India has become the first country in the world to fully implement the ‘trade-plus-one’ (T+1) settlement cycle for investors in top listed securities. Aside from China which is partly under the T+1 settlement cycle, most international markets such as the US, Europe, and Japan are still under the ‘T+2’ settlement cycle. From Friday, 27 January onwards, shares sold or bought in the Indian share market would reflect in investors’ demat accounts after a period of one day. This is aimed at bringing operational efficiency, faster fund remittances, share delivery, and ease for stock market investors. The complete shift to the T+1 settlement cycle was rolled out in February 2022, starting with select stocks and the goal was to bring others into the fold.
What’s the T+1 settlement cycle?
The T+1 settlement cycle means that trade-related settlements will happen within 24 hours of the completion of a transaction. For example, if a customer buys shares on Wednesday, then under the T+1 settlement cycle, these shares would be credited to the customer’s demat account on Thursday. This is different from T+2, where they would be settled on Friday. It may be noted that up until 2001, stock markets had a weekly settlement system. The markets then moved to a rolling settlement system of T+3, and then T+2 in 2003. For those wondering why isn’t instant settlement like payments possible? Zerodha co-founder Nithin Kamath explained that this is because most trading volumes on the exchange are from intraday traders who buy and sell stocks without taking delivery or have the stocks to deliver immediately.
How will T+1 settlement benefit investors?
According to analysts and market experts, the shorter trade cycle is good for investors, and encourages trust among them. The shorter trade settlement cycle augurs well for the Indian equity markets from a liquidity perspective. It shows how well India has grown on the digital journey to ensure seamless settlements within 24 hours, according to Ajay Menon, MD & CEO of Broking & Distribution at Motilal Oswal Financial Services.
Improve liquidity: This will help the investor in reducing the overall capital requirements with the margins getting released on T+1 day and getting the funds in the bank account within 24 hours of sale of shares. The shift will boost the operational efficiency as the rolling of funds and stocks will be faster, according to Ajay Menon of MOFSL.
Reduce cost of transaction: “We believe T+1 should sail through smoothly. This will also help reduce margin requirements and thereby the cost of transactions. It will be helpful to investors and diminish the overall risk for the market,” said Gagan Singla, Managing Director, BlinkX by JM Financial Services.
Reduce no. of outstanding unsettled trades: T+1 settlement cycle not only reduces the timeframe but also reduces and frees up capital required to collateralise that risk. A shortened settlement cycle also reduces the number of outstanding unsettled trades at any point of time, and thus decreases the unsettled exposure to Clearing Corporation (CCP) by 50% The narrower the settlement cycle, the narrower is the time window for a counterparty insolvency/ bankruptcy to impact the settlement of a trade, stated market regulator SEBI in a paper published earlier.
Reduce systemic risk: The capital blocked in the system to cover the risk of trades will also get proportionately reduced with the number of outstanding unsettled trades at any point of time. Systemic risk depends on the number of outstanding trades and concentration of risk at critical institutions such as CCPs, and becomes critical when this magnitude of outstanding transactions increases. “Thus, in this era of increasing trade volumes, a shortened settlement cycle will help in reducing systemic risk,” SEBI said.