In many ways Wall Street has still not fully recovered from the 1987 stock market crash.
Those who lived through it all agreed on one thing: Time was the major enemy.
Trades were taking so long to be executed and reported back that investors had no knowledge of their exact losses. There was too much time worked into the settlement cycle; that left ample exposure to errors, misunderstandings, and failed trades.
The long lag between the trade and settlement dates all too often gave investors the opportunity to renege on transactions. This, in turn, contributed to the withdrawal of liquidity, another major factor of the crash.
The equation "time equals risk" became the undeniable truth.
It was clear that the U.S. financial markets required a more efficient and reliable method of trade settlement. In response, the Group of 30 Working Committee on Clearance and Settlement recommended in 1989 that broker/dealer trades be settled within three days of the trade date (T+3), in lieu of the prevailing five-day settlement period (T+5).
In October 1993, resulting pressure on Securities Exchange Commission regulators to institute reforms after the crash prompted them to mandate the new T+3 settlement date. The new SEC rule, 15c6-1, will take effect on June 5; regulators hope it will make trade settlement more efficient and less risky.
Obviously, with this change, speed becomes vital. Companies will have to rely more on computerized confirmation, settlement, and delivery, and will eventually have to gear toward completely paperless trading.
This is already having a significant impact on front-, middle- and back- office processes inside banks, brokers, and investment managers.
After much stalling, Wall Street is finally facing the reality of T+3 head on. It is recognizing that "manual" trade settlement - mainly by phone, mail, and fax - while barely efficient enough for T+5, will never suffice in the new T+3 environment.
Fortunately for Wall Street, service providers have long recognized that inefficiencies exist in the trade settlement process, and have moved to develop value-added solutions.
Thomson Financial Services has been providing various software products and solutions to facilitate the settlement process since the early 1980s, when we introduced Alert, the electronic data base for the communication of delivery instructions between brokers and institutions.
Shortly after Alert came Oasys, which expedites trade acceptance and account allocation electronically between broker-dealers and investment managers. Oasys Global, Thomson's cross-border electronic trade confirmation (ETC) system, is used by institutions and broker-dealers worldwide to help meet shortened settlement cycles.
Other firms, including Shaw Data and Merrin Financial Services, have joined in the race to develop more efficient electronic trade systems, as have in-house systems developers.
It soon became clear that a standard form of communication would be necessary in the automation process between brokers, investment managers, and their custodians.
The Industry Standardization for Institutional Trade Communication (ISITC) was founded in 1991 to establish standard protocols for post-trade communications between money managers and their bank custodians. From the start, ISITC not only encouraged vendor participation, but firmly believed that it would be an integral part in achieving widespread usage of its standards.
We have worked closely with ISITC and, since its formation in 1993, with the Securities Standards Advisory Board. The SSAB's task is to identify and prioritize all message needs - pretrade and post-trade - and then to assemble working parties of industry experts to develop the required message standards.
However, despite these advances, the U.S. still lacks a viable electronic confirmation system similar to Oasys Global that is approved for confirmation of domestic transactions. The reason: the privileged role of Depository Trust Co.
More of an securities industry utility rather than a service provider in the traditional sense, Depository Trust plays a pivotal role in each trade settlement in the U.S.
For U.S. brokers and institutions the company is unavoidable, since no trade can be legally settled without its confirmation and affirmation.
With the SEC's blessing, Depository Trust is striving to meet the challenges of T+3 by replacing its end-of-the-day batch processing with an "Interactive Institutional Delivery" system - an on-line, real-time system for transmitting trade confirmations and affirmations between market participants.
Just recently, however, the company filed for an SEC rule change that would allow Oasys subscribers to electronically confirm and affirm trades through a link with Depository Trust's Interactive ID system.
The change would be a win for the U.S. securities industry, particularly with the coming of a shorter settlement cycle.
However, without an amendment to rule 387 of the New York Stock Exchange and similar rules on other U.S. exchanges, market-tested systems like Oasys will still be unable to confirm trades directly to Depository Trust outside of its Interactive ID system.
This would effectively keep in place Depository Trust's virtual monopoly over trade confirmations in the United States.
As the date for T+3 approaches, the U.S. industry must arrive at an electronic trade confirmation solution. Let me suggest some guiding principles.
*There should be free and fair competition among service providers that meet strict regulatory standards. This increases choice, encourages diversity and innovation, and reduces cost to the ultimate end user.
*All vendor solutions should utilize an open-system design based on defined industry standards, such as ISITC. This way, one vendor's products will be fully compatible with those of other vendors. Organizations will then be able to utilize those systems in which they have already made sizable investments, and integrate them with new systems as these are introduced.
*Finally, there should be multiple access for clearance and settlement, so as to permit commercially provided solutions that meet regulatory standards to provide confirmations to central securities depositories, such as Depository Trust.
Only an electronic trade confirmation solution based on these principles can provide the adaptability and competitiveness required to meet the many challenges ahead in the rapidly growing and changing international securities market.
Fortunately, the industry is at last waking up to this reality, and the SEC has announced its commitment to resolving the regulatory issues.
The hundreds of money managers, broker-dealers, and banks that have had the foresight to begin preparing for shorter settlement cycles will be relieved to see the SEC make good on this commitment.
Mr. Edelstein is president and chief executive officer of Thomson Electronic Settlements Group, a division of the Thomson Corp., which also owns the American Banker.
