T+1 settlement cycle: How it will benefit investors?

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A trade cycle refers to the entire process of purchasing securities of a firm. It starts from the placement of the order and ends at the final settlement. The trade cycle of stock markets varies from country to country. The Indian stock market followed the T+2 trade cycle up to the year 2021, which means that the time period between the placement of order to the settlement was of two days. However, the Securities Exchange Board of India (Sebi) has recently announced changes in the trade cycle to incorporate an option for its investors with respect to the length of the trade cycle.

From January 1, 2022, the market regulator has provided the option for investors to opt for a T+1 trade cycle at their discretion. The change has come as a consequence of a long-due demand of investors to shorten the trade cycle.

After opting for the T+1 settlement cycle for a scrip, the stock exchange will have to mandatorily continue with the same for a minimum period of six months. After that, in case the exchange intends to switch back to the T+2 settlement cycle, it will do so by giving one-month advance notice to the market. Any subsequent switch (from T+1 to T+2 or vice versa) will be subject to the minimum notice period. There will be no netting between T+1 and T+2 settlements.

Possible benefits of the move for investors

The new change in the timeline of events has several desirable perks for the investors, as predicted by the experts. The first and foremost benefit is to the retail investors, who now have faster access to cash and securities after the implementation of the trade. The investors also benefit from the fact that a shorter cycle leads to reducing the risks associated with price fluctuations and thus, makes their investment safer.

Further, experts have highlighted that the option of a shorter trade cycle could also assist in decreasing the margin requirement for clients and thus, encourage increased retail investment in equity markets of India.

The new mechanism will also facilitate a quicker and greater capital rotation. This will add to the GDP of the country and make a significant impact on the country’s economic status and well-being.

Another area of benefit is that the faster pace of the cycle will also impact the auction market. In the trade market, if the stocks are not delivered on the date of settlement by the seller, they are auctioned. As of now the cycle of auctions is on T+3 days which will also reduce to T+2 days.

The shortening of the trade cycle will boost the liquidity of the market and the trading turnover. Thus, there are ample benefits that can be derived from the newly shortened trade cycle. However, there are also certain challenges that accompany the otherwise welcome change, as discussed below.

Challenges of a shorter trade cycle

One significant criticism of the change announced by SEBI is the increased functional problems for Foreign portfolio investors or FPIs because of the difference in time zones. Experts feel that a transition of this kind would require very precise and coordinated changes to be a success and would also consume more time. This may beat the purpose of availing benefits by reducing the time consumed in the cycle. It is also highlighted that introducing and streamlining all the required measures to accommodate the shortening of the trade cycle may not be practically possible by the Sebi timeline of January 2022.

Changes in trade cycle in the past

The shortening of the trade cycle is not happening for the first time in India. Before this, the country used to follow the T+5 day’s trade cycle till 2002 when it was shortened to T+3 days. Then again in the year 2003, the cycle was further reduced to T+2 days. From 2003 till now, the country has been following the same pattern which is all set to be revised further to incorporate the optional T+1 day(s) trade cycle in 2022.

Summing Up

There is always scope for growth and change in all industries and markets, and the trading market is no different. Over the years, Sebi has worked with diligence to enhance the efficiency and working of the trade markets and has improved the quality of the entire market.

The shortening of the trade cycle has been demanded by the investors for a long and it is only after due deliberation that Sebi has announced it as an official change. While the theoretical reduction of time period seems mostly beneficial, its practicality can only be checked and commented upon after its full and practical implementation in 2022.

The new change in the trade cycle, like most changes, will bring in some benefits and some challenges to face. However, with time and modifications as required, the national and international investors are bound to overcome the challenges and enhance the benefits of the deal.

(The writer is senior vice president, Master Capital Services; views expressed are personal)