SECURITIES LENDING MARKET GUIDE 2008

2008
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SHOWCASING SECURITIES LENDING
SECURITIES LENDING
MARKET GUIDE
SLMG 2007 Final Cover 10/9/07 11:54 am Page 1
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Project1 10/9/07 12:15 pm Page 2
Welcome to the 2008 edition of ISJ’s annual
Securities Lending Market Guide. It has been a
busy year for securities lending and borrowing, and
there has been no shortage of press coverage sur-
rounding the market and its potential in the future.
This guide aims to bring you up to speed with the
latest market developments and act as a reference
handbook to the particularities of this rapidly evolv-
ing business.
Our special feature examines the last 12 months in
the market and what we can expect from the next
year in terms of progress. The impact of hedge
funds and 130/30 funds is of particular interest, as
they are the underlying cause of a large part of the
growth that is happening in the securities lending
market at the moment. Securities financing is the
bridge between hedge funds, one of the main bor-
rowers of stocks, and institutional investors such as
insurance companies, mutual funds and pension
funds, the dominant lenders of securities.
Furthermore, if you believe the hype, the growth of
traditional long only funds’ investment in 130/30
strategies could overtake the growth of hedge funds
and become the largest single driver of securities
lending over the next five years.
The growth of the market is set to continue,
according to reports by a number of financial serv-
ices analyst firms. For example, Celent expects
growth in the US securities lending market alone to
increase at a rate of 5% per year.
However, it has not been smooth sailing for the
market over the last year, as industry practices sur-
rounding proxy voting’s relationship to securities
lending and the potentially negative influence of
hedge funds have gained notoriety in the press.
Hedge funds in particular, have faced increased
scrutiny for allegedly borrowing to buy votes.
The International Corporate Governance Network
(ICGN), whose members include some of the
world’s largest pension funds, has publicly urged
regulators to force funds to make detailed disclo-
sures of sale and repurchase agreements. The
ICGN has accordingly drawn up a code of best
practice on stock lending in all jurisdictions and is
campaigning for the authorities to support it. Dr
Andrew Clearfield, member of the ICGN board of
governors, spoke to ISJ about his perspective on
the matter for our special feature.
The Markets in Financial Instruments Directive
(MiFID), due to be implemented on 1 November this
year, could also mean more scrutiny of lending pro-
grammes. It could potentially result in loans being
made based on price and best execution, rather than
relationships, thus increasing the transparency of the
market as a whole.
With these opportunities
and challenges in mind, we
have gathered together the
leading lights of the securities
lending industry to provide
you with a comprehensive
insight into the market as it
stands today.
Virginie O’Shea
Group Editor
INTRODUCTION
Fast times
SECURITIES LENDING
MARKET GUIDE
2008
It has been a year of great change for
the securities lending market
SLMG 2007 pp1-16 ML 10/9/07 11:08 am Page 1
Foreword Pan Asia Securities Lending Association
2 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Securities borrowing and lending activity contin-
ues to expand in Asia and spans a range of levels
of maturity, from Japan, which represents the sec-
ond largest securities borrowing and lending mar-
ket globally, through to Vietnam and Pakistan, in
which it is still not permitted.
Testament to the degree to which lending vol-
umes have increased in Asia (ex Japan) is that five
to seven years ago, securities borrowing and lend-
ing flows through Japan accounted for, on average,
about 90% of participants' securities borrowing
and lending activity throughout the region. As
these flows in other markets have grown relative to
Japan, this figure has now fallen to roughly 50%.
To reflect this, a growing number of hedge
funds have established offices in Asia - particular-
ly in Hong Kong, Singapore and Australia - and
leading global prime brokers have extended their
presence in the region to support this activity.
Three years ago, the hedge fund market in Asia
represented approximately USD250 billion out of
a total USD1 trillion hedge fund market globally.
These ratios have remained broadly consistent
during the subsequent period, with total hedge
fund assets in Asia doubling to approximately
USD500 billion, balanced against total global
hedge fund assets of USD2 trillion.
Looking at the development of Asia's securities
borrowing and lending markets more closely,
Japan was one of the first to establish a market in
the region and this remains substantially the
largest market in terms of transaction flow.
Australia and Hong Kong have both seen lending
flows expand dramatically over the last 12
months; and the South Korean market has grown
rapidly during the five years in which securities
borrowing and lending has been permitted.
Several other markets have made big strides for-
wards during the last 12 months in setting in
place an efficient regulatory and infrastructure
framework to support securities borrowing and
lending activity. The Philippines has made impor-
tant advances in this area - and the Philippines
Stock Exchange recently invited comment from
PASLA members on its proposed regulations on
short selling, upon which it soft launched a securi-
ties borrowing and lending model in February of
this year. Malaysia has set securities borrowing
and lending arrangements in place and is progres-
sively refining its operational procedures in close
consultation with market participants. In India,
the Securities and Exchange Board of India has
put out discussion papers and it is hoped that it
will bring proposed laws on short selling and secu-
rities borrowing and lending into line with interna-
tional standards.
PASLA has been working closely with regulators
and with market participants in highlighting the
benefits of an active securities borrowing and
lending market that is compliant with international
best practice. This can serve as an important route
to international investment: foreign institutional
investors may be willing to allocate a larger per-
centage of assets to more liquid markets that offer
Asian perspective
The Pan Asia Securities Lending Association
(PASLA) has witnessed a year of great change
in the Asian markets, says Sunil Daswani
Japan was one of the first to establish a market in the region and this remains
substantially the largest market in terms of transaction flow
SLMG 2007 pp1-16 ML 10/9/07 11:08 am Page 2
efficient price discovery mechanisms - and securi-
ties borrowing and lending facilities can be key to
delivering this liquidity.
To facilitate the extension of a seamless and
transparent market, PASLA has been working with
regulators and market participants to identify and
address areas where a market's securities borrow-
ing and lending procedures differ from internation-
al best practice. We recognise that these changes
will not be achieved overnight - but our goal is to
make securities borrowing and lending functions
more streamlined and convenient for participants
to use, thereby meeting the preconditions for lend-
ing volumes to increase.
As a culture of securities borrowing and lending
evolves in Asia, we note a tangible shift in levels
of educational awareness on both sides of the
relationship. In the past, lender clients would be
asking us to explain why it would make sense to
lend in a new market and to confirm that this
would generate acceptable revenues to cover the
risks involved. Now the tables have been
reversed, with lenders asking why they cannot
lend securities in certain markets - and to inquire
when necessary regulatory amendments will be
passed to make this possible.
Sunil Daswani is a director and the regional
manager for Securities Lending, Asia, at Northern
Trust Global Investments. His primary
responsibility revolves around addressing and
evaluating securities lending initiatives for lenders
and borrowers where Northern Trust acts as an
agent lender. Additionally he focuses on building
the supply of Asian assets for Northern Trust global
securities lending programme, ensuring that the
due diligence is carried out when lending its clients
assets in each jurisdiction.
Daswani is responsible for maintaining updated
market information and knowledge through relation-
ships with regional contacts that may influence or
shape the markets in which Northern Trust lend
securities. He has 14 years of experience in the
securities industry, of which the last five have been
at Northern Trust.
In May 2005, Daswani accepted the position of
chairman for PASLA for one year. He was
re-elected in 2006 and 2007. In this role he
ensures that the fellow members are kept updated
on key industry events, coordinating as an
industry where necessary responses to various
international regulatory bodies on topical issues,
discussion papers and general market issues
that feedback may be required or further
clarification is sought.
PASLA has been working closely with regulators and with market participants in
highlighting the benefits of an active securities borrowing and lending market that is
compliant with international best practice
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 3
SLMG 2007 pp1-16 ML 10/9/07 11:08 am Page 3
4 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Since the admission of borrowers to the association
in 2004, membership has almost doubled and it will
not be long before the numbers reach 100. It was
becoming increasingly obvious that we could no
longer rely solely on the goodwill of individuals, each
with primary responsibility to their firms, to carry out
the ever increasing workload.
I am delighted therefore that the AGM unanimous-
ly approved the board's proposals to expand the asso-
ciation's activities to provide full time support to the
membership. We have been very fortunate to recruit
David Rule from the Bank of England as our first
chief executive officer. His first priority will be to
recruit support staff and secure office premises in
the City. We expect the new infrastructure to be in
place by autumn.
Our new constitution will allow us to take a much
more proactive role in representing our industry, not
only in Europe and the Middle East, but globally.
Our major initiatives to date have included creat-
ing a new class of membership, associates, to cater
for those who support our industry, for example
lawyers, accountants and software houses. I am
pleased therefore to report that we are receiving a
steady flow of applications. We are working more
closely with our equivalents in Asia (PASLA) and the
United States (RMA) and we are conducting a review
of the market standard legal agreement (the GMSLA).
We will continue to rely heavily on our specialist
sub-groups for which the contribution of time and
expertise by our members remains invaluable. Our
regulatory group has been spending a considerable
amount of time focusing on the large number of new
directives, which will culminate with the implementa-
tion of MiFID in November. Our governance group is
determined to achieve a universally accepted code of
practice for voting, a topic which has produced much
controversy over the last year. Our operational group
is producing a steady stream of best practice papers,
covering all aspects of the back office.
In response to members’ demands, we have creat-
ed a New Markets group to help open up new mar-
kets and work with local exchanges and regulators to
establish best practice from the outset. We will also
be establishing closer contact and dialogue with the
regulators in established markets, as well as the
European Commission and CESR.
I would encourage all firms who are involved in the
industry to join ISLA, whether as full members or
associates. Full details of our aims and objectives, as
well as application forms, can be found at
www.isla.co.uk.
Laurence Marshall is a managing director in Prime
Brokerage Services with UBS Investment Bank,
London. He joined UBS in 1993 where he
established and managed the Securities Borrowing
and Lending desk.
Marshall’s current area of responsibility is the
management of the international supply business,
and is responsible for managing client relation-
ships. He has represented UBS on various industry
bodies and is currently chairman of the European
Equilend Board.
Marshall was appointed ISLA chairman in May
2007.
The views and opinions expressed in this materi-
al are those of the author and are not those of UBS
AG, its subsidiaries or affiliate companies.
Accordingly, UBS does not accept any liability
over the content of this material or any claims,
losses or damages arising from the use or reliance
of all or any part thereof.
Foreword International Securities Lending Association
Broadening horizons
Laurence Marshall of the International
Securities Lending Association (ISLA)
highlights the growth the association has
seen over the last 12 months
Our new constitution will allow us to take a much more proactive role in representing
our industry, not only in Europe and the Middle East, but globally
SLMG 2007 pp1-16 ML 10/9/07 11:08 am Page 4
SLMG 2007 pp1-16 ML 10/9/07 11:09 am Page 5
From a volume perspective, in the first half of this
year, we’ve seen broad based growth in on-loan bal-
ances, with some lenders’ balances up more than
40% versus the year earlier period. I think this
reflects continued growth in demand from hedge
funds as well as 130/30 and other alternative invest-
ment structures. Some industry watchers speculate
that 130/30 could grow to be a USD1 trillion asset
class over the next five years, from its current
USD60-70 billion. That may be a bit optimistic;
however, there is no doubt that this is an area that
will experience significant growth.
Away from the equity markets, some short demand
for corporate bonds previously covered through a tra-
ditional securities lending structure is now being sat-
isfied through the use of credit default swaps. In
addition, we continue to see the use of equity swap
structures in markets that have not yet developed a
traditional stock loan structure.
There is also a growing list of new markets in
which the borrowing and lending of stocks is begin-
ning to take hold. We’ve seen interest in Taiwan,
Malaysia, the Czech Republic, Hungary, Turkey,
Greece and Israel, all at different stages of develop-
ment. I believe we’ll see revenue growth in these
markets, where the spreads are wider and where
hedge funds are looking for exposure. We’re also see-
ing a contraction in the development cycle for these
markets, as countries work diligently and quickly to
put in place the necessary tax, legal and regulatory
frameworks for securities lending.
Another important theme in the lending markets
has been the ongoing move toward greater trans-
parency, although certain market participants have
not embraced products such as Lending Pit and
Performance Explorer. These products have improved
the price discovery process and provided objective
benchmarking information to beneficial owners. In
addition, with the implementation of the Agency
Lending Disclosure initiative, borrowers’ credit
departments have gained daily visibility into their bal-
ance with lenders.
The application of technology also continues to
play a role in the development of the securities
finance market. With continued margin compression,
industry participants are looking to apply technology
to streamline processes. Applications such as auto-
borrow, EquiLend Dividend Compare and ARMS are
tools that allow participants to increase volumes and
reduce spreads.
The industry is not without its challenges, however.
I believe one of the major challenges we face is the
ongoing discussion surrounding corporate gover-
nance, proxy voting and securities lending. RMA, the
International Securities Lending Association (ISLA)
and the Securities Industry and Financial Markets
Association (SIFMA) have been vocal in responding
to misinformation in the press and taking steps to set
the record straight. A number of industry representa-
tives have spoken at RMA conferences and have
directly engaged those who have criticised the indus-
try. I believe the RMA Committee on Securities
Lending has done an excellent job of disseminating
information about existing regulations and safeguards
that protect securities lending clients. However, there
is still more that needs to be done and we are pursu-
ing several agenda items. For one, RMA and SIFMA
are providing seed money for a planned academic
study of ASTEC Consulting lending data. We hope
the results of this study will serve to substantiate our
contention that securities lending has had no dis-
cernible impact on the outcome of important proxy
vote situations.
In addition to the proxy voting and corporate gover-
nance issue, the committee is also tackling some
other issues affecting the securities lending industry.
Among other initiatives planned is a salary survey for
member organisations, which we believe will be par-
ticularly useful as a benchmarking tool. We are also
in the very early planning stages of a Latin American
lending conference to be jointly sponsored with
SIFMA. We’re excited about the prospects for this
conference, as we believe there are many beneficial
owners in these markets who may be interested in
learning more about lending.
William Tredick McIntire is president, Boston
Global Advisors, and chairman of the RMA
Committee on Securities Lending. He oversees the
agent securities lending business of Goldman
Sachs in the US and Europe. He joined the busi-
ness in 1998, after spending the previous two
years as chief financial officer of the Equities
Division of Goldman Sachs.
6 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Foreword Risk Management Association
Right here, right now
There seems no better place to be right now
than the securities lending industry, says
William Tredick McIntire of the Risk
Management Association (RMA)
SLMG 2007 pp1-16 ML 10/9/07 11:09 am Page 6
SLMG 2007 pp1-16 ML 10/9/07 11:09 am Page 7
8 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Contents
1 Introduction Securities Lending Market Guide 2008
2 PASLA Foreword The Asian perspective
4 ISLA Foreword Broadening horizons
6 RMA Foreword Right here, right now
10 Main Attraction Securities lending in the limelight
16 Statistics RMA data dissected
20 Panel Debate A panel of industry experts debate the issues
28 Ask the experts Practitioner perspectives
34 JPMorgan Now and the future
36 eSecLending An investment decision
38 SGSS If the shoe fits…
40 BBH MiFID and the market
42 RBC Dexia A new era beckons
44 COMIT Deep impact
46 Technology Panel How has the securities lending market been
affected by the advances in technology?
50 Guide A guide to the sec. lending of the market
66 FAQs Your questions answered
68 Fintuition Learning about securities lending
70 A-Z Those key terms in full
72 Profiles The details of securities lending service providers
SLMG 2007 pp1-16 ML 10/9/07 11:10 am Page 8
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SLMG 2007 pp1-16 ML 10/9/07 11:10 am Page 9
It has been another year of flux for the securities
lending market. Increased activity by hedge
funds and the search for alpha by the more tra-
ditional players in the market has caused securi-
ties lending volumes to rise at a significant rate.
The high level of mergers and acquisitions has
also acted as a catalyst to this growth. When
there is a lot of M&A activity, there is generally a
high level of borrowing for arbitrage going on
behind the scenes.
Since the end of 2003, the value of securities
available for loan in the global market has
grown at an estimated compound annual rate
of 15-20% to USD13.2 trillion. This year’s figures
by Data Explorers indicate that the value on
loan in the spring was USD3.5 million. Analyst
firm Aite Group has estimated that the global
lendable asset market is USD16 trillion and the
actual lending market is nearly USD4 trillion.
On an institutional level, the California Public
Employees’ Retirement System (Calpers), for
example, indicated that it made USD150 million
from securities lending for the year ended 31
March 2007, an increase of 16%, from the year
before. Moreover, according to figures by rival
analyst firm Celent, the market as a whole is
expected to increase annually at a rate of 5% in
the US and 10% in Europe over the next two
years. Good news, it seems, for all those
involved in the market.
Rob Coxon, head of International Securities
Lending at ABN AMRO Mellon Global
Securities Services, adds: “The bottom line is
the business has become much more com-
moditised, there is spread compression but a
lot more volume is being done.” Coxon believes
that demand for exclusive supply shows no sign
of slowing down, although borrowers are being
selective in how they bid. Emerging market
10 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Securities lending is no longer
loitering in the back office,
spurred on by an active hedge
fund community, it has now
stepped into the custodial
limelight. Virginie O’Shea
reflects on the last 12 months
in the market
YEAR IN REVIEW
Main Attraction
SLMG 2007 pp1-16 ML 10/9/07 11:58 am Page 10
lending is on increase, he adds, with the
demand for assets in esoteric markets –such as
Russia and India – growing. There is also an
increased appetite by traditional long side
investors for short exposure, as demonstrated by
the deployment of 130/30 strategies and short
extension funds.
Andy Clayton, head of securities lending for
Europe Middle East, Africa and Asia Pacific,
Northern Trust Global Investment, has also wit-
nessed an increase in new market activity.
“There is huge interest from clients who now
have more exposure to emerging market man-
dates and from borrowers who see more hedge
fund activity in these markets. Also, active exten-
sion is the new buzzword in the industry as
long/short strategies take hold, this has led to all
players analysing how they can leverage this
trend to best effect.”
There has been some very successful liaison
with market infrastructure providers and regula-
tors in Asia in respect of opening markets for
securities lending, says Clayton. He expects that
the market will see the benefits of this period of
consultation over the next few months. Also, he
adds, the industry associations have led the way
with discussions with regulators regarding forth-
coming regulatory changes such as Basel II and
MiFID. “At this moment, it looks like the indus-
try will reach a position where it can successfully
work within the new regulations without incur-
ring huge additional cost to support wholesale
changes to practice,” he says.
Despite the recent decision by some invest-
ment banks to impose tougher lending terms on
hedge funds, their investment strategies are con-
tinuing to drive forward the growth of securities
lending. The decision to raise margin require-
ments is a response to rising credit concerns
about the impact of the funds on the wider
financial market. Prime brokerage departments
at several investment banks are thus attempting
to insure themselves against the possibility of
new hedge fund collapses in the vein of the Bear
Stearns’ funds last month. However, regardless
of these restrictions, the hedge funds’ active
trading styles, including the use of shorting and
the pursuit of more complex investment strate-
gies, have increased the demand for securities
lending.
Hedge funds and their appetite for securities
driven through their prime brokers represent the
biggest single source of demand in the market,
says Coxon. This has been positive for the
growth of securities lending, but the secrecy sur-
rounding the activities of these firms has led to
some observers questioning their motivations.
“They are perceived to be driven by short term
opportunism, and this has been particularly evi-
dent in the sphere of corporate governance,” he
adds.
