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What is clearing and settling, and what do they have to do with a company named GameStop?

In January, several retail brokerage applications restricted customer access to trading in certain meme stocks, like GameStop, as you recall.

The market was extremely volatile, up and down, and many investors were told at a critical moment, that they couldn’t purchase stock.

Understandably, these decisions drew a lot of questions. Access to our markets was restricted. And I share the frustration of investors who were locked out from making certain transactions.

Everybody should have access to our capital markets.

We’re taking a close look at the events of earlier this year. Where we find that there was wrongdoing anywhere in our markets, we will pursue it.

One thing we do know that drove part of this, though, was the plumbing.

… No, not that kind of plumbing; market plumbing.

Behind our retail trades is something called a clearinghouse.

They exist to reduce the risk of our capital markets by stepping between buyers and sellers to help ensure that they get their securities on one side and cash on the other. They also add some time between when you execute a buy order, for example, and when you actually get the stock.

If you enter into a trade on a Monday, say, the cash and securities don’t finish changing hands until Wednesday. That’s called two-day settlement.

But what if the price goes way up, and the seller no longer wants to hand over the securities? Or, what if a broker goes out of business before that two days were up?

So, clearinghouses need to have rules, standing in the middle, to reduce those risks. And importantly, the parties to the trade need to post some money called collateral, or technically “margin,” to cover any of those potential losses.

So, back to January. The significant volatility, trading volume in these meme stocks like GameStop prompted larger-than-usual calls for money—margin calls—on these brokerage applications.

A number of brokers then stepped in and restricted investors’ ability to purchase certain stocks.

These decisions raise a number of questions about the rules and procedures for brokers. Separately, they also prompted questions about whether we could lower the risk by addressing the plumbing.

The longer it takes for a trade to settle—the slower the plumbing—the more risk our markets assume, and the more risks fundamentally, that we all assume.

The good news, though, is we now have the technology to shorten that plumbing to one day or even perhaps the same day. You buy stock on a Monday; you get it on Tuesday or maybe even Monday evening.

I’ve asked the staff at the Securities and Exchange Commission to put together a draft proposal for the Commission’s review on this topic.

In the meantime, I encourage you to read more about “meme stock” events in the SEC staff’s recently published GameStop report. Check it out on our website, sec.gov.