where robotic trading machines have displaced human middle men. So, then, why fiddle with the settlement system? Because time equals risk.
Prior to 1995, trades settled on T+5. This was when stamped mail, paper checks and stock certificates were still in vogue. The Oct. 19, 1987, crash showed Wall Street that T+5 was a bad idea. As former SECchief J. Carter Beese Jr. noted in a 1993 speech: “Nothing good happens between the trade date and settlement…the longer the settlement cycle, the greater the risk that a customer will not settle with a broker, that the broker will not settle with the clearing corporation, and that the clearing corporation itself will come under financial strain.”
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