Evolution of Settlement Cycles in India’s Equity Market

Settlement Cycles

In the context of the equity market, “settlement” refers to the process of transferring securities and funds between the buyer and the seller to complete a trade. This process ensures that the buyer receives the purchased securities, and the seller receives the corresponding payment. Settlement cycles define the timeframe within which these transfers must be completed. The settlement of equity market transactions in India has seen significant changes over the years. From T+5 settlement cycles to the latest T+0 system, each transition aims to enhance market efficiency, liquidity, and investor satisfaction.

Settlement Process

National Securities Clearing Corporation Ltd (NSCCL) and Indian Clearing Corporation Ltd (ICCL) are settlement bodies regulated by SEBI. These are clearing corporations to settle the trade to eliminate counterparty settlement risk. Let’s break down a settlement process with an example:

1. Trade execution/ Transaction Day: In a trade execution ‘T’ is marked transaction day. Suppose an investor, place an GTT order to buy shares of SBI on a Monday i.e. 01/07/2024, if the trade is executed on Tuesday. Then Tuesday is known as ‘T’ day for settlement cycle.
2. Clearing Process: After the trade execution, a clearing corporation steps in to ensure that both parties fulfill their obligations. It verifies the details of the trade, ensures that buyer has the funds to pay for the shares, and that the seller has the shares to deliver.
3. Settlement Cycle: In settlement cycle, “T” stands for the transaction date. If the trade follows a T+2 settlement cycle, the transaction must be settled two business days after the trade date. If an investor bought shares on a Monday, Buyer will receive the shares in his demat account by Wednesday, and the seller will receive the payment for these shares on Wednesday. (Broker may provide some margin to trading account of seller on transaction day against expected receipts in two days.) This two-day gap allowed brokers and clearing corporations to manage their risks and processes efficiently

Under a T+1 settlement cycle, the transaction must be settled one business day after the trade date. Hence, if you buy the shares on Monday, the settlement will occur by Tuesday.

In the case of a T+0 settlement, the transaction is settled on the same day as the trade. Thus, if you buy the shares on Monday, you will receive the shares, and the seller will get the payment by the end of the same day.

Evolution of Settlement Cycles in India’s Equity Market

The settlement cycle in India’s stock market has undergone significant changes over the years to enhance efficiency, reduce risks, and align with global best practices. Here’s a detailed history of these changes:

• Pre-2001: Account period settlement

Before the introduction of rolling settlements, India followed a different system where trades were settled on a fixed day of the week. This was known as the account period settlement, where trades conducted over a week were settled together at the end of the week. This resulted in a long settlement cycle, typically T+5 or even longer.

• 2001: Introduction of Rolling Settlement (T+5)

Rolling settlement means that trades are settled on a continuous basis rather than on a fixed day of the week, reducing the settlement cycle’s length and risk. In July 2001, SEBI introduced the concept of rolling settlements, where trades would be settled on a T+5 basis. This meant that transactions were settled five business days after the trade date. This move aimed to bring transparency and efficiency to the stock market.

• 2002: Shift to T+3 Settlement

To further improve the settlement process, SEBI mandated a T+3 settlement cycle in 2002. This reduced the time between trade execution and settlement from five days to three days, thus decreasing the risk of counterparty default and enhancing market liquidity.

• 2003: Move to T+2 Settlement

In April 2003, SEBI implemented another significant change by moving to a T+2 settlement cycle. Under this system, trades were settled two business days after the trade date. This alignment with international standards aimed to further reduce market risks and improve the efficiency of the trading process.

• .Jan-2022: Transition to T+1 Settlement

In January 2022, SEBI began phasing in the T+1 settlement cycle to further enhance market efficiency and align with global standards. The transition was completed by January 2023, reducing the settlement period from two days to one.

• March-2024: Shifting to T+0 Settlement

In a significant move to expedite the settlement process, SEBI introduced a beta version of the T+0 settlement system on March 28, 2024. This system initially applies to a select group of 25 stocks, including major companies like State Bank of India, Hindalco, and Vedanta. This step eliminates the counterparty risk associated with the settlement cycle and unlocks benefits for both brokers and investors, with trading and investment opportunities.

List of 25 Stocks under T+0 Settlement

As of March 28, 2024, the T+0 settlement cycle was introduced on a beta basis for a select group of 25 stocks in India. These stocks are:

1. State Bank of India (SBI)
2. MRF
3. Hindalco Industries
4. Vedanta
5. Ambuja Cements
6. Ashok Leyland
7. Bajaj Auto
8. Bank of Baroda
9. Bharat Petroleum Corporation Ltd (BPCL)
10. Birlasoft
11. Cipla
12. Coforge
13. Divi’s Laboratories
14. Indian Hotels Company Ltd
15. JSW Steel
16. LIC Housing Finance
17. LTIMindtree
18. Samvardhana Motherson International
19. Nestle India
20. NMDC
21. Oil and Natural Gas Corporation (ONGC)
22. Petronet LNG
23. Tata Communications
24. Trent
25. Union Bank of India

The T+0 settlement cycle has been introduced as a pilot project, and its broader implementation will depend on the outcomes and feedback from this initial phase. SEBI, along with stock exchanges, will review the performance and efficiency of the T+0 system during the pilot phase. Based on this review, SEBI will decide on the timeline and feasibility of extending T+0 settlement to additional stocks and potentially the entire market.

The exact timeline for the application of the T+0 settlement system to all listed stocks in India has not been firmly established. The expansion will likely proceed in stages, considering factors such as market infrastructure readiness, feedback from market participants, and technological advancements.

Benefits of T+0 Settlement

1. Immediate Liquidity: Investors and traders receive their funds or securities on the same day of the transaction, allowing for immediate reinvestment or fund utilization.
2. Reduced Counterparty Risk: By settling transactions on the same day, the risk of counterparty default is significantly minimized, enhancing market stability.
3. Operational Efficiency: The T+0 system leverages advanced technology and digital infrastructure to streamline the settlement process, reducing operational bottlenecks and errors.
4. Enhanced Investor Confidence: Faster settlement cycles boost investor confidence by providing quicker access to funds and securities, encouraging more active participation in the market.
5. Competitive Advantage: Brokers and market participants can gain a competitive edge by offering faster settlements, attracting more clients who value quick transaction turnaround times.

Settlement Systems in Major Global Stock Markets

• United States             :           T+1 (effective May 28, 2024)
• European Union         :           Currently T+2, transitioning to T+1 (timeline under review)
• United Kingdom        :           Currently T+2, reviewing transition to T+1
• Canada                      :           T+1 (effective May 27, 2024)
• Australia                   :           Currently T+2, reviewing transition to T+1
• China                         :           T+1

Conclusion

The evolution of settlement cycles in India, from T+5 to T+1, and now the pilot T+0 system, reflects SEBI’s commitment to enhancing the efficiency and robustness of the securities market. Each transition phase, marked by careful planning and phased implementation, aims to reduce risks, improve liquidity, and align with global best practices. The introduction of the T+0 system marks a significant milestone in this journey, promising substantial benefits for investors, traders, and the overall market ecosystem. By continuing to innovate and leverage technological advancements, India’s securities markets are poised to offer faster, safer, and more efficient investing experiences, contributing to the growth and development of the economy.