Settlement and Corporate Actions

Two clocks start once a trade is executed. One counts down to the day money and shares move. The other runs when an issuer changes its own securities and sets a deadline for you. Section 3 is 31% of the exam, and both clocks appear in it.

Trade date and settlement date

Trade date, written T, is the day you and the other side agree on the trade. Settlement date is the day the buyer's money and the seller's securities change hands.

Regular-way settlement is the standard timetable a trade follows unless both sides agree otherwise. Regular way is T+1, one business day after the trade date. The SEC shortened the cycle from T+2 in May 2024.

Count business days, never calendar days. Buy on Friday and the trade settles Monday, because the weekend does not count. A market holiday pushes settlement out one more day.

Most products on the SIE settle regular way at T+1:

• Common stock, preferred stock, ETFs, and ADRs.
• Corporate bonds and municipal bonds.
• Options and US government securities, which already settled the next business day.

Cash settlement means the trade settles the same day, on T. Both sides must agree, and the trade must be entered before the exchange's cutoff time. A seller who needs money today asks for one.

Physical delivery and book entry

Physical delivery means the seller hands over a paper stock certificate. The transfer agent, the firm that keeps the issuer's ownership records, cancels it and issues a new one to the buyer. Physical delivery is slow and now rare.

Book entry means ownership is an electronic record and no certificate moves. Settlement becomes a change of entries in a ledger at the depository. Almost every trade settles this way.

Most customers hold in street name. The broker-dealer is the registered owner on the issuer's books, and you are the beneficial owner on the firm's books. That setup makes fast book entry settlement work. Corporate action notices reach you through your firm.

What a corporate action is

A corporate action is a change an issuer makes that affects its own outstanding securities. Sort them into two piles, because the exam tests the difference through deadlines.

Mandatory actions happen to you and need no reply. Splits, reverse splits, and completed mergers land in your account on their own.

Voluntary actions ask you to decide by a deadline. Tender offers, exchange offers, and rights offerings all expire. Before you ignore a notice, read the deadline on it. Miss one and you get the default outcome.

Splits and reverse splits

A stock split raises your share count and cuts the price by the same ratio. Your total value stays the same, and so does your total cost basis, the amount you paid for the position.

You own 100 shares bought at $60, now trading at $80. The company declares a 2-for-1 split. You end with 200 shares worth $40 each, and your basis per share falls to $30. Total value is still $8,000, and total basis is still $6,000.

A reverse split runs the other way, cutting your share count and raising the price. A $0.60 stock that does a 1-for-10 reverse split trades near $6, and 1,000 shares become 100. A basis of $0.50 per share becomes $5.00 per share.

Companies split forward to bring a high price down, and split in reverse to lift a low price back over an exchange's minimum. Neither one hands you income, and neither is a taxable event.

Buybacks, tenders, exchanges, rights, and M&A

• A buyback, also called a share repurchase, is a company buying its own stock back. Shares outstanding fall, so earnings per share rise. The company either retires the shares or holds them as treasury stock, shares kept in reserve instead of retired.
• A tender offer is an offer to buy shares at a set price by a set date, usually above the market price. The issuer can make one, and so can an outside buyer seeking control. Anyone seeking more than 5% of a company by purchase or tender offer must disclose it to the SEC.
• An exchange offer works the same way but pays in other securities instead of cash.
• A rights offering lets existing shareholders buy new shares at a set subscription price ahead of the public. Rights protect your percentage of the company when it issues more stock. They usually trade, and they expire fast.
• In a merger or acquisition, your shares turn into cash, into buyer shares, or into a mix.

Adjustments, notices, and proxies

When a corporate action changes the underlying stock, related contracts are adjusted so the mechanics alone create no winner. Take a 2-for-1 split of a $45 stock. The stock goes to $22.50, the 50 strike call becomes a 25 strike call, and the holder ends with twice as many contracts. After a 1-for-10 reverse split the strike does not move, and the deliverable drops to 10 shares per contract.

Tender offers and exchange offers bring no option adjustment, whoever makes the offer and whatever it pays. The exam likes this trap, because every other corporate action here does trigger one.

The issuer sends notices to registered holders through the transfer agent, and your firm passes them to you, proxies included. A proxy is written authority to vote your shares for you, normally given to management.

The proxy statement lists each item up for a vote. The SEC makes the issuer file those materials and disclose every important fact in them. On the significant items your firm cannot vote your shares unless you send instructions.

How this gets tested

"A customer buys stock on Thursday. When does it settle?" Friday, one business day later.

"An investor holds 400 shares with a $20 basis, and the stock splits 2-for-1." Now 800 shares with a $10 basis, and the $8,000 total does not move.

"A tender offer is announced. How are the listed options adjusted?" They are not.