In finance, a contract settles
when one or both parties perform on an obligation under that contract. The term is
commonly used in trading and
In trading, a trade settles when the instrument being
traded actually changes hands and/or is paid for. Both events typically
occur on the same date, which is called the
Because of mistakes or events beyond the control of
counterparties, transactions sometimes fail to settle on the intended
date. For this reason, it is useful to distinguish between a transaction's
date and its value date. The
former is the date on which the transaction actually settles. The latter
is the date on which it is intended to settle at the time of the trade.
When a market value is calculated for an
instrument, this is typically as of the value date. In this way, the
market value reflects the value that the instrument would command
in the market for payment and delivery on the value date. If an entire
portfolio must be marked to market, some common value date is assumed for
A trade is
spot settled if the
date occurs on a specific date
shortly after the trade date. The actual date depends upon the market. In foreign exchange
markets, spot transactions settle in two trading days. Corporate debt
generally trades for
on the third trading day following the
trade date. This is called regular-way
generally reflects the earliest date that
transactions typically settle in a given market. However, in some markets,
it reflects convention more than practical limitations on how quickly a
given transaction can settle. In such markets, pre-spot
on the trade date. A trade is said to be cash settled
occurs on the trade date.
A trade is forward settled
if it settles on some date after spot. Forward transactions, called
forward contracts of
forwards, routinely have
dates up to a year after the trade date.
If a trade has a cash, spot or forward value date, it may
be called a cash, spot or
Prices at which cash, spot and forward trades transact are called
cash prices, spot
prices and forward prices.
In the debt markets, a loan is agreed to on one date, but
it is said to settle on the date the loan commences. Analogous to trading,
there are cash loans,
spot loans and
forward loans. For example, in the
Eurodollar markets, spot loans settle in two trading days. Forward loans
settle after that. If interest rates are fixed at the time loans are
agreed to, interest rates will differ for spot or forward loans. For
example, the interest rate on a 3-month spot loan will generally differ
from that on a 3-month forward loan commencing in a year. Accordingly, the
markets distinguish between
interest rates and
interest rates. See also the article
forward rate agreement.
In the money markets and foreign exchange markets, very
short-term loans are used to manage short-term cash flows. An
overnight loan commences immediately and lasts
for one trading day. A tom-next
("tomorrow-next") loan commences in one trading day and lasts for one
trading day. A spot-next loan commences in
two trading days (spot) and lasts for one trading day.
In commodity markets, physical commodity trades settle in several ways.
While specifics vary from one market to another, some standard methods
(FOB)—the commodity is cleared through customs and delivered on board
the recipient’s ship at the port of departure.
(FAS)—FOB delivery, except the commodity is delivered alongside the
insurance, freight (CIF)—FOB delivery as well as insurance and
shipping. Essentially, the commodity is delivered to the destination
port, but actual
is through delivery of the ship’s bill of
commodity is cleared through customs and delivered on the dock of the
commodity is cleared through customs and delivered in a warehouse at the
delivering party provides in-warehouse delivery and pays the cost of
moving the commodity to the warehouse exit.
In the context of derivatives, a derivative settles when
one or both parties perform on an obligation under the derivative
contract. For example, a swap contract calls for periodic payments to be
made between two parties. The swap settles each time a payment is made.
Margin is paid on futures contracts every trading day. Accordingly,
futures settle daily. Consider an
call option on oil. If exercised,
the option settles when the oil is delivered and/or payment is made for
Trading organizations have a back office (or operations
department). One of this department's purposes is to settle trades
and/or other obligations on behalf of the organization.