Although there has been a lot of growth, there
has also been a number of firms that have decid-
ed to exit the securities lending market. Andrew
Clearfield, president, Investment Initiatives and
chairman of the International Corporate
Governance Network (ICGN) Securities Lending
Committee, explains: “It seems like the market is
expanding strongly; my impression is that it has
continued to grow. There have been a few major
exceptions to that in that there have been a cou-
ple of public pension funds in the last 12
months, most notably Ontario Teachers’, that
have decided that lending wasn’t worth it
because they were having such problems recall-
ing in order to vote. They decided that as a
result of this, that the income they were getting
from the lending wasn’t worth it. It was
announced loudly and publicly all over Canada.”
Clearfield continues: “I have had conversa-
tions with some consultants and fund managers
in the industry that have said that unless
investors get a larger cut of lending, they will exit
the market. The brokers currently get the lion’s
share of the fees and the custodians and inter-
mediaries get another significant share, although
it is much smaller than that of the brokers. The
share that goes to the funds is so laughable that
it is hardly worth it for what they get. They are
essentially selling their votes for a few basis
points.”
It is not just the hedge funds that are proving
to be influential in this area. A large number of
traditional fund managers are engaged in devel-
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 11
The hedge funds’ active trading styles have increased the demand
for securities lending
SLMG 2007 pp1-16 ML 10/9/07 11:10 am Page 11
oping absolute return strategies that require
them to go short and this is having a significant
impact on the growth of the securities lending
market. The recent popularity of 130/30 funds,
which effectively involve borrowing for short sell-
ing purposes, is testament to this trend. As part
of a 130/30 fund strategy, fund managers run
short positions but remain 100% net invested by
being 130% long of the over-performing stocks
and 30% short of the underperforming stocks.
These funds need stock loan accounts to
receive the proceeds of the short sales and then
augment the long positions without the need to
borrow cash. In order to go short, these market
participants must borrow securities. The 130/30
funds are seen as an attractive alternative to
going long only as you are no longer so tied to
the ups and downs of the market and they thus
provide the ability to more consistently beat the
market. In fact, the funds are so popular at the
moment that market commentators have specu-
lated that their growth may supersede the
growth in hedge funds over the next few years.
This could, in turn, become one of the largest
drivers of securities lending over the next five to
10 years.
There is a slight difference between the
American and European model of borrowing for
130/30 funds. The US model involves borrowing
and shorting in order to execute leverage, where-
as in Europe, the leverage is obtained through
derivatives. This divergence in practice has come
about due to the fact that European regulators
do not support the shorting of physical securi-
ties to obtain leverage. Despite the discrepancy
between the markets, both are experiencing a
high level of growth in securities lending. Denise
Valentine, senior analyst at rival analyst firm Aite
Group, explains: “The US market is a very
mature market with a vast inventory of securi-
ties, and is growing at about 5%. However the
European market is growing at double this rate.”
The 130/30 funds are not just driving forward
the growth of the securities lending market; they
are also altering the participants’ service require-
ments. Fund managers that invest in these
funds require fully integrated securities lending,
borrowing and collateral management, as well as
the execution services to affect the initial short
sale and subsequent buy back. Servicing there-
fore goes way beyond custody and fund account-
ing. This requirement for execution services can
prove an onerous task for those engaged in pro-
viding securities lending and custodian banks
are accordingly obliged to invest in systems to
further integrate their processes.
Valentine highlights the recent trends that she
believes have influenced the securities lending
market: “The last 12 months have been about
increased participation on electronic platforms
to some degree, the increasing use of securities
lending as the capital markets continue to glob-
alise, and, finally, hedge funds and large institu-
tional money managers engaging in short sell-
ing. In the case of the latter, 130/30 funds, which
short securities, have been increasing signifi-
cantly as traditional money managers seek high-
er investment returns and compete with hedge
funds for institutional money.”
Rather than a purely operational activity, secu-
rities lending is now considered to be an invest-
ment management discipline in its own right.
Furthermore, rather than automatically opting to
pass the activity to an institution’s custodian,
these traditionally dominant players are having
to compete for business with third party lenders
and electronic auction platforms. Institutions are
also increasingly using multiple providers across
different parts of their asset base, as beneficial
owners have unbundled the securities lending
function from the custody business.
Valentine adds: “There’s no shortage of partic-
ipants, including principal owners, custodian
banks, third party agents, broker-dealers, prime
brokers, investment banks, and hedge funds. Big
banks use securities lending for market making,
hedge funds often short the security for a strate-
gy play. Owners and lenders participate for prof-
its on the loan.”
12 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
YEAR IN REVIEW
SLMG 2007 pp1-16 ML 10/9/07 11:10 am Page 12
In the rush to gain market share, borrowers
have sought alternative sources of supply,
lenders have developed new routes to market
and exchanges and brokers have developed elec-
tronic trading platforms. These trends have put
downward pressure on pricing and have forced
custodians to seriously rethink their business
models.
The rise of short selling has also raised the
profile of issues around fee transparency. The fee
paid by investors to borrow shares they want to
sell short has been notoriously difficult to fore-
cast. Borrow supply is a key determinant to the
level of fee paid but the exact calculation is more
often than not opaque. Fees for a 130/30 strategy
are higher than long only mandate fees in part
because the manager must go to a prime broker
to borrow securities to short. Hedge funds may
be naturally more lenient with regards to trans-
parency, but the traditional asset managers now
engaged in 130/30 funds are likely to demand
increased fee transparency, which will then put
pressure on managers to reduce their fees.
Valentine explains: “Improving transparency
has been one of the drivers of changes in recent
months and that is an ongoing process. Given
the level of entrenched interests in this market, it
will not be an easy process to continue to build
on some of the automation and transparency ini-
tiatives.”
ABN AMRO Mellon’s Coxon adds:
“Accountability and automation are big themes –
there is much greater transparency today due to
the rise of industry consultants and independent
benchmarking services like Astec and Data
Explorers. The market has traditionally been fairly
opaque, with a strong emphasis on relation-
ships. While this still holds true, it is also the
case that price and efficiency are becoming
determining factors on where business is trans-
acted.”
Transparency brings challenges, as beneficial
owners today are much more engaged and the
degree of scrutiny has increased significantly,
and that additional scrutiny leads to greater com-
petition, adds Coxon. “Only those firms that run
accountable programmes can hope to survive in
the new environment. The same holds true on
the borrower side of the business, as hedge
funds demand more information on where their
true borrowing costs reside,” he explains.
Northern Trust’s Clayton agrees:
“Transparency will not go away so we need to get
used to living in the new environment. Market
participants will develop their game to play bet-
ter under the new rules and increased competi-
tion will result. It is critical that people consider-
ing the data create a level playing field though –
with more information available there is
increased responsibility on the users to ensure
they know what they are doing with the data oth-
erwise they may make erroneous assumptions
and decisions.”
Transparency has obviously had a direct
impact on technology spend, as has the increas-
ing complexity of customer requirements. Firms
have to spend more on their systems in order to
keep up with demand. The focus of securities
lending technology has shifted from the back
office to the front office, says Valentine.
“Technology has advanced with electronic plat-
forms. By 2008, about 15-18% of securities lend-
ing will be done over an electronic platform.
Examples of trading platforms include EquiLend,
eSecLending and SecFinex. Bloomberg instant
messaging continues to be a key method of
communication for securities lending, and cer-
tainly old manual methods of phone and fax are
well entrenched, at least for initial order place-
ment,” she elaborates.
Overall, Valentine believes that the market is
fragmented in its use of technology: “General
collateral and highly liquid security securities
lending is as old as the hills and these types of
securities lending are well suited for automation.
This has prompted more technology firms to
enter the market, around 2000. Specials, or hard
to borrow securities lending, are complex: they’re
more profitable and still negotiated by phone.”
The influence of technology has largely been
negative, says ICGN’s Clearfield. For example,
commingled accounts from the point of the view
of the custodian save a lot of money, but they
have made it difficult to track any kind of
accountability with respect to individual posi-
tions. “It is hard to tell if you have had a problem
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 13
The 130/30 funds are not just driving forward the growth of the
securities lending market; they are also altering the participants’
service requirements
SLMG 2007 pp1-16 ML 10/9/07 11:10 am Page 13
with over-voting if you don’t know whose shares
went where – which shares in an omnibus
account were actually lent out. That is a practice
that I predict is going to have to end.
Technology can have a strongly positive effect of
course, but so far, it hasn’t been used that way;
instead it’s all been about lowering costs and
getting more paper out there,” he adds.
Coxon is much more positive about the
impact of technology on the market: “Auctions,
and by extension auction platforms, have cer-
tainly enjoyed a high profile recently. The emer-
gence of players such as eSecLending has creat-
ed more competition, particularly in respect of
agency lending. That has shaken any compla-
cency there may have been out of the industry.
Certainly it is a great time to be a beneficial
owner – there is a good choice of suppliers,
they enjoy pricing leverage and also have more
options in terms of selecting the most appropri-
ate route to market for any given portfolio. It is
critical in this environment that agent lenders
be able to offer a flexible platform that can offer
a variety of entry points that reflect the multi-
faceted nature of securities lending.”
Clayton believes that because the whole mar-
ket has seen a big increase in volumes over the
last 12 months, it is important that all partici-
pants embrace technological solutions to insu-
late themselves from the impact of this
increase. SecFinex, EquiLend, ICap and Eurex
are all illustrative of the demand in the market
to capitalise on inherent operational weakness
and service a growing need to automate and
drive down costs as volume explodes, Coxon
continues. However, with the exception of
Equilend, all of these platforms have enjoyed
either limited success or remain in their infancy,
he adds.
Regulation and industry best practices (or
rather the lack of either) have also been impor-
tant discussion topics in the securities lending
industry over the last 12 months. The issue of
securities lending and proxy voting has recently
garnered headlines, most notably the Securities
and Exchange Commission (SEC) has indicated
an interest in the area and suggested further
research be carried out.
Securities lending and its impact on proxy
voting policies and practices has long been the
concern of the corporate governance industry,
since, potentially, market participants can
acquire voting rights in a company without an
accompanying financial stake. This separation
of economic from voting interest in a company
bends one of the basic assumptions behind the
one share, one vote principle, and places
investors who retain the economic interest in a
challenging position. However, it seems that
share lending has become a lucrative practice
for many institutions.
This year’s International Securities Lending
Association (ISLA) and Pan Asia Securities
Lending Association (PASLA) annual confer-
ences both covered the subject of proxy voting
and share lending. Speakers stressed that
recent press coverage about the practice of
hedge funds obtaining more votes than their
holdings in order to influence voting was vastly
exaggerated. Earlier in the year and in response
to such an article in the Wall Street Journal,
ISLA issued a statement that declared:
“Securities are rarely borrowed for the purpose
of influencing votes, and the cases in which bor-
rowed shares can be shown to have influenced
a shareholder vote are rarer still.”
In the UK, borrowing shares solely for the
purpose of voting is contrary to the Securities
Lending and Borrowing Code of Guidance,
which was drawn up by ISLA to highlight good
practices for lenders and their agents. The secu-
rities lending contract has been designed to
allow lenders to continue to exercise their vot-
ing rights if they wish by giving them the right
to recall equivalent securities from the borrower
at any time, says ISLA.
Conversely, ICGN’s Clearfield feels that the
issue of vote selling is something that should
be dealt with immediately. One of the issues
that the ICGN is focusing on is making trustees
aware of the fact that they are selling their votes
cheaply, he explains. “The point of the 2005
code is insisting that trustees have guidelines
down to make it clear to all their beneficiaries
that they are sacrificing voting under certain cir-
cumstances, and what those circumstances are,
14 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
YEAR IN REVIEW
Auction platforms have enjoyed a high profile recently
SLMG 2007 pp1-16 ML 10/9/07 11:59 am Page 14
as well as when they will not sacrifice their votes
for this reason,” he says.
“This is an ongoing engagement and we are
also talking to the issuers, who are also very
concerned about the discrepancies in voting
(usually manifested by over-votes) and the fact
that a few funds have visibly shown up with
empty votes and tried to influence meetings.
This is enough of a problem for these issuers to
get concerned. I am told that it has also come
to the attention of the SEC. I know that it is a
concern of the World Federation of Exchanges,
as well as of the European Commission. They
are all looking at the copies of our code and, in
particular, two aspects that call upon issuers to
separate the record dates for voting from the
record dates for entitlement to dividends,
essentially eliminating the tax arbitrage, and
also to make sure that the agenda is made
known before any kind of deadline for recall.
These are two things that issuers can do them-
selves that will possibly reduce the amount of
shares out on loan before a crucial vote,” he
elaborates.
Regardless of which party is right, the fact of
the matter is that the profile of the issue has
been sufficiently raised for the regulators to take
notice. The UK Financial Services Authority and
the regulator in Hong Kong have indicated that
they are looking into issues regarding disclosure
and SEC chairman Christopher Cox has ordered
an internal study on the practices surrounding
proxy voting in the US. Moreover, according to a
global survey on securities lending by
Institutional Shareholder Services (ISS) earlier
this year, most institutions do not have explicit
policies on securities lending relative to proxy
voting, leaving them wide open for the regulato-
ry community to suggest appropriate legislative
action.
Agent lender disclosure has also been a focus
for regulators over the last year. In the US this
has been driven directly by requirements issued
by the SEC and the New York Stock Exchange
(NYSE), whereas in Europe, the driver has been
the agency lending disclosure specifications
under Basel II. The scale of the problem is far
greater in Europe due to the complexity of the
collateral that lenders exchange, the higher
number of disclosed lending programmes and
the decentralised infrastructure.
ISLA has formed a working group to tackle
the issue of agent lending disclosure with the
long term objective of Europe achieving a level
of disclosure comparable to the US. The associ-
ation’s proposals for disclosure include the
monthly provision of details regarding the
underlying counterparty, loaned securities and
collateral. ISLA has indicated that it will be
working with the industry over the next year to
further develop best practices in this area.
Regulation in general has been an issue for
the market over the last year. Clayton says: “I
think regulation is having more of an impact
across all of our businesses and securities lend-
ing is no exception. All elements of securities
lending have been affected, whether it be
increased levels of information concerning our
business to allow counterparties to make the
right risk decisions, or ensuring that we have
comprehensive policies and procedures to
prove best execution. Finally, all businesses
should treat customers consistently, but the
new Treating Customers Fairly directive has
required a full examination of the business.”
The focus on regulation is also likely to con-
tinue for the next 12 months at least, Clayton
adds. “I think we will see increased focus on the
use of regulatory capital over the next few
months as the impact of Basel II will ensure
that participants pick the right products for the
use of their capital. The counterparties that are
used, indemnification required and the collater-
al provided will all come under the microscope
in the next few months,” he explains.
Despite these compliance concerns, the
future of securities lending remains rosy.
However, the key to maintaining and growing
demand is to be flexible in your business and
listen to what clients and borrowers want and
communicate well with both, says Clayton.
“This should ensure that you can continue to
match supply to demand by developing compli-
mentary capabilities,” he concludes. SLMG
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 15
We will see increased focus on the use of regulatory capital
over the next few months
SLMG 2007 pp1-16 ML 10/9/07 11:59 am Page 15
The Risk Management Association’s
securities lending data covers the first
quarter of 2007. Survey data is present-
ed for primary lending markets world-
wide, with cash collateral reinvestment
data aggregated to reflect reinvestment
return, interest rate sensitivity, liquidity,
credit tiering and instrument types for
both US dollar and euro currency col-
lateral.
The data has been collected by the
RMA frominstitutions including AIG,
Barclays Global Investors, Brown
Brothers Harriman and JPMorgan.
16 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
STATISTICS
Data Dissected
ISJ examines the RMA’s securities
lending market data for 2007
Instrument types on loan in the first quarter 2007
As we can see from the chart, floating rate
instruments represented the largest
percentage of instrument types on
loan in the first quarter of 2007.
This is closely followed by fixed
rate asset backed securities and
corporate collateral at invest-
ment grade A or higher.
Also popular are US Treasuries
repo agreements, although
these have declined since last
year’s survey. Floating rate asset
backed securities have also declined
to some extent.
According to RMA figures, the total
amount of assets on loan has
increased significantly over the
last six years. Moreover, the
spread of instruments avail-
able for borrowing and lend-
ing indicates that the mar-
ket is mature and stable.
All asset backed paper is
included in the Asset Backed
Securities category and Other
Vehicles includes all other
instruments that could not be
categorised.
SLMG 2007 pp1-16 ML 10/9/07 11:10 am Page 16
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 17
The Survey reflects data
provided by the
following institutions:
AIG Global Investment Corp
Barclays Global Investors
Boston Global Advisors
Brown Brothers Harriman & Co.
Citibank
Frost National Bank
Investors Bank & Trust Company
JP Morgan Chase & Co.
M & I Global Securities Lending
Mellon Financial Corp.
MetLife Insurance Company
The Northern Trust Company
PFPC Trust Company
US Bank
Union Bank of California
The Vanguard Group, Inc.
Wells Fargo Institutional Investments
Wachovia Global Securities Lending
RISK MANAGEMENT ASSOCIATION SECURITIES LENDING COMPOSITE - Averages for
the period of Quarter 1 2007
Below is a table showing a year on year snapshot of the industry worldwide. Lendable assets refer to the value of
loanable securities. On loan versus cash collateral refers to the value of securities on loan in return for cash. On
loan versus non-cash collateral refers to the value of securities on loan in return for non-cash collateral.
North American Treasuries/Bonds
US Treasuries/UST Strips
US Agencies
US Mortgage Backed Securities
US Corporate Bonds
Canadian Bonds (Gov't & Corporates)
North American Equities
US Equities (includes ADR’s)
Canadian Equities
European Equities
French Equities
German Equities
Italian Equities
UK Equities
Scandinavian Equities
All Other European Equities
Pacific Rim Equities (Includes Australia)
Japanese Equities
Hong Kong Equities
Australia
All Other Pac-Rim Equities
All Other Equities (Not Previously Listed)
Total Equities (Aggregate Total)
Euro Denominated Sovereign Bonds
French Sovereign Bonds
German Sovereign Bonds
Italian Sovereign Bonds
Spanish Sovereign Bonds
All Other Euro Denominated Sovereign Bonds
UK Gilts
Emerging Market Eurobonds**
Eurobonds
All Other Sovereign Bonds †
Total Bonds (Aggregate Total, incl US)
TOTALS
Average Number of Lending Markets
LENDABLE ASSET
($m)
$1,753,274
$471,880
$202,088
$212,175
$844,225
$22,906
$3,613,708
$3,558,676
$55,032
$1,274,195
$186,949
$158,512
$72,794
$427,543
$108,280
$320,117
$616,818
$353,467
$60,881
$113,914
$88,556
$57,068
$5,561,789
$222,667
$51,958
$79,984
$39,924
$11,628
$39,173
$145,667
$38,198
$281,105
$89,577
$2,530,488
$8,092,277
19
$548,952
$340,178
$82,009
$48,884
$74,714
$3,167
$314,011
$309,364
$4,647
$88,106
$30,132
$13,672
$9,120
$3,354
$10,974
$20,854
$44,093
$20,416
$6,398
$14,305
$2,974
$4,115
$450,325
$14,689
$4,328
$6,301
$1,563
$791
$1,706
$8,946
$8,441
$24,352
$5,515
$610,895
$1,061,220
$65,178
$56,777
$6,726
$412
$922
$341
$12,826
$10,981
$1,845
$39,401
$5,480
$4,678
$2,841
$11,816
$4,673
$9,913
$19,269
$10,734
$1,599
$4,874
$2,062
$273
$71,769
$25,734
$6,309
$10,995
$6,928
$577
$925
$41,719
$5,878
$4,096
$81
$142,686
$214,455
ON LOAN vs CASH
COLLATERAL ($m)
$614,130
$396,955
$88,735
$49,296
$75,636
$3,508
$326,837
$320,345
$6,492
$127,507
$35,612
$18,350
$11,961
$15,170
$15,647
$30,767
$63,362
$31,150
$7,997
$19,179
$5,036
$4,388
$522,094
$40,423
$10,637
$17,296
$8,491
$1,368
$2,631
$50,665
$14,319
$28,448
$5,596
$753,581
$1,275,675
ON LOAN vs NON-CASH
COLLATERAL ($m)
TOTAL ON
LOAN ($m)
35%
84%
44%
23%
9%
15%
9%
9%
12%
10%
19%
12%
16%
4%
14%
10%
10%
9%
13%
17%
6%
8%
9%
18%
20%
22%
21%
12%
7%
35%
37%
10%
6%
30%
16%
TOTAL ON
LOAN (%)
*(Reported in Aggregate) **(Latin America & E Europe) †(Not Listed Above)
US dollar $
SLMG 2007 pp17-33 10/9/07 2:18 pm Page 17
SLMG 2007 pp17-33 10/9/07 2:23 pm Page 18
SLMG 2007 pp17-33 10/9/07 2:35 pm Page 19
20 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Securities Lending PANEL DEBATE
Guy d’Albrand had been global head of liquidity management at Société
Générale since the autumn of 2004. He began his career as a futures broker
and then spent several years as an auditor at Société Générale He joined Fimat
to run the Tokyo office and was then appointed executive vice president of
Société Générale Securities, North Pacific. He then headed up the online bro-
kerage operations in Japan. In 2002, d’Albrand moved back to Société
Générale’s head office to become global head of audit for the Corporate and
Investment Banking Division of the bank.
