Trade And Settlement Process

T+1 and real time Trade Settlement Process

Why setting the course for T+3 in 1996 Original G30 Recommendations (1989) Recommendation VII “ All markets should adopt a rolling settlement system. Final settlement should occur no later than T+3.” IOSCO Recommendations (2001) Recommendation 3 – Settlement Cycles “ Rolling settlement should be adopted in all securities markets. Final settlement should occur no later than T+3. The benefits and costs of a settlement cycle shorter that T+3 should be evaluated.” USA moved from T+5 to T+3 in 1996. UK and most of Europe moved to T+3 in 2001.

Why idea of STP for T+1 and real time trade processing gaining currency Volumes - Trading volumes continue to increase, straining manual processing capabilities and creating diseconomies of scale and risk management concerns. Competition - Lower barriers to entry and increased competition are driving market participants to differentiate themselves by providing value-added services and more diverse and customized product offerings Margin Pressure – Margins are continuing to be squeezed, creating increased cost pressures. Customer Expectations - Clients are demanding increased processing speed and information. They expect a zero information latency environment. Industry Standards - Industry data standards and messaging protocols (i.e., FIX, ISIN, ISO 15022, XML) are being pushed out. Source: Tower Group/SIA Survey, Technology Trends in the Securities Industry 1999: Transition to an Online World

Traditional Trade cycle process

Traditional Trade Process cycle Pre-Trade Compliance Order Management Price Discovery Exchange Execution Custodian Records Settlement / Accounting Order Generation Broker Dealer Order Generation Order Generation

Research Document Management Analytics Calculation Framework Trading Transaction Management Risk Risk Management Back Office Settlement Systems Treasury General Ledger / Accounting Treasury Treasury Management CRM Sales Trade/Order Management Clearing & Custodians Operations Data Management Multiple Business Departments and Institutions: Traditional settlement processes Trade Cycle Each department depended On information provided by its Predecessor.

Traditional Trade floor Different departments – Fax, phones are used to communicate between the different departments of the trade floor. Silos of individual departments ie Multiple departments and no point of integration. Thus, they are not able to talk to each other. Thus, they are unable to share information. These exists small group of Islands of information but no bridges for traffic to flow, though each one is dependent on other for want of information. This causes unwanted delays. A centralised system could reduce this dependency. Multiple dependencies – Message to Client to Broker Dealer is based on Fax, telephone and could get lost. Message from Broker Dealer to deal maker could get lost because again the system is based on Fax and Telephone and one only hopes that Client details do not get lost in the huge bulk of paper and daily operations at the Broker’s office. Trade maker is dependent on Fax boy sending right fax, fax machine working fine, receiver of fax at their desk, receiver forwards the fax to the right reporter. More the amount of paper the are the chances of paper getting lost and Transaction getting delayed or important information of the client or market rate or broker details getting lost. High degree of dependency on paper, administrative works of all the shareholders involved and loss of paper can result in the whole process coming to a halt and collapse. A Intranet for integrating all the different departments can reduce the delays. Disadvantages Though Trade floor operations distributed, since most work done on paper, but piles of paper that need to be analyzed by each department and each department is dependent on another before ay trade can be processed. Hence, individual delay in getting information and analysis takes up group’s time and group delay of the whole process. Communication from its Client ordering buying or selling of a share ie start of the process to change in owner’s rights on a share ie destination of a share takes a lot of time.

Issues in Process flow Redundant flow of non essential data in institutional transaction processing involving broker/dealer and their customers Lack of automation and common messaging standards between broker/dealers and their customers leading to errors and discrepancies Increasing costs due to redundant and manual steps resulting from the lack of common standard interface and inter operability Growing volume in global securities trading is a challenging task and will grow even more difficult as the volume of the trading of securities increases, something that is inevitable with globalisation.

RISKS AT SETTLEMENT Principal Risk: Growing risk of loosing securities or payments made to defaulting party before the detection of default. Liquidity Risk: Increasing risk due to sellers of securities not receiving payments when due or the buyers who do not receive delivery when it is due. Operational Risk: The risks resulting from inefficiencies in information systems, management failures and human errors due to insufficient capacity unable to meet the growing global securities trading. Trade floor - Risks for shareholder in current system

Change in Business Strategy As Is To Be

Pre requisites for Integrated approach to trade processing: centralisation of information collection process: As Is To Be … to Centralised information source on correspondent banks From … Numerous bilateral information exchanges within financial institutions Source: www.swift.com/index.cfm?item_id=3878

Current Key Processes – As Is Brokerage Asset Management Private Banking Investment Banking Institutional investors ** Above Pictures taken from Google Images

Future Key Processes – To Be Brokerage Asset Management Private Banking Investment Banking Institutional investors ** Above Pictures taken from Google Images

Change in Organisational structure As Is To Be Hierarchy based org Structure Services, Product line based org Structure

Intranet: Trade Process goes Online Trade Cycle Decision Support Performance Attribution Order Generation Pre-Trade Compliance Order Management Price Discovery Execution Recs Settlement / Accounting ETC ETS

Trade floor design by STP Exchange VMU / ETCP Trade Date Space 1 Pre-trade / Trade Space 3 Clearing & Settlement Order Trade IMI: Investment Manager B/D: Broker Dealer VMU: Virtual Matching Utility GC: Global Cust SC: Sub-Cust SA: Settlement Agent (Clearer) CCP: Central Counterparty ICSD: (Int‘l) Central Securities Depository Institutional (buy) Side Street (sell) Side Space 2 Post Trade / Pre-Settlement Trade Date + X GC SA CCP SA IMI B/D (I)CSD SC B/D Space 4 - Custody Services Non Trade Related Activity 1 2 3

