Shiver me securities lenders
13 September 2016
The Office of Financial Research is offering a treasure trove of data to the securities lending market through its industry survey. Drew Nicol reports
Image: Shutterstock
Since the 2008 financial crisis the securities lending industry has ascended from being a little-known secondary revenue stream that flew well under the radar of global regulators to now taking centre stage in the minds of some policy makers.
Multiple governing bodies, from the 色花堂and Exchange Commision (SEC) to the Basel Committee鈥檚 Financial Stability Board (FSB), have instigated ambitious initiatives to better understand the various features of the bilateral trading market after its perceived role in the crash.
The latest of these projects comes in the form of a pilot industry survey conducted by the Office of Financial Research (OFR). The wheels of this first-of-its-kind survey were set in motion when securities lending was singled out by the Financial Stability Oversight Council in its 2016 annual report as an area of potential risk that required further investigation.
鈥淲ithout comprehensive information on securities lending activities across the financial system, regulators cannot fully assess the severity of potential risks to financial stability in this area,鈥� the report stated.
鈥淐urrent estimates of the total size of the securities lending market differ widely, and greater transparency is needed.鈥�
The report continued: 鈥淭herefore, the council encourages enhanced and regular data collection and reporting, as well as interagency data sharing, regarding securities lending activities.鈥�
The OFR鈥檚 subsequent survey, released last month, included a snapshot of transaction data offered by seven agent lenders from three separate trading days: 9 October, 10 November and 31 December. The data included three sets of figures relating to: inventory of securities available for lending; transaction-level detail for outstanding securities loans; and collateral information.
Viktoria Baklanova, a senior financial analyst at the OFR and contributor to the survey, said: 鈥淭his survey is complementary to our earlier survey on bilateral repo that was published in January. Some securities lending against cash collateral transaction data was captured in this first survey and now we鈥檙e aiming to capture securities lending with both cash and securities collateral on a regular basis.鈥�
鈥淲e are working with a number of partners in the international arena such as the FSB and the US SEC and the Federal Reserve, along with others.鈥�
鈥淲e plan to work on our data collections to meet a deadline of 2018 and work with our counterparts to ensure consistency in data standards and reporting requirements allows for cross-border inter-connectedness.鈥�
Putting data to work
The potential usefulness of comprehensive and impartial market data to all aspects of the industry goes without saying, but the data could provide particularly useful for beneficial owners that are looking to develop a more sophisticated lending programme that doesn鈥檛 simply rely on information provided by their agent lenders.
Beneficial owners鈥� boards of directors could soon be able to take a more hands-on approach to managing aspects of their programmes. Matthew Chessum, securities lending and equity execution trading at Aberdeen Asset Management, said: 鈥淭ransparency is key in any area of financial services. Whilst the industry has tried to be open about its own activity for some time now, having a truly independent body provide its own data marks an important step.鈥�
鈥淎fter recent financial scandals, if nothing else, it helps to legitimise the information currently available from the industry鈥檚 own sources. The fact that the OFR has taken this initial step into providing some additional market analysis should be seen as a positive by all participants.鈥�
鈥淏eneficial owners can sometimes be over reliant on their agent lenders to provide this type of market analysis so it is good to see additional sources of information appear. Given the range of opinions that can sometimes exist in asset management in particular as to the benefits, risks and overall contribution of securities lending to financial markets as a whole, it is helpful to be able to reference a truly independent source of information to continue to make a positive case for securities lending.鈥�
A more informed base of beneficial owners may also lead to a greater reliance on peer-to-peer lending.
Delegates at this year鈥檚 ISLA 25th Annual 色花堂Finance and Collateral Management Conference heard that an audience polls had revealed that 47 percent of those in attendance were beneficial owners that are 鈥渟eriously considering lending to non-banks鈥�.
Panellists during the same session explained that greater transparency and communication between counterparties is the future of the industry, and that this will likely result in the growth of peer-to-peer lending. It was also noted that historically, end users such as beneficial owners have not had the resources to properly manage the various exposures and counterparty vetting processes involved in securities lending without leaning heavily on agent lenders.
With the prospect of readily available up-to-date market data in the near future, one of these significant barriers to entry may soon be removed.
Taking the pulse of the market
The volume of transaction data within the OFR鈥檚 latest survey accounted for $1 trillion in outstanding daily loans over the three days, revealing the contributors stake in global securities lending to be 11 percent of the total $9.4 trillion business.
In its report on the survey, the OFR stated that: 鈥淏enchmarked against available market size data, securities lending activity facilitated by agents participating in this pilot represent a significant share of the total activity.鈥�
Investment firms were the largest lenders with nearly $3 trillion in securities available to lend. Pension funds and endowments followed with $2.5 trillion in available securities. Sovereign wealth funds, insurers, banks and broker-dealers made up the remainder.
