Settlement of derivatives

Settlement and clearing

‘Settlement' and 'clearing’ are two distinct processes. The ‘settlement’ of a transaction requires that each party obtains what was contracted for, usually cash for one party and securities for another, and at the time expected. Clearing is the post-transaction management which ensures that transactions will settle. Traditionally, only exchange traded derivatives were cleared but after the financial crisis, regulations were introduced so that certain over-the-counter (OTC) derivative contracts also need to be cleared.

All transactions involve a level of risk that one party will fail in its obligations to deliver to another.

For exchange traded derivative (ETD) contracts, there may be multiple instances for delivery of cash or securities between the parties during the life of the transaction. This then requires repeated instances of the clearing and settlement process.

For more information on clearing generally, see: Clearing of derivatives—overview and for information on ETDs, see Practice Note: Exchange traded derivatives.

Over-the-counter derivative contracts

There are two types of OTC derivative