In February 2023, the Securities and Exchange Commission adopted rule amendments to shorten the standard settlement cycle to T+1 for transactions in U.S. securities including equities, corporate bonds, unit investment trusts, and exchange-traded funds.
The Canadian securities markets have followed suit and adopted a T+1 settlement cycle effective May 27, 2024. U.S. implementation will be a day later, May 28, 2024, due to the Memorial Day holiday.
How does T+1 impact foreign exchange (FX)?
The shift to T+1 will represent a shortening of execution and delivery time for market participants. It will present additional challenges, especially for those that invest in the U.S. and Canadian markets with a non-USD/non-CAD operating currency.
There will be additional hurdles for investors acquiring U.S. and Canadian equities with a local currency based out of Asia and EMEA – specifically around bank holidays in their local base currencies.
Custodian and CLS cut-off times
From the time U.S. and Canadian equity markets close (10pm CET / 4pm ET), there is just one hour to trade FX, and correspondingly one hour to submit those FX trade details for CLS (Continuous Linked Settlement) processing (midnight CET / 6pm ET) – the most efficient method for settlement.
Although there are talks for CLS to extend their cut-off time by 90 minutes, this extension will not help if the custodian banks' cut-off time is earlier than that of CLS.
Compounding the issue, when there are local holidays (non-U.S. / Canada), the T+1 trades will shift to T+0 settlement and purchasing of securities will require funding prior to the equity market close.
Liquidity — "witching hour"
With this imminent change, market participants are anticipating a shift in liquidity where there will be an uptick after 11pm CET / 5pm ET (the current "witching hour").
After speaking to some major banks' FX desks, we know there are talks for staffing to be extended on sales and trading desks to accommodate this witching hour. This will give market participants the ability to trade for a little longer, giving them a chance at settling in CLS and meeting their custodian cut-off times.
What you can do
COMMUNICATION
- Make sure all stakeholders (Clients, Portfolio Managers, Operations) are aware of T+1 changes, and staffing is extended accordingly. Your trades need to be submitted prior to your custodians' CLS cut-off time. Be prepared to settle outside of CLS if the cut-off time cannot be met.
- Ensure brokers are promptly matching your trades. This is especially important around holidays when trades need to be matched as soon as the security purchases are complete (and not wait until post market closure) to give adequate time to meet the FX settlement cut-off.
NEGOTIATION
- Speak to your custodian banks to extend cut-off times. Despite CLS's efforts to potentially extend their cut-off time from midnight CET / 6pm ET by an additional ~90 minutes, if the custodian banks' cut-off time is prior to that, the extended time is inconsequential.
- Speak to your equity broker who may be able to give you ad hoc extensions in your equity trades from T+1 to T+2 around local holidays.
TECHNOLOGY UPGRADE
- Develop a robust system that works around the clock. This is particularly necessary if you are an asset manager that does not have a presence in the U.S. or Canada and does not have coverage for late U.S. / Canada / early Asia hours.
- Ensure a straight-through processing set-up so that all trades are matched and sent out for FX execution and settlement without human intervention.
ESTIMATE PRE-FUNDING
- Pre-funding is not a popular solution; however, some clients are placing FX instructions prior to their equity trades being complete using an estimated amount to reduce any potential overdraft fees – should there be any.
INVESTMENT STRATEGY SHIFT
- Some clients are looking to change their investment currency to USD. This approach is not for all but is a consideration by a few investment managers.
Where we can help: Russell Investments' approach
AGENCY FX TRADING
Russell Investments provides a currency execution service called "Agency FX trading" that provides execution services to our clients.
Our currency trading desk, with its primary trading desk Seattle, Washington, benefits from West Coast hours coverage, allowing our staff to be an extension to your team and oversee trades that come in after U.S. or Canadian equity market closures. The traders can prioritize trades that require immediate attention during later hours in the day.
TECHNOLOGY
We have upgraded our systems to better service clients shifting from T+2 to T+1. This includes:
- Auto-cancel/rebill to settle trades gross vs CLS post cut-off
- System flag to traders and the operations team for same day settlement trades
- Monitoring CLS matching live1
CUSTODIAL CUT-OFF MATRIX
We have put together a simplified matrix by custodian, region, and currency pair which helps Russell Investments' Agency FX traders prioritize trading currency pairs that require special attention and avoid missing each custodian's cut-off times. See below for a sample of AUD cut-off times, which we have also collated for other currencies (all are subject to change).
Sample matrix - AUD cut-off times (in Pacific Time)
Source: Russell Investments
1 Anticipated implementation date.
Disclosures
These views are subject to change at any time based upon market or other conditions and are current as of the date at the top of the page. The information, analysis, and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual or entity.
This material is not an offer, solicitation or recommendation to purchase any security.
Forecasting represents predictions of market prices and/or volume patterns utilizing varying analytical data. It is not representative of a projection of the stock market, or of any specific investment.
Nothing contained in this material is intended to constitute legal, tax, securities or investment advice, nor an opinion regarding the appropriateness of any investment. The general information contained in this publication should not be acted upon without obtaining specific legal, tax and investment advice from a licensed professional.
Please remember that all investments carry some level of risk, including the potential loss of principal invested. They do not typically grow at an even rate of return and may experience negative growth. As with any type of portfolio structuring, attempting to reduce risk and increase return could, at certain times, unintentionally reduce returns.
The information, analysis and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual entity.
Frank Russell Company is the owner of the Russell trademarks contained in this material and all trademark rights related to the Russell trademarks, which the members of the Russell Investments group of companies are permitted to use under license from Frank Russell Company. The members of the Russell Investments group of companies are not affiliated in any manner with Frank Russell Company or any entity operating under the "FTSE RUSSELL" brand.
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