Asia-Pacific asset managers face graveyard shift after move to T+1

Many asset managers in Asia Pacific are currently underprepared for the US reduction in trade settlement times from the current two-day cycle (T+2) to T+1 on May 27, industry experts say.

The move could not only leave firms invested in US equities short of funds to complete trades but could also mean staff in Hong Kong will have to complete trade settlements during a shortened daily window between 4am and 7am.

Managers based in the Asia-Pacific who trade in US-listed equities, American depositary receipts and bonds as well as mutual funds and exchange traded funds with exposure to US securities, currently have about 30 hours from when a trade is placed on one day and the whole next day for trades to be matched, cleared and settled, and then work out related FX implications.

Gerard Walsh, London-based global head of capital markets client solutions at Northern Trust, explained that the current set-up leaves “an enormous amount of slack in the system” for people to process the trade and all the trade-related FX.

This article was previously published by Ignites Asia, a title owned by the FT Group.

But he warned that after the switch to T+1 settlement in the US, a whole day will be lost.

Asset managers in Hong Kong will only have about a three-hour window between the close of the stock market in New York at 4pm Eastern Standard Time and the 7pm New York time cut-off for trade allocations.

This would be the equivalent of 4am and 7am in Hong Kong in the summer, Walsh explained.

Given the long lead time in implementing technological solutions or even hiring more operations staff, he adds that it “seems inevitable” that firms will need to consider more manual processes.

“If you’re a manager, that’s got to be on the table of things that you consider in the short term, to say: ‘I’m really sorry, Sally and Brian, but your working day is now 4am to midday,” he added.

Another potential major problem comes in the form of funding gaps for US trades as many asset managers fund their purchases in one market with proceeds from the sale of securities in another market.

Eugenie Shen, Hong Kong-based managing director and head of the asset management group at the Asia Securities Industry and Financial Markets Association, explained that the change to a T+1 settlement cycle in the US could result in a funding mismatch with other markets.

Fund managers that want to sell in a market that settles on T+2 or T+3, which includes nearly all major Asia Pacific markets aside from India and China, will be less likely to be able to use the proceeds of that sale to buy in a market like the US that settles on T+1, given the bigger gap in settlement cycles.

A bigger delay in being able to buy securities in a second market increases the risk of that market moving against them.

Shen said asset managers in Asia may need to get temporary financing or a deferred settlement arrangement from custodians or brokers to help bridge that funding gap or use futures contracts to hedge the settlement mismatch period.

“Of course, there is a cost to each of these solutions, which adds to the cost of investment in a particular market,” she added.

Dominic James, Hong Kong-based partner at Sidley Austin, noted that a “viable fallback solution” is to trade US securities on swaps, given that swaps are outside of the scope of the move to T+1.

James’s fund firm clients, which are mostly in the hedge fund space, are reviewing policies and procedures on how to meet the T+1 settlement requirements, but he noted that it was still “relatively early days”.

Other experts said that just three months before the US move to T+1 settlement, which will also occur in Canada and Mexico, the vast majority of firms were not ready for the changes.

Nearly 60 per cent of Asia-Pacific investors are not yet fully prepared or in project and testing modes with regards to T+1 settlement, according to a report published in January by financial research firm the Value Exchange.

Northern Trust’s Walsh said that about 75 per cent of asset managers and consultancies had admitted to him that they or their fund firm clients felt “half-prepared”.

Another potential challenge for fund firms is around US-listed ETFs. While the ETF itself will settle on T+1, some of the underlying components of the ETF may be in markets that settle at T+2 or T+3.

Firms will need to think about the way in which they fund a sell-to-buy process for an ETF as the different settlement cycles of its constituent stocks could create subscription and redemption problems, Northern Trust’s Walsh warned.

Any sort of block trading or batch trading process, such as the portfolio rebalancing that managers engage in on a regular basis, needs to be considered carefully given the complexity of clearing and settling a large order at T+1, he added.

Asset managers in the region need to think about finding providers that can help them complete trades and FX calculations in as automated a fashion as possible, Walsh argued.

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Samson Chan, chief operation officer of Hong Kong-based fund firm BEA Union Investment Management, said exposure to US securities was “unavoidable”.

The shift to T+1 settlement will impact the firm’s holdings in ADRs, ETFs and US corporate bonds, which make up roughly 20 per cent of its total investments.

But Chan has no plans to have his staff working in the early morning hours “before McDonald’s opens”.

He said he did not believe asking his transaction management and cash management staff to come in early was the “right approach” and was in “very deep discussions” with Bloomberg and other order management system vendors to discuss how to automate the trade process.

*Ignites Asia is a news service published by FT Specialist for professionals working in the asset management industry. Trials and subscriptions are available at ignitesasia.com.