Buy-In

A customer of Stallard Securities sold a security long and, well past settlement, still has not delivered the certificates to the firm. Stallard has consequently failed to deliver on the street side. What is the firm's normal remedy against the customer?

1. A.Cancel the street-side contract, because the customer's non-delivery makes performance impossible.Wrong. A firm cannot unwind a street contract it entered in its own name by pointing at its customer.
2. B.Leave the position open indefinitely, since a customer long sale is not subject to any close-out.Wrong. The open item here is the firm's own street-side fail, and that does not get to sit forever.
3. C.Report the transaction as a short sale and apply the borrowing requirements that go with one.Wrong. Relabelling a customer's long sale to fit the firm's operational position misstates what the customer did.
4. D.Buy the security in for the customer's account and charge the customer with the loss.Correct. This cures the firm's street obligation and places the cost on the party whose failure created it.

Why: The firm's street-side contract is its own obligation and the customer's non-performance is no defence to it, so the firm has to source the securities. The standard remedy is to buy the security in for the customer's account and charge the customer with the resulting loss, which simultaneously cures the street-side fail and puts the cost where it belongs. The customer's failure to deliver on a long sale does not convert the transaction into a short sale, and it does not entitle the firm to leave its own contract unperformed. Had the customer delivered before the buy-in was executed, the ordinary settlement path would have resumed.

A firm fails to receive delivery of securities it purchased and, after the applicable point, must resolve the fail through a buy-in. What is the purpose of the buy-in procedure the principal must ensure is followed?

1. A.To allow the firm to purchase the securities elsewhere and hold the delivering party responsible for the resulting costCorrect. The buy-in procedure shifts the cost of an unresolved fail to deliver back to the party responsible for the failed delivery.
2. B.To permanently cancel the underlying trade with no further obligation on either partyWrong. A buy-in resolves the delivery failure through a substitute purchase and cost allocation, not by simply canceling the trade.
3. C.To transfer the failed position to the firm's own proprietary account permanentlyWrong. This is not the purpose of a buy-in; the procedure addresses the fail through a substitute purchase with cost allocated to the failing party.
4. D.To allow the firm to simply absorb the cost of the undelivered securities as a normal operating expenseWrong. This misses the purpose of the buy-in procedure, which is to shift the cost of the fail back to the delivering party, not have the receiving firm absorb it.

Why: A buy-in procedure allows the firm that did not receive delivery to purchase the securities elsewhere and hold the delivering party responsible for the resulting cost, ensuring the failing party bears the consequence of not delivering as required. The principal must ensure this procedure is properly followed when a fail is not otherwise resolved.

A principal is training a new associate on settlement terminology and is asked to explain the difference between a "fail to deliver" and a "fail to receive," and which party may initiate a buy-in procedure. What is the correct explanation?

1. A.A fail to deliver and a fail to receive describe the identical situation from two different firms' perspectives, and either party may initiate a buy-in.Wrong. While the two terms describe the same underlying settlement failure from each side, only the party owed delivery may generally initiate the buy-in.
2. B.A fail to receive occurs when the selling firm does not deliver securities, and the seller may initiate a buy-in against itself.Wrong. A fail to receive is the buying firm's failure to receive, not the selling firm's failure to deliver, and a firm doesn't buy in against itself.
3. C.A fail to deliver is the selling firm's failure to deliver; a fail to receive is the buying firm's resulting failure to receive, and it is generally the buyer who may initiate the buy-in.Correct. The buyer facing a fail to receive is generally the party who may initiate a buy-in against the non-delivering seller.
4. D.Only a clearing corporation, and never either firm directly, may ever initiate a buy-in procedure.Wrong. The party owed delivery may itself initiate a buy-in; it is not limited exclusively to a clearing corporation.

Why: A fail to deliver occurs when the selling firm does not deliver securities it sold; a fail to receive occurs when the buying firm does not receive securities it purchased. It is generally the party owed delivery — the buyer facing a fail to receive — that may initiate a buy-in against the party that failed to deliver.

A customer sells securities through Bramwell & Co. but fails to deliver the shares from an outside account by settlement date. Separately, Bramwell is owed a delivery from a market counterparty that also fails to deliver. What is the difference between the remedy available to Bramwell against its own customer and the remedy available to Bramwell against the failing market counterparty?

1. A.Both situations are resolved identically, because a fail to deliver is a fail to deliver regardless of who is on the other side.Wrong. The customer relationship and the street counterparty relationship are governed by different rules and different procedural steps, even though both involve a missed delivery.
2. B.Bramwell has no remedy against its own customer, since only market counterparties can be bought in.Wrong. A firm can take action against its own customer's account for an undelivered sale; that is a standard operational remedy, not one reserved for street counterparties.
3. C.Bramwell must net the two fails together and take a single action against whichever party is holding the larger position.Wrong. The customer fail and the street counterparty fail are unrelated obligations and are not netted against each other.
4. D.Against its own customer, Bramwell may buy in or otherwise close out the position and charge the customer's account directly; against the market counterparty, it must use the street-side buy-in notice process.Correct. A firm's remedy against its own customer runs through the customer's account under the customer agreement, while its remedy against a market counterparty runs through the formal street-side buy-in notice procedure.

Why: A firm's remedy against its own customer for an undelivered sale runs through the customer's account under the customer agreement -- the firm can buy in or otherwise close out the position and charge the account directly. A firm's remedy against a market counterparty runs through the formal street-side buy-in notice procedure instead. The two situations look alike on the surface -- someone owed securities did not deliver -- but they sit in different relationships governed by different procedural doors.