Interestingly, on the other side of the transaction, broker-dealers were by far the biggest borrowers, with a daily average of $869 million in securities being borrowed by these participants. Banks and credit unions were the second largest borrower demographic with a borrowing appetite valued at $142 million. State pension funds and hedge funds were also highlighted as notable borrowers, although not as large as those familiar with the industry might expect.
The omission, which was acknowledged by the OFR, was partly caused by the fact that the survey data came exclusively from agent lenders. The data only represented transactions between agent lenders and their various immediate counterparties, not the end users of the borrowed securities.
Therefore, any transaction where the broker-dealer was acting as a principle for a hedge fund wishing to create a short position would not be accurately accounted for in the survey. This created a distortion in the size of the hedge fund demographic on the borrow side. The survey also failed to capture bilateral transactions.
The OFR confirmed that the omissions would be be addressed in future surveys, in which it will be requesting data from both sides of the transaction, as well as technology providers and associations. The OFR also aims to run the surveys more than once a year going forward.
鈥淭his is a fast changing market and we so we need more frequent data,鈥� explains Baklanova. 鈥淭he scope of the survey will need to be broad in order to capture data from the growing activity that comes from outside traditional agents.鈥�
Although this new data source is a significant addition to the market dynamic, it will still only provide an overview of the industry and should not be considered a replacement to traditional data providers, as David Lewis, senior vice president at FIS Astec Analytics, explains.
鈥淲e welcome the involvement of the OFR and believe that transparency is the way forward for the securities finance and collateral marketplace,鈥� says Lewis.
鈥淭he involvement of regulators and other public bodies in the area of the market commonly referred to as shadow banking is inevitable. As such, the market should be ready to work with these organisations to ensure that the value and advantages our business brings to the market are made clear.鈥�
鈥淪uch investigations and reports do not threaten the data provision services delivered by FIS Astec Analytics. It is highly unlikely that the OFR will show interest in individual securities or advanced data analytics at the kind of frequency and depth that market participants need to trade day by day, as currently provided intraday by Astec Analytics to clients all over the world.鈥�
The results of a pilot study must always be taken with a pinch of salt, but the importance of a government body taking such a hands-on approach to improving transparency in the market, should not be underestimated. Industry stakeholders from throughout the transaction chain, as well as regulators and policymakers, agree that greater transparency can only benefit the industry by ensuring fair pricing and dismissing lingering negative stereotypes around the trade. The OFR has promised to expand and grow the scope and depth of future iterations of its survey, which means its potential use to the market, especially beneficial owners, is yet to be fully realised.
Multiple governing bodies, from the 色花堂and Exchange Commision (SEC) to the Basel Committee鈥檚 Financial Stability Board (FSB), have instigated ambitious initiatives to better understand the various features of the bilateral trading market after its perceived role in the crash.
The latest of these projects comes in the form of a pilot industry survey conducted by the Office of Financial Research (OFR). The wheels of this first-of-its-kind survey were set in motion when securities lending was singled out by the Financial Stability Oversight Council in its 2016 annual report as an area of potential risk that required further investigation.
鈥淲ithout comprehensive information on securities lending activities across the financial system, regulators cannot fully assess the severity of potential risks to financial stability in this area,鈥� the report stated.
鈥淐urrent estimates of the total size of the securities lending market differ widely, and greater transparency is needed.鈥�
The report continued: 鈥淭herefore, the council encourages enhanced and regular data collection and reporting, as well as interagency data sharing, regarding securities lending activities.鈥�
The OFR鈥檚 subsequent survey, released last month, included a snapshot of transaction data offered by seven agent lenders from three separate trading days: 9 October, 10 November and 31 December. The data included three sets of figures relating to: inventory of securities available for lending; transaction-level detail for outstanding securities loans; and collateral information.
Viktoria Baklanova, a senior financial analyst at the OFR and contributor to the survey, said: 鈥淭his survey is complementary to our earlier survey on bilateral repo that was published in January. Some securities lending against cash collateral transaction data was captured in this first survey and now we鈥檙e aiming to capture securities lending with both cash and securities collateral on a regular basis.鈥�
鈥淲e are working with a number of partners in the international arena such as the FSB and the US SEC and the Federal Reserve, along with others.鈥�
鈥淲e plan to work on our data collections to meet a deadline of 2018 and work with our counterparts to ensure consistency in data standards and reporting requirements allows for cross-border inter-connectedness.鈥�
Putting data to work
The potential usefulness of comprehensive and impartial market data to all aspects of the industry goes without saying, but the data could provide particularly useful for beneficial owners that are looking to develop a more sophisticated lending programme that doesn鈥檛 simply rely on information provided by their agent lenders.
