Stock markets are highly volatile most of the time. Stock prices go up and down and at the same time, numerous trade settlements are made on a daily basis around the world. In order to keep the market stable, the trade settlement time shouldn’t be kept longer.
You might have wondered someday why does it take 3 days to settle a trade? this is because the 3-day rule stocks apply. This rule states that all the stock trading should be settled within three business days.
You will get detailed information about this rule in this post so read ahead and make yourself familiar about it.
What is the 3-day rule in stocks?
When you are buying any stocks, you will pay money to the seller. The money transfer should happen within three days. This trade settlement should happen within 3 days. This is called the three-day settlement rule or the three-day rule, also called T+3.
If you are working with a brokerage firm for buying and selling the stocks then until now, you might have thought that everything happens instantly. But that is not the case, the transfer of securities takes place within 3 days and not instantly.
If you buy the stocks then your brokerage firm should receive the money within three business days and if you are selling the stocks then the shares must be delivered to your brokerage within the same time period.
Bonds, stocks, mutual funds, and many other security transactions are covered under the T+3 rule. So, this rule is applicable for all the major securities and the trade settlement should happen within three business days for all of them. Weekends are not counted in the settlement time period, only the business days are counted.
In this period of 3 days, you can’t do any other transaction on the same stock. For example, if you buy one stock and then you want to sell it within the three days then it might not be possible as the trades haven’t settled yet.
Earlier, the time window for the trade settlement was five days but to make the cash flow fast, it has been reduced to three days.
What is the Significance of this Rule?
This rule creates an orderly and efficient market as the trades are settled within a short time span. If the time span is more than three days then it would create a delay in the trade settlement. Until the trade is settled, the buyer and seller won’t know how much money they will gain/lose.
So, if the trade settlement time is less then the investors will get the money added/deducted from their account and they can carry on with any further trades on the stocks if they want.
Long settlement time might make the trades incomplete as the investors might not be able to pay the amount in the long run due to some of the other reasons. The possibility of defaults gets reduced with this rule and that is the biggest advantage of it. Financial markets remain stable and work without complications with this rule.
How do Brokerage rules work?
Now, you might have a question in your mind: what if the investors are not able to settle the trade in the three-day time window, who will bear the costs? In this case, brokerage firms will cancel the deal and the loss incurred will be passed onto the investors.
Implications on the Dividend Investors
This rule has its implications on the dividend investors as well. If you want to get the dividend then you have to buy the stocks before the “ex-dividend” date.
For example, if any company declares dividends to the shareholders of record date: July 4, 2020, then in order to get the dividend, you have to buy the shares on or before July 1, 2020. July 2 is called the ex-dividend date, trade for the shares should be settled before this date to get the dividend.
So, this was an overview of the three-day rule in stocks. Hope you now have got an idea of it and will get your trade settlement done within 3 business days. Have enough amount of money required for buying a particular stock so that your broker can do the transaction easily on behalf of you and get the required stocks within the time window.
Also, when you are selling the stocks, the money earned should be credited in your account within the same window and for this, make the details of your stock available so that the trade can be accomplished within the time window. For more information, visit Financeshed.