How Alternatives Can Benefit from Straight Through Processing

Straight Through Processing is a concept that may be familiar to anyone who has invested in public securities. Unlike many private security transactions, public securities transactions are largely completed online with little to no manual, paper-based work required. 

Straight through processing, which originated in the 1970s to enable public stock trading through computer networks, is a concept designed to let financial companies automate transaction processing through the use of online workflows.

According to Ayesha Khanna, author of Straight Through Processing for Financial Services – the Complete Guide, the original goal of straight through processing technology was to shorten the processing cycle, which at the time was 3 days or more from the trade date, down to a single day or less. The adoption of online trading drove fees down, as transactions became cheaper and faster to process, and interest in public trading increased significantly.

To illustrate the need for technology intervention in the alternative investment space, consider that a Delaware Statutory Trust (DST) investment that is processed manually can take as long as 6 weeks—significantly longer than the 3 day process that was considered problematic for public securities 50 years ago. The DST process is extended by the use of lengthy, confusing subscription documents and the need for signatures of multiple stakeholders, meaning the documents must be sent via expensive overnight mail several times before the process can be completed.

Since its advent, Khanna says, straight through processing has come to stand for the automation of “all processes related to the trade lifecycle of financial securities, including equities, fixed income, and derivatives. …It constitutes an end-to-end streamlining of operations within and across firms.” Automating manual processes enables companies to address security concerns, increase transparency, and decrease time-consuming errors relating to not-in-good-order (NIGO) documents.

NIGO errors are particularly rampant in alternative investments, with some industry participants estimating that 60% of subscription documents are submitted with errors and require corrections. Features such as business rules, which simplify the subscription process by only presenting relevant fields based on investor type, and verification checks, which can confirm the right type of information is entered in the right fields, may help to reduce NIGO errors to the low single digits. Meanwhile, converting to a digital process helps mitigate risks associated with manual processes and creates a window into the activity of investments in progress.

Khanna also notes that the straight through processing ideal cannot be achieved with partial adoption. Each link in the chain, including sponsors, advisors, broker-dealers, custodians, fund administrators, and third-party vendors, has a responsibility to adopt process improvements. If firms cannot integrate and communicate, the automation is inherently partial, as are the benefits.

Other industries have seen the improvements that automating manual processes can bring. In the insurance industry, firms who have adopted automation technology have seen up to a 65 percent reduction in costs and a 90 percent reduction in turnaround time on key processes, according to a group of McKinsey principals and partners experienced in the industry.

While it has been widely adopted by the public securities market, the straight through processing revolution is still in its nascent stages in alternative markets. According to SEC Form D data, nearly all of the $1.7 trillion invested into private offerings under Regulation D in 2017 was processed manually, with paper documents being mailed or faxed between sponsors, investors, and their representatives. But new automation tools are popping up regularly, and the frequent inclusion of straight through processing panels and discussions at major industry conferences suggests that alternative investment processing is primed for an upheaval.

In their Investment Management Outlook report, Deloitte predicts that 2019 will be the year that tech-savvy firms will put pressure on traditional firms, and those who don’t jump on the technology train will be left behind. And, with a massive impending shift in generational wealth from Baby Boomers to Millennials—a generation known for their love of technology—alternative investment industry participants need to consider the changing expectations of their investors.

Issuers, advisors, and intermediaries don’t need to wait for investors to force their hand. Automation solutions can already be used to reduce administrative costs, mitigate cybersecurity risks, and increase transparency, while providing investors with an improved user experience designed to change the way they look at investing in alternatives.