(October 17) – “Federal Reserve Chairman Alan Greenspan warned of possible trading-system glitches if U.S. securities markets don’t update their processing capacity to handle ballooning volume,” writes Michael Schroeder in today’s Wall Street Journal.

“Growth in the number of daily trades already is straining the ability of securities firms to clear and settle transactions in the required three days, Mr. Greenspan said. The problem is likely to worsen as volume continues to increase as a result of Internet technology, longer trading hours and decimalization — stock prices being quoted in pennies rather than fractions of a dollar.”

“‘Errors and delays in settling trades imply greater operational risks,’ he said. ‘Furthermore, should capacity problems emerge because of a volatility-induced spike in trading volumes, the equity markets themselves could be compromised.'”

“The securities industry has recognized these dangers and is working to overhaul the system. Addressing a Federal Reserve Bank of Atlanta conference, the Fed chairman asked the private sector, without government interference, to modernize financial markets’ infrastructure. He also lauded a private-sector initiative to shorten the period in which securities transactions must be cleared to a day from three.”

“Settling trades in one day will reduce the chance that a transaction could fall through because of unforeseen events. By reducing this credit risk, the potential for losses should be greatly reduced, Mr. Greenspan said. His prepared remarks didn’t address U.S. monetary policy or the economic outlook.”

“The recommendations won’t get much opposition from market participants or regulators. With the Securities and Exchange Commission’s encouragement, the Securities Industry Association, a trade group, is overseeing an industry plan to spend $8 billion on upgrading systems. The overhaul will involve brokerage houses, trade clearinghouses and the stock exchanges and is expected to be completed in mid-2004. It is designed to increase trading capacity and efficiency, and reduce transaction settlements to one day.”

“The industry has been alarmed by the failure of equity transactions to be completed in the required three days. The trade group estimates that by 2002, 40% of 815,000 average daily institutional trades won’t be completed in three days, up from an estimated 12.5% failure rate on average daily institutional volume of 522,000 trades this year.”