The funds industry is on the cusp of a transformative shift, influenced by the move towards T+1 settlement cycles for underlying securities. This regulatory change, initiated in markets like the US, Canada, and Mexico, reduces the time between trade execution and settlement to just one day. The implications of this are profound: faster money movement, enhanced liquidity management, and reduced exposure to market volatility. However, this shift also brings a significant challenge—the need for automation in the traditionally manual settlement processes that still dominate the industry.
Why automation matters in settlements
For years, automation in fund trading has seen substantial progress, with order routing largely digitalised across the industry. Yet, despite these advancements, the settlement process often remains cumbersome and manual, relying heavily on spreadsheets and manual interventions. From calculating settlement amounts to reconciling payments and updating records, many firms continue to struggle with time-consuming, error-prone manual tasks. This legacy approach is not just inefficient; it poses significant risks, including late settlements, increased operational costs, and potential liquidity issues.
The shift to T+1: a catalyst for change
The transition to T+1 settlement cycles serves as a regulatory impetus for the industry to reassess its operational frameworks. Significant discussions already taking place in Europe about aligning with this global trend. The European Fund and Asset Management Association (EFAMA) has acknowledged a compelling case for T+1 in the EU, highlighting that any delay could leave European markets lagging behind other advanced economies in terms of capital efficiency and risk management.
For asset managers and fund distributors, the challenges posed by T+1 are multifaceted. Firstly, firms must manage different settlement timelines across international markets, complicating cash flow management and increasing the risk of late settlements. Secondly, the need to align with a T+1 environment means that firms can no longer afford the delays associated with manual processes. Delayed settlements can trigger intraday liquidity issues, forcing firms to fund positions overnight, often at significant cost. This is particularly problematic in a rising interest rate environment, where the cost of borrowing is higher, and credit availability may be constrained.
Additionally, the uncertainty around the timing of cash flows can hinder asset managers’ ability to invest incoming cash promptly, impacting portfolio management and the ability to seize market opportunities. This not only affects operational efficiency but also has direct implications for investment returns, making the case for automation even stronger.
Impact of settlement delays on daily operations
Settlement delays can have a profound effect on asset managers’ day-to-day operations. Manual processes increase the risk of missed deadlines and errors, which can disrupt trading activities and affect investment strategies. For instance, delayed cash settlements might force asset managers to pause or slow down trading, directly impacting fund performance. Furthermore, these delays and manual errors require additional resources to resolve, increasing operational costs and placing further strain on teams.
Moreover, asset managers often face a lack of transparency in the settlement process due to reliance on manual systems. This opacity makes it difficult to track and manage settlement positions effectively, increasing the likelihood of discrepancies that must be manually investigated and resolved. Intraday liquidity issues are a common consequence, as firms often need to wait for redemption payments from counterparties before they can fulfil their own obligations, such as funding subscriptions. This reliance on timely receipts can create cash flow bottlenecks, complicating liquidity management and potentially necessitating short-term borrowing to bridge gaps.
The advantages of net settlements
The current fragmented infrastructure of settlement processes means that most firms settle on a trade-by-trade or gross basis, , where payments in and out are handled separately, leading to increased cash movement and higher liquidity exposure. Net settlement, on the other hand, allows firms to offset payments against each other, significantly reducing the total settlement exposure and the number of transactions required.
The adoption of a net settlement model would not only cut down on the volume of cash payments that need to be initiated but will also reduce the operational risks associated with multiple, manual transactions. This approach can lead to significant cost savings, enhanced liquidity management, and a reduction in counterparty risk.
Preparing for the future of settlements
As the industry moves towards T+1 and beyond, the importance of having a future-proof settlement system cannot be overstated. Automation will not only be a nice-to-have but a necessity. The pressures of shorter settlement cycles will demand a level of speed and precision that manual processes simply cannot deliver. Moreover, automation enables firms to achieve greater transparency, reduce errors, and improve liquidity management.
Calastone’s approach to automating settlements
At Calastone, we believe the answer lies in fully automating the trade-to-payment lifecycle. Our vision for settlements is centred on providing a flexible, bank-agnostic solution that enables firms to handle trades in any currency, with any counterparty, through a streamlined, automated process. Calastone’s settlements solution is designed to address the specific needs of the funds industry, particularly in the context of the evolving settlement landscape. Our service supports trade-by-trade, gross, and net settlements, allowing firms to choose the model that best suits their operational requirements and risk management strategies. The solution also enables clients to settle with any trading partner even if they are not on the Calastone network.
By automating the entire settlement process, from calculation to payment execution, our solution provides real-time oversight, reduces manual interventions, and ensures greater accuracy and efficiency. One of the unique elements of Calastone’s proposition is its flexibility. Our solution is bank and currency agnostic, meaning it can work with any counterparty, in any currency, and settle trades through any bank. This flexibility is crucial in today’s globalised market, where firms often deal with counterparties and trades across multiple jurisdictions.
Moreover, our network’s connectivity, including API options, allows for seamless integration with existing systems, ensuring that firms can adopt our solution without the need for a major technology overhaul. With Calastone’s solution, firms gain access to real-time visibility over their settlement positions, allowing for proactive management of payment discrepancies and immediate resolution of any issues. This transparency is crucial in a T+1 environment, where the margin for error is minimal, and the need for certainty is paramount.
A way forward
The transition to T+1 settlement cycles represents both a challenge and an opportunity for the funds industry. While the shift will undoubtedly pressure firms to rethink their settlement processes, it also opens the door to greater automation and efficiency. Calastone’s automated settlements solution provides a comprehensive answer to the complexities of shortening settlement cycles, enabling firms to streamline their operations, reduce risks, and improve the investor experience.
As we continue to advance our technology and expand our network, Calastone remains committed to supporting the industry through this transformation. By embracing automation, firms can not only meet the demands of T+1 but also position themselves for success in an increasingly digital future.
