SEC Approves Shortened Settlement Cycle
The SEC approved an amendment to Exchange Act Rule 15c6-1 that shortens the standard settlement cycle for securities transactions. The rule change reduces the standard settlement cycle from three business days after the trade date (T+3) to two business days (T+2).
The amendment was approved by the SEC unanimously. SEC Commissioner Kara Stein called the current settlement cycle "woefully behind the times," and Acting Chair Michael Piwowar concurred: "rarely is an issue as commonsensical or broadly supported as this one."
According to the SEC Press Release and Fact Sheet, the primary purpose of the rule change is to (i) improve capital efficiency, (ii) reduce risk, and (iii) provide for a coordinated and expeditious transition to a shortened standard settlement cycle for market participants. Commissioner Stein characterized the move to a T+2 settlement cycle as a "helpful step" in reducing "counterparty default risk, market risk, liquidity risk, credit risk and overall systemic risk," but she also emphasized the need for improvements that go beyond T+2. She asked SEC staff to conduct a study that would evaluate the effect of the T+2 cycle, and also to consider additional enhancements.
Acting Chair Piwowar declared that the approved amendment signaled "Judgment Day" for T+2, and expressed his hope that T+2 would result in a more resilient national clearance and settlement system overall. "It is finally time to say hasta la vista to the antiquated T+3 settlement cycle," he quipped. Mr. Piwowar also noted that he and Commissioner Stein have expressed support for this change since mid-2015.
The rule change will become effective 60 days after its publication in the Federal Register. Broker-dealers will be required to comply with the new settlement cycle beginning on September 5, 2017. The change will not apply to certain categories of securities, such as exempted securities.
Commentary
It has been almost twenty-two years since the U.S. settlement cycle was shortened from T+5 to T+3, and many have clamored for a move to T+2 in recent years. Notably, several Industry Associations (including SIFMA and the Investment Company Institute) applauded the move in a joint statement, saying that the shorter settlement cycle will provide significant benefits to market participants, including reducing credit, market and liquidity risk, and aligning the United States with several other financial markets across the globe that have already moved to a T+2 settlement cycle. (In other contexts, the majority of the world also prefers T+2 among T options.)
Nonetheless, market participants should be mindful that the move to a T+2 settlement cycle will impact other regulatory requirements, including accelerating the timeframe for certain actions under Regulation T or Regulation SHO. In particular, Regulation T generally requires a broker-dealer to cancel or liquidate a customer's position if the customer has not paid for cash purchases or posted margin within a "payment period," which is defined as the standard U.S. securities settlement cycle, plus two business days (i.e., the timeframe reduced from T+5 to T+4). In addition, Regulation SHO Rule 204 requires a broker-dealer to close out any fail-to-deliver position no later than the beginning of regular trading hours on (i) the business day after the settlement date for fails resulting from short sales (i.e., the timeframe reduced from T+4 to T+3) and (ii) the third business day after settlement date for delivery fails resulting from long sales or certain bona fide market making activity (i.e., the timeframe reduced from T+6 to T+5).
Despite the general support for this change, the relatively short timeframe for compliance (September 5, 2017) will prove challenging for market participants, who will need to make a series of operational, compliance and legal changes to comply with the amended rule.
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