Trading and Settlement Procedure in the Stock Market

Trading and Settlement form the core processes in the functioning of financial markets, providing a platform for buying and selling securities and ensuring the efficient transfer of ownership. In India, these processes are regulated by the Securities and Exchange Board of India (SEBI) and are facilitated by various stock exchanges and clearing corporations.

Trading and settlement are integral components of the financial market ecosystem, ensuring the smooth functioning of securities transactions. In India, SEBI, stock exchanges, and clearing corporations play crucial roles in regulating and facilitating these processes. Continuous advancements in technology, changes in regulatory frameworks, and initiatives to reduce settlement cycles reflect the dynamic nature of the Indian financial market. As the market continues to evolve, stakeholders work collaboratively to address challenges, enhance efficiency, and maintain the integrity of the trading and settlement processes.

Trading Process:

1. Order Placement:

The trading process begins with investors placing orders to buy or sell securities. Various types of orders can be placed, including market orders and limit orders.

• Market Orders: An instruction to buy or sell a security at the best available price in the market.
• Limit Orders: An instruction to buy or sell a security at a specified price or better. The order is executed only if the market price reaches the specified limit.

2. Order Routing:

Once orders are placed, they are routed to the stock exchange through brokers. Brokers act as intermediaries between investors and the exchange, facilitating the execution of trades.

3. Order Matching:

The stock exchange’s trading system matches buy and sell orders based on price and time priority. This is done through an electronic order matching system that ensures fair and efficient price discovery.

4. Trade Execution:

Upon order matching, trades are executed, and the buyer and seller are matched. The exchange generates trade confirmations that include details like trade price, quantity, and time.

5. Confirmation to Investors:

Brokers provide trade confirmations to investors, detailing the executed trades. Investors receive information about the price at which their orders were executed and the total cost or proceeds.

Stock Exchanges in India:

1. Bombay Stock Exchange (BSE):

BSE is one of the oldest stock exchanges in Asia and operates an electronic trading platform known as BOLT (BSE OnLine Trading). It facilitates trading in equities, derivatives, and debt instruments.

2. National Stock Exchange (NSE):

NSE is known for its electronic trading system, providing a platform for trading in equities, equity derivatives, and debt instruments. It operates on the NEAT (National Exchange for Automated Trading) system.

Trading Mechanisms:

1. Cash Market:

In the cash market, actual delivery of securities and payment takes place on a T+2 (Trade Date plus two working days) settlement cycle.

2. Derivatives Market:

The derivatives market includes futures and options contracts. Futures contracts expire on a pre-determined date, while options contracts provide the right but not the obligation to buy or sell the underlying asset.

Settlement Process:

1. Clearing Corporation:

After the trade execution, the settlement process begins with the involvement of a clearing corporation, which acts as a counterparty to both the buyer and the seller. The two prominent clearing corporations in India are:

• National Securities Clearing Corporation Limited (NSCCL):

NSCCL clears and settles trades in the equity and equity derivatives segments.

• Clearing Corporation of India Limited (CCIL):

CCIL is responsible for clearing and settlement of trades in the currency and interest rate derivatives segments.

2. Trade Confirmation to Clearing Corporation:

The stock exchange sends trade details to the clearing corporation, including information about the buyer, seller, quantity, and price of the traded securities.

3. Risk Management:

Clearing corporations implement risk management measures to ensure the financial integrity of the settlement process. This includes collecting margins from trading members and marking-to-market positions.

4. Settlement Cycle:

India follows a T+2 settlement cycle for the cash market, meaning that the actual settlement of trades takes place two working days after the trade date.

5. Pay-in and Pay-out:

• Pay-in: On the settlement day, trading members are required to submit securities and funds to the clearing corporation. This is known as the pay-in process.
• Pay-out: The clearing corporation credits the securities and funds to the accounts of trading members, completing the settlement process.

6. Securities and Funds Transfer:

Clearing corporations use electronic book entry systems to transfer securities and funds between the accounts of trading members. This ensures a secure and efficient settlement process.

7. Investor Accounts:

The final settlement involves the transfer of securities and funds to the demat and bank accounts of investors, respectively. Investors receive electronic statements reflecting their updated holdings and balances.

Challenges in Trading and Settlement:

1. Market Volatility:

Rapid and unexpected market movements can pose challenges in trade execution and settlement. Extreme volatility may lead to wider bid-ask spreads and increased margin requirements.

2. Technological Glitches:

Technical issues, such as system outages or glitches in trading platforms, can disrupt the trading process. Exchange operators and regulators continually work to enhance the resilience of trading systems.

3. Operational Risks:

Operational challenges, including errors in order execution or settlement, can occur. Stringent risk management practices are in place to mitigate operational risks.

4. Liquidity Issues:

Illiquid markets may result in challenges during trade execution, impacting the ability to buy or sell securities at desired prices.

5. Regulatory Changes:

Changes in regulatory requirements can impact trading and settlement processes. Market participants need to adapt to evolving regulatory frameworks.

Recent Developments:

1. Unified Payments Interface (UPI) for IPOs:

SEBI has introduced UPI as a payment mechanism for IPO applications, enhancing the efficiency and ease of the application process for investors.

2. Introduction of T+1 Settlement Cycle:

SEBI has explored the possibility of moving to a T+1 settlement cycle, which would reduce the settlement period from two days to one day after the trade date. This could potentially enhance market liquidity.

3. Introduction of Rolling Settlements:

Rolling settlements involve daily settlements of trades instead of a fixed settlement cycle. SEBI has implemented rolling settlements to enhance market efficiency and reduce systemic risks.

4. Market Infrastructure Institutions (MIIs):

SEBI has implemented a framework for Market Infrastructure Institutions, including stock exchanges and clearing corporations, to enhance governance, risk management, and technology infrastructure.