Client Question: Trade versus Settlement Date

October 5, 2023

A client reached out last week in an attempt to understand the mechanics of a recent trade. He had sold a combination of securities (a money market fund and a few ETFs) to free up cash in his after-tax account to pay for a recent purchase. The day after he placed the sale order/trade, he went back into his account to transfer the funds to his checking account. However, only a portion of the funds were showing up as available for withdrawal and he reached out to understand why that was the case. The answer relates to the concept of trade date versus settlement date – let’s take a look so you too can plan your trades accordingly!

Let’s start by defining some terminology.

Trade date – this is the day an investor buys or sells a security. In this example, this is the day my client sold the various securities in his account.

Settlement date – this is the day the securities from the trade actually trade hands, thereby finalizing the trade (or settling it). In our example, this is the day my client receives cash (from his sales) and the corresponding buyer receive the securities he sold.

The difference between trade and settlement dates is relatively easy to understand. Where things can get confusing is the variance in timeframe between those two dates, which can vary based on the type of security.

Given modern technology, it’s reasonable to assume that everything should happen instantly. However, that is not the case with trade settlement. The rules go back to the early 1930s when they were first set by the Securities and Exchange Commission (SEC) – at a time when trades were placed via paper forms. At this time, trades took up to five days to settle. That timeframe has been slowly reduced by the SEC but it still remains at two days for most securities (stocks, ETFs, bonds) and one day for a few (such as mutual funds)

Let’s look at stocks and ETFs first. As noted above, they settle two business days after trade (also referred to as “T+2,” ie: trade date plus two business days). So if you trade a share of Apple on Monday, the cash from that sale will be available in your account for withdrawal on Wednesday.

Now, let’s look at mutual funds. Most mutual funds trade “T+1” – meaning they settle the day after the trade. So, if you trade $5,000 of a money market fund on Monday, the cash from that sale will be available in your account for withdrawal on Tuesday.

If you need cash from your account, you’ll want to take the above timelines into account. Unless you have margin on your account (ie: ability to borrow against your securities), you will need settled cash in the account in order to make a withdrawal.

What about if you don’t want to withdraw cash but simply want to sell a security in order to buy another, do these same rules apply? Not necessarily. Most broker dealers will “float” you the money to cover the buy before settlement date, allowing you to trade with unsettled funds. However, if you turn around and sell the security you bought before the original sale settles, you’ll receive a trading violation and may be placed on a cash upfront restriction from that point forward. It’s best to confirm the specific rules at your own broker dealer, just to be sure.

Will settlement even be “T+1” for all securities, or better yet instantaneous? There is ongoing chatter about such changes but for now, the current rules continue to apply. If you’re an investor, ensure that you know these rules so you don’t run into any issues accessing your cash or incurring any trading violations.

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