(Editor’s Note: After the publication of this article, DTCC published a document which outlines the testing requirements from its subsidiaries NSCC, DTC and Omgeo for impacted organizations and instruments. The paper entitled “T+2 Test Approach: DTCC’s High-Level Testing Framework” can be found here).
Testing, testing, testing.
That is the next critical focus for achieving a successful transition from a three-day to a two-day (T+2) settlement cycle, say panelists and attendees at the T+2 symposium held by the Securities Industry and Financial Markets Association (SIFMA) earlier this week.
September 5, 2017 is the date for lift-off, set by a T+2 industry steering committee (T+2 ISC). So fund managers, broker-dealers, banks, their technology vendors, and market infrastructures such as the Depository Trust & Clearing Corp. (DTCC) are now busy at work completing all the necessary prerequisite steps. They are relying heavily on a recently released playbook produced by the committee outlining what post-trade functions must be evaluated and by when they need to be altered before T+2 can take place.
The September 5 deadline falls on a Tuesday, the day after the US Labor Day national holiday. However, for many IT and operational works, the long weekend may not exactly be a holiday, as it will be the last chance to correct any lingering technological glitches before activating the coding changes on the myriad of applications involved. Representatives of technology firms, as well as their clients attending the SIFMA-hosted event, say they will be testing their software in production mode on Friday evening and through the weekend.
Testing represents one of the final phases of preparations for a two-day settlement cycle, as outlined in the step-by-step playbook and there is no turning back the clock. The ISC T+2 committee will likely decide in August 2017 whether to proceed with T+2 the following month or postpone the timing until November in a worst-case scenario, which financial firms want to avoid. So far, the committee has yet to define the decision-making criteria it will use to consider a delayed start, but under no circumstances will it recommend the US stay at T+3. Most of Europe switched its settlement cycle to T+2 in October 2014 and Australia will do so next month. Canada has decided to synchronize its timetable to match the US.
Operations managers at some fund management firms attending the SIFMA-event say they are most worried about smaller to mid-sized regional players who don’t have the benefit of learning from the T+2 experience in Europe. “They are starting from scratch, and they have a problem to solve in meeting the T+2 schedule given they have so many retail investors making payments by check,” says one operations manager at a US brokerage.
Depending on the size of the organization, the number of units affected, the number of clients and the number of interdependencies with external firms, the scope of testing can be mindboggling. Even one mistake can have a domino effect. “There are so many interfaces to customer and vendor systems to consider in the front, middle and back-office,” cautions Douglas Craig, senior product manager for order management and execution services provider Fidessa.
Timing is Everything
For now financial firms and their vendors, say panelists at the SIFMA-hosted event, are focused on making the necessary coding changes to internal systems which relate to altering the settlement day on some applications and the methodologies used for making calculations on others. They then have to test whether those changes were effective before testing with their clients to verify that their customers have been successful in making equivalent changes.
“Readiness means that all aspects of the software development lifecycle have been completed, the business requirements have been properly understood and written, the codes for impacted programs have been developed and gone through testing and quality assurance before released into production,” explains Susan Crozier, director of product management and regulatory affairs for the US securities processing business of technology giant FIS. Of course, buy and sell-side clients must sign off on all the application changes, undergo testing, and ensure that their customers are ready. Regulators, exchanges, DTCC, and even end-investors must also do their part, she says.
Industry-wide testing — ad-hoc and scripted — will start early next year across all impacted asset classes using specific securities and ID codes provided by DTCC. The ad-hoc testing gives financial firms enough leeway to adapt the scripted testing for their specific needs. “Industry-wide testing will allow financial firms to test the entire trade lifecycle from the time of pre-trade execution to settlement during weekdays,” explains John Abel, executive director of product management for DTCC. “We will create a separate DTCC test environment, which is similar to a production environment.”
Initially planned for six months, testing could be extended to nine. The DTCC will not require its member firms to participate in the industry-wide testing, but it will ask them to certify they are T+2 ready. The terms of certification and script for industrywide testing have yet to be released. Abel won’t disclose which firms will participate in the testing, but says he expects direct members of DTCC’s subsidiaries National Securities Clearing Corp (NSCC) and Depository Trust Company (DTC) as well as their service providers to do so. Those direct members are banks and broker-dealers, whose fund manager clients may opt to test with them separately.
Business operations outsourcing giant Broadridge Financial says that it will have finished all of its coding, internal testing and bilateral testing with customers by year-end so that it can focus on the industry-wide testing with DTCC next year. “Our coding changes for settlements, corporate actions and margin calculations will be relatively minor so we are spending most of our money on testing,” notes Michael Alexander, president of wealth and capital market solutions for Broadridge, which has set up a centralized program group office consisting of representatives from multiple business lines to coordinate the testing effort. “We’re all over it,” insists Charles Lichter, vice president of product management at Broadridge, noting that over 100 operations staffers have been dedicated to testing. The bilateral testing is likely to take place on weekend.
DTCC will also have completed by year-end changes to a multitude of platforms, including the NSCC’s universal trade capture and consolidated trade summary report applications. The trade capture application, which captures “locked-in” trades from the exchanges, must be altered to acknowledge “regular way” settlement of those trades in a T+2 instead of a T+3 timeframe. The consolidated trade summary report, which represents a file of trades netted by the NSCC’s continuous net settlement system, will be delivered to member firms on the night of trade date rather than the following night.
Although it would seem that bilateral testing should be the norm, some financial firms are placing far more emphasis on industrywide testing, leveraging their experience with migrating to a two-day settlement cycle in Europe. “We didn’t do any client testing or rigorous industrywide testing in preparing for T+2 in Europe,” says Frank Tota, global head of securities settlements at Goldman Sachs. “Instead, we focused on client outreach, which will also be the case in the US. We will let business units decide if they want to do industry-wide testing and testing with customers will be included in that process.”
Even if testing goes well, that doesn’t mean financial firms are in the clear, warns Alexander. There is still too much regulatory uncertainty. Gary Goldscholle, deputy director of the SEC’s Division of Trading and Markets, would only say that the commission will change the text of its Rule 15c-6 to allow for two-day settlement before September 2017. His refusal to be more specific, prompted some panelists to ask what they could do to speed up the timing. “We have achieved a historical unanimity. The likelihood is remote than anyone will file a lawsuit over T+2 so what should we do to help out?” asks Charles Senatore. executive vice president of regulatory change at Fidelity Investments.
Financial firms must plan for the SEC rule change and related changes from some self-regulatory agencies such as exchanges, the Financial Industry Regulatory Authority, and the Municipal Securities Rulemaking Board, which are also dependent on the SEC amending Rule 15c-6. Making operational and technological preparations that much more difficult for buy and sell-side organizations is their need to take into account their limited resources to handle a tsunami of other upcoming regulatory requirements, warn panelists at the SIFMA-hosted event.
Although sympathetic to the financial industry’s cry for clarity, the SEC appears to follow its own clock. “There are certain administrative limitations as to when we can accept information with which to conduct an economic analysis,” explains Goldscholle.”The best opportunity would be when the SEC asks for comment.” His stance apparently still didn’t satisfy Senatore who pressed on to respond, “We don’t want to conflict with administrative proceedings, but to the extent it it legally appropriate we would like to help the process get going.”
Broadridge’s Alexander is far more worried about unexpected rule changes or painpoints. “If that took place, all of the coding work would need to be either changed from scratch or additional changes would have to be made,” he says. “Given that the date for implementing T+2 has already been set for September, any more changes could jeopardize meeting that date or successfully achieving T+2.”