THE SECURITIES LENDING
PANEL DEBATE
Paul Wilson is senior vice president and global head of Sales and Client
Management for Securities Lending and Execution Products (SLEP) for JPMorgan
Worldwide Securities Services (WSS). He is based in London. Wilson is responsi-
ble for new business development and initiation as well as client management
across the entire SLEP product range, which includes securities lending, foreign
exchange, transition management, futures and options clearing and commission
recapture within JPMorgan WSS. Additionally, Wilson is the SLEP regional busi-
ness executive for the Europe, Middle East and Africa region. He joined Chase in
1984 and has carried out a number of roles within JPMorgan WSS including
product development, client services and operations.
Mark Fieldhouse serves as head, Technical Sales, Americas at RBC Dexia. His
team is responsible for overall growth and development of the Global Products
client base, as well as the product level management of its strategic clients
in North America. Global products include securities lending, foreign
exchange, cash management and portfolio management services. Fieldhouse
brings to his role 12 years experience in the Global Products environment.
Prior to heading up Technical Sales for the Americas, Fieldhouse served as
director, Technical Sales, Securities Lending. He has previously held a num-
ber of progressive positions within the securities lending business, with a
focus on client management and business development.
Elizabeth Seidel is senior vice president, co-manager of Brown Brothers
Harriman Global Securities Lending. Seidel joined BBH in 1999 and was
recently appointed department co-manager for Global Securities Lending. In
her new role, Seidel has management responsibility for Relationship
Management, Risk Management, Sales, and Marketing groups. Seidel has
over 15 years experience in the industry, 11 of which involve securities lend-
ing. Prior to joining BBH, she worked at Boston Global Advisors and was in
charge of Client Service and at State Street Bank in their Securities Lending
Division in both Trading and Operations.
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 20
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 21
What are the main issues affecting the
securities lending market this year?
d’Albrand: Supported by a strong overall global
economy and high investor confidence, the
securities lending market continues to thrive, as
it demonstrates an increase in liquidity and
market efficiency. As the practice gets more
popular among beneficial owners, their
demands are on the rise and they expect higher
performance and instantaneous churning out of
detailed reporting. Although considered general-
ly low risk transactions, a key issue has been
risk management, which is resulting in a push
for technological improvements to better man-
age associated market, operational and credit
risks. Change within the compliance and regula-
tory arena has also been a main focus, aiming
to better manage capital, as we can see with
such initiatives as Basel II, which is beneficial to
securities lending, as it will enable more precise
assessment of collateral quality and suitability.
Fieldhouse: We see several major issues that
could have a significant impact on the securities
lending industry this year. The first would be
Basel II, arguably the most important regulatory
initiative to have impacted securities lending in
the recent past. Basel II will mandate a very
structured risk management process. However,
as long as beneficial owners have the right risk
framework and work with lending partners who
have built a comprehensive risk model, there
will be opportunities to benefit from higher utili-
sation and increased lending revenues.
Institutional investors are also actively search-
ing for better returns through the execution of
alpha-based strategies and seem willing to be
much more aggressive with their investment
styles. The rise in popularity of hedge funds has
galvanised the securities lending industry, with
service providers and beneficial owners develop-
ing new techniques to satisfy their exacting
needs. Providers have been challenged to deliv-
er an integrated service offering, which not only
maximises revenues but also simultaneously
manages risk and maintains operational trans-
parency.
Wilson: New sources of supply continue to
come into the market via investors making their
securities available for lending for the first time.
While this is positive, it does tend to put down-
ward pressure on fees in conjunction with the
ever increasing competitiveness of the market.
As a separate matter, there is continued debate
and discussion regarding corporate governance
and the impact of securities lending. Best prac-
tice remains where lenders and investors view
each event and determine whether to keep secu-
rities on loan and benefit from the fee or to
recall the loan in time to vote the proxy.
On the tax front, we continue to see new cases
come before the European Courts of Justice
(ECJ), which point toward greater tax harmoni-
sation across Europe. These cases should be
followed closely as they may have significant
implications for lenders and borrowers. And the
buzz phrase of 2007 has been the 130/30 funds,
which are seeing traditional long only managers
launch funds that short up to 30% of the value
of the fund and then invest the 30% short pro-
ceeds to obtain a 130% total long position and a
30% short position. This should increase
demand for securities borrowing and create new
opportunities for service providers across the
securities financing business.
Seidel: Over the past year, one of the issues that
we have seen heightened client awareness of is
corporate governance and the need to vote
proxies. This has made invaluable the efficien-
cies BBH has created through our securities
lending system infrastructure and recall
process. We are not only able to recall securities
in a timely manner for voting purposes, but can
actually flag those securities in advance of cor-
porate events to ensure no opportunity is
missed. Our clients seem to take great comfort
in our streamlined approach. The down side of
this trend in the industry, of course, is the
impact of recalls on income derived from lend-
ing, but our goal is to support our clients' prior-
ities and broader investment objectives and to
make lending as seamless to them as possible.
Supported by a strong overall global economy and high
investor confidence, the lending market continues to thrive, as
it demonstrates an increase in liquidity and market efficiency
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 21
22 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
What impact is industry consolidation having
on the market?
d’Albrand: Industry consolidation, especially
with the recent large American mergers, is
bringing all participants, large and small, to
examine and redefine their business models
and service offerings. Consolidation brings
complementary companies together, integrating
traditional functions, such as fixed income and
equity lending. Securities lending desks are
becoming one stop shops and we shall see how
these new global entities will do in terms of cus-
tomer satisfaction. In this highly competitive
market, beneficial owners want to maximise
their portfolios, but it may not always be in their
best interest to be part of a pool, with longer
queues and possible lower utilisation rates.
Credit issues also arise, since an increase in
lendable securities does not necessarily mean
an increased credit limit for each counterparty,
potentially reducing market liquidity. In this
tight market, barriers to entry are tough, howev-
er, small players have their own niche, focused
on their specific expertise, performance, tech-
nology, risk management and client relation-
ships.
Fieldhouse: While consolidation is reducing the
total number of players in the market, we con-
tend that under the right circumstances, it can
help contribute to a higher overall quality of
securities lending providers. What you’re seeing
as a result of ongoing consolidation is a reduc-
tion in the number of regional players, but an
increase in the number of truly global opera-
tions. The implications of this trend are quite
positive for the client organisations, as they are
positioned to benefit from everything those
global shops have to provide, including new
markets, new sources of demand, increased
investment in the infrastructure driving the
business, top notch risk management frame-
works and more.
Wilson: In the short term, this should be mini-
mal. There are plenty of providers operating
across all spectrums of the industry. Bank merg-
ers are, of course, just one reason for consolida-
tion, but others factors such as the potential for
greater tax harmonisation in Europe, possibly
resulting in the erosion of the yield enhance-
ment transaction, could affect the profitability of
some providers and cause them to either merge
or reconsider their position in the business. But
at this time, for investors and beneficial owners,
there is plenty of choice in providers and routes
to market, and that is healthy for the industry.
Seidel: Strategically, we are encouraged with this
further consolidation in our industry and believe
that there is ample space for BBH and much
larger asset service firms to coexist in the cur-
rent industry environment and pursue their
respective strategies. In the securities lending
industry, beneficial owners who are clients of an
acquired financial institution may find them-
selves part of a new lending program with a dif-
ferent profile than the one they originally chose,
triggering an evaluation of whether the new pro-
gramme aligns with their objectives. In some
cases, consolidation may be the catalyst for new
opportunities for both beneficial owners and
lenders depending on the results of those evalu-
ations.
We distinguish BBH through continuity, high
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New sources of supply continue to come into the market via
investors making their securities available for lending for the
first time. While this is positive, it does tend to put downward
pressure on fees in conjunction with the ever increasing
competitiveness of the market
Securities Lending PANEL DEBATE
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 22
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24 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
employee satisfaction.
Following Electronic Trading Group’s lawsuit
last year, how have the attempts at achieving
greater price transparency in the securities
lending market been received? What progress
has been made?
d’Albrand: The so-called lack of price trans-
parency of lending fees due to the power of the
prime brokers over the industry is quite dis-
putable. The securities lending industry is an
OTC market and fees are based on various fac-
tors, such as creditworthiness, whether the
stock is callable and ease of location. Increased
market transparency, agent borrowing and lend-
ing offers, benchmarking tools and trading plat-
forms are giving beneficial owners and short
sellers a better view on market prices. In any
case, independent intermediaries offering trans-
parent pricing are emerging as competitors to
prime brokers.
Wilson: Transparency means many things to
many people. At JPMorgan, we have seen a
large increase in requests from our clients for
more detailed information and understanding of
their securities lending activities. Gone are the
days of a single monthly or quarterly report.
Clients are looking for daily, and sometimes real
time, information relating to loan activity, rev-
enues, risk and exposures. We are seeing a shift
to a more front office asset management
approach to lending by many of our clients, and
so detailed performance reviews are now com-
monplace. This focuses on where the return is
coming from, where and why superior perform-
ance was generated and what risks were taken
in the process. There is also more information
available today regarding industry wide activity.
This is useful in benchmarking or understand-
ing the size of the overall market, as well as
prices for a given asset class, and in given mar-
kets and for specific securities.
How have moves towards introducing greater
EU tax harmonisation affected the market?
Have any particular recent decisions of the
European Courts of Justice had a significant
impact on this?
d’Albrand: The tax and regulatory environment
is complex and challenging. The Focusbank and
Denkavit cases have definitely reminded the
industry that nothing should be taken for grant-
ed. It is evident that tax treaties could be recon-
sidered, with a potential to reduce the cross
border flows. We understand that a number of
principal market participants – both lenders and
borrowers – have for a long time started diversi-
fying their activity to adjust and/or compensate
for any changes in the industry’s business mod-
els.
Fieldhouse: While tax harmonisation will cer-
tainly have an impact on the market, it’s only
one factor in a constantly evolving marketplace.
It could be inferred that tax harmonisation
could potentially negatively impact revenue
streams from certain markets. At the same
time, however, it’s important to keep in mind
that major players are constantly investing in
new sources of demand and new markets in
order to capture additional revenue opportuni-
ties as they arise.
Wilson: Various decisions by the ECJ have sug-
gested a degree of tax harmonisation among
European Union member states. However, most
recent decisions issued by the ECJ, combined
with the action currently underway by the
European Commission, have all hinged on the
comparability between the entities claiming the
relief. To date, this point has not been fully
proven and therefore the direct impact on secu-
rities lending has been limited. Rather than the
cases having a dramatic and immediate impact
on tax rates, it is more likely that the actions of
the ECJ and the European Commission will lead
to individual member states amending their
Industry consolidation, especially with the recent large
American mergers, is bringing all participants to examine and
redefine their business models and service offerings
Securities Lending PANEL DEBATE
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 24
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26 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
domestic tax legislation to create a more level
playing field for cross border, intra-EU investors.
For example, early in 2007, the Netherlands
reduced its standard tax withholding rate, provid-
ing exemption for EU resident pension funds and
tax exempt entities (such as charities).
In 2004, the SEC proposed changes in regula-
tion to relax short-sale constraints and the pilot
programme began on 2 May 2005, what
impact has this had on the market?
d’Albrand: The SEC Regulation (SHO in January
2004), where short sellers of equities are
required to locate securities to borrow before sell-
ing, has given a greater role for securities lending
desks. Hedge funds are putting increased pres-
sure on prime broker services. More than ever,
finding the right stock at the right moment is an
important part of the service a prime broker
must give to their clients. All sources of informa-
tion, electronic or personal relationships, must
be used to their full extent.
Fieldhouse: Overall, the impact has been a posi-
tive one for the securities financing and hedge
fund industries. Typically, hedge funds like to take
short positions and therefore need constant
access to inventory to finance those positions.
One of the main drivers has been the growing
number of institutional investors pursuing alpha
generating strategies such as the 130/30. This
important new source of market demand was
expected to have a significant impact on pricing,
as suppliers capitalised on the growing institu-
tional interest in alternative investments.
As a result, there has been a strong emphasis
and focus on credit and risk, as well as compli-
ance by regulatory agencies and internal risk
departments to ensure a proper risk manage-
ment framework is in place. The changing regula-
tory environment and increased focus on risk,
credit, compliance and capital usage is now the
norm in the industry, and has forced firms into a
very structured risk management process. Firms
will have to make significant investments in tech-
nology and infrastructure to better dynamically
manage associated market, operational and cred-
it risk. The ability to have dynamic risk and collat-
eral management capabilities will position firms
to be more responsive than ever to a client’s
changing strategies.
Wilson: The changes enacted by the SEC (Rule
10a-1(a)) were intended to expand liquidity in the
marketplace while implementing strict compli-
ance on fails and appear to have succeeded.
Broker-dealers have adopted additional technical
controls on locating ‘intent to sell’, which includes
client logs for approvals, archiving of data, and
pre-borrows of short sales on trade date ahead of
settlement date. Borrowing securities for failed
deliveries is preferred to effecting a buy-in. Buy-ins
have become more efficient, with the introduction
of netting through the continuous net settlement
system (CNS) doing away with fails after buy-ins,
as sometimes happened in the past. In summary,
the SEC changes have had a positive affect in the
marketplace, but with some added overhead costs
for compliance monitoring.
What will the securities lending market look
like in the next five years? Are electronic FX
markets foreshadowing the evolution of securi-
ties lending?
d’Albrand: The securities lending market will be
that much more streamlined in five years, and
the future success will to some extent be linked
to technology. However, I believe that the
evolution of the securities lending industry will
follow a different path than that of FX. The two
activities are simply governed differently. FX is
highly regulated but flexible, while securities lend-
ing is much less regulated but more constricted.
Take for example the fact that each securities
lending arrangement is bound by a specific con-
tract, inhibiting the type of transparency found in
FX transactions. Amongst the several routes to
market, automation is a strong trend, with differ-
ent platforms such as the auction model.
However, many participants still prefer to adhere
The so-called lack of price transparency of lending fees due to
the power of the prime brokers over the industry is quite
disputable. The securities lending industry is an OTC market
and fees are based on various factors, such as creditworthiness,
whether the stock is callable, and ease of location
Securities Lending PANEL DEBATE
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 26
to traditional methods, believing that a relation-
ship-based business may attain better results.
Fieldhouse: It’s clear that the future of the securi-
ties lending market will be inextricably tied to
advances in technology. Technology will continue
to serve as the backbone of the industry and
those firms who invest wisely and strategically in
their technology will be the ones who win out in
the end.
Going forward, we will continue to see customers
demanding more integrated service offerings that
will enable them to maximise their revenues and
enhance risk management capabilities, while
maintaining operational transparency. As with all
other electronic trading environments, innovation
coupled with robust risk management and the
ability to integrate internally and externally, will be
the drivers and differentiators in this market.
And as the traditionally long only investors con-
tinue to migrate to the alternative sphere of
investment activity, there will be opportunities for
providers who can provide a complete set of serv-
ices to this client base, as their needs and expec-
tations become more sophisticated and complex.
And while technology is certainly going to play an
integral role in the future of the industry, what’s
going to ultimately make or break the individual
players is their ability to integrate into their oper-
ations the flexibility that tomorrow’s clients (and
their increasingly diverse investment strategies)
are going to require.
Wilson: Technology and balance sheet are going
to become increasingly important factors over
the next five years. Balance sheet and capital are
going to be essential in delivering to lenders the
risk protection they look for via indemnifications
from their service providers. As the business con-
tinues to grow at a rapid pace, this may start to
put a strain on all but the largest and most exten-
sive balance sheets. As volumes increase, not
having the necessary technology to achieve
straight through processing for a high proportion
of transactions and downstream processes will
make it very difficult for providers to sustain
growth. This also relates to connectivity with
industry-wide platforms such as EquiLend, so
that a common standard can be used by industry
participants. Within five years, those participants
that can embrace technology, have a large well
capitalised balance sheet and who can also inno-
vate in areas such as 130/30 funds will be the
dominant and successful organisations.
Seidel: Transparency and “attention” will be the
major factors influencing lending in the next five
years. As we have seen for the past decade, lend-
ing continues to move towards a more main-
stream financial product. With that migration will
come greater attention from all involved.
Beneficial owners, agents, broker-dealers, regula-
tors, vendors, media folks, you name it, will all
have heightened focus on lending. Clients in par-
ticular will be looking for the optimal provider –
one that can deliver strong returns in a risk miti-
gated environment and deliver this in multiple
ways. Customisation, once thought of as a privi-
lege for the largest, will be demanded by a
greater segment of the market. Clients all have
different objectives in lending and soon all will be
able to achieve those and will be pushed to find a
partner who can provide it. This attention, focus,
and push to the front lines by lending will lead to
increased transparency. It will come in the form
of price discovery (fees, rates) but more impor-
tantly, in total lending transparency. While fees
are important, beneficial owners will need to ask
the broader question about overall program per-
formance. Could my lending program be done
better? More safely? More efficiently? Can I have
multiple programs? Until beneficial owners can
answer questions like these in the affirmative,
only then are we really getting toward transparen-
cy. I feel this will be a big change in the next three
years. Lastly, on electronic trading – there’s no
question that it’s coming. While an important
part of the maturation and evolution of trans-
parency in lending, I do think that unlike other
products – like foreign exchange – price discov-
ery in lending will be slower to take full hold. As
noted above, all clients have a different desire
and risk profile in lending and price discovery,
while an indicator of success, will not be the sole
evaluator in the next few years. SLMG
It is likely that the actions of the ECJ and the European
Commission will lead to individual member states amending
their domestic tax legislation to create a more level playing field
for cross border, intra-EU investors
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 27
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 27
28 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
At pension fund ABP with assets totalling
EUR215 billion, we view securities lending as
an investment management function.
Securities lending is considered an independ-
ent investment strategy. We apply all of the
same investment disciplines and rigor to secu-
rities lending that would be applied to any
investment strategy. Asset allocation, vendor
selection, investment guidelines, benchmark-
ing, and performance measurement are all part
of the ABP programme.
We take an active approach to securities lend-
ing and aim to optimise providers and counter-
parties based upon their specialties or ability
to pay guaranteed premiums via the auction
process for our various portfolios. This
approach has been the key to the success of
our program which will top EUR105 million this
year, up from ¤43.5 million in 2003 prior to the
implementation of this strategy.
