How does it feel to retire after 30 years in the securities lending industry?
It was at last year’s Risk Management Association (RMA) Conference on Securities Lending that it really hit home. I have been working with many of the people at the RMA for more than 15 years and so I had mixed feelings about attending my last RMA conference.
I had been with Goldman Sachs for more than 30 years and hadn’t taken more than two weeks vacation at a time, so I was really looking forward to taking a longer period off and spending time with my family.
What were the highlights of your experience with the RMA conference?
One of the main highlights was chairing my first conference for the International Securities Lending Association (ISLA) and RMA, as well as joining the RMA executive committee in 2002, and later serving as its chairman.
What are some of the defining moments of the industry’s development that you have witnessed?
For the wider industry, a key point would be the increased transparency that came about with Data Explorers (now IHS Markit) entering the market and introducing products that focused on performance measurement.
The 2008 financial crisis was obviously also a major turning point with the disappearance of Bear Stearns and Lehman Brothers. It was a difficult time for the industry and many individuals. Although a lot of beneficial owners scaled back their involvement in the lending market, and some dropped out completely, I think it was also an opportunity to forge even stronger relationships between lending clients and borrowers.
Dealing with the aftermath of the financial crisis and all of the resulting regulatory changes has been an interesting endeavour to say the least. Regulatory awareness has heightened across the entire industry, and everyone has focused on risk management and minimising exposures.
A positive result has been that the changes in the regulatory environment have driven borrowers and lenders to work closer together, with the help of organisations such as the RMA, ISLA and the US Securities Industry and Financial Markets Association. There has been a lot of constructive dialogue since the crisis with the regulators and among the different firms.
A few other key points of the industry’s development I would highlight would be the new requirement that most agent lenders have to set aside capital for indemnification–that really is a huge change. Also, the steep decline in money market yields and the resulting decrease in general collateral lending had a significant effect across the entire market.
Finally, all the ‘new’ markets that have entered the securities financing market in the past few years, such as South Korea, Taiwan and Brazil, can all be considered major developments in the industry’s development. The sheer growth of the market in such short space of time is one of the main differences I notice when I look back.
Was 2008 one of the most dramatic moments of your career?
Well, maybe, but it was also a year of record profitability for some in securities lending. It was definitely an inflection point in the market’s history. It was the point where everyone realised that things need to change in a major way.
A lot of the regulation has come since then, and, although it has been difficult for market participants to deal with, it will ultimately force people to focus on risk management. Efficient investment of cash collateral and retaining appropriate liquidity, for example, are just some of the basics that were forgotten in the hunt for more and more profits pre-crisis. The crash brought many back down to Earth.
Whenever we see difficult times, I see it as an opportunity to work closer with clients. When you get through the tough periods, you end up with stronger working relationships that will benefit everyone involved. However, it is still unknown what some of the unintended consequences of all this regulation will be. On the fixed income side, there are questions about how liquidity in the corporate bond market will be affected.
There are already changes in the repo market and I’ve even heard cash described as a ‘problem asset’, which would shock a lot of people if you had said that 10 years ago.
The regulation is very expensive to comply with and has undoubtedly caused a lot of internal change and diverted resources that are already stretched. But, like all markets, we have to evolve and seek out new opportunities in the new environment.
How have beneficial owners’ views on securities lending changed during your time in the business?
Broadly, lenders are now much better informed about how the market works than they were 10 to 15 years ago. Furthermore, the growth in third-party lending and unbundled programmes is another key development for beneficial owners. Even the largest custody lenders are now involved with non-custodial lending.
We have also seen more ‘hands-on’ involvement from clients in managing how their individual programs are run. The growth in lender-defined parameters is a relatively recent change that was driven by beneficial owners having a more sophisticated view on the market. Limits on average-daily trading volumes, minimum spread criteria and more conservative cash pools are also all consequences of lenders taking a more hands-on approach to their lending programmes.
What areas of development does the industry need to prioritise in order to keep moving forward?
Investment in technology has to be a key part of any solution going forward. Ultimately, a lot of the new investment and strategy planning will have to be shaped by the regulation coming down the pipeline. There are still a lot of open questions about how the regulation will affect market functionality in a stress scenario.
It will also be interesting to see what impact the new president has on regulation, and whether there is a shift of power in Congress in the US.
What will happen to liquidity? Will the same set of lenders continue to offer supply in the market? Will the borrow landscape change significantly? How will collateral change in the US? Collateral in the US is still very much dominated by cash but that’s shifting to non-cash, so will that trend continue or shift back when interest rates go up?
It seems like the approval of equities as collateral in the US is imminent, however, I think that was true 12 months ago. A related question is which beneficial owners will move forward in accepting equity collateral. All of these unanswered questions make long-term planning difficult.
What’s your prediction on dominant industry topics for the future, such as CCPs? Do they have legs?
The debate around central counterparties (CCPs) has been going on for years and will continue for a while. It’s still unclear whether the market will ever accept CCPs and commit to putting significant business through them.
Equilend’s recent acquisition of AQS should certainly improve its ability to offer access to the Options Clearing Corporation’s CCP to its customers. It will be interesting to see how quickly Equilend can integrate the AQS technology into the rest of its products and bring a CCP offering to market.
Everybody seems to hope that CCPs will end up being the silver bullet to a lot of the regulatory issues. However, once again there are still too many questions without answers.
The CCP models we have just aren’t defined enough on a number of issues that need a workable solution before the market and the regulator will accept them.