--- title: Settlement Risk description: Learn about settlement risk in financial markets and its impact on parties involved in contracts. Understand the different types of settlement and the potential risks associated with them. image: https://varri.com/hubfs/Imported_Blog_Media/settlement-risk-concept.jpeg --- [Skip to the main content.](https://varri.com/insights/settlement-risk#main-content) [![Várri Consultancy primary logo (negative transparent)](https://varri.com/hs-fs/hubfs/logos/Varri-primary-logo-neg-trans-200w.png?width=200&height=130&name=Varri-primary-logo-neg-trans-200w.png "Várri Consultancy primary logo (negative transparent)")](https://varri.com) [![Várri Consultancy primary logo (transparent)](https://varri.com/hs-fs/hubfs/logos/Varri-primary-logo-trans-200w.png?width=200&height=130&name=Varri-primary-logo-trans-200w.png "Várri Consultancy primary logo (transparent)")](https://varri.com) - About Us - [Awards](https://varri.com/about-us/awards) - [History & Milestones](https://varri.com/about-us/milestones) - [Team](https://varri.com/team) - [About Our Founder](https://varri.com/team/johnny-kollin) - [Media Centre](https://varri.com/about-us/media) - [News and Announcements](https://varri.com/media/news-announcements) - [Accessibility](https://varri.com/accessibility) - [Transparency Statement](https://varri.com/transparency-statement) - [Insights](https://varri.com/insights) - [Careers](https://varri.com/careers) - [Home](https://varri.com/careers) - [Hear from Várri Alumni](https://varri.com/careers/testimonials) - [Rewards and Benefits](https://varri.com/careers/rewards-and-benefits) - [Jobs](https://varri.com/careers/jobs) - Security - [Vulnerability Disclosure Policy](https://varri.com/vulnerability-disclosure-policy) - [Acknowledgments](https://varri.com/security/security-acknowledgments) - [FAQ](https://varri.com/faq) - [Contact](https://varri.com/contact-us) Search Toggle Menu Search Toggle Menu - About Us - [Awards](https://varri.com/about-us/awards) - [History & Milestones](https://varri.com/about-us/milestones) - [Team](https://varri.com/team) - [About Our Founder](https://varri.com/team/johnny-kollin) - [Media Centre](https://varri.com/about-us/media) - [News and Announcements](https://varri.com/media/news-announcements) - [Accessibility](https://varri.com/accessibility) - [Transparency Statement](https://varri.com/transparency-statement) - [Insights](https://varri.com/insights) - [Careers](https://varri.com/careers) - [Home](https://varri.com/careers) - [Hear from Várri Alumni](https://varri.com/careers/testimonials) - [Rewards and Benefits](https://varri.com/careers/rewards-and-benefits) - [Jobs](https://varri.com/careers/jobs) - Security - [Vulnerability Disclosure Policy](https://varri.com/vulnerability-disclosure-policy) - [Acknowledgments](https://varri.com/security/security-acknowledgments) - [FAQ](https://varri.com/faq) - [Contact](https://varri.com/contact-us) [Facebook](https://www.facebook.com/VarriConsultancy) [Instagram](https://www.instagram.com/varriconsultancy/) [Linkedin](https://www.linkedin.com/company/varri/) [X](https://twitter.com/varriuae) [YouTube](https://www.youtube.com/@varriconsultancy) [Tiktok](https://www.tiktok.com/@varriconsultancy) [Pinterest](https://www.pinterest.com/VarriConsultancy/) 2 min read # Settlement Risk [![Picture of Johnny Kollin](https://app.hubspot.com/settings/avatar/66c1ed15fd0cc9c63bedaf0c7d2a6dc9) Johnny Kollin](https://varri.com/insights/author/johnny-kollin) : 5 September 2022, 20:18:12 GST [Definitions](https://varri.com/insights/tag/definitions) [Credit Risk](https://varri.com/insights/tag/credit-risk) ![Settlement Risk](https://varri.com/hubfs/Imported_Blog_Media/settlement-risk-concept.jpeg) What is Settlement Risk? Settlement risk is the possibility that a counterparty will fail to deliver on the terms of a contract at the agreed-upon time. It is a form of [counterparty credit risk](https://varri.com/insights/counterparty-credit-risk) that arises due to timing differences in the exchange of cash flow between two parties, often related to a foreign exchange forward contract with an actual exchange of two different currencies or currency cash flows (as opposed to net settlement in which only the difference in mark-to-market is paid by the party that is out of the money). ## DIFFERENT TYPES OF SETTLEMENT GIVE RISE TO DIFFERENT RISKS ### GROSS SETTLEMENT If a transaction settles on a gross basis, each party must deliver the underlying asset and the gross amount of funds to the other party. For example, let’s assume Party A agreed with Party B to sell Security XYZ a year from now for $100. At maturity, Party B will pay Party A $100, and Party A will deliver Security XYZ to Party B. If the market value of Security XYZ increases to $120 over the next year, Party B will still only pay $100 for that security. If Party A owns the security, it could have sold it outright for $120 but is now obliged to sell it at a below-market price of $100. If Party A does not own the asset, it will have to source it in the market for $120 and then sell it to Party A for $100. Regardless, Party A will effectively lose $20 on the transaction, while Party B will gain $20 (i.e., $120--$100). In the example above, Party B would be required to pay $100 to Party A. Party A would need to deliver the security worth $120 to Party B. The “net” transaction value, i.e., the gain or loss depending on the party, is only $20. However, the settlement risk amounts to the total gross amount of $120. If Party B pays $100 but doesn’t receive the security, it risks losing $100 of the delivered cash plus the $20 gain it is owed. If Party A delivers the security worth $120 but doesn’t receive the cash, it has lost an asset worth $120. The [counterparty credit risk involved in financial markets can be significant](https://www.ecb.europa.eu/pub/pdf/fsr/art/ecb.fsrart200512_06.en.pdf). Taking the same example as above, Party B – counting on the Security XYZ to be delivered at the maturity or settlement date – may have agreed with a third-party, Party C, to sell the same Security XYZ for $105. However, suppose Party A fails to deliver it to Party B at maturity. In that case, Party B may fail to deliver it to Party C. So the initial failure by Party A towards Party B will result in a failure by Party B towards C, and so on. ### DELIVERY VS. PAYMENT SETTLEMENT Most securities transactions today are settled “delivery versus payment” (DVP). DVP means that the assets to be exchanged are only delivered if the funds are paid. - [Tweet](https://twitter.com/share) [![Counterparty Credit Risk](https://varri.com/hubfs/Imported_Blog_Media/purple-financial-charts-1920x1080px.png)](https://varri.com/insights/counterparty-credit-risk) #### [Counterparty Credit Risk](https://varri.com/insights/counterparty-credit-risk) [![Picture of Johnny Kollin](https://app.hubspot.com/settings/avatar/66c1ed15fd0cc9c63bedaf0c7d2a6dc9) Johnny Kollin](https://varri.com/insights/author/johnny-kollin) : 5 September 2022, 13:56:20 GST Learn about counterparty credit risk in financial markets, including pre-settlement risk and settlement risk. Understand how these risks can affect... 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