5.8 Transaction cycles

HOW DOES THE WHOLE TRANSACTION WORKS?

An investor finds the right broker and instructs him or her to place a buy/sell order on an exchange. The order is converted to a trade as soon as it finds a matching sell/buy order. The trades are cleared to determine the obligations of counter parties to deliver securities/funds as per the settlement schedule. The buyer/seller delivers funds/securities and receives securities / funds and acquires ownership over them.

Thus, trading, clearing and settlement complete a trading cycle. Let us therefore focus on these three important aspects.

Trading Day (T+0)

For a better understanding of trading, clearing and settlement process let us use the weekdays in our discussions. If you have put an order on Monday (any time in the trading hours) and your order finds a match, then the trade is executed and confirmed immediately on the screen and the trade confirmation number is also generated with all the required details such as quantity, price and time of trade confirmation. At the end of the day (Monday), the broker would confirm all the transactions at his level to the client through a contract note.

Clearing (T+1)

Clearing is a process of determination of obligations, after which the obligations are discharged by settlement. Trades done during the entire day are accounted together for netting of obligations. After the trading confirmation, the clearing and settlement process starts on T+1 day (next working day after trading day, which in our case is Tuesday). The NSCCL/CH gets the information from the exchange about the trades executed during the day which helps the CC (Clearing Corporation) to determine the obligations of each member in terms of funds and securities. On this day, by 11.00 am the NSCCL gives a confirmation of all the trades. Once the netting of obligations is done, then by 1:30 pm on the same day, all the files are processed and downloaded so that each member knows as to what he has to pay and receive.

Example:

Assume that an investor called Mahesh buys 100 L&T shares on Monday i.e. T Day @ Rs 1,450. His net obligation on Tuesday would be to give Rs 1,45,000. On Wednesday i.e. T+2 day, he will receive 100 L&T shares in his demat account and will have to pay out Rs 1,45,000 for the same.

Mahesh’s obligation in terms of securities:

T+0 (Monday) T+1 (Tuesday) T+2 (Wednesday)
Trading Day Netting of Obligations Pay-In and Pay-Out of Securities
+100 L&T +100 Receive 100 L&T Shares

Mahesh's obligation in terms of funds:

TDay (Monday)   T+1 (Tuesday) T+2 (Wednesday)
Trading Day Amount Netting of Obligations Pay-In and Pay-Out of Securities
+100 L&T (Buy) 1,45,000 -1,45,000 Give Rs 1,45,000

Settlement (T+2)

On the second working day after the trading day, settlement of trades is done. This requires all the members to pay-in the required funds and securities by 11.00 am to the NSCCL/CH by giving the required instructions to the respective clearing banks and depositories for the same. By 1.30 pm, on the same day, members get the required funds and securities
through the NSCCL. If the seller defaults in paying in the securities, the CC debits the clearing member with an amount (T+1 closing price of the security). This is known as valuation debit.

A Snapshot: Trading And Settlement

  1. Investors place orders from their trading terminals/through brokers.
  2. Broking houses validate the orders and route them to the exchange.
  3. Order matching takes place based on price and time priority.
  4. Trade is confirmed to investors through brokers.
  5. Trade details are sent to the clearing corporation (CC) from the exchanges.
  6. The CC notifies the trade details to clearing members/custodians and based on confirmation, the CC determines obligations.
  7. Downloading of obligation and pay-in advice of funds/securities by the CC.
  8. The CC instructs the clearing banks to make funds available by pay-in time.
  9. The CC instructs depositories to make securities available by pay-in time.
  10. For pay-in of securities the CC advises the depository to debit the pool account of custodians/clearing members and credit its (clearing corporation’s) account and the depository does the same.
  11. For pay-in of funds the CC advises the clearing banks to debit the account of custodians/clearing members and credit its account and the clearing bank does the same.
  12. For pay-out of securities the CC advises the depository to credit the pool accounts of custodians/clearing members and debit its account and the depository does the same.
  13. For pay-out of funds the CC advises the clearing banks to credit the account of custodians/clearing members and debit its account and the clearing bank does the same. (Clearing members for buy order and sell order are different and the clearing corporation acts as a link here).
  14. The depository informs the clearing members through the DP about the pay-in and pay-out of the securities.
  15. The clearing bank informs the clearing members about pay-in and pay-out of the funds.
  16. In case of a buy order the money will be debited from the client's account.
  17. In case of a sell order the money will be credited to the client's account.
Rate this article:
No rating
Comments are only visible to subscribers.

Equity Research

DALAL STREET INVESTMENT JOURNAL - DEMOCRATIZING WEALTH CREATION