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ETF Specialist

ETF Settlement Delays: No Cause for Alarm

Sometimes hidden risks really are not risky after all.

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The Ewing Marion Kauffman Foundation recently produced a paper that called settlement failures in securities transactions "canaries in the coal mine," concluding that they pose systemic risk to financial firms and investors. The report's authors trained their sights on exchange-traded funds, citing eye-opening statements including that "ETF fails account for approximately 60 percent of the nearly $2 billion of daily equity trading fails reported to the [Securities and Exchange Commission], and on some days they account for 90 percent of all exchange-traded fails."

While the Foundation's bold statements grabbed our attention, we believe that it overstated the potential risks. The report neglects to explain why settlement failures tend to occur in ETFs, why the instance of settlement failure is far more frequent in ETF shares than stocks, and the actual (and largely nonexistent) implications of settlement failures for investors. While we would agree that there is room for improvement within the existing settlement framework for clearing ETF trades, it is quite a stretch to conclude that delays in the settlement of trades somehow pose "systemic" risk to the financial system.

Ben Johnson does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.