Advisors and fund managers are ready for T+1

Compliance, custodial and back-office professionals have been working hard to prepare their systems for the move to next-day trade settlement, known as T+1.

As a result, portfolio managers and financial advisors believe next week’s transition will be relatively seamless.

“Other than cash showing up a day sooner, it doesn’t change much,” said Liz Simmie, co-founder of Honeytree Investment Management, a Toronto-based asset management boutique. “I don’t think most folks will notice [unless they’re] actively involved in trading.”

“We’re probably still going to operate in the same way,” said Robert Cavallo, senior portfolio manager, North American equities, with RBC Global Asset Management in Toronto. “We generally don’t run into redemption issues and needing to trade quickly. We keep a good balance of cash on hand consistently to cover any short-term issues.”

Trades made in Canada on and after May 27 will settle in one business day instead of two, with the same to occur for trades made in the U.S. on and after May 28. (May 27 is a statutory holiday in the U.S. and markets will be closed.)

May 28 in Canada and May 29 in the U.S. will be a double settlement date, when trades from both May 24 and the previous day will settle.

The shorter settlement period “is a good enhancement to client service,” said Madeline Woodhead, wealth advisor with National Bank Financial Wealth Management in St. Catharines, Ont. “It lets us clean up an interaction more quickly.”

Cavallo said he won’t trade any differently next week, knowing his funds have adequate liquidity (2% to 3% cash, depending on the fund). “The U.S. holiday tends to be a slow day broadly for the market,” he added, “so it’s probably not a disruptive day [for the transition] — knock on wood.”

Woodhead agreed that U.S. Memorial Day has historically been quiet. She, too, doesn’t plan to trade differently next week. However, she would double-check the settlement transition status if, for example, she received approval on May 27 to wind up an estate and had to liquidate it that day. But generally, most of her clients are in model portfolios, and “we’re able to pace what we’re doing” on the trading front, she said.

Josh Sheluk, portfolio manager and chief investment officer with Verecan Capital Management Inc. in Burlington, Ont., said he hasn’t received any client questions about T+1. He primarily serves retirees, near-retirees and business owners.

“It’s not that relevant for most of our clients, because not too many of them are relying on their investment portfolio to fund money for an emergency, where T+1 versus T+2 will really be a consideration,” he said.

Sheluk said that, regardless of settlement terms, he structures client portfolios to minimize the need for urgent securities redemptions. “We build up an emergency fund for clients, and a lot of times that will be a small sum in their bank account where settlement periods are irrelevant,” he said.

Sam Rook, portfolio manager and managing partner with Quintessence Wealth in Toronto, said financial advisors should enact a strong trading process, regardless of settlement cycle, to minimize risk.

That process starts with setting client expectations about the lead time required for securities withdrawals.

“You don’t want a client who has a real estate deal that settles today to phone you and say ‘I need $200,000 now,'” Rook said. “You want your client to be prepared to say, ‘I’ve got a deal closing and I need to let Sam know two weeks to a month in advance.'”

Rook also ensures that when he’s selling a security to pay for another one, that settlement is complete before he makes the second trade. “We always wait for the money to arrive first, rather than do it and hope for the money, because sometimes it gets lost,” he said.

“An investment portfolio decision made under duress leads to errors.”

Canada and the U.S. moved to a T+2 settlement standard in 2017, and neither Woodhead nor Cavallo recall any issues occurring then.

“A lot of [the transition] is behind the scenes. We work closely with our trade support, and communication happens very easily,” Cavallo said. “If there are any issues, I don’t think it will be a challenge to get them resolved in a timely fashion.”

Woodhead said the upshot of the move to T+2 was being pleasantly surprised when proceeds of a sale arrived sooner than expected. She expects a similarly smooth transition this time around.

Regulators moved to shorten the settlement cycle following the market disruptions that occurred after the onset of the pandemic in March 2020 — and again amid the 2021 meme stock surge in trading activity.

“Any time you shorten a settlement cycle, you are reducing risk,” said Keith Evans, executive director of the Canadian Capital Markets Association, during a webinar hosted last week by Credo Consulting Inc. The CCMA is coordinating the move to T+1.

Evans said another benefit to the shortened settlement period is that sell-side dealers can reduce their posted collateral by about 40%.

As of April 30, the CCMA estimates more than 76.5% of mutual funds that settle on T+2 terms will move to T+1. (For example, all of RBC GAM’s mutual funds will move to T+1.)

Also, all non-fund securities currently settling on T+2, such as ETFs, stocks and bonds, will move to T+1. T-bills, money-market funds and options already settle on T+1 or sooner. The CCMA’s website lists all assets that will move to T+1, and also includes an FAQ for advisors.

Simmie said client apathy on this topic could indicate that financial advisors are doing their jobs. “The average retail client pays advisors to figure this stuff out,” she said. “I always use a dentist analogy — I don’t care how many days it takes to get a thing sent to a dental lab; that’s the dentist’s problem.”

What could go wrong?

The average trade failure rate could increase to 4.1% from 2.9% after the move to T+1, Evans said. However, failures are likelier to occur in smaller firms and with brokers, rather than with custodians or investors.

Geographically, investors in Europe and Asia reported being less prepared for the move to T+1 than in North America, Evans said. (Mexico and Argentina also will be moving to T+1 on May 27.)

Evans added that up to 51% of trading exceptions are expected to be handled manually after the move to T+1, with the greatest use of manual remediation taking place for securities lending and account opening.

Sheluk isn’t overly concerned.

“You could tell us tomorrow that settlement is back to T+3, and we would manage,” he said. If something goes wrong with T+1, he said, “the only thing we really need to know when we walk into the office that day is, ‘What’s the settlement period?'”

In advance of the transition, the CCMA recommends compliance and operations teams review their liquidity needs and set up a business continuity plan. After the transition, the organization recommends reviewing client accounts that have both T+1 and T+2 holdings and looking for unexpected negative effects.

The CCMA also advises that a manager running a T+2 mutual fund could choose to change to T+1 after May 27 — and vice versa. “While it’s more likely that T+2 funds will later move to T+1 than from T+1 back to T+2, in either case fund managers should make the change known broadly and publicly to dealers, advisors, and online platforms,” the organization said in its FAQ.

A report from Moody’s said asset managers in T+2 markets that wish to access T+1 markets will “need to fund buy orders one day before their clients are required to post funds with the manager,” creating added liquidity risks for them.

Melissa Shin

Melissa is the editorial director of Advisor.ca and leads Newcom Media Inc.’s group of financial publications. She has been with the team since 2011 and been recognized by PMAC and CFA Society Toronto for her reporting. Reach her at mshin@newcom.ca. You may also call or text 416-847-8038 to provide a confidential tip.