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Straight-through processing (STP) [1] is a method used by financial companies to speed up financial transactions by processing without manual intervention (straight-through).
Straight-through processing exists in numerous areas of financial services, such as payments processing. [2] [3] [4]
Payments may be non-STP due to various reasons [5] such as missing information, information which that is not in a machine "understandable" form (such as name and address rather than a code), or human-readable instructions "Please credit urgently") or simply falls outside of rules for which the bank allows automatic processing (for example, payments of large value or in exotic currencies).
Traditionally, making payments involves many departments in a bank. Both initiating a payment to be sent and processing a received payment may take days. In the past, payments were initiated through numerous "human-friendly" (aka paper-based) means, such as a human through a paper order, over the phone, or via fax. [6] The payment order was input into the bank's payment system, then confirmed by a supervisor. This confirmation ensured an accurate match of input versus order before sending the payment. When multiple banks, countries or currencies were involved, the process often took several hours. When the complexity of the payment was higher, the amount of labor increased and additional human intervention resulted in more risk of errors, longer processing time, and higher costs.
In most cases, banks levy charges for non-STP payments or for manual repairs. Alternatively, banks may not charge on a "per repair" basis, but rather levy heavier fees for correspondents that provide lower quality (lower STP) payments. [7]
STP was developed for equities trading in the early 1990s by James Karat in London for automated processing in the equity markets.
The process before STP was very antiquated: sales traders would have to fill in a deal ticket, blue for buy and red for sell. The order was invariably scribbled and mostly unreadable. Upon receiving the order, the trader would often execute an incorrect investment on the market. A runner picking up the ticket to input the order into the system in order to send out a contract note. For example, if the client wished to purchase 100,000 shares, but the trader only executed 10,000, the runner would send out the contract for 1,000. In those days, there was a T+10 settlement so any errors were "fixable". However, with the new introduction of T+5, the settlement arena changed, and STP was born. To reduce the exposure of risk, failed settlement, there could only be one "golden source" of information and that it was the responsibility of the sales trader to be correct as they had the power to correct any discrepancies with the client directly.
The goal of STP is to reduce the time it takes to process a transaction, in order to increase the likelihood that a contract or an agreement is settled on time. The concept has also been transferred into other sectors including energy (oil, gas) trading and banking, and financial planning. [1]
Currently, the entire trade lifecycle, from initiation to settlement, is a complex labyrinth of manual processes that take several days. Such processing for equities transactions is commonly referred to as T+2 (trade date plus two days) processing, as it usually takes two business days from the "trade" being executed to the trade being settled. This means investors who are selling a security must deliver the certificate within two business days, and investors who are buying securities must send payment within two business days. But this process comes with higher risks through the occurrence of unsettled trades. Market conditions fluctuate, meaning a two-day window brings an inherent risk of unexpected losses that investors may be unable to pay for, or settle, their transactions.
Industry practitioners, particularly in the United States, viewed STP as meaning "same-day" settlement or faster, ideally minutes or even seconds. The goal was to minimise settlement risk for the execution of a trade and its settlement and clearing to occur simultaneously. However, for this to be achieved, multiple market participants must realize high levels of STP. In particular, transaction data would need to be made available on a just-in-time basis, which is a considerably harder goal to achieve for the financial services community than the application of STP alone. After all, STP itself is merely an efficient use of computers for transaction processing.
In the past, STP methods were used to help financial firms move to one-day trade settlement of equity transactions, as well as to meet the global demand resulting from the rapid growth of online trading. Now the concepts of STP are applied to reduce systemic and operational risk and to improve certainty of settlement and minimize operational costs.
There is often confusion[ according to whom? ] within the trading world between STP and an electronic communication network (ECN). Although they are similar initiatives, ECN connects orders with those of other traders as well as staff liquidity provides.[ clarification needed ] An ECN is also typically a bigger pool of orders than a standard STP.
When fully implemented, STP is able to provide asset managers, brokers and dealers, custodians, banks and other financial services with benefits including shorter processing cycles, reduced settlement risk, and lower operating costs. [8] Some industry analysts believe that STP is not an achievable goal in the sense that firms are unlikely to find the cost/benefit to reach 100% automation. [9] Instead, they promote the idea of improving levels of internal STP within a firm while encouraging groups of firms to work together to improve the quality of the automation of transaction information between themselves, either bilaterally or as a community of users (external STP). Other analysts, however, believe that STP will be achieved with the emergence of business process interoperability.
In economics and finance, arbitrage is the practice of taking advantage of a difference in prices in two or more markets – striking a combination of matching deals to capitalize on the difference, the profit being the difference between the market prices at which the unit is traded. When used by academics, an arbitrage is a transaction that involves no negative cash flow at any probabilistic or temporal state and a positive cash flow in at least one state; in simple terms, it is the possibility of a risk-free profit after transaction costs. For example, an arbitrage opportunity is present when there is the possibility to instantaneously buy something for a low price and sell it for a higher price.
In finance, a derivative is a contract that derives its value from the performance of an underlying entity. This underlying entity can be an asset, index, currency, or interest rate, and is often simply called the underlying. Derivatives can be used for a number of purposes, including insuring against price movements (hedging), increasing exposure to price movements for speculation, or getting access to otherwise hard-to-trade assets or markets.
Day trading is a form of speculation in securities in which a trader buys and sells a financial instrument within the same trading day, so that all positions are closed before the market closes for the trading day to avoid unmanageable risks and negative price gaps between one day's close and the next day's price at the open. Traders who trade in this capacity are generally classified as speculators. Day trading contrasts with the long-term trades underlying buy-and-hold and value investing strategies. Day trading may require fast trade execution, sometimes as fast as milli-seconds in scalping, therefore direct-access day trading software is often needed.