Applying investment management discipline
to the inefficient, bundled, securities lending
industry has allowed us to maximise perform-
ance and create a significant source of alpha.
We use three primary vendors for securities
lending services with a best of breed approach,
eSecLending, State Street and JPMorgan. The
eSecLending auction model has been a key
tool in the management of the programme.
The auction provides price discovery, bench-
marking and transparency and has been
employed across all asset classes improving
both lending fees and utilisation rates.
At ABP we have built a robust oversight infra-
structure, which has allowed us to maintain
control over the programme and make better
strategic investment decisions. We have used
this infrastructure to employ a variety of collat-
eral management strategies. Key to this has
been the unbundling of collateral management
services and lending. The programme now
uses five distinct, lowly correlated strategies.
All managers must comply with ABP’s invest-
ment guidelines, but different managers have
been hired for different strategies. Our pro-
gramme is large enough and our auctions are
timed so that we can divide our volatile cash
from cash that is considered core and we can
commit to a manager for a year or longer.
Risk management is a key part of our over-
sight function. We look at guideline compli-
ance through a variety of reporting tools and
analytics that standardise program data across
providers. We also measure total exposure
across all of our borrowers taking into account
exposure in our collateral reinvestment portfo-
lio. Value at risk (VaR) is measured programme
wide to ensure that programme risks are
appropriate for the fund’s risk tolerance. We
have found that our programme VaR is relative-
ly small when compared to the alpha that it
delivers. Through our quality management
function, we are also constantly working to
increase the programme’s operational efficien-
cy to reduce operational risk.
While ABP would never underestimate the
importance of operational support in the
smooth administration of our programme, we
primarily view securities lending as an invest-
ment strategy that generates considerable
amounts of money. Thus, we manage our pro-
gramme as we would any of our investment
functions.
Finally, of course, the coin of securities lend-
ing also has another side: corporate gover-
nance. ABP has a policy in place to strike a bal-
ance between the returns from securities lend-
ing and the retention of voting rights in cases
‘in which it makes a difference’. A minimum of
10% of the shares will always be available for
voting at AGMs. In case a company is on
ABP’s full voting list, ABP
will in principle vote with all
of its shares. Shares lent
will be recalled for that pur-
pose, unless there are no
controversial issues on the
AGM agenda.
Mark Linklater, head of
Securities Lending, ABP
Investments
Is securities lending a back office or front office function?
ABP Investments
Ask the EXPERTS
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 28
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SLMG 2007 pp17-33 10/9/07 2:45 pm Page 29
30 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
The growth in stock lending has been one of
the most spectacular success stories of the cap-
ital market liberalisation of the past 20 years. By
providing the markets with greatly enhanced liq-
uidity and greater potential to hedge positions,
facilitating two way bets in equities, and provid-
ing long term holders of equity positions with a
means of enhancing revenue, the expanded
lending of today’s markets has contributed sig-
nificantly to the strong performance of equity
markets over the period.
However, as beneficial as it has been, this
greatly expanded lending activity has not been
without its price. As some of the less fortunate
side effects come to the fore, the danger
increases that regulators will impose rules
which have the effect of dramatically inhibiting
lending in order to curb some of those side
effects. Better that the industry address these
issues itself first, than that they be addressed by
unsympathetic legislators responding to pres-
sures from outside the investment industry.
Lending has always been predicated upon the
assumption that most share owners will not
want to vote. Since the vote is the one thing
that borrowers and their agents cannot indem-
nify through their lending contracts, this aspect
of lending is usually glossed over in the sales
pitches made to senior managers and boards of
trustees. Prospective lenders are of course
assured that the have the right to recall shares
(be bought back in) for any reason. The
assumption is that they will not have to do this
very often.
In the event of a bid, rights offering, or other
transaction, the broker can often ‘assent the
shares’ and be on the hook for the substitute
equity instead. Dividends and special distribu-
tions are provided for in the contract for differ-
ence that the broker has with the hedge fund on
the other side of the trade, and everything is
just fine. Except, of course, for voting, which
requires that similar shares be delivered to the
customer before a date that is seldom far off
when the recall order is given.
As it now stands, lending has the effect of
inuring lenders to their stewardship responsibil-
ities. Fortunately, most shareholders’ votes are
non-controversial, because until and unless
some mechanism is developed to reduce this
conflict between voting and the continuance of
a borrowed position, lending will continue to
provide a powerful disincentive to voting.
The threshold problem is that both the
administrators of a lending programme and
their counterparts on the borrowing broker’s
side have a vested interest that the share not be
recalled and the loan terminated. They are apt
to point out that the loan will bring in real cash
(however little) and that exercising the share-
holder’s franchise has only intangible value. The
threat that more than very occasional recall may
cause the borrower to stop doing business with
the lender is invoked to stifle debate.
It may also be more difficult than advertised
for the borrower to find the needed shares when
a recall is demanded; in the case of voting, fail-
ure to recall in time seldom results in any penal-
ty clause being invoked by the lender. The net
result of this situation, in which proxy voting is
made subordinate to lending, is that lenders
rarely recall for voting, unless a bid is in
prospect. Proxy voting teams, and the few port-
folio managers who are interested in corporate
governance issues, rapidly become discouraged
at this display of corporate priorities. Often con-
troversial voting issues are not even reported to
higher levels of management because of the
conflict with revenue generation, no matter how
small.
A further problem is that both investing insti-
tutions and their portfolio companies are fre-
quently uncertain as to the size of their actual
holdings. An investor soon loses credibility
when claiming to represent 3,000,000 shares in
an engagement with a company, if only 50,000
What are the implications of stock lending
for corporate governance?
International Corporate
Governance Network
Ask the EXPERTS
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 30
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 31
are eventually voted. I have seen senior man-
agers of major funds confidently promise they
would vote millions of shares in a certain way,
only to see them turn up at an AGM, red faced,
with one third that number. The rest were out
on loan.
Of course, no one else knows why the broker
wants to borrow stock, but the assumption is
that on the other side is a hedge fund or other
client who wants to be short. The shares will be
sold in the market, whoever buys them will be
another legitimate investor, and that is that.
However, the number of cases where it has
been revealed that a client was in fact borrowing
shares for the sole or primary purpose of voting
them, while small, has been rising.
There is every reason to believe that there are
other instances where this occurs which are not
widely known because it is never disclosed who
initiates a stock borrowing transaction, let alone
what the motivation was for doing so.
Borrowing votes is extremely difficult to prove,
and while generally condemned as bad practice,
in many jurisdictions it is neither illegal nor like-
ly to give rise to sanctions if detected. But even
suspicion of the practice is sufficient to com-
promise the integrity of the shareholders’ meet-
ing. It also encourages management to take
more defensive measures at the expense of
shareholder value, and plays havoc with our
notions of liberal capitalism.
‘Empty voting,’ to use the term applied to it
by Henry Hu of the University of Texas, runs
directly counter to the concept of collective
responsibility for decision making which is at
the core of the theory of the corporation. When
the shareholder’s voting interest may be
detached from his economic interest in the
prosperity of the corporation, as is the case with
the voting of borrowed shares (as well as the
use of certain derivative positions) all sorts of
mischief may result. The assumption that the
vote is cast in order to protect the owner’s per-
ceived economic interest is no longer valid, and
the vote may be cast in such a way as to actual-
ly attempt to destroy the value of the corpora-
tion. For anyone attempting to wreak mischief
upon the company, borrowing shares for the
purpose of voting may be a relatively cheap and
easy way to do it.
There have been cases recently where a share-
holder attempted to change the outcome of an
AGM by voting almost 5% of the company’s
equity when his actual stake in the company
was less than 0.05%. There was the case where
a group of borrowers voted to derail a friendly
transaction, reaping a huge profit on their short
position. There have been instances where
shareowners, barred from voting because of a
conflict of interest, could lend some of their
votes to another, friendly shareholder who was
not similarly prohibited. There have been cases
where substantial votes were cast by sharehold-
ers who had a negative economic interest in a
company.
While it is true that this is always possible
through the use of derivatives, at least the
investor’s long position in the shares is a mat-
ter of record. The problem with lent and bor-
rowed positions is that they never have to be
reported. A party can show up with 5% or even
25% of the votes without ever having to disclose
his existence, can vote in a manner contrary to
the other shareholders’ interest, and disappear
without ever having to transact in an open mar-
ket.
The ICGN Securities Lending Code of Best
Practice was drafted with these issues in mind.
It was conceived to be relatively unobtrusive,
with the goal of reducing lending activity as lit-
tle as possible. Given that many institutions
have decided to absent themselves or withdraw
from lending activity because of the problems
described above, alleviating these problems
could actually result in greater activity, with
more entrants returning to this market. The pri-
mary objective of the code is to ensure that
lenders know what they are doing, and that they
keep their beneficiaries or clients apprised of it
as well, not that lending activity be reduced
indiscriminately.
Above all, the ICGN Code calls for greater
transparency. Participants in this market need
to have greater confidence that they are not
lending shares to would be abusers of the sys-
tem. Issuers, which are in a sense involuntary
participants, need to have confidence that rights
delegated to shareholders
are not going to be usurped
by those whose interest is in
no way allied to the survival
and prosperity of the enter-
prise.
Andrew Clearfield, chairman
of the ICGN Committee on
Securities Lending
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 31
32 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
“To be or not to be; that is the question.”
Hamlet considered the most basic of questions:
suffer with “outrageous fortune” or fight against
a “sea of troubles.” Four hundred years after
Shakespeare’s eponymous play was first written,
the question remains the same for securities
lending. It is also important to consider: to vote
or not to vote; that is the question.
Establishing a balance between revenue and
corporate governance mirrors Hamlet’s strug-
gle to balance fortune and troubles. At the
California Public Employees’ Retirement
System (CalPERS), the equilibrium is estab-
lished and well proven that it is possible, if not
necessary, to harmonise stock loan earnings
with a sound proxy voting policy. CalPERS’
securities lending group works closely with the
corporate governance unit to maintain a policy
that accentuates CalPERS’ fiduciary responsibil-
ity to the pensioners, along with the responsi-
bility of a long term investor.
In the fiscal year ending June 2007, CalPERS’
securities lending contributed USD162 million
in income to the overall fund performance.
CalPERS recognises that maximising returns is
not mutually exclusive from voting proxies.
This well coordinated dance balances commu-
nication, transparency, and consistency.
The beginning steps of the dance involve
establishing an open line of communication
and good working relationships with the fund’s
corporate governance decisions. Creating poli-
cies and procedures that are formally docu-
mented helps minimise conflicts. At CalPERS,
there are three policies which address lending
and proxy voting. The first two involve exclud-
ing approximately 50 securities from lending
during the year. The third policy recalls, around
the expected record date, the 300 largest US
equity positions to participate in the proxy vote.
The next dance step involves ensuring that
the policies and procedures are transparent to
all stakeholders – lending agents, borrowers,
custodians, and other administrative agents.
Establishing the proxy guidelines as a part of
the contract ensures that all parties understand
the rules. Additionally, CalPERS has a proce-
dure to determine what happens if a stakehold-
er wishes to keep the security on loan. If a bor-
rower wishes to borrow a stock over record
date, the securities lending group writes a pro-
posal that details the economic value of keep-
ing the security on loan and presents it to the
corporate governance unit. The corporate gov-
ernance unit reviews the proposal and then
accepts or denies it, based upon correlating the
earnings received from the loan and the value
of the vote.
Before the dance ends, a record of consisten-
cy must be established. This includes following
the mandate, goals and mission of the organi-
sation; staffing resources to support the initia-
tive and monitoring processes properly; and
enforcing the policy.
At CalPERS, this well rehearsed dance has
resulted in maximising lending revenue and fol-
lowing a first rate corporate governance policy.
CalPERS has balanced fortunes and troubles
and determined the answer to the question to
vote or not to vote. Do both.
Daniel Kiefer, opportunistic portfolio manager,
CalPERS
How can an organisation benefit from
securities lending and corporate governance
at the same time?
CalPERS
Ask the EXPERTS
SLMG 2007 pp17-33 10/9/07 2:45 pm Page 32
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SOLUTIONS FOR SECURITIES
FINANCE
SLMG 2007 pp17-33 10/9/07 2:46 pm Page 33
34 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
JPMorgan - FUTURE OF THE MARKET
Asset managers or pension funds would
hardly have considered the relative merits of dif-
ferent securities lending structures five years
ago. Any return was a good return and the front
office was not concerned as long as securities
lending was not affecting their ability to manage
the assets and generate alpha. Typically, the big
custodian agent lenders called on their clients
and educated them on the risks, returns and
operational implications of securities lending. It
was a single route to market, and although
somewhat one dimensional, it could be suffi-
ciently tailored (for example, markets, borrow-
ers, collateral guidelines) to suit most clients’
risk/reward requirements. Consequently, many
institutional investors participated, so that lend-
ing books grew, borrower demand increased,
trading desks expanded and revenues grew.
A view from today shows that the custodian
lenders, plus a few new market entrants are still
doing good business. Lending volumes, driven
by an expanded pool of lendable assets, have
been matched by increased demand from the
prime brokers and an economic environment
that has pushed up returns for most beneficial
owners and lenders.
But does that mean that the environment is
an easy one for agent lenders, and that educa-
tion, not competition, still drives new beneficial
owners into our respective programs? Not at
all. Growth in the industry has created new
lending structures, alternative providers and
intense competition. Lending clients are no
longer satisfied in knowing that their assets are
being lent but want to be assured that they are
maximising revenues and controlling risk.
Furthermore, environmental factors are creating
both threats and opportunities to the industry.
You can’t attend many securities lending confer-
ences without hearing extensive debates on tax
harmonisation, hedge fund activity, proxy vot-
ing, indemnification, transparency, disinterme-
diation, electronic trading and emerging mar-
kets, to name but a few.
It would be easy to dismiss some of these as
minor threats to revenues requiring minimal
product enhancement from the agent lenders to
address the issues; however, that could be a
mistake.
Tax harmonisation is already affecting rev-
enue streams. Europe has already seen many
changes over the last few years. Fortunately, the
general strength of securities lending revenues
has, so far, cushioned the blow. However,
reliance on one revenue stream is creating sig-
nificant concentration risk for some industry
participants and the consequences will be evi-
dent as additional tax treaties are signed and/or
more harmonisation occurs.
Beneficial owners have for a long time select-
ed risk management as the single most impor-
tant consideration when participating in securi-
ties lending. Risk management is never far from
the top of any beneficial owner’s agenda. Make
no mistake, the level of lending returns enjoyed
are significantly influenced by the level of risk
that lenders are prepared to take. As risk/return
analysis improves within the industry, beneficial
owners will increasingly ask questions about
their programmes, the level of indemnification
afforded by the agent and the ability of their
agent to meet its indemnification obligations
should an event occur. The result is that
enhanced reporting, greater transparency and
better informed relationship managers will pro-
vide granular details for the beneficial owners to
satisfy their need for information. Just as signifi-
cantly, agent lenders will be quizzed on their
financial ability to meet the promises they make
within their contracts. Just how reliable is that
indemnification after all?
Other points of debate in the industry are with
us now and have been for a few years. Proxy vot-
ing, for example, requires close coordination
between the agent and their beneficial owners to
ensure that corporate governance obligations are
fulfilled. The fact that beneficial owners cannot
vote shares that are on loan is the fundamental
Now and the
future
Paul Wilson looks ahead at
the potential of the securities
lending market
Multi-tasking by agent lenders is the future; the one
dimensional securities lending model with a captive client
base has disappeared
SLMG 2007 pp34-49 10/9/07 4:43 pm Page 34
point that drives the concern. This leads to much
misunderstanding, rumour and speculation.
Recalling stock before the record date where vot-
ing is viewed as important in a given case is a
ready made solution, especially when the majori-
ty of positions are lent on an overnight basis.
Securities lending can certainly sit comfortably
with an active corporate governance programme.
Best practice dictates that each beneficial owner
develops a policy with regard to how it will han-
dle voting in situations where securities are on
loan, weighing the value of revenues being
achieved versus the loss of voting rights.
Tax harmonisation, risk analysis and indemni-
fication quality will influence the industry in
coming years, and proxy voting will continue to
cause debate.
Directed lending – Clients have their own
lending desk, negotiate loans themselves,
and work in partnership with their custodian
to administer the programme operationally.
Exclusive lending – Lending to one borrower,
typically after an auction, often conducted by
the agent, where the highest bidder wins the
right to exclusive access to one or more port-
folios.
Third party (non-custody) lending – Lending
programmes for those beneficial owners
where the lending agent is not the custodian
bank.
Synthetic lending – The use of financial
instruments to replicate lending structures.
This is used for those markets where an
established securities lending structure does
not exist.
Depository lending linkage – Links to lending
programmes of certain depositories, such as
Euroclear.
Combinations – Mix and matching of all of
the above.
All of these structures come with their own
challenges. Technology must be in place and
legal and regulatory due diligence handled. It’s
a challenge to offer the whole suite of products,
but clients expect it and often like to consoli-
date their lending services with one provider
and also want to get maximum value across the
whole product set.
So, if you have a diverse source of revenue,
great risk management, provide top level infor-
mation to your clients and maximise revenues
across the range of securities lending routes to
market mentioned above then you have it all?
Well no, actually.
The securities lending industry is not immune
from the changes taking place across the asset
management world. It has been well document-
ed that the lines that separate long managers
from hedge funds look increasingly blurred. The
more sophisticated institutional investors and
130/30 fund strategies are generating an
increase in shorting from the more traditional
managers. These managers, who have worked
for many years with their agent lenders are, for
the first time, looking for borrowing as well as
lending services. Borrowing a position from an
internally or externally managed account of the
same client and having other sources to capture
good value borrows from your agent can be an
attractive proposition. Add that to the same
agent that can manage your collateral delivery
against positions borrowed and overlay the
range of securities lending programmes men-
tioned above across the same securities and
you have a powerful business model.
This multi-tasking by agent lenders is the
future; the one dimensional securities lending
model with a captive client base has disap-
peared. By working closely with beneficial own-
ers so that they can, without multiple contracts
and multiple vendor relationships, also gain sig-
nificant economies of scale will see the end
game winners being those banks with the
broadest products, the most healthy balance
sheets, the most diverse sources of revenues
and the best technologies to
maximise returns, quantify
risk and provide true per-
formance measurement.
SLMG
Paul Wilson, senior vice president
and global head of Sales and Client
Management for Securities Lending
and Execution Products (SLEP),
JPMorgan Worldwide Securities
Services
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 35
The securities lending industry is not immune from the
changes taking place across the asset management world.
It has been well documented that the lines that separate long
managers from hedge funds look increasingly blurred
SLMG 2007 pp34-49 10/9/07 4:43 pm Page 35
36 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
eSecLending - SECURITIES LENDING IN 2007
Securities lending is a well established prac-
tice and a mature market, but it has experienced
a significant evolution over the past decade. The
industry has changed from being viewed primari-
ly as a back office, operational function, to a front
office investment management discipline.
Beneficial owners are now increasingly viewing
securities lending as an alpha generating tool
capable of producing a meaningful and pre-
dictable revenue stream across a wide range of
portfolios and asset classes.
Where it was
Historically, securities lending was treated as a
back office, operational tool that was used to
facilitate settlements and cover shorts in the
market. Demand arose from the banks and bro-
ker-dealers and supply originated at large pen-
sion funds, insurance companies and asset
managers. The significant growth in both the
trading volume and sophistication of the equity
and fixed income markets, along with the cre-
ation of a wide range of derivative products has
created increased demand to borrow securities.
