Banks and asset managers must comply with a shortened settlement cycle for US securities starting at the end of May. Research by finews.com shows over half of the domestic players haven't even started to prepare.
The Swiss financial hub won't be able to avoid the prevailing trend worldwide towards ever-higher transaction speeds and frequencies for much longer. In August, for example, the Swiss National Bank (SNB) will force banks to complete payment and settlement between two parties in ten seconds, instead of overnight or within two working days.
Shortened Settlement
The SNB's so-called Instant Payments standard is very relevant for the public at large and retail banks. But beyond that, domestic private banks, and wealth and asset managers have another key milestone looming on the horizon. From 28 May onwards, Swiss financial institutions will have to keep to T+1, a shortened settlement cycle, when trading US, Canadian and Mexican equities.
The term is short for trading date plus one working date and it is a US-driven impetus to shrink the current T+2 settlement requirements currently in force in most markets in the world by half.
(Image: JP Morgan)
No Avoiding It
The shift is an eminently important one for Swiss finance given that it traditionally has had large numbers of international clients in its wealth management businesses.
Beyond that, the proportion of US shares in the MSCI World is currently at 70 percent, with 40 percent of securities worldwide listed on the index. That means that Switzerland, as a key offshore hub, won't be able to avoid complying with it.
Significant Change
Observers, however, are becoming alarmed. It is only dawning on most in the financial sector that a very significant change looms ahead. «Many Swiss players haven't yet noticed that T+1 is going to be an issue for them», according to Andrea Sturm (image above) to finews.com.
As the head of JP Morgan's securities services business for Switzerland and neighboring German-speaking countries, she is very familiar with the goings-on given she and her team are currently helping local banks and intermediate get up to speed before the end of the month.
The Challenge for Counterparties
But things are not so simple given that it is a complex process. The sale of a security is not a simple transaction between buyer and seller, as guidance by Swiss exchange SIX shows. A trade involves several parties including intermediaries. Over two days before the trade is completed, everyone makes sure that everyone meets their obligations.
The central counterparty is key to clearing any transaction. It acts as an intermediary and guarantees the smooth processing of the trade to both the buyer and the seller. That means it also assumes the counterparty risk. If one of the two parties can't meet their obligations within the specified two days, it acts as an insurance policy.
Higher Error Quotas
That is significant given that things can go wrong. The parties are often located in different time zones. There can be communications and liquidity issues. Currently, the error quota related to T+2 trades is about 5 percent and that is something the intermediaries can stomach.
Players who are not prepared for T+1 could see that quota rise to as much as 20 percent, indicates Christian Cebreros (image below) of the Swiss asset management consultancy The Good Guys Company, which has specialized in the matter.
(Image: TGGC)
Not Competitive
Cebreros fears that the domestic financial hub could see an erosion of its competitiveness. Intermediaries, custody banks, and US regulators wouldn't take substantial increases in error quotas for very long.
Misstrades have to remain an absolute rarity as prevailing regulation wasn't written with to intention to make custodians and counterparties use their balance sheets as an intermediate financial backstop.
Being Locked Out
The consultants believe that intermediaries will start to charge higher interest rates on constrained capital as a first step. If Swiss players are chronically late with fulfilling their obligations, they run the danger of not getting the service required, or getting it for a significantly higher interest rate, according to Cebreros. At the end of the day, that means that they could end up being locked out of the largest securities market in the world.
That is something most of them do not want to risk and we could see a frenetic increase in activity very soon. According to an official survey that Cebreros conducted with clients, most are very behind with making arrangements. «Half of them have said they haven't started preparing for T+1 », the consultant says.
No Easy Solution
There is a great deal of work ahead. Private banks and smaller asset managers don't have night desks for trading and settlement. Given the time zone difference with the US, they would lose precious hours in a T+1 world. Besides that, most still have manual processes, which take up time.
Cebreros believes there is no easy solution to the current conundrum. Every institution has to be looked at individually. It seems unavoidable that the sector will invest a significant amount of money to make the change. Outsourcing the process to specialists and mobilizing a night service will both prove expensive.
Canceled Vacation
But that is still likely to be much cheaper than paying late dues and interest en masse while irritating clients. JP Morgan, which also serves as a settlement intermediary, is hoping that banks will start to react more quickly as the date approaches. «We don't want to have our Swiss clients left behind», Sturm says.
But she is also preparing for the eventuality that many domestic players won't be ready by May 28. «I have provisionally asked my team to cancel any vacations in June», the well-versed banker indicates.
