SECURITIES LENDING & REPO MARKETS

A CACEIS PRODUCT DEVELOPMENT PUBLICATION - OCTOBER 2010

CHALLENGES & OPPORTUNITIES

3

CHALLENGES & OPPORTUNITIES

This section provides an insight into the main issues arising when conducting repo and se- curities lending transactions. Regulatory, tax, operational, collateral management and risk versus return aspects are examined hereafter.

3.1

Disparate regulation, a challenge for the business

3.1.1

General points

The regulatory framework relevant to securities loans and repos may vary significantly from a jurisdiction to another one. These aspects obviously need to be taken into account be- fore conducting business. Cross-border securities lending and repo transactions raise even more complex legal issues, as they involve several jurisdictions. One should keep in mind that in some countries, there may be restrictions on lending by insurance companies, mutual funds or other institutional investors. Even if they are permitted to lend the assets they manage, there may be a restriction on the percentage of their assets that may be lent or on the exposure to a given issuer. > As an example, the German lending market is fairly restricted. The German Investment Act, article 56, does not allow asset managers – known as Kapital Anlage Gesselschaft (KAG), to lend more than 10% of their holdings to any one counterpart. KAGs have to find 10 separate counterparts to lend out a full portfolio. An exception to this rule, however, is that if KAGs lend through a BaFin qualified “organised system”, which will make sure at any given time that a loan is sufficiently collateralised to prevent default risk, they can lend beyond the 10% limit. Clearstream Banking Frankfurt is the only company to have been awarded this official stamp at the time of writing 20 . Market authorities in certain jurisdictions can also: > Restrict the type of securities that may be used for the purposes of a securities loan or a repo; > Impose restrictions on permissible types of collateral (e.g. in the United States, many types of investors are not allowed to take equity collateral; > Impose restrictions and/or disclosure requirements on short selling.

3.1

Participants in the securities lending markets are also affected by regulatory capital rules such as Basle II.

3.1.2

Recent developments

The reactions and policy adoption in various countries around the world in the past two years have clearly had an impact on levels of securities lending related activity and more importantly are likely to affect future activity. In the current environment, where regulators are looking at securities lending and repos with greater scrutiny, one of the biggest challenges facing the industry is regulation. It is not easy to predict the outcome. Although there continues to be some uncertainty surrounding pending regulatory changes, certain positive developments have emerged. Across many jurisdictions there has been a significant increase in the level of dialog between regulators and securities lending market

20 Source: Securities Lending Times, “Country focus – Germany”, Issue 002, June 2010

Securities Lending & Repo markets | page 43