Once more with feeling

For those on the front lines of the securities lending industry it’s easy to forget that, for beneficial owners, the trials and tribulations of regulatory compliance and the ever-raging debate around the use of central counterparties (CCPs) are only of passing concern

For those on the front lines of the securities lending industry it’s easy to forget that, for beneficial owners, the trials and tribulations of regulatory compliance and the ever-raging debate around the use of central counterparties (CCPs) are only of passing concern.

The social calendar for full-time securities lending participants is becoming increasingly crowded, and many attendees can suffer from conference fatigue and apathy towards the same topics being recycled over and over in panel debates.

However, lenders must boast a passable knowledge on the main market drivers and challenges of the moment. And it was in this context that IMN’s 22nd Annual European Beneficial Owners’ Securities Finance & Collateral Management Conference returned to London last week.

For anyone questioning the validity of beneficial owner-focused conferences, a prominent lender representative confessed over coffee: “I don’t know anything about this Securities Financing Transactions Regulation (SFTR), our agent lender (one of the largest US banks in the market) hasn’t spoken to us about this at all.” And this was after a panel discussion on the same topic.

The representative explained that, other than catching up on regulatory developments, part of his reason for attending was to build a business argument for introducing term lending into his programme, something that had been a point of internal contention within his business for some time.

Those within the educational sector of the industry may sometimes feel they are fighting the tide when a panel on ‘advocating for securities lending’, in which the morality of short selling is posed to panelists, is still deemed necessary. But, as long as beneficial owners are looking to build a case for lending, the securities lending industry has a duty to answer that call.

In at the deep end

This year’s agenda began with a representative from the European Securities and Markets Authority (ESMA) offering an update on SFTR and other regulatory developments from the point of view of
the regulator.
“ESMA learned the lessons from the European Markets Infrastructure Regulation and the second Markets in Financial Instruments Directive (MiFID II) with SFTR. There will not be so much need for interpretations,” explained ESMA’s spokesperson.

ESMA is currently “uncomfortable with the lack of data in the securities financing world,” the speaker said and SFTR is expected to go a long way to fixing that. It was here that the first point of contention was created. Panellists throughout the day seemed divided on the likelihood that ESMA, upon having the reality of the securities financing market laid bare, would look to impose greater restrictions on SFT activities.

One panellist argued that the tweaking of reporting frameworks after the fact was common, and even if this does happen, it will not substantially change what is currently being proposed. However, another speaker, representing a data provider, suggested that anyone thinking regulators would not do anything with all the new data they collected were “simply mistaken”.

The message projected to attendees was that, ultimately, SFTR is a reporting structure that should not fundamentally change day-to-day market activities. That said, the cost of compliance will always play a factor. Panellists highlighted that, if these costs become too high, the attractiveness of out-of-scope counterparties over those in the eurozone may begin to sway
market activity.

Enter Brexit. After March 2019, when the Article 50 negotiation period ends, the most likely outcome is that the UK will continue to follow SFTR rulings to avoid disrupting trade, including securities lending. However, domestic UK trade may eventually be allowed to follow an SFTR-lite version of reporting standards.

Beyond SFTR, the other regulatory framework that required airing was, of course, MiFID II. Andy Dyson, CEO of the International Securities Lending Association, told delegates how, at first, MiFID II was only expected to deliver a “glancing blow” to the industry, but that now it was going to be a direct hit.

For beneficial owners, the main concern with MiFID II is legal entity identifier and unique trade identifier generation, which is mandatory for those wishing to lend securities. The requirement for new technology implementation will require more resources and brings additional costs, but audience members were assured these will
be minimal.

Safety in numbers

The biggest news of the day came before the first panel had even begun with the announcement that Dutch cooperative pension fund PGGM is set to be the first buy-side client to become a direct participant of Eurex Clearing’s Securities Lending CCP.
The partnership was the culmination a year-and-a-half’s worth of negotiations between the two parties and represents the first trickle of what could be a watershed moment in the CCP debate. The tone of the discussion on the benefits of CCP use for beneficial owners was buoyed by the news and allowed for many of the usual criticisms of a lack of buy-side incentives to be headed off quickly. The old adage of CCPs being a ‘chicken and egg issue’ is still a alive and well, but for panel regulars such as Eurex, having an ally in PGGM is undoubtedly going to change the tone of the debate from now on.

Shortage? What shortage?

The question of whether too many high-quality liquid assets (HQLA) are being taken out the collateral pool to meet new margin requirements is a difficult one to answer definitely—and at this stage would rely on a sizable dose of speculation. One speaker noted that, although utilisation of highly-valued EU bonds is almost 100 percent, the cost to borrow was still “reasonable”, and so the situation couldn’t be called a drought.

However, several panellists did acknowledge that if there was a problem it was to do with a lack of infrastructure to move collateral around the system. “Collateral needs to be more global,” explained another speaker. Several panelists called upon all aspects of the industry to pull together to create a more efficient plumbing infrastructure to offer more securities to be freed into the system than what the current infrastructure allows.

If you can’t beat them

Part of the solution may be the rise of all-to-all trading systems that allow counterparties that couldn’t previously face each other to transact for the first time. In a panel discussion on this new market feature, a peer-to-peer (P2P) representative outlined the pros and cons of his offering.

According to the speaker, his clients can enjoy greater liquidity, better price discovery, and counterparty diversification, among other advantages. On the flip side, users must accept non-traditional counterparties—often easier said than done. Users must also be willing to step off the well-trodden transaction path and take on new legal documents and a limited technology lift to access these platforms.

In response to concerns about facing counterparties that may not have the stellar accreditation that banks enjoy, the P2P representatives countered that credit data on most entities that a P2P user may encounter is easily accessible from third parties, saying users would not have to invest in their own in-house risk management facilities.

“There are no ‘Mickey Mouse’ counterparties on our platform, they are all good names,” confirmed the panellist.

Much like the argument advocates for CCPs offer, direct lending is presented as ‘another tool in the box’ as opposed to a major market disruptor seeking to shake up the status quo.

Disintermediation is not the aim of the game, audience members were told. Much of the business that these platforms are targeting is a market segment that banks are no longer able to accommodate due to new, regulatory-imposed balance sheet constrictions. In fact, conference speakers revealed that some forward-thinking banks are looking to forge links with P2P platforms in order to offset business they can’t conduct with their clients without severing link with them all together.
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