It’s an insurance company. It’s an asset manager. It’s a superannuation fund!
Super funds are again looking to securities lending as a source of incremental revenue, says Natalie Floate of BNP Paribas
In Australia, we are seeing a change in approach and appetite for securities financing products from superannuation funds. This has been driven by the general return to focusing on fund performance after several years in which the agenda has been dominated by risk management and regulatory change.
Super funds and other institutional investors have been managing an unprecedented amount of regulatory change since 2009, and have had to focus on this while also undertaking their own risk assessments and general risk reviews following the Lehman Brothers default in 2008. How did their portfolios manage the market stress? How effective were their risk management and hedging strategies? What was the liquidity risk for the fund and how could they mitigate the impacts should the same situation occur again in the future?
Globally, the regulatory focus was on risk management, capital protection and transparency of risk for investors. In Australia, the regulators added another element—choice for investors. This entailed a suite of regulatory changes that introduced flexibility for investors to switch their superannuation plans easily between providers, or to opt out of the traditional super fund model and set up their own self-managed super funds. This element of choice resulted in fees charged by superfunds becoming a major discussion topic.
So today our super funds are under pressure to perform well while reducing costs. This has timed well with the securities finance sector and particularly securities lending, as market participants have worked hard since 2008 to increase awareness of their activity, specifically what drives borrowing and lending, as well as the size of the market. A number of major markets such as Australia have introduced daily reporting via their local clearinghouses of all securities lending and borrowing activities. Individual lending agents have worked with clients and prospects to increase awareness and knowledge of securities lending activities—the risks to be managed and the potential returns.
What are we seeing today? We are seeing a stronger pipeline for securities lending than ever before, and having detailed discussions with super funds as to the drivers for revenue and on what assets to lend and collateral to use, factors to managing borrowers and liquidity, and tenor risks in reinvestment. In regards to international lending, we are seeing strong returns globally for high-quality government fixed income assets that qualify as ‘high-quality liquid assets’, particularly against non-cash collateral. In regards to equities lending. we continue to see strong demand for US, Hong Kong, Japanese, South Korean and Taiwanese equities held by Australian investors.
Collateral is where we have seen the greatest change. Before 2008, the lending market was made up of around 80 percent cash collateral. Today, it moves around 50 percent and this suits many of the super funds well.
At BNP Paribas, we can lend versus cash or non-cash collateral. For some of our clients, we work exclusively on a non-cash collateral basis (for example, lending a bond versus an equity as collateral), removing their need to monitor reinvestment risk. For some of the larger funds with more experience in securities lending and often an in-house investment team, we are seeing requests for more reinvestment options and in some cases directed lending support.
This is when we are acting as a traditional agent lender but the client may have agreed some trades directly with brokers, but wants to leverage our infrastructure in regards to loan servicing, such as settlement, mark to market and income/event protection. We are also seeing more internal governance on the fund side, including monitoring of our activities and questions during service reviews.
In summary, I would say that the super funds are again looking to securities lending as a source of incremental revenue—either to improve performance or reduce operating costs. Having flexibility in providing securities lending services to these funds is critical, as they are more precise these days and their lending agent needs to be able to manage a bespoke programme as no two super funds in Australia are alike.