This increased demand has led to the need for
more supply, leading to more discriminatory
pricing, and more creative means of managing
and packaging the product.
From a beneficial owner’s perspective, securi-
ties lending was historically viewed as a bun-
dled service provided by custodian banks and
mandates were linked with custody from both a
contractual and pricing standpoint. There was
limited transparency and few alternatives to the
traditional custodial agent pooled lending pro-
grammes. However, over the past decade secu-
rities lending has received a new level of atten-
tion and focus from beneficial owners.
Securities lending decisions began to be viewed
as an investment decision, causing a change of
expectations from clients and a new level of
service and competition from third party and
custodial agents.
Today’s market
Beneficial owners are now increasingly viewing
securities lending as a predictable alpha generat-
ing process, capable of producing consistent
incremental returns across a broad array of asset
classes. They are looking beyond the traditional
stock by stock pooled agency lending pro-
grammes and incorporating specialised lending
programmes tailored to fit their specific
risk/return parameters. Beneficial owners are
also taking advantage of the fact that there are
more choices in the marketplace today allowing
them to evaluate securities lending and its
providers in a new light – and to select more
than a single route to market. Many long accept-
ed investment management disciplines are now
being applied to the securities lending market,
including transparency, use of specialists, multi-
ple managers and competition.
Transparency
There is a clear trend by beneficial owners to
unbundle their securities lending and custody
mandates in order to increase transparency and
returns and gain greater control over their securi-
ties lending programmes. Greater transparency is
important to beneficial owners in three key areas:
performance measurement to determine if they
are earning competitive returns; risk manage-
ment to gain better understanding and control
over the risks they are taking to generate returns;
and fees they are paying to service providers.
The industry has adopted better benchmarking
tools to improve performance measurement and
analysis. There are now viable database systems
to assist market participants in determining
whether their returns are in line with industry
averages. Transparency is also increasingly
important for senior management and boards to
ensure that their fund assets are earning the full
and appropriate returns for any risks taken and to
ensure that objective criteria were used to award
asset mandates. Many beneficial owners have
also recently unbundled their custody and
lending contracts to gain a better understanding
and control of their fees, and to better align the
interests of their service providers.
Multiple providers and use of specialists
Beneficial owners have been utilising multiple
providers for many years for investment manage-
ment, brokerage execution and foreign exchange,
even though these are all services typically pro-
vided by custodian banks or their affiliates. The
same is now becoming true for securities lend-
An investment
decision
Chris Jaynes explores the
current position of securities
lending in the market
SLMG 2007 pp34-49 10/9/07 4:43 pm Page 36
ing. Many beneficial owners, especially in the US,
UK and Europe, have successfully implemented
securities lending programmes utilising both
third party and custodial agents.
These beneficial owners are also increasingly
using auctions and third party specialists to
enhance returns on their most attractive assets
while continuing to utilise their custodian to lend
their general collateral assets via the agency
queue. As many beneficial owners are now
understanding that securities lending is primarily
a trading and investment management function,
they are choosing to optimise results by utilising
specialists. They are now implementing more
sophisticated provider selection processes and
demanding more sophisticated risk management
and reporting tools.
The traditional custodial stock by stock, queue
or pool driven, lending programme has been
joined by a number of new, innovative and cus-
tomisable lending processes. These include:
- The growth of the third party agent lender,
including non-custodial agency lending done via
a custodial bank.
- The rise of exclusive principal programmes –
going direct to the borrower or broker.
- The use of auctions to distribute information
and determine the market price for a portfolio of
securities, or even a single security.
Auctions and competition
The rise of auctions in the securities lending mar-
ket is a trend that is also gaining popularity.
Beneficial owners have the opportunity to auction
off a portfolio, a portion of a portfolio, or even
single stocks, to a selected pool of borrowers in a
competitive environment. Most auctions award
portfolios to the winning bidder(s) on an exclu-
sive principal basis. The objective is to capture
the most attractive price for the assets, while pro-
viding the lender with a high degree of trans-
parency and control throughout the process.
This route to market has proven to be successful
for a broad range of asset classes when com-
pared to traditional pooled lending programmes
for many large pension funds, mutual funds and
investment management groups. It enables the
lender to achieve premium, market driven
results, in a manner that provides unbiased,
measurable results, which they can then produce
for their boards and management.
Definition of an exclusive principal arrange-
ment: An exclusive principal arrangement
makes a portfolio, or portion of a portfolio,
available to a specific borrower for a fixed
period of time, in exchange for a guaranteed
return. For this exclusive right, the borrower
pays a guaranteed fixed return to the lender
either as a fixed basis point based on the value
of the lendable assets in the portfolio, or via a
fixed sum payable monthly over the term.
Where it is going
As Lenders and investment managers come to
more fully understand the securities lending mar-
ket and its underlying structures, the trend
towards managing the product as an alpha-gen-
erating instrument will continue. Beneficial
Owners are, now more than ever, actively manag-
ing their securities lending programmes. They
are more carefully considering the options and
tools available to them and are therefore making
better informed lending decisions. They are also
actively seeking to introduce competition and
utilise various routes to market, allowing them to
safely increase returns, mitigate risk and achieve
greater control over their programmes.
We expect to see more sophisticated and inno-
vative methods of lending continue to evolve, as
new assets become available for lending, as new
markets around the world develop and as
improved risk management and trading tools are
developed. SLMG
Chris Jaynes, president of
eSecLending
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 37
Transparency is increasingly important for senior management
and boards to ensure that their fund assets are earning the full
and appropriate returns for any risks taken and to ensure that
objective criteria were used to award asset mandates
SLMG 2007 pp34-49 10/9/07 4:43 pm Page 37
38 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
SGSS - SELECTION CRITERIA
The world of securities lending is complex and often
misunderstood. However, this is changing – it’s an
industry currently in midstream of formalisation.
Securities lending represents a significant growth area
for fund managers, and is a vital tool in generating addi-
tional returns to enhance performance. Many have
already come aboard, reaping an additional income
stream from their assets.
To launch a securities lending programme, it is essen-
tial that fund managers first fully understand their own
investing strategy and portfolio size before being able to
properly determine their securities lending criteria, tak-
ing into account their trading, risk and operational com-
fort levels.
Choice of an agent lender
Few funds can ignore the yield enhancement effects of a
well managed securities lending programme. It is true
with any class of assets and, taking into account the cash
reinvestment additional return, it can be significant.
There is an array of lending options to choose from.
Pricing, risk management and operational support are
important, but so is the client-agent link itself. Securities
lending is a people business. The quality of the agent
lender, that is to say the dedication towards the fund’s
assets, is one of the key considerations when analysing a
securities lending programme. A healthy relationship is a
fundamental prerequisite to productive long term collab-
oration.
The main challenge in choosing the right agent stems
not only from the fact that securities lending transactions
are complicated to carry out because they are OTC trans-
actions, but also because they require a specific expertise
to ensure safe settlement, relevant collateral adjustment
and exact billing. Moreover, the actual asset’s utilisation
rate and lending performance is highly dependent on the
agent reach and team dedication in lending those assets,
whatever algorithm is in place to ensure fairness of treat-
ment across customers.
When a full range of services, from custody to securi-
ties lending, can be delivered, transactions can be
processed seamlessly. A comprehensive service provider
has a better grasp of the overall process and is able to
integrate different services efficiently and cost effective-
ly. Additionally, an agent lender that offers the entire
value chain can suggest further enhancements to the
programme on an individual basis.
Certainly, the idea of trading directly with borrowers
rather than going through an agent can be tempting.
Although not impossible, this would entail a higher level
of engagement in becoming a direct participant in the
lending market. Front and back office functions, opera-
tional costs, financial capabilities, risk management and
the complicated regulatory framework that exist in many
countries combined could make it difficult for smaller
lenders to run a direct lending business profitably.
Importantly, ensuring that borrowing conditions from
principal borrowers or through exclusive arrangements
are attractive requires specific (and expensive) skills and
teams.
Through outsourcing their securities lending activity to
an agent lender, fund managers can better focus on their
core business.
Does size matter?
Is the lender you intend to choose a wholesale partici-
pant distributing large portfolios in a mass product fash-
ion and thus leaving a substantial spread to other play-
ers, or does this lender make the most of each portfolio
line by reaching end users directly? The answer depends
on the size and market position of the lender and also on
the service level the lender is committed to provide.
Although large lending agents certainly bring some
advantages, they may not be the most suitable for some
fund managers, since the opportunity for lending is a
matter of the market reach possible through an agent
and the team’s ability to be proactive in lending invento-
ries. Beneficial owners might thus be better served in
smaller programmes, where they are catered to with
more dedication than in large factories. Moreover, if the
lender requires local or regional expertise, another route
may be more appropriate, especially to maximise utilisa-
tion rates and/or the returns achieved from participating
in those markets.
Operational efficiency?
Operational efficiency is an increasingly important con-
tributor to overall fund performance and operational risk
assessment is under more scrutiny with Basel II require-
ments. Awareness of the operational aspects of securities
lending transactions is crucial. Responsibilities encom-
pass several components, such as continually keeping
users up to date about the portfolio, processing and
checking the lending transactions, monitoring and allo-
cating the collateral, and processing recalls and realloca-
tion, coupon payment and corporate actions, allocation
of the lending revenues, and measuring exposures and
risks.
Beneficial owners have a large set of constraints to be
taken into account, such as acceptable types of trades
If the shoe fits…
Guy d’Albrand writes about the
important factors fund
managers need to consider
when instigating a lucrative
securities lending programme
SLMG 2007 pp34-49 10/9/07 4:43 pm Page 38
(open or term), loan periods, counterparties, collateral,
percent on loan limit per issue, overall percent on loan
limit per fund, and limits per counterparty that very often
make every single lending trade a specific transaction.
The agent lender should be able to implement these sets
of constraints and ensure their monitoring at the front
office level and then by the compliance team.
Risks associated with securities lending transactions
are now well understood and monitored. Risks should be
in line with clients’ investment and general policies. It is
the agent lender’s role to point out risks arising from
market conditions or regulation, mitigate risks as much
as possible and optimise revenues accordingly, as well as
continually reassessing the risk/reward ratio, with the
aim of achieving maximum performance.
Monitoring and guidelines
As far as counterparty risk, borrowers need to be duly
authorised by beneficial owners and the agent lender.
Agent lenders should convey their risk department
expertise and help beneficial owners in further securing
solid borrowers. Sufficient diversification and proper
reporting of counterparties, if needed, should be provid-
ed to help determine where exposures lie. Borrowers
should receive the necessary information for counterpar-
ty disclosure requirements, while at the same time, pro-
tecting the lending activity. Furthermore, agent lenders
can provide indemnifications in case of borrower default
and when the pledged collateral has become insufficient
due to adverse market movements to mitigate the
remaining risk. Thus, the creditworthiness of the agent
lender is crucial.
Since collateral requirements, indemnification policies
and cash reinvestment policies may vary, it is of the
utmost importance to agree on the accepted collateral
and their related haircuts, and to understand what insur-
ance, if any, your agent provides you with. The opera-
tional strength of the agent you choose is paramount to
proper risk control, with regular and stringent risk moni-
toring and efficient margin calls. Borrower default can be
indemnified in various ways, but the first protection
whatsoever remains the level of collateral that is in your
account. It is important to discuss your collateral require-
ments with your lender and to ensure that they keep
within an acceptable risk/reward profile. Your needs as a
fund manager, performance versus risk terms, should be
agreed with the agent lender and regularly fine tuned.
Cash reinvestment
Agent lenders can also provide cash reinvestment, which
generates further interest but also credit risks that are
measured and reported. When direct investment of the
cash received as collateral is allowed in fixed income
products, such as short term paper, debt, asset backed
securities or funds, beneficial owners bear a primary risk
on issuers just as they do with their underlying portfolio.
If needed, beneficial owners should be able to reinvest
their cash collateral in various currencies for various
durations and to process FX trades.
Since risks related to cash reinvestment are potentially
greater than those with securities lending, choosing a
hefty structure is advisable: the agent lender should
share its expertise while setting cash reinvestment guide-
lines. Risks and performance are linked, and compliance
with beneficial owners’ guidelines should be checked pre-
trade - to be performed automatically by the front office -
and post-trade by the risk and compliance department of
the lender. Moreover, the agent lender should use its own
market knowledge (its own market rating system for
instance) to enforce more stringent rules, whenever
judged necessary, and watch at all times the
issuers/counterparties used.
The bottom line
Similar to the utilisation rate, performance is linked to
market access and reach. To be fully rewarding for the
beneficial owner, market access should be independent
from any vested interest. Independence from the inter-
ests of the proprietary trading positions of the institu-
tion, be it a bank, securities house or broker, or from any
proprietary borrowing flow, requires a separate structure,
with independent desks and performance directly linked
to the revenues paid to clients. Additionally, market
access is more effective when dealing with direct end
user interests, such as short covering. Finally, for large
portfolios, the lender should provide performance bench-
marking for market levels.
Overall, fund managers should be on the lookout for
flexible securities lending programmes that will enable
them to implement multiple strategies – such as the use
of structured trades and agency negotiated exclusives –
across different asset classes. A lending agent’s ability to
maximise revenue, manage risk, automate processing
and deliver seamless integration with the client’s core
investment management activity are key differentiators,
as is their ability to innovate and partner with clients on
future product development so that new opportunities
can be seized when available.
At SGSS, our liquidity management experts offer a full
range of flexible securities lending programmes, tailored
individually and built to boost portfolio performance.
Backed by strong post-trade sup-
port and reporting, we offer
indemnities, closely monitor col-
lateral, and rigorously benchmark
our performance and market
access, while you remain in full
control over your assets. SLMG
Guy d’Albrand, global head of
Liquidity Management, SGSS
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 39
SLMG 2007 pp34-49 Final 14/12/07 11:18 am Page 39
40 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
The Markets in Financial Instruments Directive
(MiFID) comes into effect 1 November 2007, when
it will replace the existing Investment Services
Directive (ISD). European Economic Area (EEA)
member states were required to amend their nation-
al legislation and rules to incorporate MiFID require-
ments by 31 January 2007.
MiFID is a major part of the European Union’s
Financial Services Action Plan (FSAP), which is
designed to help integrate Europe's financial mar-
kets. MiFID comprises two levels of European legis-
lation. Level 1, the directive itself, was adopted in
April 2004. Level 2, MiFID’s “technical implement-
ing measures”, were developed with the advice of
the Committee of European Securities Regulators
(CESR) and were the subject of negotiation at the
European level in the European Securities
Committee (ESC). They were formally adopted by
the Commission and published in the Official
Journal of the European Union on 2 September
2006.
Who is affected?
MiFID extends the coverage of the current ISD and
introduces new and more extensive requirements
that will apply to investment firms across Europe,
including investment banks, brokers, exchanges,
alternative trading systems, ECNs, investment man-
agers and others. MiFID’s impact on some firms is
not entirely clear at the time of this writing: for
example, many banks and depositories/custodians
will be subject to MiFID in respect of some parts of
their business (for example, to the extent they sell
securities, or investment products which contain
securities), but not others. To avoid intolerable reg-
ulatory complexity, it is expected that regulators will
attempt to apply MiFID as consistently as possible
to in-scope and out-of-scope firms alike. The UK
Financial Services Authority (FSA), for example, sig-
nalled early on it would do this “where appropri-
ate”, and it did so later in 2007 by issuing har-
monised rules. While other member state regulators
are expected to follow suit, some have been slow to
provide similar clarity.
What is affected?
In addition to covering organisational and conduct
of business requirements applying to all investment
firms, MiFID will make significant changes to the
European regulatory framework to cover a broader
range of financial instruments, whether traded on or
off exchange. It will widen the range of ‘core’ invest-
ment services and activities that investment firms
can “passport” on a cross border basis into other
EEA member states.
What benefits will MiFID bring?
New services that will be passportable as “core”
activities under MiFID (which were not passportable
under ISD) will include:
Advice that involves a personal recommendation;
Operation of a multilateral trading facility (MTF);
and
Dealing in commodity derivatives, credit deriva-
tives and financial contracts for differences.
To facilitate cross border business, MiFID is
intended to improve the passport regime by allocat-
ing responsibility between “home state” versus
“host state” regulators, including with respect to
regulation of cross border branches.
MiFID is intended to facilitate greater harmonisa-
tion across EEA member states by prescribing more
detailed requirements governing the organisation
and conduct of business of investment firms and
how regulated markets and MTFs operate. It also
provides for new and consistently applied pre- and
post-trade transparency requirements for equity
markets across Europe; the creation of a new
regime for ‘systematic internalisers’ of retail order
flow in liquid equities; and more extensive (but con-
sistent) transaction reporting requirements.
Finally, although most firms covered by MiFID
will also have to comply with the new Capital
Requirements Directive (CRD), it is expected that
most regulators will (as the UK FSA and other mem-
Brown Brothers Harriman - MiFID
MiFID and the
market
Elizabeth Seidel discusses
the impact of the European
directive on the securities
lending market
It seems only yesterday that MiFID was a train that had just
left the station. Now this train suddenly appears to be nearing
its destination, and yet it remains to be seen if quite all of the
tracks to a “harmonised Europe” have been laid
SLMG 2007 pp34-49 10/9/07 4:43 pm Page 40
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 41
ber state regulators have done) permit such firms to
implement the new capital requirements on a “com-
mon platform” basis.
Application to stock lending: Best execution
Individual securities lending relationships tend to be
highly customised, with trades by lenders often
involving different portfolio structures and providing
for different reinvestment options. As a result, the
concept of comprehensive benchmarking – a neces-
sity if MiFID best execution concepts are to apply –
does not lend itself well to the securities lending
environment. In addition, MiFID requirements relat-
ing to order execution are premised on orders for
execution being “purchases” or “sales”, which secu-
rities lending transactions most certainly are not.
Furthermore, lenders do not deliver “orders” for exe-
cution.
While securities lending transactions have been
excluded from MiFID’s trade and transaction report-
ing requirements for some time, there remains con-
tinued uncertainty as to whether MiFID’s best exe-
cution requirements will or can apply to securities
lending activity. In its 07/15 Policy Statement, the
FSA noted that: “Depending on how a securities
lending transaction is structured and depending on
the status of the client (as retail, professional or eli-
gible counterparty) it is possible, using the analysis
in the Commission’s response to CESR, that best
execution requirements could apply. Firms are there-
fore advised to carefully review the Commission’s
response in the context of the particular facts and
circumstances of their businesses.”
With the 1 November 2007 deadline fast
approaching, the industry is running out of time to
alter course and there will be continued discussion
around this topic especially with the regulators:
“intending to facilitate greater use of industry guid-
ance as we move towards a more principles-based
approach to regulation”.
It seems only yesterday that MiFID was a train
that had just left the station. Now this train sudden-
ly appears to be nearing its destination, and yet it
remains to be seen if quite all of the tracks to a “har-
monised Europe” have been laid. With only three
months to go before MiFID takes effect, regulators,
industry associations and regulated firms will be
scrambling to implement required changes and
digest new clarifications that have yet to emerge. It
is hoped that MiFID will bring to Europe the bene-
fits the Commission has promised, and it is possi-
ble some firms may be able to take advantage of
them. In any case, Brown Brothers Harriman will
continue to monitor developments closely. Watch
this space. SLMG
Elizabeth Seidel, senior vice president, co-manager of
BBH Global Securities Lending
Elizabeth Seidel joined BBH in 1999 and was recent-
ly appointed department co-manager for Global
Securities Lending. In her new role, Seidel has manage-
ment responsibility for Relationship Management, Risk
Management, Sales, and Marketing groups. Seidel has
over 15 years experience in the industry, 11 of which
involve securities lending. Prior to joining BBH, she
worked at Boston Global Advisors and was in charge of
Client Service and at State Street Bank in their
Securities Lending Division in both Trading and
Operations. In addition, Seidel
has worked at Wellington
Management Company, LLP in a
client service capacity and prior to
that on the trading desk at a
global hedge fund; Teton
Partners, LLP for two years.
