Whenever securities are delivered as agreed upon by counterparties, the process is known as settlement. The periods involved can vary depending on the type of securities and/or agreement by the parties to the transaction.
As can be expected, there would be no settlement without the necessary payment as per the arrangement.
Settlement agents are often used as opposed to direct payments, and these indirect payments work on the basis of a legal framework for contracts or agreements. In turn, the indirect settlement agent undertakes to forward payments to the rightful beneficiaries.
In contrast, an electronic system based settlement occurs between the respective participants. Whenever a non-participant elects to settle a interests, this has to be carried out via a custodian, who must be a bona fide participant.
The interests of participants are entered through credit entries in the relevant accounts of securities kept under their names in the automated system.
Naturally, this method enhances the pace and efficiency with which settlements are handled by eliminating paperwork. While at the same time allowing for the synchronisation of delivery and payment, otherwise known as delivery versus payment, or DVP.
Clearing plays a role in mitigating the risks that come with settlement processes, it involves altering contractual obligations to boost settlement. Principally, cash settlement involves two parties referred to as payer (natural or legal person undertaking the remittance), and the payee.
The gross settlement system is defined by the final settlement event, it is a settlement that splits the responsibility of the participating brokers.
Normally, securities settlement constituted the physical motion of paper instruments, transfer forms or certificates. But these were also risky, because they are relatively easier to lose, steal, or forge. Hence, further developments entailed what is known as the paper crunch, as settlement hold ups jeopardized the activities of the securities markets, in places such as the United States.
Different historical periods used various payment instruments such as labor, other commodities, securities, and cash or cash equivalents. Nowadays, settlements are often used in money and securities, although in some cases, countries are known to employ them for billing and other purposes.
The electronic settlement system sprang up for the most part as an outcome of the Clearance and Settlement Systems in the World’s Securities Markets. This report produced nine recommendations aimed at attaining effective settlement.
Immobilisation involves the utilization of securities (in paper) and depositaries (electronic). Immobilization of securities occurs in that they are kept by the depositary at an given time. It also assisted in transitional phases which entailed shifting from paper-based to electronic settlement methods.