Since the emergence of “Modern Portfolio Theory” and the “Capital Asset Pricing Model” in the late 1960s, institutional investors have taken a quantitatively driven approach to portfolio construction, looking to create portfolio diversification and obtain better risk-adjusted returns by balancing their asset-class exposures. This journey has seen several important advancements in thinking about how to optimally achieve desired results.
Funds that want to take the total portfolio approach first need to get the total portfolio view. To do that they not only need data – and lots of it – but a rock-solid understanding of exactly how they’re going to use it.
Settle down: DTCC clears blockchain for T+0 take-off
Global securities trading back-office behemoth Depository Trust & Clearing Corporation (DTCC) has scheduled a live launch of a new blockchain-based settlement system for early next year.
The DTCC blockchain – or distributed ledger technology (DLT) – service will enable a “netted T+0 settlement cycle” for US equities, the largest and most-liquid share market in the world, among other benefits down the track.
However, the DLT settlement platform, developed by the firm’s ‘Project Ion’ team over the last six months, will operate in tandem with core DTC system, according to a release.
“Once launched, the transactions will be processed through the Project Ion platform and then passed to DTC’s existing systems for settlement processing,” the statement says. “The Project Ion platform is anticipated to be launched in the first quarter of 2022, and will serve as a parallel book and infrastructure for limited bilateral transactions on DLT, with DTC’s existing systems continuing to remain the authoritative source of transactions.”
DTCC has been consulting with industry on a potential move from the current two-day settlement cycle for US equities to a T+1 model – already technically possible with current systems – for a couple of years.
But the blockchain version could offer further flexibility in the settlement process, the DTCC release says, as well as other potential uses.
Murray Pozmanter, DTCC head of clearing agency services and global business operations, said in the statement: “Cryptocurrency, digitized assets, DLT and other innovations increasingly are integral parts of the evolving financial services industry, and we are excited about the future opportunity in each of these areas.
“Project Ion has demonstrated that settlement in a T+1 or T+0 environment are effective use cases for DLT, and we look forward to working with our clients and the industry to launch the new platform.”
While the industry has been pushing for ever-quicker clearing times, shifting to T+1 or faster for all US share settlements is difficult to implement amid deeply intertwined processes, Pozmanter says in a new DTCC white paper released last week.
“Accelerating the U.S. cash market settlement cycle to shorter than T+2 will have both upstream and downstream impacts on other parts of the market structure, such as derivatives, securities lending, financing, foreign clients and foreign exchange, and collateral management,” he says.
The DTCC paper titled ‘Building the settlement system of the future’, lays out the case for a ‘netted’ real-time service via trusted intermediaries rather than same-day settling of trades between end parties.
“During the events of early 2021, the topic of same day settlement was very much in focus, with many calls for instantaneous, real-time gross settlement to replace the current settlement cycle,” the DTCC report says.
“… Real-time gross settlement eliminates important netting and financing opportunities because it requires that all transactions be funded on a transaction-by-transaction basis, requiring clients to have funds and securities available before the settlement of every transaction. This means the entire industry – clients, brokers, investors – loses the liquidity and risk-mitigating benefit of netting, which is particularly critical during times of heightened volatility and volume.”
Under the netting process, settlement platforms match trades of portfolio participants to substantially reduce cash transactions and margin requirement.
“In 2020, [the CTCC clearing system] cleared an average of [US]$1.7 trillion daily in broker-to-broker transactions for 50+ exchanges and trading venues, an average of over 173 million equities transactions every day, netting to a factor of 98%,” the paper says.
The DTCC paper says Project Ion blockchain system would be rolled out in a phased approach with further functionality, however, the group’s core settlement system “will remain the authoritative record”.
Michele Hillery, DTCC general manager of equity clearing, said in the release: “The industry’s primary goal must be to create efficiencies without introducing additional risk to markets, and client participation and feedback at every iterative step of this journey will be pivotal to the continued success of the platform.
“Project Ion holds the promise of new settlement functionality supported by robust technical capabilities and is a key part of our on-going efforts to further accelerate settlement and build upon current same-day settlement capabilities. We look forward to our continued work with the industry, while providing a DLT-based alternative to existing services.”
Meanwhile, the ASX is inching forward on plans to replace its aging CHESS clearing and settlement system with a blockchain-based service.
The ASX launched another round of consultation on the proposed CHESS transition to blockchain at the end of August, continuing a process begun in 2016 with an expected go-live date sometime in 2023.
