The ETF industry will need to devise solutions for Ops headaches arising from the T+1 settlement push.
U.S. regulators are leaving it to the $10 trillion exchange-traded fund (ETF) industry to devise solutions for securities operation headaches arising from the North American transition to T+1 settlement scheduled for May 28 of this year.
The International Securities Services Association (ISSA) says it has had some “useful discussions” with the U.S. Securities Exchange Commission (SEC) over the past few weeks on the hurdles associated with moving ETFs to a shorter settlement.
Haroun Boucheta
However, these talks are unlikely to impact the go-live date, according to Haroun Boucheta, head of public affairs, securities services at BNP Paribas and co-chair of ISSA’s T+1 Impacts Working Group.
“ETFs will be one of the products where there will be two different cycles and we don’t know yet how we are going to solve all the situations. It’s now up to the industry to try to… find operational solutions,” Boucheta says.
When U.S. investors shift to T+1 in May, much of world is staying on its current settlement cycle. This creates potential mismatches between when a U.S. ETF’s shares settle in the U.S. market and any non-U.S. securities that the ETF comprises, which settle in their local market. This is also a headache for international firms.
In Europe, for example — where U.S. securities now represent more than 40 percent of E.U. funds’ assets under management, according to the European Fund and Asset Management Association — ETFs will settle at T+2 but the U.S. components within a European ETF will settle at T+1.
Depending on how large of a slice of the fund the U.S. exposure is, this can be more or less meaningful for European ETF issuers.
ISSA is now calling on regulators to come round the table.
“The first solution is to be sure that the regulators are around the table to discuss a solution through dialogue and coordination. Because all markets are different, especially in Europe where the market structure is really different compared to the U.S.,” Boucheta says.
According to ISSA, in the SEC rules, no exemptions have been integrated for non-domestic investors to tackle such situations. The group authored a report in December that ETFs may face funding gaps with subscriptions/redemptions orders. (The report can be found here: https://bit.ly/426wsFL)
“In our working, solving this potential funding gap is a priority that has been identified,” Boucheta adds.
John Hooson
As part of its role as an ETF-servicing agent, private bank Brown Brothers Harriman (BBH) is currently overseeing changes to workflows and systems that support creations and redemptions with its ETF clients. John Hooson, managing director of global ETF product at the firm, acknowledges that mismatches are something that the industry already sees today.
Typically, these mismatches are managed by collateral. “We are expecting to see a lot more of that and obviously, that’s potentially more of an expense for the APs [authorized participants]. It’s hard to tell in a vacuum whether that sort of increased expense will make its way through into the secondary market,” he says.
Many others have voiced concern.
Securities industry operations standards group ISITC Europe warns that the increased costs could harm the US’s domestic EFT market. Gary Wright, director of industry affairs for ISITC Europe, says some investors might go elsewhere.
“ETFs are no cost entry for investors into getting exposure across the international markets. All this has got to be organized so the increased administration costs will come into play. There’s a question in my mind that says: Will this kill ETFs? Will we actually have to come up with another type of product that provides a similar exposure but with less risk and cost,” Wright asks.
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