Tightened Time Frame For Securities Trading Aims to Reduce Defaults
IT'S countdown time on Wall Street: Starting June 7, investors in the United States will have a much shorter time frame in which to come up with the money to pay for their securities transactions. That also means investors who sell securities will get paid faster.
The change in the clearance and settlement cycle for securities transactions -- dubbed ''T+3'' -- was initiated by the US Securities and Exchange Commission (SEC).
Under the rule, whenever any person or institution buys a security, the payment on the transaction must be received by the brokerage firm no later than three business days after the trade is executed -- thus, T+3. Under existing SEC rules, the payment can be received up to five business days later.
Similarly, when a person or institution sells securities, the brokerage firm must now receive the securities certificates no later than three business days after the sale was authorized, a change from the current five-day window.
The new rule will apply to stocks, corporate and municipal bonds, and mutual-fund shares.
According to an SEC spokesman, the agency wants to foster greater liquidity in financial markets, increase efficiency, and curb volatility.
Mainly, experts say, federal regulators want to end the defaults that exacerbated the stock-market crash back in October 1987, when a number of parties defaulted on paying for trades on futures markets and the stock market.
The new rule is expected to lead to fundamental changes in the way individual investors buy and sell securities.
''Under the current [five-day] system, there is inherent risk for financial markets,'' says Hans Stoll, director of the Financial Markets Research Center at Vanderbilt University in Nashville. ''Cutting the clearance and settlement time down to three days provides greater safety for financial markets,'' Mr. Stoll says.
Currently, he notes, futures markets have a tight settlement period: T+1. That is, the investor must have the payment to the broker on a futures transaction by 10 a.m. the next morning. So even with the shortening of the rule on stock transactions, there will still be a gap of some days in terms of uniformity, Stoll says.
Eventually, he says, federal regulators would like to make settlement periods uniform, with a very tight time frame.
''Most major players,'' such as large institutional investors, ''will not be inconvenienced by the shorter settlement time,'' Stoll says. ''They are already used to electronic trading.'' But smaller investors and brokerage houses may have to substantially alter trading procedures, he says.
''Investors may want to keep shares in a broker's name,'' instead of directly holding a stock certificate or a bond, says Arnold Kaufman, editor of The Outlook, a financial review published by Standard & Poor's Corporation.
''Individuals may also need to incur additional costs, such as using overnight mail to get their check, or stock certificate, to a broker on time,'' Mr. Kaufman says. Relying on regular mail delivery, he adds, would constitute substantial risk for a small investor.
To ensure that a check arrives at the brokerage house within the new settlement period, the small investor has several choices. He or she can deliver a check in person, make an electronic transfer of funds, use overnight mail, or -- and this is the perhaps the most controversial matter arising from the new procedure -- directly open an account with the broker, such as a money-market account, or an asset-management account.
If the investor is late in getting payment to the broker, he could face penalty fees and risk losing the trade. Investors should make sure they ask any brokerage house they use to explain the fees and when they apply, experts say.
Stock prices are not expected to be adversely affected by the rule change, says Hildegard Zagorski, an analyst with investment house Prudential Securities Inc.
''The market is moved by underlying economic fundamentals,'' she says, ''such as interest rates and growth patterns, not procedural or technical factors.''