Trade Settlement
Settlement is the process of transferring securities from seller to buyer and payment from buyer to seller. Understanding settlement cycles is critical for the SIE exam.
What is Settlement?
Settlement is the final step in a securities transaction where:
- The buyer receives the securities
- The seller receives payment
- Ownership officially transfers
Key Distinction: Trade date (T) is when the transaction is agreed upon. Settlement date is when the exchange of securities and money is completed.
Regular Way Settlement: T+1
As of May 28, 2024, the standard settlement cycle for most securities is T+1 (one business day after trade date).
Securities That Settle T+1
| Security Type | Settlement |
|---|---|
| Corporate stocks | T+1 |
| Corporate bonds | T+1 |
| Municipal bonds | T+1 |
| ETFs | T+1 |
| Mutual funds (most) | T+1 |
| Exchange-traded options | T+1 |
| Limited partnerships (exchange-traded) | T+1 |
Historical Context
| Year | Settlement Cycle |
|---|---|
| Before 1993 | T+5 |
| 1993-2017 | T+3 |
| 2017-2024 | T+2 |
| May 2024+ | T+1 |
Why T+1? The SEC shortened settlement to reduce credit and market risk, lower costs, and provide quicker access to funds.
Other Settlement Cycles
Not all securities settle T+1:
| Security | Settlement |
|---|---|
| U.S. Treasury securities | T+1 |
| Government agency securities | T+1 |
| Options | T+1 |
| Cash trades | Same day (T+0) |
| When-issued securities | As specified |
Ex-Dividend Date Changes
With T+1 settlement, the ex-dividend date is now the same as the record date.
Key Dates for Dividends
| Date | Definition |
|---|---|
| Declaration Date | Company announces dividend |
| Record Date | Must be shareholder of record to receive dividend |
| Ex-Dividend Date | First day stock trades without dividend (= record date under T+1) |
| Payment Date | Dividend is paid |
Ex-Dividend Example (T+1)
- Record date: Wednesday
- Ex-dividend date: Wednesday (same day)
- To receive dividend: Must buy by Tuesday (day before)
Exam Alert: Under T+1, the ex-dividend date equals the record date. Buy the day BEFORE ex-date to receive the dividend.
Regulation T: Customer Payment
Regulation T governs extensions of credit by broker-dealers for securities purchases.
Payment Requirements
| Account Type | Customer Must Pay |
|---|---|
| Cash Account | 100% of purchase price |
| Margin Account | 50% of purchase price (can borrow the rest) |
Payment Deadline
Under Reg T, customers must pay within 2 business days after settlement (S+2).
| Timeline | Event |
|---|---|
| T | Trade date |
| T+1 | Settlement date |
| T+3 | Payment due (S+2) |
Note: Payment is due by T+3 (settlement + 2 days), not T+1.
The Settlement Process
Step-by-Step
- Trade Execution (T) - Buyer and seller agree to terms
- Trade Comparison - Details confirmed between parties
- Clearing - DTCC/NSCC nets and clears trades
- Settlement (T+1) - Securities and funds exchanged
Key Players
| Entity | Role |
|---|---|
| DTCC | Depository Trust & Clearing Corporation - parent organization |
| NSCC | National Securities Clearing Corporation - clears and guarantees trades |
| DTC | Depository Trust Company - holds securities in book-entry form |
Good Delivery
For settlement to occur, the selling broker must make good delivery of securities:
Requirements for Good Delivery
- Correct security
- Proper form (registered or street name)
- Correct quantity (round lots or specific certificates)
- All necessary endorsements
- Legal transfer documents (if required)
Round Lot vs. Odd Lot
| Term | Definition |
|---|---|
| Round lot | Standard trading unit (typically 100 shares) |
| Odd lot | Less than a round lot (1-99 shares) |
Settlement Failures
If settlement doesn't occur on time:
| Situation | Result |
|---|---|
| Buyer doesn't pay | Buy-in: Broker purchases securities and charges customer |
| Seller doesn't deliver | Sell-out: Broker sells securities and credits/debits difference |
Cash Settlement (Same Day)
Some trades settle the same day:
- Buyer and seller agree to cash settlement
- Securities and funds exchange on trade date
- Higher risk due to compressed timeline
Key Takeaways
- Regular way settlement is T+1 (one business day)
- Ex-dividend date now equals record date
- Customer payment due by T+3 (S+2)
- DTCC subsidiaries handle clearing and settlement
- Good delivery requirements must be met for settlement
Under current SEC rules, what is the regular way settlement for corporate stocks?
Under T+1 settlement, when is the ex-dividend date relative to the record date?
According to Regulation T, by when must a customer in a cash account pay for a securities purchase?
3.3 Quoting
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