Seidel received a Bachelor of Arts
in Economics from College of the
Holy Cross and is series 7 and
series 63 licensed.
MiFID is intended to facilitate greater harmonisation across
EEA member states by prescribing more detailed requirements
governing the organisation and conduct of business of invest-
ment firms and how regulated markets and MTFs operate
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 41
42 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
The trend for traditional long only investment managers
to begin adopting hedge fund style investment tactics will
bring about a realignment of existing securities lending busi-
ness and create new opportunities for incremental business.
The outlook for custodians in such a market is clearly opti-
mistic. But while the fund management side of the equation is
excited by the rise of 130/30 funds, they must be wary as they
enter uncharted waters. The new approach will create risk and
compliance requirements, heightening the need for fund man-
agers to tap into the talents and services of established exter-
nal providers of securities services.
Custodians are the obvious providers of those services,
aligning the front, middle and back offices to make the transi-
tion to a brave new investment world smooth and efficient,
helping to meet not just 130/30 needs, but providing addition-
al services such as securities lending. Securities that a long
only manager will traditionally have lent to earn a few extra
basis points will in future be pledged as collateral for stock
being borrowed. Custodians can manage collateral as well as
provide liquidity, through a one stop shop that other market
participants cannot duplicate.
Why is this happening and why now? The underlying rea-
sons for such a significant change are well rehearsed and reas-
suringly familiar.
First, the demand for alpha is ever more apparent to the
institutional investor base and, in particular, to pension funds.
Low interest rates and poor or negative investment returns in
the internet boom and bust years of the early 2000s have left
many traditional defined benefit (DB) pension funds with
huge deficits. Although those deficits could be reduced by ris-
ing markets, rules for funding those deficits have forced many
companies to direct large sums of cash to their pension funds.
In 2006, for instance, the US pension industry experienced
significant regulatory and accounting changes, including the
introduction of the Pension Protection Act (PPA) and new
standards for corporate plans from the Financial Accounting
Standards Board (FASB). Public plans must now adhere to
new rules from the Government Accounting Standards Board
(GASB).
“The PPA has increased DB plan funding requirements and
accelerated the timeframes to fully fund a plan,” noted
Pyramis Global Investors, the institutional money manage-
ment arm of Fidelity Investments, the Canadian mutual fund
company, in its fifth annual DB survey, carried out amongst
large US corporate and public DB plans. The changes mandat-
ed by FASB and GASB require organisations to report their
pension plan deficits or surpluses on the income statement.
In the face of these new regulatory pressures, many plans
have been forced to re-examine their investment approaches.
The concerns identified in the survey show a marked shift in
attitudes toward any investment strategy that can reduce
volatility or improve returns, noted Peter Chiappinelli, senior
vice president at Pyramis. The survey also showed that half of
all corporate DB plans claimed that they were using (or con-
sidering using) liability driven investment.
Second, it is becoming increasingly difficult to achieve
alpha through traditional long only investment. With efficient
and transparent markets, conventional long only active invest-
ment will inevitably deliver returns only slightly above beta.
This has resulted in pension funds becoming more aggressive
in their investment style, moving some of their assets away
from benchmark sensitive approaches to make meaningful
allocations to alternative assets and absolute return products.
In addition, a growing number of pension funds are turning to
the bond and derivatives markets to implement liability driven
investment (LDI) strategies.
The advantage of a 130/30 fund for the institutional
investor is that it can take a step in the direction of hedge
fund style investment without unduly increasing risk. Active
extensions that provide positive alphas can significantly
increase a fund’s total return with only a minimal impact on
the overall volatility of the portfolio. With appropriate risk con-
trol, they can be viewed as an ‘extension’ of traditional equity
management, rather than as a quantum leap into full blown
alternative assets.
In a 130/30 fund, up to 30% of the portfolio can be shorted
with the proceeds from the short sales used to purchase 30%
additional longs. Hence, the portfolio maintains a 100% net
long exposure with gross footings of 130% long and 30%
short.
The potential for growth is significant. According to
Morgan Stanley, US institutions, including pension funds,
A new era
beckons
The international securities
lending industry stands poised
on the verge of an exciting
new era, says Mark
Fieldhouse
RBC Dexia - TALKING TACTICS
The advantage of a 130/30 fund for the institutional investor is
that it can take a step in the direction of hedge fund style
investment without unduly increasing risk
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 42
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 43
have invested approximately USD50 billion in this strategy; in
contrast to USD2 trillion in hedge funds worldwide. The
Pyramis survey, meanwhile, shows that 63% of US corporate
defined benefit pension plans are already deploying or are
considering deploying a 130/30 strategy in place of long only
mandates.
Widespread adoption will have a positive impact on securi-
ties lending. The convergence between hedge fund strategies
and traditional asset management strategies is a major ele-
ment of change in securities lending that will drive growth for
several years, probably at an accelerated rate, just as hedge
funds have done for the past five to 10 years. The benefit for
the securities lending industry is that it will bring new, incre-
mental demand for the service. A prime broker may be able to
offer an exclusive programme to a particular institution, but
that is not going to satisfy all its day to day needs, since any
one prime broker is unlikely to control enough of the required
liquidity to have a significant impact. Prime brokers must have
access to the liquidity pool – and it is primarily the custodians
who provide that pool.
Unless institutions decide to handle in-house the addition-
al administration, processing and reporting that will be
required, they will need to use the services of established
providers. Setting up the necessary infrastructure would be
prohibitively expensive. Robust intraday VaR reporting, cou-
pled with dynamic, real time collateral management, will be
needed to enable lenders to exercise greater collateral flexibili-
ty, while allowing traditionally long only institutional investors
to execute alpha-based strategies. Additionally, an advanced,
Basel II complaint risk management framework and infra-
structure will be an advantage for lenders in mitigating risk.
The custodian is the logical choice to provide all these func-
tions in a single, integrated solution.
For agent lenders, the change is inevitable. The holistic
model of lending means one set of processes, one set of con-
trols and one service. This enhances risk management,
because all the client’s activity – exposures, concentrations
and diversification – can all be tracked and validated through
a single point. Technology and automation will have even
more of a key role to play in the future in terms of operational
efficiency, risk management and continual transactional cost
control. Lenders will want to be confident that the various
processes will be seamlessly integrated so that the flow of
data is automated and in real time, thus reducing the possibil-
ity of error and loss.
Part of the strategic focus for providers will be to make
available a complete set of services to the alternative commu-
nity by investing even more heavily in technology and capabili-
ties, extending the traditional relationship beyond post-trade
servicing by supporting clients’ portfolio construction strate-
gies.
The volume of lendable assets is growing almost by the day
and the percentage of lendable assets being lent is also grow-
ing, as more markets ease restrictions on short selling, more
fund managers become accustomed to doing it, and more
institutions grow comfortable with lending their assets. That
volume will continue to rise as the market adapts to the
underlying changes that are taking place in investment philos-
ophy and practice.
There has probably never been a better time to be a securi-
ties lender. Beneficial owners are spoilt for choice, both in
terms of the range of service providers and the routes to mar-
ket. There is strong competition for every mandate, leading to
greater market effectiveness and innovation. That competition
is very healthy for all sides of the securities lending market.
A portfolio manager may invest USD100 in a basket of
stocks, such as those in the Russell 3000 Index. A short is
then placed on an additional USD30 in stocks from that pool
that is believed to be overvalued. The manager borrows
USD30 worth of those overvalued stocks, and sells them in
the expectation that they can be replaced later with cheaper
shares when the price falls. The proceeds from that short sale
are then used to purchase stocks which are thought to be
undervalued so that the manager ends up with USD130 now
invested in traditional long positions.
A manager bullish about prospects for the IT sector, but
with a more positive view of Apple than of Microsoft, could sell
Microsoft short, borrowing stock to enable the sale, and use
the proceeds to buy Apple.
Custodians have the infrastructure,
the staff, the experience and the
expertise to help pursue short exten-
sions in a cost effective way. SLMG
Mark Fieldhouse, head, Technical
Sales, Americas, RBC Dexia Investor
Services
Mark Fieldhouse serves as head,
Technical Sales, Americas. His team
is responsible for overall growth and development of the
Global Products client base, as well as the product level
management of its strategic clients in North America. Global
products include securities lending, foreign exchange, cash
The potential for growth is significant. According to Morgan
Stanley, US institutions, including pension funds, have invest-
ed approximately USD50 billion in this strategy; in contrast to
USD2 trillion in hedge funds worldwide
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 43
44 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
When considering the impact of technology in the
context of securities lending, we should look first at the devel-
opment of the securities lending industry and how it has been
supported by technology.
The history
If we look back to the late eighties and early nineties when the
international securities finance market started to evolve, we
can break the evolution down into three phases. In the first
phase, international securities lending systems were trade or
transaction focused. Volumes and the degree of standardisa-
tion were relatively low. Automation was not that important
and the user was happy that the systems could support the
key processes. The systems available in the market or newly
launched then were not even in real time. In the international
marketplace there were very few vendor systems available,
most coming from the US domestic market and marketed as
multi-currency. The first real international securities lending
system that really had an impact in the market was only built
in the early nineties.
In the second phase, the market started its consolidation
phase and extended the number of different trading products.
More technology vendors emerged but, again, they were prod-
uct focused with some degree of additional automation in the
post-trade processes. The market reaction was to leverage this
technology for efficiency by adding interfaces to internal sys-
tems and internal add-ons. Insufficient emphasis was placed
on the overall architecture and technologies in place. This has
often led to patchwork style results.
The third phase started in the late nineties, when business-
es did not concentrate on single products but more on posi-
tions across many different product lines. Traditionally, the
securities lending business was equity focused, the bench-
mark bond repo business more treasury related, and the cor-
porate and emerging market repo was more of a debt financ-
ing business. Many broker-dealers and universal banks were
organised accordingly. Over recent years, it has been recog-
nised that collateral is increasingly becoming a currency. In
order to finance a financial institution’s balance sheet more
effectively and reduce the liquidity risk, a cross product collat-
eral view is essential. Furthermore, the buy side, such as
hedge funds, require an integrated product offering. This is
why some market participants have merged organisations or
have at least implemented cross product processes.
Where are we today?
Today, visions and strategies are defined together with an
understanding of the technology involved. IT follows strategy.
However, IT enables new strategy. Depending on the business
model and the size of an organisation, the securities lending
business is more integrated into other business lines, such as
repo, synthetic finance and maybe even OTC derivative collat-
eral management. This is either in the form of integrated
processes or even combined organisations. One of the key
success factors for a successful integration of the business
lines is a horizontal position-focused IT platform.
However, typically there is no single IT platform supporting
this business model. A variety of vendor systems are being
used, mostly for the books and records, very often, in-house
functional add-ons or additional data collection facilities are
developed to at least partly fulfil the business requirements
for a consolidated view of the positions and transactions.
Consequently, a large number of heterogeneous systems and
interfaces must be supported and reconciled, leading to enor-
mous maintenance costs and the risk of poor data quality. As
the IT structure typically mirrors the business structure, there
is often no single point of responsibility for changes. Multiple
departments have to be coordinated, which is again slow and
costly.
Most of the securities lending trades are still agreed over
the telephone. Smaller, or from a profitability standpoint less
important, tickets are increasingly done using electronic trad-
ing platforms. Trading using an electronic exchange requires a
minimum degree of standardisation. After a rather slow start,
the electronic securities lending exchanges such as EquiLend
are slowly gaining momentum. EquiLend, which was estab-
lished in 2001 by a group of major securities lending players,
has certainly added value by allowing participants to transact
and reconcile through a secure hub. While these efficiency and
standardisation gains are important, it has not yet added
enough value to the transparency issue.
With the increasing volumes and complexity of the securi-
ties finance business, risk management has become a key
component of an IT solution. Counterparty and operational
risks are the most important risks in securities finance. The
main risk categories include compliance with regulations such
as tax, poor legal documentation, quality of data in general
and, last but not least, the valuation of exposures and collater-
COMIT - TECHNOLOGY
Deep impact
Felix Oegerli discusses the
impact of technology on the
securities lending market
The technology requirements to support an integrated, front to
back collateral trading model are substantially higher than for
just a product silo or transaction processing system
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 44
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 45
al, including sophisticated analysis of volatility and liquidity
risk. As the current liquidity crisis shows, the application of
stress tests not just to market volatility but also with regard to
market reaction on the short term funding side, for example
changes of collateral and margining rules, is key. Most of the
technology available in the market does not address counter-
party and systemic risk sufficiently.
Where do we go in the future?
Traders tend to have short memories and are therefore suscepti-
ble to short term trends. The electronic securities lending plat-
forms, which were launched in the midst of the ‘hype’ of e-busi-
ness, are focused on increasing distribution and hence making
more money. However, between 2000 and 2003, the industry
was, for the first time, faced with decreasing income. This may
have changed the focus of these electronic marketplaces almost
entirely to efficiency gains and hence cost cutting.
This has only happened partially. Therefore I do not believe
that we are going to see a very steep increase in business vol-
umes traded electronically until the market demand changes.
Market demand changes can, for example, be based on tax or
regulatory changes that impact the spreads in securities lend-
ing dramatically in a negative way. This will then lead to fur-
ther commoditisation and standardisation of the business,
which will force market participants to manage the business
almost entirely over processes and IT because volume insensi-
tivity and low unit cost is going to be critical in the future. This
is why electronic trading platforms are gaining in importance.
I estimate that in 10 years, well over 50% of the market value
volume will be traded electronically.
Technology requirements
The technology requirements to support an integrated, front
to back collateral trading model are substantially higher than
for just a product silo or transaction processing system. First,
the architecture must be scalable as to the distribution of
functionality across servers. This is typically achieved with
service-based architectures, which allow multiple instances of
the same services in order to achieve high performance and
availability. Service-based architectures are also the way to
integrate systems across the net, mainly by using web servic-
es. Transaction processing services for settlement, audit trail,
and accounting should be loosely coupled using message ori-
ented middleware as separation layer.
Secondly, real-time information has become a necessity. In
cross product systems, multiple users with different business
intentions may use the same positions. Only real-time
updates on positions, preferably on a ‘push’ basis (meaning
the user does not have to actively query the system) will pre-
vent the overuse of positions or not actively funding or selling
positions. Counterpart and trading positions must be kept
and updated in real time for risk management purposes. Real-
time profit and loss figures will provide the required informa-
tion to optimise the book and close out unprofitable transac-
tions or to replace them with cheaper sources.
Additionally, the data model of such an application must be
designed for maximum flexibility from the beginning. All exist-
ing, but also new, trade types must be supported. This
includes single security, security versus cash, but even security
versus security transactions. All future flows of financial
instruments must be presented as cash flows, which will allow
for all types of synthetic securities finance transactions such
as total return swap and OTC options transactions, but also
for other future transaction types.
Additional features, such as ‘pluggable’ classes will allow
the functionality of the system to be changed without having
to change the core architecture. This reduces the overall costs
and time to market for changes. Using standards and open
system technology can reduce the total cost of ownership
massively and facilitate the integration effort.
So, where does that leave us?
We, as technology vendors, cannot therefore afford to rest on
our laurels. We have to respond to the needs of the market
and create inventive and forward looking systems to help sup-
port the business models of the future. SLMG
Felix Oegerli, member of the executive committee, COMIT
Oegerli is member of the executive committee of COMIT, a
consulting, IT solutions and
integration partner of the finance
industry. He was the founder and
CEO of IFBS, an IT application
solutions and consulting firm spe-
cialising in securities lending, repo
and collateral management. IFBS
was recently sold to COMIT. Prior
to launching IFBS, Oegerli held a
number of business leadership
roles at UBS in Zurich, New York,
and London for over 20 years in
different functions. Between 1990
and 1999, he was responsible for
the creation and expansion of the Securities Lending, Repo
and Prime Brokerage business at UBS Zurich, was deputy
global head of Securities Lending and Repo, global head of
Prime Brokerage and head of global product management
Collateral Trading and Management.
Most of the securities lending trades are still agreed over the
telephone. Smaller, or from a profitability standpoint less
important, tickets are increasingly done using electronic trad-
ing platforms. Trading using an electronic exchange requires a
minimum degree of standardisation
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 45
46 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2007
SECURITIES LENDING PANEL
TECHNOLOGY DEBATE
PANEL - TECHNOLOGY
Benjamin Glicher is chief technology officer of EquiLend and is charged with the goal of
building a scalable, secure, and highly available technology platform. His responsibilities
include all aspects of the infrastructure and application development areas of the EquiLend
system. Prior to joining EquiLend in January 2002, Glicher was the managing director of
Financial Services Technology at PricewaterhouseCoopers. Earlier in his career, he was chief
technology officer at Global Market Information, a subsidiary of Track Data Corporation.
Glicher received his BS in computer science from Brooklyn College, a member of the City
University of New York, in 1982.
Felix Oegerli is member of the executive committee of COMIT, a consulting, IT and
integration partner of the finance industry. He was the founder and CEO of IFBS, an IT
application solutions and consulting firm specialising in securities lending, repo and
collateral management. IFBS was recently sold to COMIT. Prior to launching IFBS, Oegerli
held a number of business leadership roles at UBS in Zurich, New York, and London for over
20 years in different functions. Between 1990 and 1999 he was responsible for the creation
and expansion of the Securities Lending, Repo and Prime Brokerage business at UBS
Zurich, was deputy global head of Securities Lending and Repo, global head of Prime
Brokerage and head of global product management, Collateral Trading and Management.
Daniel Fowler is chief information officer and managing director of eSecLending. Fowler’s
primary responsibilities within eSecLending are for systems and information technology and
application. Prior to joining the firm in 2006, Fowler held several jobs that gave him broad
exposure to both technology and financial markets. Most recently, he was employed by
Brown Brothers Harriman as vice president of Systems, Private Account and Securities
Lending. Prior to that, he worked at Boston Global Advisors as vice president, head of
Technology. Fowler holds a BS in Computer Science from the University of Massachusetts.
There has been a significant increase in automated capability for securities lending
over the last few years, how has this
affected the market in general?
Glicher: Automation enables a firm to scale its business in a more cost efficient manner. EquiLend’s platform
offers the ability to automate the entire lifecycle of a trade. Trades are delivered machine to machine, allowing
potentially an infinite amount of trades to be processed, so that individuals can focus on the more complex
and relationship oriented transactions. Once the trade is initiated, all of EquiLend’s post-trade services are
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 46
SECURITIES LENDING MARKET GUIDE 2007 INVESTOR SERVICES JOURNAL 47
available to complete the lifecycle of the contract.
Contract, marks, and billing can be reconciled daily,
mitigating risk.
Oegerli: It is important to highlight that the market
demand transformation drives the business model
transformation and not vice versa. Technology will
never drive a business model but will enable it. In
the past, technology mainly had an impact on
process automation and therefore cost. The electron-
ic securities lending platforms, which were launched
in the midst of the e-business ‘hype’, were focused
on widening the distribution network and increasing
profits. However, between 2000 and 2003, the indus-
try was for the first time faced with slower growth or,
in some cases, falling revenues. This may have
changed the focus of these electronic marketplaces
mainly to efficiency gains in the securities lending
trading area and to the post-trade processes. These
processes will become more and more standardised
and will eventually be fully automated. So the answer
is that technology will facilitate greater efficiency and
transparency, but will only be a small factor for fur-
ther growth in the sense of lower entry barriers to
this market.
