BNP Paribas Securities Service
Adnan Hussain
24 July 2018
Adnan Hussain, global head of agency securities lending and head of MFS UK, BNP Paribas Securities Services, discusses current trends in the European securities lending market as well as the biggest threats in the industry right now
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What trends are you currently seeing in the European securities lending market?
Across the BNP Paribas Securities Services global lending platform we continue to experience higher levels of engagement from our beneficial owner clients. Asset owners and asset managers have increased their willingness to analyse proposals, which directly correlate to higher revenues, increased utilisation rates and greater risk protections. Non-cash collateral lending, a broader collateral policy and non-traditional counterparties and trade structures are all prime examples of this shift in their approach to lending.
Beneficial owners currently not involved in lending are also shifting their approach as the realisation of opportunity cost is becoming a reality. As such, prospects are requiring a deeper breadth of education on the current market. The result recently has been the recognition that the securities finance industry has indeed changed. We are seeing elevated participation rates of new participants coming into the market. Most of this new supply is generated from asset owners with large pools of high-quality liquid assets (HQLA) seeking a return who previously were adamantly opposed to lending or unaware that there was robust demand for their supply of assets.
Aside from revenue generation strategies, current participants are analysing their programme from an efficiency perspective. Part of the increased levels of engagement from beneficial owners focuses on the commitment of an agent to implement technology into a lending programme. The ability of an agent to identify lending opportunities, maximise distribution and implement a combination of machine learning, automation and robotics are all areas which clients have expressed interest in learning. Fortunately, BNP Paribas Securities Services has been dedicated to implementing several layers of automation to increase efficiency in the distribution of client assets.
What have European revenue sources shown in the past 12 months?
Current market participants continue to engage in lending to derive incremental income on their idle assets. The limited number of specials in the market has provided opportunities for beneficial owners to seek new strategies to increase revenues. Specifically, clients with an intrinsic-only programme have started examining alternative lending strategies to increase revenues. Collateral transformation and the demand for HQLA is a prime example of lenders adopting new strategies. The focus of monetising the demand and utilising the high-quality collateral in their portfolios adds immediate value to both lenders and borrowers.
While the above strategies are consistent with a majority of market participants, we find that revenues continue to be driven by a combination of specials, general collateral lending and corporate actions trading. The ability of lenders and agents to incorporate a combination of the above, along with opening new markets and examining new trade structures, all assist in generating enhanced programme revenues.
We’ve seen the implementation of MiFID II this year and SFTR is looming. Although they obviously differ, what can members of the European securities lending market learn from MiFID II that they can apply to help them prepare for SFTR?
The common lesson BNP Paribas Securities Services has gained as an institution as we prepared for the second Markets in Financial Instruments Directive (MiFID II) and the approaching Securities Financing Transactions Regulation (SFTR) deadline, is one of transparency and flexibility. The regulatory framework has shifted in some sense in terms of our operating and client service model but not our approach in the management of the business. We continue to place clients at the forefront of our business management ensuring clients are kept abreast of the impacts and ramifications associated with regulatory change. There is certainly a greater emphasis on client communication and transparency as a result of the both SFTR and MiFID II which we view as a requirement of being a service provider to our clients. This is nothing new for BNP Paribas Securities Services as we have always been client centric to our approach in servicing programme participants.
Last year, was a big year for Target2-Securities (T2S). How has the transition to T2S affected securities lending so far?
The impact of a shortened settlement cycle on the securities lending market was virtually non-existent. The advanced preparation of the shortened settlement cycle was relatively seamless with only minor disruptions to the standard market settlement cycle. While increased securities lending volumes followed the transition due to fail coverage, the increased volumes were short-lived as markets adjusted quickly to the new settlement standards.
As the world’s fifth largest custodian, BNP Paribas Securities Services leveraged our global custody footprint to facilitate settlement on behalf of our clients resulting in minimal settlement issues associated with the T+2 implementation. As additional markets globally transition towards a shorter settlement cycle, we will continue to utilise our global presence and leading custodial offering to support clients.
What should beneficial owners be doing going forward to adapt their lending programmes as we look towards the future?
The BNP Paribas Securities Services lending programme services a variety of clients each with varying risk profiles and objectives. As the industry continues to digest the impact of the regulatory environment, lenders would be well positioned to consider adopting new lending parameters to maximise their opportunities.
Certainly the shift towards capital efficiency has led to alternative lending structures along with new counterparty entities. Examining these new types of developments would position beneficial owners to monetise the demand under these new structures. Participating in these new transactions is attractive from the borrower’s perspective and can lead to a first mover advantage resulting in increased demand for portfolio assets.
Aside from capital efficiency transactions, beneficial owners willing to examine their permitted collateral policy and required margin collateralisation can maximise their revenue opportunities. Further, implementing a portion of longer tenor transactions into a lending programme will also assist in generating substantially increased revenues.
Finally, BNP Paribas Securities Services would like to highlight the value of lending general collateral, which is a strategy that is often overlooked by beneficial owners. General collateral lending provides a stable revenue stream and under the proper structure of non-cash collateral, many of the risks associated with securities lending can be mitigated. Beneficial owners would be well served to examine the impact of implementing a layer of general collateral lending to their lending strategy.
How does the European securities lending market compare to the US and Canada?
The general trend of limited specials is universal across the European, US and Canadian markets. Revenues continue to be generated through a combination of general collateral lending, specials trading and corporate actions trading. Certainly the demand for collateral transformation is insatiable across these locations as well, generating substantial revenues for participant’s owning HQLA.
Positive interest rates are one unique differentiator between the US and the other lending markets. The rising interest rate environment and widening of the London Interbank Offered Rate (LIBOR) as well as the Overnight Indexed Swap (OIS) spread has presented opportunities for cash collateral programme participants utilising a credit sensitive short term reinvestment strategy. The ability of clients to engage in such a strategy currently presents substantial opportunity for beneficial owners to monetise the current market dislocations.
What is the biggest threat the industry faces right now?
We remain encouraged by the level of engagement demonstrated from our clients globally as they examine their lending programme and seek strategies to increase revenue. Equally exciting, is the elevated level of interest received from beneficial owners seeking information about our global programme. BNP Paribas has committed substantial resources to the global lending business and beneficial owners have expressed an interest in learning more about our approach to lending. All of this is exciting and we remain optimistic.
While the increased level of engagement is positive, a general sense of cautious optimism is necessary. Beneficial owners must remain cognisant of the risks associated with implementing a credit sensitive reinvestment strategy and agents must be diligent in managing a lending philosophy aligned with an institution’s risk tolerance.
The impact of SFTR and MiFID II combined with SEC Modernization remain high hurdles for beneficial owners to overcome. Fortunately, the industry has opted, for the most part, to conduct this reporting on behalf of clients and absorb any cost associated with meeting such reporting. However, participants should be prepared to participate in sharing this cost as the burden becomes more prevalent.
Finally, where do you see the biggest opportunity?
As an institution, we are optimistic about our growth prospects. We remain committed to serving our clients around the globe and that commitment extends to our global agency lending business. We have deployed assets to grow our global presence through new locations while committing substantial resources to enhance our lending platform. Beneficial owners are recognising this commitment along with our lending philosophy which continues to lead to the growth of our programme.
Flexibility in a lending programme will lead to the largest opportunity for beneficial owners. The flexibility and commitment of clients to examine new structures, strategies and counterparties will ultimately lead to the greatest opportunities for the remainder of this year.
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