Overseas investment can flee India due to T+1 settlement cycle

An Overview

According to a group of experts, India should postpone a plan to decrease stock transaction settlement times since it increases the danger of local brokerages defaulting and reduces the country’s appeal to international investors.

The Securities and Exchange Board of India, India’s capital market regulator, has proposed allowing stock exchanges to offer next-day settlement in some stocks beginning early next year, rather than the two-day or T+2 settlement employed in most markets, including the United States.

“I don’t believe it’s viable to adapt any operational systems and processes to support T+1 in three months.” in a video interview this week, Eugenie Shen, MD and Head of the Asset Management Group at the Asia Securities Industry and Financial Markets Association, said. He also added, “We believe there should be a formal consultation so that all stakeholders have an opportunity to discuss their issues and come up with a solution.”

Overseas Implications

Once implemented, the idea may encourage foreign investors, who account for approximately a fifth of India’s market capitalisation, to enhance their custodial arrangements as well as pay more on foreign exchange and other expenditures. This could lead to some of them withdrawing funds from the South Asian nation, where the benchmark S&P BSE Sensex has returned an annualised 14.7 percent in US currency terms over the last five years, outperforming the larger MSCI Asia Pacific Index by more than three percentage points.

“You have to be honest about the operational obstacles and risks,” said Shen, who is based in Hong Kong. ASIFMA, which includes BlackRock Inc. as a member, has already made many representations to SEBI but has yet to receive a response.

SEBI Chairman Ajay Tyagi stated last week that a shorter settlement period will be brought in overtime, with the exchanges deciding on the timing. He noted that the decision was spurred by advancements in technology, payment systems, and financial arrangements.

Further Complications

Shen claims that investors residing in the United States and Europe, who account for roughly 60% of India’s $655 billion in foreign investment, must manage a complex network of market participants scattered over multiple time zones. Foreigners will suffer greater currency conversion costs as a result of the new laws, as India only allows rupee investments.

For local brokerages, a shorter transaction cycle increases the likelihood of settlement failures. Due to time zone variations, trade-matching problems might occur, resulting in the settlement obligation being borne by domestic broking houses, increasing the risk of default.

“Such a change may make India’s capital markets less attractive to global investors if they must pre-fund their transactions,” she said. “India also lacks other infrastructural assistance, such as custodians giving temporary financing or a functional securities borrowing and lending framework, which might help lower the likelihood of short-cycle settlement breakdowns.”

The group wants to meet with the Reserve Bank of India to discuss currency-related issues. “If we want to safely transition to a T+1 settlement cycle, we need all stakeholders around the table to talk about the concerns and collectively come up with solutions,” Shen said.

FAQs

What are the benefits and drawbacks of the T+1 settlement cycle for ordinary investors?

It will allow investors to receive their funds sooner after trade execution and settlement. Many operational and market risks can also be reduced. Whereas moving to a T+1 settlement cycle is a difficult task that will necessitate extensive planning, implementation, and testing, as well as a fundamental shift in market structure.

Will the new settlement cycle make a difference in the market’s volatility?

The market’s volatility will undoubtedly arise, and investors must keep a watchful check on their new bets. T+2 trade settlement is currently used by the majority of stock exchanges in industrialised countries such as the United States, the United Kingdom, and Japan. This structure will be complicated, but decreasing the settlement cycle will result in higher operational efficiencies and lower capital costs.