On Wednesday, the Securities and Exchange Commission reduced the amount of time it takes a securities trade to settle from three days to two days. Since 1993, the SEC has given a stock or bond buyer a three-day window before he or she must make payment on those shares. Many traders and analysts have argued that the three-day settlement window is archaic, dating back to a time when trades were required to place payments via physical delivery.
In its press release Wednesday, the SEC said it expects the new rule to “enhance efficiency, reduce risk and ensure a coordinated and expeditious transition by market participants.”
The Logic Behind A Shortened Period
Back in 2015, the SEC published a list of the many benefits that a shortened settlement cycle would provide.
“They include mitigating counterparty and other risks, lowering margin requirements for clearing agency members, reducing pro-cyclical margin and liquidity demands (especially during periods of market volatility), and bringing U.S. settlement procedures more in line with global standards,” the SEC wrote.
For traders, cash account holders will likely see the biggest impact from a shorter settlement period. Cash account traders can easily violate trading rules if they don’t properly track account balances and settlement dates.
For example, cash traders can incur what’s known as a “good faith violation” if they use proceeds from a stock sale that hasn’t settled yet to buy shares of another stock. By the letter of the law, cash traders must wait three days before they can reinvest proceeds from a sale. Traders who incur three good faith violations in a year may be subject to penalties such as a 90-day account restriction.
In theory, shorter settlement cycles will reduce…
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