The new SEC chair has blessed T+1 settlement and outlined his policy objectives in testimony before Congress.
Grygo is the chief content officer for FTF & FTF News.
Gary Gensler, the new chair of the SEC, is provisionally endorsing the industry effort to shorten trade settlement time from T+2 to T+1 as evidenced by his recent testimony before the U.S. House Committee on Financial Services, overseen by Chairwoman Maxine Waters (D-CA).
“I believe shortening the standard settlement cycle could reduce costs and risks in our markets. I’ve directed the SEC staff to put together a draft proposal for the Commission’s review on this topic,” Gensler said in the “Market ‘Plumbing’: Clearance and Settlement” section of his May 6 presentation.
The testimony outlined major parts of his agenda to come. Gensler was sworn in on April 14 after being nominated in February by the Biden administration.
“Interestingly, if one goes back to the 1920’s, our capital markets had a one-day settlement cycle. … Throughout the 20th century, the length of the settlement cycle ebbed and flowed; it was as long as five days,” Gensler noted.
Citing recent history, Gensler reminded the committee that in 2017 “the SEC adopted a rule to shorten the standard settlement cycle from three days (T+3) to two days (T+2). The Depository Trust & Clearing Corporation [DTCC] and other industry groups recently announced their intention to study these issues and collaborate on efforts to accelerate the transition to T+1.”
Gensler also pointed to IT advances that help mitigate this kind of risk. “We now have the technology to further shorten the settlement cycles, not only to the settlement cycle we had a century ago but even to same-day settlement (T-0 or ‘T-evening).
The settlement cycle was among the clearing and settlement concerns raised by the market rushes to buy, short, and selloff GameStop stock and the subsequent ramifications.
“In January, several broker-dealers decided to restrict customer access to trading in certain meme stocks. These decisions understandably drew a lot of questions from the investing public. Many investors lost access to the market at a critical time,” Gensler says.
The GameStop-related market gyrations of “rapidly changing prices, high volatility, and significant trading volume of the meme stocks prompted larger-than-usual central clearing margin calls on broker-dealers,” Gensler says. “Some of those broker-dealers … chose to restrict additional buying activity by their customers in a variety of the meme stocks.”
The restrictions are causing market participants to wonder if broker-dealers “are adequately disclosing their policies and procedures around potential trading restrictions; whether margin requirements and other payment requirements are sufficient; and whether broker-dealers have appropriate tools to manage their liquidity and risk. I’ve asked staff to look at these issues carefully,” Gensler says.
The clearing and settlement issues point to potential system-wide risks, the SEC chair says.
Gensler highlighted areas of concern:
- “First, at least one firm didn’t have sufficient liquidity to meet margin calls and had to fundraise within hours to meet $1 billion-plus obligations, and several brokers chose to shut down customer access to trading. While these liquidity challenges faced by brokers didn’t cascade to the rest of the economy, they did, unfortunately, affect many investors’ ability to trade.”
- “Second, several hedge funds lost significant money during these events. Though it doesn’t appear to have triggered broader market events, at least one fund had to raise funds rapidly to cover losses.”
- “Third, issues of concentration, whether among market makers or brokers at the clearinghouse, may increase potential system-wide risks, should any single incumbent with significant size or market share fail.”
Gary Gensler
Gensler gave indications of interest in areas of potential reform:
- Gamification and User Experience: “Mobile apps have done a lot to expand access to capital. Many of these features encourage investors to trade more. … It’s in this context that I’ve asked staff to prepare a request for public input for consideration on these issues. … Many of our regulations were largely written before these recent technologies and communication practices became prevalent. I think we need to evaluate our rules, and we may find that we need to freshen up our rule set.”
- Payment for Order Flow: “In the last few years, most retail broker-dealers have stopped charging fees for trades. Instead, some make money through other … payment for order flow. … This brings to mind a number of questions: Do broker-dealers have inherent conflicts of interest? … What are the policy implications with regard to the data aggregated by the purchasers of order flow? … Finally, it’s interesting to note that neither the United Kingdom nor Canada permits broker-dealers to route retail orders to off-exchange market makers in return for payments.”
- Equity Market Structure Segmentation: “In essence, does this segmentation and related sector concentration best promote fair, orderly, and efficient markets? … Market concentration can also lead to fragility, deter healthy competition, and limit innovation. I’ve asked staff to look closely at these issues to determine which policy approaches may be merited.”
- Short Selling, Market Transparency & the Archegos Capital Management situation: “At the core of that story was Archegos’ use of total return swaps based on underlying stocks, and significant exposure that the prime brokers had to the family office. … Among other things, I’ve asked staff to consider recommendations for the Commission about whether to include total return swaps and other security-based swaps under new disclosure requirements and if so how.”
- Social Media’s Impact on Pricing: “Developments in machine learning, data analytics, and natural language processing have allowed sophisticated investors to monitor various forms of public communication to see relationships between words and prices. … With that comes the risk that nefarious actors may try to send signals to manipulate the market. This is an area for which we will continue to deepen our understanding, resources, and capabilities.”
