Standard Settlement Time Frames for Various Products

Two different instruments set the timetable, and they work from opposite directions. The SEC rule is a ceiling on the contract a firm may enter. The Uniform Practice Code's dates of delivery rule fixes the day delivery is actually made. Options take their delivery day from the clearing corporation's rules and when-issued contracts from the when-issued contracts rule.

What Settlement Cycle Does the SEC Rule Set?

The settlement cycle rule is written as a prohibition. A broker or dealer shall not effect or enter into a contract for the purchase or sale of a security providing for payment of funds and delivery of securities later than the first business day after the date of the contract.

That prohibition yields where the parties expressly agree otherwise at the time of the transaction. The market shorthand for the cycle is T+1.

The prohibition reaches a security other than six named categories: an exempted security, a government security, a municipal security, commercial paper, bankers' acceptances, or commercial bills. Those six sit outside the rule entirely.

Three further exceptions carve transactions out of the prohibition.

• Unlisted limited partnership interests. Contracts for limited partnership interests that are not listed on an exchange or for which quotations are not disseminated through an automated quotation system of a registered securities association.
• Security-based swaps. The prohibition does not reach them.
• Commission exemptions. Contracts the Commission exempts by order.

The rule then adds a two-day branch of its own, for contracts for the sale for cash of securities priced after 4:30 p.m. Eastern Time (ET) on the date they are priced.

Those securities must be sold by an issuer to an underwriter in a firm commitment underwritten offering registered under the Securities Act, or sold to an initial purchaser by a broker-dealer participating in that offering.

That branch carries its own ceiling. Payment and delivery must not be later than the second business day after the date of the contract, unless otherwise expressly agreed to by the parties at the time of the transaction.

The rule also deems an express agreement to an alternate date in one case, for a sale for cash pursuant to a firm commitment offering, and the deeming applies to the one-business-day ceiling as well as to this branch.

The parties are deemed to have expressly agreed to an alternate date where the managing underwriter and the issuer have agreed a date for all securities sold in that offering, and the parties to the contract have not expressly agreed to another date at the time of the transaction.

Exam Tip: Gotchas

• The settlement cycle rule sets a ceiling, not a fixed settlement day. It bans entering a contract that provides for later payment and delivery, and the parties may expressly agree otherwise at the time of the transaction. It never states that a trade settles on a particular day.
• The late-priced offering branch is not a general two-day cycle. It applies to a cash sale priced after 4:30 p.m. ET in a registered firm commitment offering, and the deeming provision needs the managing underwriter and the issuer to have agreed a date for the whole offering.

Which Transactions Does the Uniform Practice Code Reach?

Before any delivery date applies, the Uniform Practice Code scope rule says what it governs. All over-the-counter secondary market transactions in securities between members, including restricted securities as the restricted securities resale safe harbor defines them, are subject to the Code. So are the rights and liabilities of the members participating in the transaction and those operational procedures that affect the day-to-day business of members.

Five categories are excepted.

• Clearing agency transactions. Transactions in securities between members which are compared, cleared or settled through the facilities of a registered clearing agency, except to the extent that the rules of the clearing agency provide that rules of other organizations shall apply.
• Exempted securities. Transactions in securities exempted under the Securities Exchange Act.
• Municipal securities. Transactions in municipal securities as the Securities Exchange Act defines them.
• Redeemable investment company securities. Transactions in redeemable securities issued by companies registered under the Investment Company Act; provided, however, that the Code does apply to secondary market transactions between members in a security issued by a registered investment company classified as a unit investment trust.
• Direct participation programs. Transactions in Direct Participation Program securities, except as otherwise provided in this Code.

The investment company exception then limits its own carve-back in a second sentence: redemption of securities directly by the trustee of the unit investment trust are not transactions between members for purposes of that subparagraph.

Two more provisions of the scope rule carry weight for settlement. First, the scope may be expanded or limited in any Rule of this Code if specifically provided therein; the dates of delivery rule contains no such provision. Second, the Committee on Uniform Securities Identification Procedures (CUSIP) number must be used on the Uniform Transfer Instruction Form, the Uniform Delivery Ticket and the Uniform Comparison or Confirmation.

The scope rule also settles what a fail does to the contract. In trades between members, failure to deliver the securities sold, or failure to pay for securities as delivered, on or after the settlement date, does not effect a cancellation of the contract.

