T+2 and Blockchains

In the world of traditional finance, T+2 refers to the transaction date plus two days it takes for the money to actually be received in the destination account. It may be T+2 for a stock/share sale to result in money in an account or other similar transactions. In other cases, it may be faster or longer.

Banks, for example, use the SWIFT system abroad, or Fedwire to message between banks. Current technology now allows for faster settlement, but it is still not instantaneous.

The major problem is that most of these financial institutions, like Charles Schwab, JP Morgan, Wells Fargo, Bank of America, Citibank, and others, all have separate internal corporate database ledgers. So if your account is with a particular bank, and you make a deposit or withdrawal, their internal database ledger gets updated. But outside institutions are not privy to your account details. Rightfully so because of privacy concerns.

The problem is when you are doing an inter-institution transaction. Let's say you sold some stocks through a broker-dealer, through a stock exchange. They will have their own database ledger, and that gets updated. Then some type of messaging system informs the depository account, like your bank, that they should expect funds to be wired.

In many cases, all these transactions are done once cleared with that institution and get passed on to the other. In the case of bank transfers, if two banks do not have a relationship with each other, the wire passes through an intermediary bank, normally in financial centers like New York. Aside from the delay, each institution that handles the proceeds often charges some type of handling fee, which all gets deducted from the amount the recipient actually gets. Recently, the Fedwire system has speeded things up, but the information that each bank handles is still in siloes.

Enter the blockchain. If shares are tokenized on the blockchain, the transaction, clearing and final settlement can happen much faster. That is because both source and destination financial institutions could be using the same public blockchain. So the common distributed ledgers of the public blockchain would synchronize and finalize the transaction, and immediately debit the amount sent to the account of the recipient.

While financial institutions do have a point in preserving their client's privacy over the speed of settlement, public blockchains now employ various techniques to ensure that transactions are not directly viewable by the public, but still satisfy Anti Money Laundering (AML) requirements.

We don't really know what direction the banks and other financial institutions are headed in. Maybe they will set up their own private network and not rely on public blockchains. Occasionally, we hear news that certain banks, credit card companies, and even transmission entities such as the SWIFT network have partnered with certain public blockchains.

We are still in a period of experimentation. However, in the future, we should expect that T+2 will become an unacceptable metric. After all, if you have sold a million dollars worth of stock/shares, why would you want to wait two days for the money to get into your account if the technology exists for it to get there a few seconds or minutes after it is transacted?