The IMN 16th Annual European Beneficial Owners Securities Lending Conference was held earlier this week in London. The conference was well attended with numerous lenders, dealers, technology vendors, and consultants in attendance, including Finadium. We review the top five themes:
1) Securities Lending is discretionary. European lenders, typically earning maybe 4 or 5 bp in return from sec lending, certainly like the cash. But they made it clear that any increases in complexity to the product or perceived risk could result in withdrawal from a sec lending program. It’s just not that important to them.
2) There was a lot of discussion about performance metrics, in particular that every client seems to be earning above average returns. Lenders expressed the opinion that the data is over processed and is becoming useless.
3) CCPs: most people don’t see what they would bring to the party. Panelists noted added cost, complexity, difficulty to scale securities lending in CCPs, and the need for both sides to provide initial margin as reasons to sidestep CCPs. The panelist from Eurex Clearing thought he had a better mousetrap, which obviates the need for securities lenders to post initial margin (we agreed in this post). One panelist did note that the move toward CCPs wouldn’t come from the regulators or the securities lenders, but from “commercial interests” (read: the banks who may need to push to a CCP platform to keep the business capital efficient).
4) Securities lending is becoming more integrated with derivatives and other parts of investment banking. In particular, we heard about the role securities lending may play in collateral upgrade trades for those needed high quality collateral for
a) CCP initial margin and
b) Banks for Basel III purposes.
We’ve had this opinion for a while ourselves.
5) The regulatory environment is still a moving target. Some rules are still being interpreted. Others are coming but simply haven’t been written yet. The impact of some regulations are understood – for example LCR and the push toward more term trading. Others are still completely up in the air and depending on how they evolve, will have a profound impact. The example given was how indemnification will be treated for capital purposes (net or gross exposure). If indemnifications will be treated on a gross basis, dealers won’t be able to justify the extra capital needed (without a change in the economics of lending). Beneficial lenders said without viable indemnification, they couldn’t justify to their boards their participation in the lending programs. The smart money seemed to be on net treatment, or at least that’s what we hear from the Fed, but this is not over yet.