The remedy for the buyer or seller is provided by the buy-in rule and the selling-out rule respectively, unless the parties mutually consent to cancel the trade. In every such case of nondelivery the party in default is liable for any damages which may accrue, and all claims for such damages shall be made promptly.

Exam Tip: Gotchas

• A fail does not cancel the contract. The scope rule says so in terms, and it routes the buyer to the buy-in rule and the seller to the selling-out rule. The parties may still cancel the trade by mutual consent.
• The unit investment trust carve-back has a limit inside it. The Code reaches secondary market transactions between members in those securities, but a redemption directly by the trust's trustee is not a transaction between members at all.

What Delivery Date Does Each Contract Type Take?

The dates of delivery rule fixes a delivery day by contract type, and every one of them is stated as delivery at the office of the purchaser.

The seller's option contract carries an exception with a condition attached. The seller may deliver on any business day after the first business day following the transaction date and before the option expires, provided the seller delivers at the office of the purchaser, on a business day preceding the day of delivery, written notice of intention to deliver.

Early delivery on a regular way, buyer's option or time-and-place contract is an offer rather than performance. Where the seller tenders delivery before the stated time, acceptance shall be at the election of the purchaser, and the purchaser's rejection of that delivery is without prejudice to his rights.

The rule also fixes place and hours. Delivery is made at the office of the purchaser between the hours established by rule or practice in the community where that office is located. Where the purchaser maintains more than one office, delivery goes to the office with which the transaction was effected, unless delivery instructions are provided at the time of the transaction.

Commercial paper, bankers' acceptances and commercial bills sit outside the settlement cycle rule's prohibition. They are also not among the five categories the Code's scope rule names, but no cached rule says whether the Code treats them as securities at all, so the course draws no delivery-date conclusion for them.

Exam Tip: Gotchas

• The regular way date is stated from both directions. Delivery is due on, but not before, the first business day following the transaction date, which is why an early tender is only an offer the purchaser may decline.
• A seller's option delivery before expiry needs written notice a day ahead. The notice must reach the purchaser's office on a business day preceding the day of delivery, so same-day notice does not open the early-delivery branch.

When Do Options Settle on Exercise?

The Cboe delivery and payment rule does not fix a date. It says delivery of the underlying security upon exercise of an option contract, and payment of the aggregate exercise price, shall be in accordance with the Rules of the Clearing Corporation.

The Options Clearing Corporation (OCC) supplies the date in its delivery obligation rule. Where a Delivery Advice or the Corporation directs that settlement be made on a broker-to-broker basis, the Delivering Clearing Member shall deliver each underlying security specified in the Delivery Advice against payment of the aggregate purchase price, on the delivery date specified in it.

For options, that delivery date is the first business day following the day on which the exercise notice was, or is deemed to have been, properly tendered to the Corporation.

That condition rarely narrows the answer in practice. The OCC's options disclosure document states the date generally: as of May 28, 2024, the regular exercise settlement date for physical delivery stock options is the first business day after exercise.

Two provisos qualify it. The Corporation may designate a different delivery date for property deliverable as a result of an adjustment of a contract under its By-Laws and Rules.

An authorized officer of the Corporation may extend or postpone the time for delivery whenever, in that person's opinion, the action is required in the public interest or to meet unusual conditions.

An interpretation adds one more. The Corporation may delay delivery and payment during the period "when distributed" trading is declared by the primary market for the underlying stock.

Cash settlement runs on a different sentence. The OCC options disclosure document states that settlement of exercises of cash-settled options, by payment in cash of the cash settlement amount, ordinarily takes place on the business day immediately following the day of exercise.

That document then states one exception. Cash-settled capped options that have been automatically exercised on any trading day other than the one immediately prior to expiration are settled on the second business day after the automatic exercise is triggered.

Exam Tip: Gotchas

• The capped-option exception turns on when the automatic exercise happened. A cash-settled capped option automatically exercised on the trading day immediately prior to expiration stays on the ordinary next-business-day settlement. Being capped is not by itself the trigger.
• The exchange rule fixes no options settlement date at all. It routes delivery and payment to the clearing corporation's rules, so an answer that has the exchange setting the date has the wrong source.

When Do When-Issued and When-Distributed Contracts Settle?

These contracts have no fixed cycle. A date for settlement is determined by the Committee when a sufficient percentage of the issue is outstanding.

