Enhancing settlement efficiency with automated post-trade processes in the T+1 environment

As the third Insight in our series on outsourced trading and with the recent transition of the US and Canadian markets to a T+1 settlement cycle, buy-side firms are now increasingly looking at how outsourced trading can help them not just from a front-office but also a post-trade perspective. In this article, we will review how the outsourcer’s automation of middle-office functions can improve a firm’s overall settlement efficiency.

• This third piece in our series on outsourced trading looks at how outsourcing automation of middle-office functions can improve a firm’s settlement efficiency.
• The newly established T+1 environment has added increased pressure to several hedge funds and other buy-side firms. Several are now turning to outsourcing partners who can potentially provide additional post-trade services.

In previous articles in our series on outsourced trading, we’ve looked at the role of execution consulting in a ‘co-sourcing’ relationship, and the importance of optionality around the use of different outsourced trading models, such as pass-through vs agency.

With the recent transition of the US and Canadian markets to a T+1 settlement cycle, buy-side firms are now increasingly looking at how outsourced trading can help them not just from a front-office but also a post-trade perspective. In this article, we will review how the outsourcer’s automation of middle-office functions can improve a firm’s overall settlement efficiency.

For hedge funds and other buy side firms, post-trade workflows can be somewhat labour intensive. Middle-office processes such as allocations and affirmations, matching trades with counterparties, and reconciling commissions and fees, can involve numerous manual workflows, all of which can lead to inefficiencies, increased operational risk, and – particularly in the newly established T+1 environment – failed trades. And those failed trades will impact a firm’s bottom line.

Automating post-trade processes can save time, limit errors, minimise operational risk, and reduce costs. However, not all buy-side firms have the resources for such automation. Consequently, they are increasingly seeking outsourcing partners who can automate the entire trade lifecycle, where transaction data is gathered from trading platforms in real time and then automatically allocated, matched, and reconciled against external counterparty data through seamless two-way communication with third parties, such as prime and executing brokers, custodians, fund administrators, and central matching tools.

If that outsourcing partner can provide additional post-trade services such as advanced commission and fee schedule management, block formation and allocation, automatic trade pairing and matching at both block and allocation levels, and the ability to easily cancel and re-book tickets where mismatches have occurred, so much the better.

In its January 2024 report, ‘The Key to T+1 Success’, DTCC highlighted the importance of automating post-trade processes to achieve success in the T+1 settlement environment. One key recommendation was that at least 90% of all trades must be affirmed by 9:00 PM ET on the trade date (i.e. T+0). To allow for a two-hour window for confirmation and affirmation, trade allocations should therefore be completed by 7:00 PM ET on T+0 to meet the T+1 deadlines.

Trade allocation is one of the most important post-trade functions, but it is not necessarily the simplest, hence the need for flexibility and automation. Firms might need to pre-define complex allocation structures – particularly around blocks - and to adjust them on the fly. They might need to define single-tier allocation rules at the custodian, PB, fund, or strategy level, as well as multi-tier allocation layers that encompass any or all the above. To accommodate these requirements, the outsourcer should offer its clients the ability to add additional layers (such as an extra strategy layer, or a settlement type layer like cash versus swap for example) on top of those multi-tier hierarchies, as needed.

Firms might also need the ability to link allocations to risk and compliance threshold parameters, allowing for necessary adjustments. This might include handling pari passu situations, enabling accurate allocations between a commingled main fund and a managed account. Furthermore, there should be an ability to set up priorities between allocation entities, both when building and unwinding positions, so that firms can flexibly allocate based on fund mandates.

All of this requires not only highly configurable and adaptable trading technology on the part of the outsourcer, but also the knowledge and expertise of how best to use it.

Among outsourced trading providers, TORA is distinguished by its use of the same trading technology for its highly experienced outsourced trading team as its OEMS customers. This co-sourcing approach offers several advantages.

TORA’s OEMS technology is renowned for its functionality, architectural design, open platform, and cross-asset capabilities, covering front- to middle- and back-office operations. Since we design and maintain the technology ourselves, we can swiftly adapt it to meet clients’ needs.

A notable feature of TORA is its API-centric design, which allows any information within the system to be extracted and sent to counterparties, and data from those counterparties to be seamlessly ingested. This enables trades from the front office, along with settlement instructions and allocations, to be transmitted to the relevant third parties (such as executing brokers, prime brokers, custodians, or fund administrators) and quickly reconciled within the system.

Additionally, TORA provides a fully customisable exception handling mechanism that accepts different thresholds for automatic matching. When mismatches occur outside these predefined thresholds, users are notified of breaks. Correction files can be automatically sent to or received from counterparties in various formats, including CSV and proprietary formats.