Stock clearing stalwarts face increasing threat from blockchain

Credit Suisse and broker Instinet said on Tuesday they had settled privately-negotiated stocks deals on a blockchain for the first time, speeding up the completion of share trades to just a few hours, compared with the current system of two days.

The deals bypassed the clearing infrastructure of the Depository Trust and Clearing Corporation, which clears and settles all US equities transactions, and were handled by Paxos Trust Company — a specialist in cryptocurrency technology and custody services.

The standard two-day process for confirming and completing equities trades is a key part of the US stock market’s plumbing and rarely suffers slip-ups, but brokers and market makers criticised its role in January’s meme stock trading frenzy. If it gains wider adoption and regulatory backing, this model could provide an alternative way forward.

“Modern technology makes the risks of the current system obsolete,” said Charles Cascarilla, chief executive of Paxos. “GameStop shows [settlement failure] is not a symptom of a broader financial crisis, it’s part of a broader settlement problem.” Cascarilla said the service could also interact with brokers’ existing clearing systems.

The US system to finalise stock trades was thrust into the spotlight in January after heavy trading in shares widely-discussed on the Reddit website, including GameStop and AMC Entertainment, forced brokers such as Robinhood to impose trading restrictions.

Robinhood later called for reform of the two-day period DTCC sets aside to ensure assets are legally transferred from seller to buyer. It was backed by Ken Griffin, principal shareholder of Citadel Securities, and Virtu Financial.

Supporters of blockchain technology argue it can improve slow and inefficient settlement and cut the amount of collateral held up in global payment systems. Market participants are able to verify transactions on a widely-held digital ledger rather than rely on a central institution updating its records.

DTCC’s technology allows trades to be settled on the same day if they are executed before 11.30am, but Paxos said it could extend that window as late as 4.30pm. Paxos also supplies the technology that lets PayPal customers buy and sell digital currencies on the payments website.

Paxos is seeking to turn its temporary regulatory approval from the Securities and Exchange Commission into a permanent licence by the end of the year, potentially setting it up to chip away at the 40-year dominance of DTCC. “It’s what allows us to do this in industrial-strength size,” said Cascarilla.

DTCC’s system for same-day settlement is rarely used as brokers need time to find securities in the market and customers would need to fund their deals in advance. Same-day settlement would also leave brokers without the time they need to consolidate their buy and sell positions, ramping up the amount of cash required to fund daily transactions.

DTCC has outlined a potential plan to halve the time it takes to settle millions of equities trades to one day by 2023, but the step needs backing from its members and regulator approval.

The blockchain move comes as more Wall Street institutions become comfortable with the underlying technology and some companies such as Visa and Tesla begin to accept digital currencies for settling consumer payments.

“Bottom line, we suspect we have only felt the tip of change as we move towards delivering the full potential of this new, big technology into our everyday lives,” said analysts at Piper Sandler last week.