New Process Exchang e Electronic Communications Network Market Maker Firm Internalizes Order Internet order Phone order [1] http://www.ibtimes.com/articles/20061006/add-nyse-electronic-trading.htm

Trade Floor Sequence diagram GSTPA TFM Fund Manager Broker Custodian DTC/CSD Order Notification BON NOE Trade Match Trade Match Allocations Allocations Allocation Notification Net Proceeds Net Proceeds Net Proceeds Match Net Proceeds Match Net Proceeds Match Settlement Details Settlement Details Settlement Details Match Settlement Details Settlement Details Match Settlement Details Upload Confirms Affirm Trades Upload Affirms Release Cash

Straight Through Processing Automated Removal of paper No manual re-keying Control of workflow End-to-end Transaction initiation, repair, tracking, management, reporting Integrated Front to back In house with market infrastructure External service providers Managed by exception Alerts Repair facilities STP rates & statistics Characteristics of an STP solution:

Technology Increase automation (STP) Real-Time functionality Timing Impose deadlines and penalties Confirmation by Money Managers Send allocations for each partial fill Data Standardize data Common data source/ matching utility For Investors (especially small): Improved service, reduce risk and increase liquidity. For Market participants: Reduce credit risk by two thirds, reduce operational risk, improve liquidity Competitive advantage: Lower costs for your clients as your own costs have been reduced Efficient Trade processing: T+3, T+1 not only as a way of shortening the settlement period, but as an opportunity to construct a sophisticated network-based back office system that supports efficient trade processing by organically linking trades and all the parties concerned by advanced electronic means of communication. Advantages of Switching to New Trade floor Design

Vendor Business Drivers The bottom line Competition Time to market Reduce development costs Standards compliance STP features & functions Service to customers Reliability & scalability Available technology

Technology Is Just the Visible Part Country X Technology User Skills Security and Privacy Processes Design Culture Organizational Structures Source: IBM Human side of change is where the real challenges lay Technology only plays the role of an enabler

There are several challenges in implementation of faster Trade cycle from different perspectives: Communication: Ensure that all parties involved are informed and aware of Online Trading process changes Institutional Transaction processing: Overcoming regulatory hurdles to implementing the matching model, i.e. modifying confirm/affirm requirements; implementing new process deadlines. Payments processing: Obtaining support of banking and broker/dealer community (future technology and rule changes) Identification of alternative payment means (proper and secure) Challenges in Implementation Trade floor redesign

Physical securities vs. Dematerialization Technical obstacles Legal & Regulatory concerns Consensus between broker/dealers, transfer agents, and investors International/Foreign exchange International endorsement Changes in fund and trade management Transactional and technological changes Clearance/Settlement Significant changes of processes Replace batch processes with real-time and near real-time processes Technical infrastructure of real-time processes Challenges in Implementation Trade floor redesign

Standards There are two major standards: FIX and SWIFT. Both these are overlapping each other but are still not compatible Connectivity Firms must continue to electronically connect their internal applications and connect their systems to other firms and the infrastructure Vendor Support Vendor solutions are not always compatible or easily integrated with other solutions because each vendor provides their services to make a profit and protect its market niche. Some of the areas that must be examined are: New security issues Retail customer interactivity Automated data storage/retrieval Utility Development Industry utilities, including exchanges, depositories and clearing agencies, are all trying to extend their services to better support their participants, as well as protect themselves from disintermediation They must continue to work on solutions such as: Eliminating paper by incorporating all instruments into depositories and clearing houses Implementing cross collateralization between infrastructure agencies Matching pre-trade and trade information Merging with other industry utilities to simplify procedures and reduce costs Steps To Make Trade floor a Reality

Goal: Integration of Exchange wise, Institution wise enabling analysis and business intelligence on trades and settlements made Investment Banking – Europe division Global Wealth Management Fixed Income US division Trading and Settlement Switzerland Division Drill down By city, country Drill down by Financial product Trend analysis By region Granular Details by region City, state, country

Process change – Fax, Telephone to Blackberry Multiple dependencies have now vanished . Share purchaser - Mumbai Back Broker’s office, London Blackberry, Stock Broker, London Blackberry, Price matching brokers, London Broker request to buy stock over phone, blackberry Broker X out of office, Forward his request to his office to check price and availability of particular share Broker X’s office, negotiates for best Share price in market with other broker. Market Broker’s informs about the best deal to Broker X office Broker X’s informs buyer of the best share price available Buyer confirms buying share at said price. Broker X buys shares for buyer at NYSE Electronic Settlement of shares

Centralized -VMU Custodian Broker/ Dealer Institutional Investor Investment Manager Central Virtual Matching Utility (CVMU) Regulators Exchanges

Market trends: US securities market goes global 2006 – 2008: U.S. Stock Markets tie-up with Global Exchanges NYSE's acquires Paris-based Euronext , making history by becoming 1 st Trans - Atlantic Exchange. Nasdaq Stock Market Inc. launched a 2.7 billion pounds bid to take over the London Stock Exchange , but fails. New York, Tokyo Exchanges Shake Hands on New Alliance that sets the stage for a possible merger or acquisition. The New York Stock Exchange sign agreement to buy a 20 percent stake in India's National Stock Exchange. New York Stock Exchange's launched expansion of electronic trading in a move to compete with exchanges round the globe.

Net Market Makers Net Market Makers Globalised Securities market In GSA’s Regions GSA Services’ Mega Market Exchange Global Trading Web

Presentation on Financial Services IT For Back Office Operation for Course 683 By Sri Averneni, Kartik Mehta

Trade And Settlement Process

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