Fowler: In general, the increase in automated capa-
bilities for the securities lending market has resulted
in an ability to better manage increased lending vol-
umes and trading activity. Technology has created
greater operational processing efficiencies for agent
lenders and borrowers, which has helped to reduce
operational costs and human resource requirements.
Where are the greatest innovations
in technology being seen for securities
lending?
Glicher: The move to a real-time messaging para-
digm and the use of the web browser as the ubiqui-
tous user interface.
Oegerli: To speak about great innovations with
regard to securities lending technology would be
slightly exaggerated. Technology has helped the busi-
ness to become more efficient for trading general
collateral tickets and on the post-trade reconciliation
and trade reporting side. Technology is available to
further increase the level of automation on the trad-
ing side. However, the business requires further
standardisation in order to fully automate the trad-
ing process and this may take well over 10 years.
Fowler: The greatest technology innovations for the
securities lending industry are taking place in the
areas of automation and volume processing to cre-
ate greater operational processing efficiencies. A cur-
rent important initiative taking shape within the
market is the Automated Recall Management
Software (ARMS) project. This initiative will allow
recalls to be processed via automated systems, in
which all information would be communicated over
the same standard messaging system. This will
greatly improve operational processing and reduce
fail risk for securities lending activities. In the area
of volume processing, securities lending vendors like
LoanNet, EquiLend, and Prium are standardising
interfaces with counterparties and simplifying the
reconciliation of operational processing, as well as
billing comparisons and contract comparisons.
These initiatives create greater efficiencies,
improved processing, and provide for more reliable
and scalable operations, which in turn, more easily
enables lenders and borrowers to successfully man-
age increased flows and volume processing.
Which platforms are dominating the mar-
ket and why?
Glicher: EquiLend has a strong presence in the mar-
ketplace, as it is the most innovative technology
platform. EquiLend was the first securities finance
platform to introduce real-time messaging, the first
platform to handle the complete lifecycle of a con-
tract (trade and post-trade) and the first firm to cre-
Trades are delivered machine to machine, allowing potentially
an infinite amount of trades to be processed, so that
individuals can focus on the more complex and relationship
oriented transactions
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 47
ate a standard XML taxonomy, Securities Lending
Market Language (SLML). EquiLend created this pro-
tocol to facilitate the exchange of securities financ-
ing information. There is SLML representation for all
of the business functionality that our users employ.
Fowler: In terms of core securities lending systems,
SunGard’s Global One is the dominant platform in
the marketplace. There are various reasons for
Global One’s dominance, but the primary reasons
for SunGard’s success with this product is that
Global One has been around the longest, it has a
robust suite of functionality and it is not prohibitive-
ly expensive. 4Sight, which is the securities lending
system that eSecLending uses, is still a relatively
small player in the market but the platform is gain-
ing greater market share and momentum. 4Sight’s
architecture is a bit more open and sits on an Oracle
database, which allows for ease of integration and
support. Anvil is another player in the market.
What are the key factors to consider when
choosing a new technology platform?
Glicher: Ease of use, cost, and penetration in the
marketplace.
Oegerli: Selecting a market technology platform
should be based on an internal business case that
compares the additional income generated through a
better distribution system and the cost savings on
post-trade processes to the investment required to
integrate the platform plus the running cost. Another
key consideration is the current and anticipated suc-
cess in getting market participants to use the service,
ensuring a certain market depth and liquidity in case
of trading platforms. Experience has shown that only
user driven market platforms will succeed.
Fowler: There are a number of key factors to consid-
er when choosing a new technology platform: full
functionality for various business areas; open archi-
tecture that can be supported internally; and con-
nectivity to allow for communications with legacy
systems and other downstream systems within the
organisation. For eSecLending, it is imperative that
our core securities lending system be able to feed
information downstream into other reporting and
transaction processing systems. We would not
choose a platform that could not adequately com-
municate and upload/download information to the
supporting or secondary systems used for transac-
tion processing. In addition, ongoing support from
a vendor is crucial, as is their willingness to work
with you and improve and enhance the system’s
functionality.
What effect are requirements for greater
transparency having on the technology
landscape in securities lending?
Glicher: Increased automation results in data, which
can, conceptually, be provided on demand, based on
the appropriate request.
Oegerli: Technology is available for the reporting and
analysis of transactions. However, despite the
increased transparency over the last few years, there
is still a long way to go. Full transparency on pricing
involves a lot of complex benchmarking including,
for example, counterparty specific internal trading,
risk and funding policies. Furthermore, information
about market depth would also be required. I believe
that full transparency is only going to be achieved
when the market is commoditised and this may take
over 10 years.
In the area of volume processing, securities lending vendors
like LoanNet, EquiLend, and Prium are standardising
interfaces with counterparties and simplifying the reconciliation
of operational processing, as well as billing comparisons and
contract comparisons
PANEL - TECHNOLOGY
48 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2007
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 48
Fowler: Lenders are looking to increase transparen-
cy in their securities lending activities to ensure an
objective, regulatory friendly and highly auditable
programme that can be easily presented to their
management team, board, auditors and regulators
lender and allows for objective decision making on
how to best allocate portfolios for lending. The auc-
tion process also provides price transparency and
price discovery, thereby giving clients the opportuni-
ty to definitively identify where the greatest demand
exists for various pieces of their portfolios.
The desire for greater transparency has also created
the need for comprehensive benchmarking services.
There are multiple providers in the industry offering
solutions to help lenders better evaluate their secu-
rities lending performance and compare their
returns to other industry participants.
How is risk management affected by
these technology platforms?
Glicher: Automation mitigates the risk often found
with manual input. Automating trade and post-trade
processes significantly decreases manual interaction;
therefore any issues that occur can be remediated in
a more straightforward manner.
Oegerli: Counterparty and operational risks are the
most important risks in securities finance. The main
risk categories include compliance with regulations
such as tax, poor legal documentation, quality of
data in general and, last but not least, the valuation
of exposures and collateral, including sophisticated
analysis of volatility and liquidity risk, including the
application of stress tests. In order to minimise the
risk in securities lending, technology is key. Market
technology platforms may reduce some of the opera-
tional risk but they do not address counterparty risk.
This is a key process for each individual securities
finance participant.
What is the future for technology in this
area – where next?
Glicher: Web services - offering the ability to trans-
mit messaging through web technologies, Web 2.0,
and service oriented architecture (SOA). Securities
lending has matured to the point where it can move
away from monolithic, complex, stand alone systems
into more manageable components working within a
distributed systems architecture. The services, both
trading and reconciliation, can be self contained and
do not need to depend on the context or state of the
other services. This will lead us to an SOA or a col-
lection of services or functionalities that communi-
cate with each other.
Oegerli: Further commoditisation and standardisa-
tion of the business will force market participants to
manage the business over processes and IT because
volume insensitivity and low unit cost is going to be
critical in the future. This is why electronic trading
platforms are gaining in importance. I estimate that
in 10 years, well over 50% of the market value vol-
ume will be traded electronically.
Fowler: There is significant room in the market for
further automation and technological advancements
for operational processing and trading. For instance,
if the market can get to the point where the dividend
claiming process can also be automated along the
same lines as recalls, market participants will experi-
ence significant improvements in terms of cost and
resource reductions.
More broadly speaking, I imagine the securities lend-
ing market will also one day explore how to better
integrate lending activities with the traditional
investment management decisions. Using newer web
services technology you may find investment man-
agers using their fund’s lending data to calculate
whether there is a better economic decision to recall-
ing a security or leaving it on loan. SLMG
Another key consideration is the current and anticipated suc-
cess in getting market participants to use the service, ensuring
a certain market depth and liquidity in case of trading platforms
SECURITIES LENDING MARKET GUIDE 2007 INVESTOR SERVICES JOURNAL 49
SLMG 2007 pp34-49 10/9/07 4:44 pm Page 49
Securities lending began as an informal practice among bro-
kers who had insufficient share certificates to settle their sold
bargains, commonly because their selling clients had mislaid
their certificates or just not provided them to the broker by the
settlement date of the transaction. Once the broker had
received the certificates, they would be passed on to the lend-
ing broker. This business arrangement was subject to no for-
mal agreement and there was no exchange of collateral.
Securities lending is now an important and significant busi-
ness that describes the market practice whereby securities are
temporarily transferred by one party (lender) to another (bor-
rower). The borrower is obliged to return the securities to the
lender, either on demand, or at the end of any agreed term. For
the period of the loan the lender is secured by acceptable
assets delivered by the borrower to the lender as collateral.
Under English law, absolute title to the securities “lent” pass-
es to the “borrower”, who is obliged to return “equivalent secu-
rities.” Similarly the lender receives absolute title to the assets
received as collateral from the borrower, and is obliged to
return “equivalent collateral.”
Securities lending today plays a major part in the efficient
functioning of the securities markets worldwide. Yet it remains
poorly understood by many of those outside the market.
Definitions
In some ways, the term “securities lending” is misleading and
factually incorrect. Under English law and in many other juris-
dictions, the transaction commonly referred to as “securities
lending” is, in fact: “a disposal (or sale) of securities linked to
the subsequent reacquisition of equivalent securities by means
of an agreement.”
Such transactions are collateralised and the “rental fee”
charged, along with all other aspects of the transaction, are
dealt with under the terms agreed between the parties. It is
entirely possible and very commonplace that securities are bor-
rowed and then sold or on-lent.
There are some consequences arising from this clarification:
- Absolute title over both the securities on loan and the collat-
eral received passes between the parties.
- The economic benefits associated with ownership – for exam-
ple, dividends, coupons – are “manufactured” back to the
lender, meaning that the borrower is entitled to these benefits
as owner of the securities but is under a contractual obligation
to make equivalent payments to the lender.
- A lender of equities surrenders its rights of ownership, for
example, voting. Should the lender wish to vote on securities
on loan, it has the contractual right to recall equivalent securi-
ties from the borrower.
- In the United Kingdom appropriately documented securities
lending transactions avoid two taxes: Stamp Duty Reserve Tax
and Capital Gains Tax.
Different types of securities loan transaction:
Most securities loans in today’s markets are made against col-
lateral in order to protect the lender against the possible
default of the borrower. This collateral can be cash, or other
securities or other assets.
(a) Transactions collateralised with other
securities or assets
Non-cash collateral would typically be drawn from the follow-
ing collateral types:
* Government Bonds - Issued by G7, G10 or Non-G7 govern-
ments
* Corporate Bonds - Various credit ratings
* Convertible Bonds - Matched or unmatched to the securi-
ties being lent
* Equities - Of specified Indices
* Letters of Credit - From banks of a specified credit quality
* Certificates of Deposit - Drawn on institutions of a speci-
fied credit quality
* Delivery By Value (“DBVs”)1 - Concentrated or *
Unconcentrated - Of a certain asset class
* Warrants - Matched or unmatched to the securities
being lent
*Other money market instruments
The eligible collateral will be agreed between the parties, as
will other key factors including:
* Notional Limits - The absolute value of any asset to be
accepted as collateral
* Initial margin - The margin required at the outset of a
transaction
* Maintenance margin - The minimum margin level to be
maintained throughout the transaction
* Concentration limits - The maximum percentage of any
issue to be acceptable, for example less than 5% of daily
traded volume - The maximum percentage of collateral pool
that can be taken against the same issuer, i.e. the
cumulative effect where collateral in the form of letters of
credit, CD, equity, bond and convertible may be issued by the
same firm
The example in the diagram shows collateral being held by a
Tri Party Agent. This specialist agent (typically a large custodian
bank or International Central Securities Depository) will receive
only eligible collateral from the borrower and hold it in a segre-
50 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Securities Lending GUIDE
Securities Lending GUIDE
A guide to the machinery of the securities lending market
The borrower is obliged to return
the securities to the lender,
either on demand, or at the end
of any agreed term
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 50
gated account to the order of the lender. The Tri Party Agent
will mark this collateral to market, with information distributed
to both lender and borrower (in the diagram, dotted
“Reporting” lines). Typically the borrower pays a fee to the Tri
Party agent.
There is debate within the industry as to whether lenders that
are flexible in the range of non-cash collateral they are willing
to receive are rewarded with correspondingly higher fees. Some
argue that they are, others claim that the fees remain largely
static but that borrowers are more prepared to deal with a flexi-
ble lender and therefore balances and overall revenue rise.
(b) Transactions collateralised with cash
Cash collateral is, and has been for many years, an integral part
of the securities lending business, particularly in the United
States. The lines between two distinct activities.
Securities lending and cash reinvestment have become
blurred and to many US investment institutions securities
lending is virtually synonymous with cash reinvestment. This is
much less the case outside the United States but consolidation
of the custody business and the important role of US custodian
banks in the market means that this practice is becoming more
prevalent. The importance of this point lies in the very different
risk profiles of these increasingly intertwined activities.
The revenue generated from cash-collateralised securities
lending transactions is derived in a different manner from that
in a non-cash transaction. It is made from the difference or
“spread” between interest rates that are paid and received by
the lender.
Other transaction types
Securities lending is part of a larger set of interlinked securities
financing markets. These transactions are often used as alter-
native ways of achieving similar economic outcomes, although
the legal form and accounting and tax treatments can differ.
The other transactions include:
(a) Sale and repurchase agreements
Sale and repurchase agreements or repos involve one party
agreeing to sell securities to another against a transfer of cash,
with a simultaneous agreement to repurchase the same securi-
ties (or equivalent securities) at a specific price on an agreed
date in the future. It is common for the terms ”seller” and
“buyer” to replace the securities lending terms “lender” and
”borrower”. Most repos are governed by a master agreement
called the TBMA/ISMA Global Master Repurchase Agreement
(GMRA)2.
Repos occur for two principal reasons – either to transfer
ownership of a particular security between the parties or to
facilitate collateralised cash loans or funding transactions.
The bulk of bond lending and bond financing is conducted by
repo and there is a growing equity repo market. An annex can
be added to the GMRA to facilitate the conduct of equity repo
transactions.
Repos are much like securities loans collateralised against
cash, in that income is factored into an interest rate that is
implicit in the pricing of the two legs of the transaction.
At the beginning of a transaction, securities are valued and
sold at the prevailing “dirty” market price (including any
coupon that has accrued). At termination, the securities are
resold at a predetermined price equal to the original sale price
together with interest at a previously agreed rate known as the
repo rate.
In securities-driven transactions (where the motivation is not
simply financing) the repo rate is typically set at a lower rate
than prevailing money market rates to reward the “lender” who
will invest the funds in the money markets and thereby seek a
return. The “lender” often receives a margin by pricing the
securities above their market level.
In cash-driven transactions, the repurchase price will typically
be agreed at a level close to current money market yields, as
this is a financing rather than a security specific transaction.
The right to substitute repoed securities as collateral is agreed
by the parties at the outset. A margin is often provided to the
cash “lender” by reducing the value of the transferred securi-
ties by an agreed “haircut” or discount.
(b) Buy/sell backs
Buy/sell backs are similar in economic terms to repos but are
structured as a sale and simultaneous purchase of securities,
with the purchase agreed for a future settlement date. The
price of the forward purchase is typically calculated and agreed
by reference to market repo rates.
The purchaser of the securities receives absolute title to them
and retains any accrued interest and coupon payments during
the life of the transaction. However, the price of the forward
contract takes account of any coupons received by the
purchaser.
Buy/sell back transactions are normally conducted for financ-
ing purposes and involve fixed income securities. In general a
cash borrower does not have the right to substitute collateral.
Until 1996, the bulk of buy/sell back transactions took place
outside of a formal legal framework with contract notes being
Lender
Tri Party
Agent
Borrower
Collateral
Reporting
Reporting
Lender
Tri Party
Agent
Borrower
Collateral
TRANSACTIONS COLLATERALISED WITH OTHER
SECURITIES OR ASSETS
Loan Commences
Loan Terminates
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 51
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 51
the only form of record. In 1995, the GMRA was amended to
incorporate an annex that dealt explicitly with buy/sell backs.
Most buy/sell backs are now governed by this agreement.
Lenders and intermediaries
The securities lending market involves various types of special-
ist intermediary which take principal and/or agency roles.
These intermediaries separate the underlying owners of securi-
ties – typically large pension or other funds, and insurance
companies – from the eventual borrowers of securities
Intermediaries
1. Agent intermediaries
Securities lending is increasingly becoming a volume busi-
ness and the economies of scale offered by agents that pool
together the securities of different clients enable smaller own-
ers of assets to participate in the market. The costs associated
with running an efficient securities lending operation are
beyond many smaller funds for which this is a peripheral activi-
ty. Asset managers and custodian banks have added securities
lending to the other services they offer to owners of securities
portfolios, while third party lenders specialise in providing
securities lending services.
Owners and agents “split” revenues from securities lending
at commercial rates. The split will be determined by many fac-
tors including the service level and provision by the agent of
any risk mitigation, such as an indemnity. Securities lending is
often part of a much bigger relationship and therefore the split
negotiation can become part of a bundled approach to the pric-
ing of a wide range of services.
(a) Asset managers
It can be argued that securities lending is an asset manage-
ment activity – a point that is easily understood in considering
the reinvestment of cash collateral. Particularly in Europe,
where custodian banks were perhaps slower to take up the
opportunity to lend than in the United States, many asset man-
agers run significant securities lending operations.
What was once a back office low profile activity is now a front
office growth area for many asset managers. The relationship
that the asset managers have with their underlying clients puts
them in a strong position to
participate.
(b) Custodian banks
The history of securities lending is inextricably linked with the
custodian banks. Once they recognised the potential to act as
agent intermediaries and began marketing the service to their
customers, they were able to mobilise large pools of securities
that were available for lending. This in turn spurred the growth
of the market.
Most large custodians have added securities lending to their
core custody businesses. Their advantages include: the existing
banking relationship with their customers; their investment in
technology and global coverage of markets, arising from their
custody businesses; the ability to pool assets from many small-
er underlying funds, insulating borrowers from the administra-
tive inconvenience of dealing with many small funds and pro-
viding borrowers with protection from recalls; and experience
in developing as well as developed markets.
Being banks, they also have the capability to provide indem-
nities and manage cash collateral efficiently – two critical fac-
tors for many underlying clients.
Custody is so competitive a business that for many providers
it is a loss making activity. However, it enables the custodians
to provide a range of additional services to their client base.
These may include foreign exchange, trade execution, securi-
ties lending and fund accounting.
(c) Third-party agents
Advances in technology and operational efficiency have made
it possible to separate the administration of securities lending
from the provision of basic custody services, and a number of
specialist third-party agency lenders have established them-
selves as an alternative to the custodian banks.
Their market share is currently growing from a relatively
small base. Their focus on securities lending and their ability to
deploy new technology without reference to legacy systems can
give them flexibility.
2. Principal intermediaries
There are three broad categories of principal intermediary:
- Broker dealers
- Specialist intermediaries
- Prime brokers
In contrast to the agent intermediaries, they can assume
principal risk, offer credit intermediation and take positions in
the securities that they borrow. Distinctions between the three
categories are blurred. Many firms would be in all three.
In recent years, securities lending markets have been liber-
alised to a significant extent so that there is little general
restriction on who can borrow and who can lend securities.
Lending can, in principle, take place directly between benefi-
Lender
Money
Markets
Borrower
Collateral
Loan
Loan
Cash
Cash
Cash
TRANSACTIONS COLLATERALISED WITH CASH
Loan Commences
Lender
Money
Markets
Borrower
Collateral
Cash
Loan Terminates
52 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Securities Lending GUIDE
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 52
cial owners and the eventual borrowers. But typically a number
of layers of intermediary are involved. What value do the inter-
mediaries add?
