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What is T-1 Settlement? Understand the basics of the new T+1 Settlement


Have you noticed that after buying or selling a stock, bond, mutual funds  you have to wait for 2 days for that stock to reflect in your demat account or the fund to come in your account?  Well the time period to do so i.e, T + Day Settlement  - is going to reduce to just 1 day i.e, T + 1 from T+2. Well cheers to this, as the SEBI has put out a circular providing flexibility to stock exchanges to offer T+1 cycles for stocks. The circular basically means is that soon the credit of shares or finds can be done the next day itself (T+1). Are you still confused with what T+1 Settlement means or you want to know the history of settlement ? Well, we’ll cover this shortly.

History of Trade Settlement in India –

Initially the BSE Ltd, erstwhile the Bombay Stock Exchange, used to have settlement on every Fridays. So all trades that happened between Monday and Thursday had to be settled (delivery of shares to the buyers and payment of cash to the sellers) on subsequent Fridays.

 

Settlement was by physical movement of paper wherein the exchanges first settled the trade by delivery of shares by the seller and payment by the purchaser and then the process of physically moving the securities from the seller (involving company) to the ultimate buyer.

 

The entry of the National Stock Exchange - with the screen-based trading, brought a host of changes to the trading world. Initially, the NSE too started the settlement cycle on fixed days only. It had started with Wednesdays as settlement day and later shifted to Tuesdays.

 

The weekly settlement system had encouraged liquidity in the market because people could buy and sell without having to pay immediately thus encouraging speculative activities in the cash market. Harshad Mehta, the (in)famous stockbroker exploited this system very well during his heydays.

 

Because of this excessive speculative nature of trading, the system was fraught with default risks, and often the settlement cycle was extended either for want of cash or scrip.

 

As a lesson from the Harshad Mehta scam, came the first revolution in the securities markets on the settlement side. To reduce the risk associated with the fixed-day settlement system, the Securities and Exchange Board of India (SEBI) introduced rolling settlement in July 2001. The settlement process for a trade contract begins at the end of the trading day, now famously refereed as "T".

 

Initially it was introduced for certain scrips on T+5 basis (in 5 days from date of trade) and then expanded to all scrips in a phased manner.

 

All scrips moved to rolling settlement from December 2001. T+5 gave way to T+3 from April 2002 and from April 2003, it is T+2.

What is T + Day Settlement – T+1, T+2, T+3?

Whenever you buy or sell a stock, bond, exchange traded fund, or mutual fund, there are two important dates to understand: the transaction date and the settlement date. 'T' is the transaction date. The abbreviations T+1, T+2, and T+3 refer to the settlement dates of security transactions that occur on a transaction date plus one day, plus two days, and plus three days, respectively.

 

As its name implies, the transaction date represents the date on which the actual trade occurs. For instance, if you buy 100 shares of a stock today, then today is the transaction date. This date doesn't change whatsoever, as it will always be the date on which you made the transaction.


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Why Delay Actual Settlement?

In the past, security transactions were done manually rather than electronically. Investors would wait for the delivery of a particular security, which was in actual certificate form, and payment happened upon receiving the certificate. Since delivery times could vary and prices always fluctuate, market regulators set a period of time in which securities and cash must be delivered.

 

Some years ago, the settlement date for stocks was T+5 or five business days after the transaction date. Until recently, a settlement was set at T+3. Today, it's T+2 or two business days after the transaction date thanks to advances in technology and electronic trading.

Current Scenario

India will be the second large market after China to implement the T+1 settlement cycle of stocks. Most markets in the world are in the T+2 settlement cycle. What this means is that when you buy stocks, it hits your Demat account after 2 days, and similarly, when you sell stocks you get to withdraw the funds after 2 days. This, 2 days will now become 1 day.

 

Here is the press release 2 from the exchanges. What it says is that starting Feb 25th, 2022, 100 stocks (starting with the lowest market cap) will move to the T+1 settlement cycle on both exchanges simultaneously. From March 2022, 500 stocks ranked from the bottom will move to T+1 settlement cycle.

 

BSE being an older exchange has almost 5000 active companies listed and NSE has almost 1800. The ~3000 additional on BSE are lower market cap companies (mostly penny stocks). So what this means is that in around 10 months from Feb, or by Oct 2022, all the stocks in Indian markets will be on the T+1 settlement cycle.


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Why not T+0 or Instant settlement?

This question on why we can’t have an instant settlement in today’s world where UPI is powering almost 4billion bank transfers a month all settled instantly keeps coming up. What you need to understand is that unlike in bank transfers where there is one underlying that moves between two accounts - money, in the stock markets there are two legs. Stocks & money. While stocks are also in digital format and can potentially be moved instantly, it can’t really be moved instantly because of intraday trading.

 

The majority of trading volumes on the stock market is from intraday traders who are buying and selling stocks without taking or giving delivery of the stock. So if you did buy shares of a company from an intraday trader on the exchange, he might not have any shares to instantly transfer to your Demat account. Typically this intraday trader will exit his position before the end of the day and that obligation to deliver the stock will eventually land with someone who holds the stock. At the end of the day all such buy & sell obligations are crystallized, brokers transfer the stocks and money to the clearing corporation that settle the transaction. While instant settlement is impossible, even T+0 is extremely tough considering the time required for brokers to crystallize the obligations and then clearing corporations to settle.

Why has SEBI opted for a phased roll-out of the new settlement?

There was tremendous opposition from foreign portfolio investors (FPIs) against the implementation of T+1 settlement. Since FPIs invest in India from different countries and time zones, it could be difficult for them to obtain permissions for stock transfers and other procedures from their custodians or head offices. For them it could become like a real time process of stock and money transfers. Domestic brokers argued against it since it involves the high cost of changing their back office and front office operations. Both of them wanted more time, hence SEBI and exchanges opted for a phased manner.

What is the settlement system followed in other developed markets?

Most large stock markets, like in the US, Europe, Japan, still follow T+2 settlement cycle of trade settlement. India will become the first country in the world to go for T+1 settlement.

 

As NSEIT is the Technology consultant for the Capital market player stay tuned with us to know more information about this development, we’ll be writing more about this in our next blogs. You may also want to understand and check out our other solutions – XpressSTP on capital market offering which is really benefitting the entire capital market industry.


Swati Rai

Marketing Executive

Swati is a part of the Marketing Team at NSEIT - apart from managing the marketing initiatives in the organization she's skilled at market research - analysis, formulating marketing strategy and planning. She's an MBA from Welingkar Institute of Management and is also an astute reader and avid marathon runner.

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