For a when-issued security, delivery is made at the office of the purchaser on the date declared by the Committee, except that if no delivery date is declared, two branches open.

• Notice branch. Delivery may be made by the seller on the business day following the day on which the seller has delivered at the office of the purchaser written notice of intention to deliver.
• Syndicate branch. Open market when-issued contracts in securities currently being publicly offered through a syndicate or selling group shall be settled on the date such syndicate or selling group contracts are settled; provided, however, that delivery under this branch shall be made during the normal delivery hours in the community where the buyer is located.

For a when-distributed security, delivery is likewise at the office of the purchaser on the date declared by the Committee, and the same notice branch applies where no date is declared. There is no syndicate branch on the when-distributed side.

Cancellation for non-issuance is flat. Contracts will be canceled if the securities are not to be issued or distributed.

Exam Tip: Gotchas

• The when-distributed side is one branch shorter. Both sides take the Committee's declared date and the written-notice fallback, but only the when-issued side settles on the syndicate's own settlement date where no Committee date exists.
• The syndicate branch carries a delivery-hours proviso the notice branch does not. Delivery under it must be made during normal delivery hours in the community where the buyer is located.

How Do When-Issued Contracts Handle Interest?

Three provisions split by security type, all for securities of new or reorganized companies; the first two are written for transactions between members.

• Fixed obligations. Unless the parties agree otherwise, when-issued or when-distributed transactions in fixed obligations of such companies shall be "and accrued interest" to date of settlement. Interest is computed on the basis of the expired portion of the coupon current at the time of settlement, and all due and past due coupons shall be detached.
• Income or contingent interest securities. Such transactions shall be traded "flat" and shall carry all payments that may be made or declared in connection with the new securities from the effective date of the plan.
• The exception to that. Where any payment is made or declared, directly or indirectly, prior to the settlement date, transactions made on and after the "ex" date for that payment carry only payments made or declared from that "ex" date.
• Fixed rate plus a contingent payment. Securities bearing a fixed rate of interest plus a contingent additional payment are traded "and accrued interest" at the rate of the fixed interest, and traded "flat" in respect of the contingent payments.

Exam Tip: Gotchas

• The accrued interest default is a default, not a mandate. It applies unless the parties agree otherwise, so an answer describing it as unwaivable overstates the rule.
• A security with both a fixed coupon and a contingent payment takes both treatments at once. It trades and accrued interest at the fixed rate and flat as to the contingent payments, rather than choosing one basis for the whole security.

What Margin and Deposit Rules Apply to a When-Issued Contract?

All when-issued and when-distributed contracts shall be in compliance with Regulation T's margin account and special memorandum account provisions.

A member may require a customer to deposit cash or collateral to secure such a contract even though Regulation T's cash account full-cash-payment provision may not require such a deposit. The member's own authority here is wider than what the margin regulation demands.

Segregation of those deposits is written twice, in two different moods, and the difference is the tested point.

• Written as should. Deposits against such transactions should be segregated on the books of the member in order to present a true picture of the member's position and its commitment in transactions of this kind.
• Written as may be appropriate. It may be appropriate to segregate such deposits from the member's general cash balances by depositing them in a bank other than those containing the general deposits, loans or other obligations of the member.
• Written as should, again. Whether or not such physical segregation is made, no member should permit any part of those deposits to be used for any purpose whatsoever other than to secure such contracts.
• Written as shall. As a minimum, every member doing business in such securities shall ensure that the sum of its cash balances and any deposits with banks, clearing houses or other brokers against those contracts always exceeds the aggregates of all free credits and deposits against those contracts, by an amount fully ample to conduct its business without employing any part of such deposits.

Exam Tip: Gotchas

• Only the coverage test is written as an obligation. Segregation is stated as what a member should do. The coverage test is stated as what a member shall ensure, and it is stated as a minimum.
• The deposit authority runs the other way from Regulation T. The member may demand a deposit even where the cash account provision would not require one, so an answer that caps the member at what the margin regulation requires reverses the rule.

How Is a When-Issued Contract Marked to the Market?

The when-issued contracts rule explains why marking matters. In the case of such contracts, the time of issuance or distribution of the securities is indefinite and may be long delayed, and therefore such contracts should be marked to the market.

That paragraph then names a Uniform Practice Code rule by number as the marking authority. In the current Code that number titles the called securities reclamation rule, while the Code's marking-to-the-market provisions sit in a different rule. The rulebook prints the cross-reference as it stands, so read the marking provisions where they actually live.

