NISM Series VI Study Notes: Chapter 7 – Functions of Depository Participant: Trading and Settlement (Part 2 of 2)
This study guide provides comprehensive, exam-focused notes for the second segment of Chapter VII: Trading and Settlement. This part covers critical settlement terminologies, delivery mechanisms, and the procedures for subscription and redemption of Mutual Fund units through stock exchanges and depository participants.
1. Key Settlement Terminologies & Delivery Concepts
To participate effectively in depository clearing and settlement, clearing members and beneficial owners must master specific terms, deadlines, and delivery facilities established by stock exchanges and depositories.
Settlement and Market Identifiers
- Market Type: Stock exchanges offer different market segments in which trades can be executed. This segmentation is determined by the specific type of settlement or the type of trade. The contract note or trade confirmation slip provided by the broker or sub-broker always indicates these settlement details.
- Settlement Number: The trading periods of each of the market segments are identified by a unique settlement number. The Delivery Instruction Slip (DIS) submitted by the investor must contain the correct settlement number for which the securities are being transferred to the clearing member account.
- Clearing Member: Every broker in a stock exchange participating in the settlement process through a depository is required to open a clearing member account. In the depository system, these accounts are identified with BO IDs or CM BP IDs and are popularly called "CM accounts".
Core Settlement Mechanisms
- Delivery Deadline: Stock exchanges enforce a strict deadline by which clearing members are expected to deliver securities. A clearing member can only deliver securities within this deadline if they have received the securities from their clients in a timely manner.
- Pay-in: This refers to the process of a broker or trading member submitting securities sold on behalf of their client to the Clearing Corporation or Clearing House (CC/CH) of a stock exchange.
- Pay-out: This is the process where the Clearing Corporation or Clearing House transfers the securities to the purchasing broker’s CM account for the quantity of securities bought on behalf of their clients.
- Inter-settlement Transfer: Within a clearing member's account, securities are always held in designated "buckets" corresponding to a specific market type and settlement number. To move securities from one settlement bucket to another settlement bucket, a clearing member can execute an "inter-settlement" transfer instruction.
- Inter-Depository Transfer: The transfer of electronic securities from a beneficial owner's account in one depository (e.g., NSDL) to an account in another depository (e.g., CDSL) is termed an inter-depository transfer.
2. Advanced Pay-in Facilities
Depositories and clearing corporations provide specialised settlement facilities to streamline broker operations and offer margin benefits.
| Facility Type | Core Definition & Operational Setup | Eligible Participants & Benefits |
|---|---|---|
| Normal Pay-in | Securities are delivered to the CC/CH of the stock exchange by giving a standard pay-in instruction to the DP. | Can be used by a CM or the selling BO. Note: Instructions from non-BSE CM accounts are not allowed for certain BSE-specific normal pay-in setups. |
| Early Pay-in | A facility where delivery is completed ahead of schedule. | Used to avail of margin exemptions and other applicable benefits, including Buy-back and Tender Offer transfers. |
| Auto Pay-in | CMs are not required to give physical or manual pay-in instructions to their DP; the securities are automatically considered for pay-in. | Available to BSE Clearing Members (BSE-CMs) upon submitting a written request to the CC/CH (i.e., ICCL/NSCCL). |
| Automatic Delivery-out | Instructions for moving securities from a CM Pool Account to a CM Delivery Account are generated automatically. | Generated automatically by the respective Clearing Corporations based on the net delivery obligations of its Clearing Members. |
3. Subscription & Redemption of Mutual Fund Units
Under the depository system, investors can subscribe to and redeem mutual fund units directly through stock exchange platforms or through their Depository Participant.
A. Subscription (Purchase) through Stock Exchanges
- Order Entry: A purchase order for Mutual Fund units is entered onto the stock exchange's order entry platform by an eligible Clearing Member (CM) on behalf of the investor.
- Validation: Once the order entry deadline passes, the exchange sends the order file to the Asset Management Company (AMC) or Registrar and Transfer Agent (R&TA) for validation.
- Settlement Routing: Mutual Fund units purchased through this route are processed and routed through the standard settlement cycle of the stock exchange.
- Credit to Client: Following successful settlement, the CM transfers the Mutual Fund units into the respective Beneficial Owner's (BO) demat account.
B. Redemption (Repurchase) through Stock Exchanges
- Order Placement: To redeem or repurchase Mutual Fund units, the investor places an order through an eligible CM on the stock exchange's order entry platform.
- Transfer of Units: Upon successful order entry, the Investor/BO must transfer the physical-equivalent units for pay-in.
- DIS Submission: This is done by submitting a Delivery Instruction Slip (DIS) to the DP, clearly specifying the Settlement ID, type, and other relevant details.
- Debit & Credit: The Mutual Fund units are debited from the BO’s demat account and credited to the Clearing House (CH) account for final payment processing.
C. Direct Repurchase / Redemption through the Depository Participant
- Direct Execution: A Beneficial Owner has the option to redeem or offer Mutual Fund units for repurchase directly through their DP.
- Bypassing the Exchange: This method is applicable to MF units held electronically in the demat account and does not require going through the stock exchange transaction mechanism.
- Strict Rule on Modifications: No modifications are permitted once a Repurchase or Redemption request has been submitted through this channel.
4. Key Takeaways & Exam-Focused Points
- Margin Exemptions: The Early Pay-in facility is specifically designed to help clearing members and clients get exemptions from exchange margins.
- BSE Auto Pay-in: Only BSE Clearing Members can set up the Auto Pay-in facility by writing to the Clearing Corporation/House (ICCL/NSCCL).
- No MF Modification: Once an instruction is given for direct repurchase/redemption of MF units through a DP, no modification is allowed.
- Inter-depository vs. Inter-settlement: Moving shares between NSDL and CDSL is an inter-depository transfer, whereas moving shares between different settlement numbers within a broker's pool account is an inter-settlement transfer.
5. Important Terms Glossary
- Pay-in: The act of submitting sold securities to the Clearing Corporation to fulfill a delivery obligation.
- Pay-out: The transfer of purchased securities from the Clearing Corporation to the buyer's broker pool account.
- Inter-Settlement Transfer: Moving securities internally within a CM account from one settlement number/market type to another.
- Early Pay-in: Pre-delivering securities to the clearing system to avoid upfront margins and cover settlement obligations early.
- Auto Pay-in: A hands-off electronic facility where BSE brokers have their net obligations automatically swept without manually sending instructions to their DP.
6. Practical Real-World Examples
Example 1: Inter-Settlement Transfer
- Scenario: Broker ABC has received 1,000 shares of XYZ Ltd. in their CM pool account under Settlement Number 2026045. However, they need to deliver these shares under Settlement Number 2026046.
- Process: Broker ABC provides an inter-settlement transfer instruction to their DP. This instruction moves the 1,000 shares out of the bucket for settlement 2026045 and places them into the bucket for settlement 2026046 within the same CM account, making them ready for delivery.
Example 2: Direct Mutual Fund Redemption
- Scenario: Investor Priya holds 500 units of a debt mutual fund in her demat account. She wants to redeem them directly without using a stockbroker.
- Process: Priya approaches her Depository Participant directly. She submits a redemption request for the units held in her demat account. The DP processes the request, the units are debited from Priya's account, and the AMC coordinates the direct payout to her registered bank account. No broker is involved, and Priya cannot modify this request once submitted.