The term trade settlement associates with the stock exchange. It is a part of the trading journey. Beginning with choosing a broker, the process goes through various share market strategies, before finishing with settlement of those shares.
This process consists of transferring the shares and other securities among other buyers and sellers in the market. In this blog, we will discuss trade settlement meaning, types, importance and more.
What is Trade Settlement?
Trade settlement is a two-fold process, where a buyer and seller exchange cash or securities. In trading, there are limited stocks for all companies, and whatever we buy in the secondary market, it is already owned.
Hence, in trading an investor buys while the other one sells those same shares in the market. Once the trade is done on both ends the exchange ensures their settlement is done lawfully. This transfer of shares among investors is known as trade settlement.
What is the Importance of Trade Settlement?
Trade settlement is a critical step in the securities market that ensures trade completion among individuals. Here are the key importance of trade settlement:
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Certification of Legal Ownership
A legal transfer of shares to a buyer makes them a legal owner of those shares. It brings trust and satisfaction to the buyers. Moreover, it ensures a buyer receives their money after the transfer period.
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Smooth Processing
Usually, a share transfer takes place within the next working day after initiating the process. Trade settlement ensures the buyer receives their asset and the seller receives their money in due time.
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Reduces the Risk of Forgery
Here, risk refers to the chances that the other party might fail on their part of compliance. A proper settlement through the share market mitigates that risk and ensures both parties meet their obligations.
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Ensures Market Stability
Stock market is the backbone of the nation’s economy. A trade settlement through a certified platform improves market liquidity and minimises tax theft.
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Supports Regulatory Bodies
Stock exchange ensures strict settlement of trade governed by the regulatory framework. It protects the buyers and sellers, ensuring legal and regulatory compliance.
What are the Types of Trade Settlement?
There are two types of trade settlement in the stock market. Here is a brief description of them:
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Spot Settlement
This settlement is done immediately after the T+2 rolling settlement principle has been put into force. In this type of trade, settlement finalises on the T+2 day (after the second working day ends). It means that if you buy a share on Thursday, you will receive its deposit on Monday.
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Forward Settlement
This type of settlement is applied when the trade is settled on a future date with your acceptance. It can be on T+5 or two days more.
What is the Trade Settlement Process?
In India, securities trading takes place on the NSE (National Stock Exchange) and BSE (Bombay Stock Exchange). These markets have different settlement processes. We have described them in detail here:
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Trade Settlement in BSE
Here are the steps for trade settlement in BSE:
- It takes T+2 days to settle a trade in BSE.
- Fixed income instruments for an independent investor and close government securities settlement are also done in T+2 days.
- Whether buying or selling the securities, one has to pay the sum on the same day as the transaction.
- Once BSE completes the pay-out, the seller surrenders their shares within one working day.
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Trade Settlement in NSE
Here are the steps for how NSE settles its shares each day with the rolling settlement principle:
- T+1 – Rolling Settlement Trading. On this day, the confirmation of the share and delivery generation process is done.
- T+2 – Both parties settle their monetary obligations and carry out post-settlement requirements.
- T+3 – Auction settlement in process.
- T+4 – If there are any bad deliveries or errors, one reports for it on this day.
- T+6 – After verification of those reports, they make pay-in and pay-out of bad deliveries.
- T+8 – If a bad delivery arises again, one reports it on the 8th working day.
- T+9 – The closure of re-bad deliveries takes place on this day.
What is the Trade Settlement Period?
In the Indian share market, the Trade Settlement Period is T+1 (trade day plus one business day), meaning that securities and funds are exchanged within one business day after the trade date.
What are the Trade Settlement Challenges?
Here are a few hardships that a stock exchange faces in settling a trade:
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Non-compliance
Stock market runs with a risk of non- compliance by the clients in various ways such as payment or surrender failure.
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Liquidity Problems
Sometimes, there is difficulty in finding buyers when the market is in a bear trade or sellers when it is in a bull trade. At this time it is difficult to maintain settlements and liquidity.
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Infrastructure System Issues
There are different clearing and settlement systems in different markets. This makes the settlement process more difficult.
How Smooth Trade Settlement Can Take Place?
To ensure smooth trade settlement in the Indian stock market, consider the following steps:
- Margin Requirements: Ensure sufficient margins to avoid defaults.
- Demat Accounts: Use demat accounts for electronic security transfers.
- Settlement Cycles: Adhere to T+1 or T+2 settlement cycles used by NSE and BSE.
- Sufficient Funds: Maintain enough funds to avoid settlement violations.
- Regular Updates: Stay informed through updates from brokerage firms to track settlement status effectively.
These measures help minimise risks and ensure timely completion of transactions.
Summing Up
Trade settlement is the most crucial step in trading. The Indian stock market has undergone significant transformations in its trade settlement processes, evolving from a traditional T+2 cycle to a more efficient T+1 and even T+0 settlement for certain trades.
Moreover, Torus Digital mitigates several risks in a settlement process and lets people trade freely. You can use Torus Digital and start your trading journey today.
