What is 'Failure To Deliver'

Failure to deliver refers to a situation where one or both of the counterparties in a transaction does not meet their obligation. The failure can be when the party with a long position does not have enough money to pay for the transaction. It can also be when a party with a short position does not own the underlying assets and so cannot make the delivery. Both equity and derivative markets can have a failure to deliver occurrence.

BREAKING DOWN 'Failure To Deliver'

Whenever a trade is made, both parties in the transaction are contractually obligated to transfer either cash or assets before the settlement date. Subsequently, if the transaction is not settled, one side of the transaction has failed to deliver. Failure to deliver also can occur if there is a technical problem in the settlement process carried out by the respective clearing house.

Failure to deliver is critical when discussing naked short selling. When naked short selling occurs, an individual agrees to sell a stock that they borrow from their broker because they do not own it. Subsequently, the failure to deliver creates what are called "phantom shares" in the marketplace, which may dilute the price of the underlying stock. In other words, the buyer may own shares on paper which do not, in fact, exist.

Chain Reactions of Failure to Deliver Events

Several potential problems occur when trades do not settle appropriately due to failure to deliver.

With forward contracts, a party with a short position's failure to deliver can cause significant problems for the party with the long position. This difficulty happens because these contracts often involve substantial volumes of assets that are pertinent to the long position's business operations.

In business, a seller may presell an item that they do not yet have in their possession. Often this will be due to a delayed shipment from the supplier. When it comes time for the seller to deliver to the buyer, they cannot fulfill the order because the supplier was late. The buyer may cancel the order leaving the seller with a lost sale, useless inventory, and the need to deal with the tardy supplier. Meanwhile, the buyer will not have what they need. Remedies include the seller going into the market to buy the desired goods at what may be higher prices.

The same scenario applies to financial and commodity instruments. Failure to deliver in one part of the chain can impact participants much further down that chain.

During the financial crisis of 2008, failures to deliver increased. Much the same as check kiting, where someone writes a check but has not yet secured the funds to cover it, sellers did not surrender securities sold on time. They delayed the process to buy securities at a lower price for delivery. Regulators still need to address this practice.

RELATED TERMS
  1. Overnight Delivery Risk

    The risk that occurs as a result of conducting transactions between ...
  2. Fail

    In common trading terms, if a seller does not deliver securities ...
  3. Aged Fail

    A contract between two broker-dealers that has not been settled ...
  4. Delivery

    Delivery is the transfer of a commodity, security or financial ...
  5. Settlement Period

    The period of time between the settlement date and the transaction ...
  6. Cash Transaction

    A cash transaction is an immediate exchange of cash for the purchase ...
Related Articles
  1. Investing

    The Truth About Naked Short Selling

    The media demonizes naked short selling, but it usually occurs after a collapse, not before.
  2. Trading

    Bucking The Trend With Pattern Failure Strategies

    The best trade could be in the opposite direction when a classic price pattern doesn't behave according to ideal rules.
  3. Personal Finance

    The Ultimate List of Painful Financial Mistakes

    Here are 24 preventable tax and investment mistakes that advisors see often; mistakes that can ruin your retirement planning.
  4. Trading

    Naked Options Expose You To Risk

    Find out why these enticing options can spell trouble for your bottom line.
  5. Trading

    Guide to Short Selling

    Want to profit on declining stocks? This trading strategy does just that.
  6. Small Business

    Master The Art Of Negotiation

    Learn the strategies that will help you to come out on top in any negotiation.
  7. Tech

    Bitcoin Transactions Vs. Credit Card Transactions

    We provide an overview of the differences between bitcoin and credit card transactions, and the advantages of using one over the other.
  8. Investing

    How To Talk Like An Investor

    Learn the lingo to start talking like an informed investor and make wise investment decisions in financial markets. Find out terms used in stock trading.
  9. Insights

    Inside National Payment Systems

    Investopedia explains: The global interconnection of U.S. payment systems makes commerical and financial transfers possible.
  10. Trading

    One Thing To Consider After An Uptrend

    A breakdown at support could eventually yield a profitable trading opportunity in the opposite direction.
RELATED FAQS
  1. What is the difference between a short position and a short sale?

    Learn how short selling and short positioning are different, specifically in regards to the nature of the commodity being ... Read Answer >>
  2. Do I own a stock as of the trade date or the settlement date?

    When it comes to buying shares, there are two key dates involved in the transaction. The first date is the trade date, which ... Read Answer >>
  3. What do T+1, T+2 and T+3 mean?

    For security transactions, T+1, T+2, and T+3 refer to settlement dates which occur on a transaction date plus one, two and ... Read Answer >>
  4. What are the benefits of financial netting?

    Learn about the benefits of financial netting, including a reduction in settlement risks between counterparties with multiple ... Read Answer >>
  5. What's the difference between cash-on-delivery differ and delivery against payment?

    Find out more about cash on delivery and delivery versus payment transactions and the difference between these two types ... Read Answer >>
Hot Definitions
  1. Cryptocurrency

    A digital or virtual currency that uses cryptography for security. A cryptocurrency is difficult to counterfeit because of ...
  2. Financial Industry Regulatory Authority - FINRA

    A regulatory body created after the merger of the National Association of Securities Dealers and the New York Stock Exchange's ...
  3. Initial Public Offering - IPO

    The first sale of stock by a private company to the public. IPOs are often issued by companies seeking the capital to expand ...
  4. Cost of Goods Sold - COGS

    Cost of goods sold (COGS) is the direct costs attributable to the production of the goods sold in a company.
  5. Profit and Loss Statement (P&L)

    A financial statement that summarizes the revenues, costs and expenses incurred during a specified period of time, usually ...
  6. Monte Carlo Simulation

    Monte Carlo simulations are used to model the probability of different outcomes in a process that cannot easily be predicted ...
Trading Center