The foreign exchange market is a global decentralized or over-the-counter (OTC) market for the trading of currencies. This market determines foreign exchange rates for every currency. It includes all aspects of buying, selling and exchanging currencies at current or determined prices. In terms of trading volume, it is by far the largest market in the world, followed by the credit market.
The Depository Trust & Clearing Corporation (DTCC) is an American financial market infrastructure company that provides clearing, settlement and trade reporting services to financial market participants. It performs the exchange of securities on behalf of buyers and sellers and functions as a central securities depository by providing central custody of securities.
In banking and finance, clearing refers to all activities from the time a commitment is made for a transaction until it is settled. This process turns the promise of payment into the actual movement of money from one account to another. Clearing houses were formed to facilitate such transactions among banks.
An electronic communication network (ECN) is a type of computerized forum or network that facilitates the trading of financial products outside traditional stock exchanges. An ECN is generally an electronic system accessed by an electronic trading platform that widely disseminates orders entered by market makers to third parties and permits the orders to be executed against them in whole or in part. The primary products that are traded on ECNs are stocks and currencies. ECNs are generally passive computer-driven networks that internally match limit orders and charge a very small per share transaction fee.
Settlement is the "final step in the transfer of ownership involving the physical exchange of securities or payment". After settlement, the obligations of all the parties have been discharged and the transaction is considered complete.
Settlement risk, also known as delivery risk or counterparty risk, is the risk that a counterparty fails to deliver a security or its value in cash as per agreement when the security was traded after the other counterparty or counterparties have already delivered security or cash value as per the trade agreement. The term covers factors incidental to the settlement process which may suspend or prevent a trade from completing, even though the parties themselves are in agreement, are acting in good faith, and otherwise competent to perform.
Algorithmic trading is a method of executing orders using automated pre-programmed trading instructions accounting for variables such as time, price, and volume. This type of trading attempts to leverage the speed and computational resources of computers relative to human traders. In the twenty-first century, algorithmic trading has been gaining traction with both retail and institutional traders. A study in 2019 showed that around 92% of trading in the Forex market was performed by trading algorithms rather than humans.
Foreign exchange risk is a financial risk that exists when a financial transaction is denominated in a currency other than the domestic currency of the company. The exchange risk arises when there is a risk of an unfavourable change in exchange rate between the domestic currency and the denominated currency before the date when the transaction is completed.
A trading room gathers traders operating on financial markets. The trading room is also often called the front office. The terms "dealing room" and "trading floor" are also used, the latter being inspired from that of an open outcry stock exchange. As open outcry is gradually replaced by electronic trading, the trading room becomes the only remaining place that is emblematic of the financial market. It is also the likeliest place within the financial institution where the most recent technologies are implemented before being disseminated in its other businesses.
A central clearing counterparty (CCP), also referred to as a central counterparty, is a financial market infrastructure organization that takes on counterparty credit risk between parties to a transaction and provides clearing and settlement services for trades in foreign exchange, securities, options, and derivative contracts. CCPs are highly regulated institutions that specialize in managing counterparty credit risk.
A foreign exchange derivative is a financial derivative whose payoff depends on the foreign exchange rates of two currencies. These instruments are commonly used for currency speculation and arbitrage or for hedging foreign exchange risk.
In securities trading, same-day affirmation (SDA) also known as T0 refers to completing the entire trade verification process on the same day that the actual trade took place, and was invented in the early '90s by James Karat, the inventor of straight-through processing, in London. Trade verification is carried out on the institutional side of the market between the investment manager and the broker/dealer. This process ensures that the parties are in agreement about the essential trade details.
Matchbook FX was an internet-based electronic communication network for trading currency online in the Spot-FX or foreign exchange market. It operated between 1999 and 2002.
A financial transaction tax (FTT) is a levy on a specific type of financial transaction for a particular purpose. The tax has been most commonly associated with the financial sector for transactions involving intangible property rather than real property. It is not usually considered to include consumption taxes paid by consumers.
MT4 ECN Bridge is a technology that allows a user to access the interbank foreign exchange market through the MetaTrader 4 (MT4) electronic trading platform. MT4 was designed to allow trading between a broker and its clients, so it did not provide for passing orders through to wholesale forex market via electronic communication networks (ECNs). In response, a number of third-party software companies developed Straight-through processing bridging software to allow the MT4 server to pass orders placed by clients directly to an ECN and feed trade confirmations back automatically.
CLS Group, or simply CLS, is a specialized financial market infrastructure group whose main entity is the New York-based CLS Bank. It started operations in 2002 and operates a unique and global central multicurrency cash settlement system, known as the CLS System, which plays a critical role in the foreign exchange market. Although the forex market is decentralised and has no central exchange or clearing facility, firms that chose to use CLS to settle their FX transactions can mitigate the settlement risk associated with their trades. CLS achieve this thanks to a central net and gross payment versus payment settlement service directly connected to the real-time gross settlement systems of participating jurisdictions through accounts at each of their respective central banks.
Securities market participants in the United States include corporations and governments issuing securities, persons and corporations buying and selling a security, the broker-dealers and exchanges which facilitate such trading, banks which safe keep assets, and regulators who monitor the markets' activities. Investors buy and sell through broker-dealers and have their assets retained by either their executing broker-dealer, a custodian bank or a prime broker. These transactions take place in the environment of equity and equity options exchanges, regulated by the U.S. Securities and Exchange Commission (SEC), or derivative exchanges, regulated by the Commodity Futures Trading Commission (CFTC). For transactions involving stocks and bonds, transfer agents assure that the ownership in each transaction is properly assigned to and held on behalf of each investor.