Beneficial owners鈥� boards of directors could soon be able to take a more hands-on approach to managing aspects of their programmes. Matthew Chessum, securities lending and equity execution trading at Aberdeen Asset Management, said: 鈥淭ransparency is key in any area of financial services. Whilst the industry has tried to be open about its own activity for some time now, having a truly independent body provide its own data marks an important step.鈥�
鈥淎fter recent financial scandals, if nothing else, it helps to legitimise the information currently available from the industry鈥檚 own sources. The fact that the OFR has taken this initial step into providing some additional market analysis should be seen as a positive by all participants.鈥�
鈥淏eneficial owners can sometimes be over reliant on their agent lenders to provide this type of market analysis so it is good to see additional sources of information appear. Given the range of opinions that can sometimes exist in asset management in particular as to the benefits, risks and overall contribution of securities lending to financial markets as a whole, it is helpful to be able to reference a truly independent source of information to continue to make a positive case for securities lending.鈥�
A more informed base of beneficial owners may also lead to a greater reliance on peer-to-peer lending.
Delegates at this year鈥檚 ISLA 25th Annual 色花堂Finance and Collateral Management Conference heard that an audience polls had revealed that 47 percent of those in attendance were beneficial owners that are 鈥渟eriously considering lending to non-banks鈥�.
Panellists during the same session explained that greater transparency and communication between counterparties is the future of the industry, and that this will likely result in the growth of peer-to-peer lending. It was also noted that historically, end users such as beneficial owners have not had the resources to properly manage the various exposures and counterparty vetting processes involved in securities lending without leaning heavily on agent lenders.
With the prospect of readily available up-to-date market data in the near future, one of these significant barriers to entry may soon be removed.
Taking the pulse of the market
The volume of transaction data within the OFR鈥檚 latest survey accounted for $1 trillion in outstanding daily loans over the three days, revealing the contributors stake in global securities lending to be 11 percent of the total $9.4 trillion business.
In its report on the survey, the OFR stated that: 鈥淏enchmarked against available market size data, securities lending activity facilitated by agents participating in this pilot represent a significant share of the total activity.鈥�
Investment firms were the largest lenders with nearly $3 trillion in securities available to lend. Pension funds and endowments followed with $2.5 trillion in available securities. Sovereign wealth funds, insurers, banks and broker-dealers made up the remainder.
Interestingly, on the other side of the transaction, broker-dealers were by far the biggest borrowers, with a daily average of $869 million in securities being borrowed by these participants. Banks and credit unions were the second largest borrower demographic with a borrowing appetite valued at $142 million. State pension funds and hedge funds were also highlighted as notable borrowers, although not as large as those familiar with the industry might expect.
The omission, which was acknowledged by the OFR, was partly caused by the fact that the survey data came exclusively from agent lenders. The data only represented transactions between agent lenders and their various immediate counterparties, not the end users of the borrowed securities.
Therefore, any transaction where the broker-dealer was acting as a principle for a hedge fund wishing to create a short position would not be accurately accounted for in the survey. This created a distortion in the size of the hedge fund demographic on the borrow side. The survey also failed to capture bilateral transactions.
The OFR confirmed that the omissions would be be addressed in future surveys, in which it will be requesting data from both sides of the transaction, as well as technology providers and associations. The OFR also aims to run the surveys more than once a year going forward.
鈥淭his is a fast changing market and we so we need more frequent data,鈥� explains Baklanova. 鈥淭he scope of the survey will need to be broad in order to capture data from the growing activity that comes from outside traditional agents.鈥�
Although this new data source is a significant addition to the market dynamic, it will still only provide an overview of the industry and should not be considered a replacement to traditional data providers, as David Lewis, senior vice president at FIS Astec Analytics, explains.
鈥淲e welcome the involvement of the OFR and believe that transparency is the way forward for the securities finance and collateral marketplace,鈥� says Lewis.
鈥淭he involvement of regulators and other public bodies in the area of the market commonly referred to as shadow banking is inevitable. As such, the market should be ready to work with these organisations to ensure that the value and advantages our business brings to the market are made clear.鈥�
鈥淪uch investigations and reports do not threaten the data provision services delivered by FIS Astec Analytics. It is highly unlikely that the OFR will show interest in individual securities or advanced data analytics at the kind of frequency and depth that market participants need to trade day by day, as currently provided intraday by Astec Analytics to clients all over the world.鈥�
The results of a pilot study must always be taken with a pinch of salt, but the importance of a government body taking such a hands-on approach to improving transparency in the market, should not be underestimated. Industry stakeholders from throughout the transaction chain, as well as regulators and policymakers, agree that greater transparency can only benefit the industry by ensuring fair pricing and dismissing lingering negative stereotypes around the trade. The OFR has promised to expand and grow the scope and depth of future iterations of its survey, which means its potential use to the market, especially beneficial owners, is yet to be fully realised.
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