The marking-to-the-market rule gives the unsecured party a one-sided demand. The party who is partially unsecured by reason of a change in the market value of the subject of a contract in securities may demand from the other party a deposit equal to the difference between the contract price and the market price, without being required to make a mutual deposit.

The deposit goes to one of three places: with the member demanding it, with a mutually agreed-on depositary, or, on failure to agree on a depositary, with any member of the Federal Reserve System with an office in the financial district of the city where the unsecured party maintains its office.

Four more paragraphs run the mechanics.

• Assignment. Either party may assign the contract, either at the time the transaction is effected or at the time a request is made for funds to mark to the market, provided the other party assents to the assignment.
• Refunds. Where the market value changes so as to permit a total or partial refund of deposits already made, such refunds shall be made on demand.
• Form and delivery of demands. All demands for deposits or refunds shall be in writing, shall be delivered at the office of the party on whom the demand is made during the business hours of Federal Reserve System member banks in that community, and shall be complied with immediately.
• Failure to comply. Failure of a party to comply with a demand for a deposit or refund made in accordance with those paragraphs entitles the demanding party to close the contract without notice, by making offsetting purchase or sale contracts in the best available market for the account and liability of the party failing to comply.

That close-out route has a floor and a notice duty. No contract shall be closed before the expiration of regular delivery time in the community where the demanding party maintains its office, on the next business day following the day when notice of the demand was received by the other party.

The party making the offsetting contracts shall, as promptly as possible on the day on which they are made, notify the other party via letter, facsimile transmission, electronic mail or other comparable written media, and mail or deliver formal confirmation of the same to the other party and a copy of that confirmation to the Committee.

Exam Tip: Gotchas

• The mark-to-market demand is one-sided by design. The partially unsecured party may demand a deposit without being required to make a mutual deposit, so an answer requiring both sides to post misreads it.
• A failed mark demand does not permit an immediate close-out. The demanding party must wait until regular delivery time expires on the next business day after the other party received notice of the demand.

When Is a When-Issued Contract Cancelled?

Three separate cancellation routes exist, and they turn on different facts.

• A Committee ruling. Pursuant to another Uniform Practice Code rule the paragraph names, the Committee may cancel or terminate when-issued and when-distributed contracts as necessary to resolve conflicts over the settlement of such contracts.
• Non-issuance. Contracts will be canceled if the securities are not to be issued or distributed.
• A materially different security. Contracts will generally be canceled where the securities to be issued or distributed are not substantially the same as those contemplated in the contract.

The list of material changes on that third route is open. Material changes which will generally result in cancellation include, but are not limited to, changes to the redemption schedule, dividend payments, interest rates, maturity, yield, and exercise price.

The rule then states the other side, notwithstanding that third route. Contracts will not generally be canceled as a result of changes that do not constitute material changes to the terms of the security called for under the contract.

That list is likewise open, and names a change in the dollar value of securities to be issued or distributed; a restructuring of financing arrangements previously announced by the issuer; and the settlement of any legal action or the occurrence of any other event which has or will have a material effect on the financial condition of the issuer.

Exam Tip: Gotchas

• A material effect on the issuer's finances sits on the no-cancellation side. The test is materiality to the terms of the security, not to the issuer, which is why a yield or maturity change will generally cancel the contract and a financial-condition event generally does not.
• Both change lists are open. Each is introduced with "include, but are not limited to", so an answer treating either six-item or three-item list as complete misstates the rule.

What Should You Check on Exam Day?

• Read the settlement cycle rule as a ceiling on the contract, then check whether the parties expressly agreed otherwise at the time of the transaction.
• Confirm the product is not one of the six the settlement cycle rule excludes, and not one of the five the Code's scope rule excepts, before applying either timetable. Whether the Code reaches commercial paper is unsettled.
• On a delivery-date question, name the contract type first. Cash, regular way and delayed-delivery each take their own day; a buyer's option delivers on expiry, and so does a seller's option unless the seller gives notice and delivers early.
• On an options settlement question, separate physical delivery, which runs to the first business day after tender, from cash settlement, which ordinarily runs to the business day after exercise.
• On a when-issued cancellation, ask whether the change touches the terms of the security. A change to the issuer's financial condition generally does not cancel.