A beneficial owner may well be an insurance company or a
pension scheme while the ultimate borrower could be a hedge
fund. Institutions will often be reluctant to take on credit expo-
sures to borrowers that are not well recognised, regulated, or
who do not have a good credit rating, which would exclude
most hedge funds.
In these circumstances, the principal intermediary (often act-
ing as prime broker) performs a credit intermediation service
in taking a principal position between the lending institution
and the hedge fund.
A further role of the intermediaries is to take on liquidity risk.
Typically they will borrow from institutions on an open basis –
giving them the option to recall the underlying securities if they
want to sell them or for other reasons – whilst lending to
clients on a term basis, giving them certainty that they will be
able to cover their short positions.
In many cases, as well as serving the needs of their own pro-
priety traders, principal intermediaries provide a service to the
market in matching the supply of beneficial owners that have
large stable portfolios with those that have a high borrowing
requirement. They also distribute securities to a wider range of
borrowers than underlying lenders, which may not have the
resources to deal with a large number of counterparts.
These activities leave principal intermediaries exposed to liq-
uidity risk if lenders recall securities that have been on lent to
borrowers on a term basis. One way to mitigate this risk is to
use in-house inventory where available. For example, propri-
etary trading positions can be a stable source of lending supply
if the long position is associated with a long-term derivatives
transaction.
Efficient inventory management is seen as critical and many
securities lending desks act as central clearers of inventory
within their organisations, only borrowing externally when net-
ting of in-house positions is complete.
This can require a significant technological investment. Other
ways of mitigating ‘recall risk’ include arrangements to borrow
securities from affiliated investment management firms, where
regulations permit, and bidding for exclusive (and certain)
access to securities from other lenders.
On the demand side, intermediaries have historically been
dependent upon hedge funds or proprietary traders that make
trading decisions. But a growing number of securities lending
businesses within investment banks have either developed
“trading” capabilities within their lending or financing depart-
ments, or entered into joint ventures with other departments
or even in some cases their hedge fund customers. The ration-
ale behind this trend is that the financing component of certain
trading strategies is so significant that without the loan there is
no trade.
(a) Broker dealers
Broker dealers borrow securities for a wide range of reasons:
- Market making
- To support proprietary trading on behalf of clients
Many broker dealers combine their securities lending activi-
ties with their prime brokerage operation (the business of serv-
icing the broad requirements of hedge funds and other alterna-
tive investment managers). This can bring significant efficiency
and cost benefits. Typically within broker dealers the fixed
income and equity divisions duplicate their lending and financ-
ing activities.
(b) Specialist intermediaries
Historically, regulatory controls on participation in stock
lending markets meant that globally there were many interme-
diaries. Some specialised in intermediating between stock
lenders and market makers in particular, e.g. UK Stock
Exchange Money Brokers (SEMB). With the deregulation of
stock lending markets, these niches have almost all disap-
peared.
Some of the specialists are now part of larger financial organ-
isations. Others have moved to parent companies that have
allowed them to expand the range of their activities into propri-
etary trading.
(c) Prime brokers
Prime brokers serve the needs of hedge funds and other ‘alter-
native’ investment managers. The business was once viewed,
simply, as the provision of six distinct services, although many
others such as capital introduction, risk management, fund
accounting and start up assistance have now been added:
Services provided by prime brokers
Securities lending is one of the central components of a suc-
cessful prime brokerage operation, with its scale depending on
the strategies of the hedge funds for which the prime broker
acts. Two strategies that are heavily reliant on securities bor-
rowing are long/short equity and convertible bond arbitrage.
The cost associated with the establishment of a full service
prime broker is steep, and recognised providers have a signifi-
cant advantage. Some of the newer entrants have been using
total return swaps, contracts for difference and other derivative
transaction types to offer what has become known as “synthet-
ic prime brokerage”.
Again securities lending remains a key component of the
service as the prime broker will still need to borrow securities
in order to hedge the derivatives positions it has entered into
with the hedge funds, for example, to cover short positions.
But it is internalised within the prime broker and less obvious
to the client.
Beneficial owners
Those beneficial owners with securities portfolios of sufficient
size to make securities lending worthwhile include:
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 53
Historically, regulatory controls
on participation in stock lending
markets meant that globally
there were many intermediaries
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 53
- Pension funds
- Insurance and assurance companies
- Mutual funds/unit trusts
- Endowments
When considering whether and how to lend securities, bene-
ficial owners need first to consider the characteristics of their
organisations and portfolio.
1. Organisation characteristics
(a) Management motivation
Some owners lend securities solely to offset custody and
administrative costs. Others are seeking more significant rev-
enue.
(b) Technology investment
Lenders vary in their willingness to invest in technological
infrastructure to support securities lending.
(c) Credit risk appetite
The securities lending market consists of organisations with a
wide range of credit quality and collateral capabilities.
A cautious approach to counterpart selection (AAA only) and
restrictive collateral guidelines (G7 Bonds) will limit lending
volumes.
2. Portfolio characteristics
(a) Size
Other things being equal, borrowers prefer large portfolios.
(b) Holdings size
Loan transactions generally exceed USD250,000. Lesser hold-
ings are of limited appeal to direct borrowers. Holdings of
under USD250,000 are probably best deployed through an
agency programme, where they can be pooled with other
inventories.
(c) Investment strategy
Active investment strategies increase the likelihood of recalls,
making them less attractive than passive portfolios.
(d) Diversification
Borrowers want portfolios where they need liquidity. A global
portfolio offers the greatest chance of generating a fit. That
said, there are markets that are particularly in demand from
time to time and there are certain borrowers that have a geo-
graphic or asset class focus.
(e) Tax jurisdiction and position
Borrowers are responsible for "making good" any benefits of
share ownership (excluding voting rights) as if the securities
had not been lent. They must "manufacture" (pay) the eco-
nomic value of dividends to the lender. An institution's tax
position compared to that of other possible lenders is therefore
an important consideration. If the cost of manufacturing divi-
dends or coupons to a lender is low then its assets will be in
greater demand.
(f ) Inventory attractiveness
"Hot" securities are those in high demand whilst general col-
lateral or general collateral securities are those that are com-
monly available. Needless to say, the "hotter" the portfolio, the
higher the returns to lending.
Having examined the organisation and portfolio characteris-
tics of the beneficial owner, we must now consider the various
possible routes to market.
The possible routes to the securities lending market:
(a) Using an asset manager as agent
A beneficial owner may find that the asset manager they have
chosen, already operates a securities lending programme. This
route poses few barriers to getting started quickly.
(b) Using a custodian as agent
This is the least demanding option for a beneficial owner, espe-
cially a new one. They will already have made a major decision
in selecting an appropriate custodian. This route also poses
few barriers to getting started quickly.
(c) Appointing a third party specialist as agent
A beneficial owner who has decided to outsource may decide it
does not want to use the supplier’s asset manager(s) or custo-
dian(s), and instead appoint a third-party specialist. This route
may mean getting to know and understand a new provider
prior to getting started. The opportunity cost of any delay
needs to be factored into the decision.
(d) Auctioning a portfolio to borrowers
Borrowers demand portfolios for which they bid guaranteed
returns in exchange for gaining exclusive access to them. There
are several different permutations of this auctioning route:
- Do-it-yourself auctions
- Assisted auctions
- Agent assistance
- Consultancy assistance
- Specialist “auctioneer” assistance
This is not a new phenomenon but one that has gained a high-
er profile in recent years. A key issue for the beneficial owner
considering this option is the level of operational support that
the auctioned portfolio will require and who will provide it.
e) Selecting one principal borrower
Many borrowers effectively act as wholesale intermediaries and
have developed global franchises using their expertise and cap-
ital to generate spreads between two principals that remain
54 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Securities Lending GUIDE
The securities lending market
consists of organisations with a
wide range of credit quality and
collateral capabilities
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 54
unknown to one another. These principal intermediaries are
sometimes separately incorporated organisations, but more
frequently, parts of larger banks, broker-dealers or investment
banking groups. Acting as principal allows these intermediaries
to deal with organisations that the typical beneficial owner may
choose to avoid for credit reasons, for example, hedge funds.
(f ) Lending directly to proprietary principals
Normally after a period of activity in the lending market using
one of the above options, a beneficial owner that is large
enough in its own right, may wish to explore the possibility of
establishing a business “in house”, lending directly to a selec-
tion of principal borrowers that are the end-users of their secu-
rities. The proprietary borrowers include broker-dealers, market
makers and hedge funds. Some have global borrowing needs
while others are more regionally focused.
(g) Choosing some combination of the above
Just as there is no single or correct lending method, so the
options outlined above are not mutually exclusive. Deciding
not to lend one portfolio does not preclude lending to another;
similarly, lending in one country does not necessitate lending
in all. Choosing a wholesale intermediary that happens to be a
custodian in the United States and Canada does not mean that
a lender cannot lend Asian assets through a third-party special-
ist, and European assets directly to a panel of proprietary bor-
rowers.
The borrowing motivation
One of the central questions commonly asked by issuers and
investors alike is “Why does the borrower borrow my securi-
ties?” Before considering this point let us examine why issuers
might care.
If securities were not issued, they could not be lent. Behind
this simple tautology lies an important point. When Initial
Public Offerings are frequent and corporate merger and acqui-
sition activity is high, the securities lending business benefits.
In the early 2000s, the fall in the level of such activity
depressed the demand to borrow securities leading to:
A depressed equity securities lending market meaning:
- Fewer trading opportunities
- Less demand
- Fewer ”specials”
Issuer concern about the role of securities lending, such as
Whether it is linked in any way to the decline in the value of a
company’s shares?
Whether securities lending should be discouraged?
How many times does an issuer discussing a specific corporate
event stop to consider the impact that the issuance of a con-
vertible bond, or the adoption of a dividend reinvestment plan
might have upon lending of their shares.
There is a significant amount of information available on the
long side of the market and correspondingly little on the short
side. Securities lending activity is not synonymous with short
selling. But it is often, although not always, used to finance
short sales (see below) and might be a reasonable and practi-
cal proxy for the scale of short selling activity in the absence of
full short sale disclosure. It is therefore natural that issuers
would want to understand how and why their securities are
traded.
Reasons to borrow
Borrowers, when acting as principals, have no obligation to tell
lenders or their agents why they are borrowing securities. In
fact they may well not know themselves as they may be on-
lending the securities to proprietary traders or hedge funds
that do not share their trading strategies openly. Some prime
brokers are deliberately vague when borrowing securities as
they wish to protect their underlying hedge fund customer’s
trading strategy and motivation.
This chapter explains some of the more common reasons
behind the borrowing of securities. In general, these can be
grouped into: (1) borrowing to cover a short position (settle-
ment coverage, naked shorting, market making, arbitrage trad-
ing); (2) borrowing as part of a financing transaction motivated
by the desire to lend cash; and (3) borrowing to transfer owner-
ship temporarily to the advantage of both lender and borrower
(tax arbitrage, dividend reinvestment plan arbitrage).
Borrowing to cover short positions
(a) Settlement coverage
Historically, settlement coverage has played a significant part
in the development of the securities lending market. Going
back a decade or so, most securities lending businesses were
located in the back offices of their organisations and were not
properly recognised as businesses in their own right.
Particularly for less liquid securities – such as corporate bonds
and equities with a limit free float – settlement coverage
remains a large part of the demand to borrow.
The ability to borrow to avoid settlement failure is vital to
ensure efficient settlement and has encouraged many securi-
ties depositories into the automated lending business. This
means that they remunerate customers for making their securi-
ties available to be lent by the depository automatically in order
to avert any settlement failures.
(b) Naked shorting
Naked shorting can be defined as borrowing securities in order
to sell them in the expectation that they can be bought back at
a lower price in order to return them to the lender. Naked
shorting is a directional strategy, speculating that prices will
fall, rather than a part of a wider trading strategy, usually
involving a corresponding long position in a related security.
In many cases, principal
intermediaries provide a service
to the market in matching the
supply of beneficial owners that
have large stable portfolios with
those that have a high borrowing
requirement
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SLMG 2007 pp50-69 10/9/07 5:07 pm Page 55
Naked shorting is a high risk strategy. Although some funds
specialise in taking short positions in the shares of companies
they judge to be overvalued, the number of funds relying on
naked shorting is relatively small and probably declining.
(c) Market making
Market makers play a central role in the provision of two-way
price liquidity in many securities markets around the world.
They need to be able to borrow securities in order to settle buy
orders from customers and to make tight, two-way prices.
The ability to make markets in illiquid small capitalisation
securities is sometimes hampered by a lack of access to bor-
rowing, and some of the specialists in these less liquid securi-
ties have put in place special arrangements to enable them to
gain access to securities. These include guaranteed exclusive
bids with securities lenders.
The character of borrowing is typically short term for an
unknown period of time. The need to know that a loan is avail-
able tends to mean that the level of communication between
market makers and the securities lending business has to be
highly automated. A market maker that goes short and then
finds that there is no loan available would have to buy that
security back to flatten its book.
(d) Arbitrage trading
Securities are often borrowed to cover a short position in one
security that has been taken to hedge a long position in anoth-
er as part of an “arbitrage” strategy. Some of the more com-
mon arbitrage transactions that involve securities lending are
described below.
(i) Convertible bond arbitrage
Convertible bond arbitrage involves buying a convertible bond
and simultaneously selling the underlying equity short and bor-
rowing the shares to cover the short position. Leverage can be
deployed to increase the return in this type of transaction.
Prime brokers are particularly keen on hedge funds that engage
in convertible bond arbitrage as they offer scope for several rev-
enue sources:
- Securities lending revenues
- Provision of leverage
- Execution of the convertible bond
- Execution of the equity
(ii) Pairs trading or relative value “arbitrage”
This in an investment strategy that seeks to identify two com-
panies with similar characteristics whose equity securities are
currently trading at a price relationship that is out of line with
their historical trading range.
The strategy entails buying the apparently undervalued secu-
rity while selling the apparently overvalued security short, bor-
rowing the latter security to cover the short position.
Focusing on securities in the same sector or industry should
normally reduce the risks in this strategy.
(iii) Index arbitrage
In this context, arbitrage refers to the simultaneous purchase
and sale of the same commodity or stock in two different mar-
kets in order to profit from price discrepancies between the
markets.
In the stock market, an arbitrage opportunity arises when the
same security trades at different prices in different markets. In
such a situation, investors buy the security in one market at a
lower price and sell it in another for more, capitalising on the
difference. However, such an opportunity vanishes quickly as
investors rush in to take advantage of the price difference.
The same principle can be applied to index futures. Being a
derivative product, index futures derive their value from the
securities that constitute the index. At the same time, the value
of index futures is linked to the stock index value through the
opportunity cost of funds (borrowing/lending cost) required to
play the market.
Stock index arbitrage involves buying or selling a basket of
stocks and, conversely, selling or buying futures when mispric-
ing appears to be taking place.
(2) Financing
As broker dealers build derivative prime brokerage and cus-
tomer margin business, they hold an increasing inventory of
securities that requires financing.
This type of activity is high volume and takes place between
two counterparts that have the following coincidence of wants:
- One has cash that they would like to invest on a secured basis
and pick up yield.
- The other has inventory that needs to be financed.
- In the case of bonds, the typical financing transaction is a
repo or buy/sell back. But for equities, securities lending and
equity, repo transactions are used.
- Tri Party agents are often involved in this type of financing
transaction as they can reduce operational costs for the cash
lender and they have the settlement capabilities the cash bor-
rower needs to substitute securities collateral as their inventory
changes.
(3) Temporary transfers of ownership
(a) Tax arbitrage
Tax driven trading is an example of securities lending as a
means of exchange.
Markets that have historically provided the largest opportuni-
ties for tax arbitrage include those with significant tax credits
that are not available to all investors – examples include Italy,
Germany and France.
The different tax positions of investors around the world have
opened up opportunities for borrowers to use securities lend-
ing transactions, in effect, to exchange assets temporarily for
the mutual benefit of purchaser, borrower and lender. The
Stock index arbitrage involves
buying or selling a basket of
stocks and, conversely, selling or
buying futures when mispricing
appears to be taking place
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lender’s reward comes in one of two ways: either a higher fee
for lending if they require a lower manufactured dividend, or a
higher manufactured dividend than the post-tax dividend they
would normally receive (quoted as an “all-in rate”).
For example, an offshore lender that would normally receive
75% of a German dividend and incur 25% withholding tax (with
no possibility to reclaim) could lend the security to a borrower
that, in turn, could sell it to a German investor who was able to
obtain a tax credit rather than incur withholding tax. If the off-
shore lender claimed the 95% of the dividend that it would oth-
erwise have received, it would be making a significant pick-up
(20% of the dividend yield), whilst the borrower might make a
spread of between 95% and whatever the German investor was
bidding. The terms of these trades vary widely and rates are
calculated accordingly.
(b) Dividend reinvestment plan arbitrage
Many issuers of securities create an arbitrage opportunity
when they offer shareholders the choice of taking a dividend or
reinvesting in additional securities at a discounted level.
Income or index tracking funds that cannot deviate from
recognised securities weightings may have to choose to take
the cash option and forgo the opportunity to take the discount-
ed reinvestment opportunity.
One way that they can share in the potential profitability of
this opportunity is to lend securities to borrowers that then
take the following action:
- Borrow as many guaranteed cash shares as possible, as
cheaply as possible.
- Tender the borrowed securities to receive the new dis-
counted share.
- Sell the new shares to realise the “profit” between the dis-
counted share price and the market price.
- Return the shares and manufacture the cash dividend to
the lender.
Market mechanics
This section outlines the detailed processes in the life of a
securities loan including:
Loan negotiation
Traditionally securities loans have been negotiated between
counterparts (whose credit departments have approved one
another) on the phone, and followed up with written or elec-
tronic confirmations. Normally the borrower initiates the call to
the lender with a borrowing requirement. However, pro-active
lenders may also offer out in-demand securities to their
approved counterparts. This would happen particularly where
one borrower returns a security and the lender is still lending it
to others in the market, they will contact them to see if they
wish to borrow additional securities.
Today, there is an increasing amount of bilateral and multilat-
eral automated lending whereby securities are broadcast as
available at particular rates by email or other electronic means.
Where lending terms are agreeable, automatic matching can
take place.
An example of an electronic platform for negotiating equity
securities loan transactions is EquiLend, which began opera-
tions in 2002 and is backed by a consortium of financial insti-
tutions. EquiLend’s stated objective is to: “Provide the securi-
ties lending industry with the technology to streamline and
automate transactions between borrowing and lending institu-
tions and … introduce a set of common protocols. EquiLend
will connect borrowers and lenders through a common, stan-
dards-based global equity lending platform enabling them to
transact with increased efficiency and speed, and reduced cost
and risk.” EquiLend is not alone in this market; for example,
SecFinex offers similar services in Europe.
Confirmations
Written or electronic confirmations are issued,
whenever possible, on the day of the trade so that any queries
by the other party can be raised as quickly as possible.
Material changes during the life of the transaction are agreed
between the parties as they occur and may also be
confirmed if either party wishes it. Examples of material
changes are collateral adjustments or collateral substitutions.
The parties agree who will take responsibility for issuing loan
confirmations.
Confirmations would normally include the following
information:
- Contract and settlement dates.
- Details of loaned securities.
- Identities of lender and borrower (+ any underlying principal)
- Acceptable collateral and margin percentages.
- Term and rates.
- Bank and settlement account details of the lender and
borrower.
Termof loan, and selling securities while on loan
Loans may either be for a specified term or open. Open loans
are trades with no fixed maturity date. It is more usual for secu-
rities loans to be open or “at call”, especially for equities,
because lenders typically wish to preserve the flexibility for fund
managers to be able to sell at any time. Lenders are able to sell
securities despite their being on open loan because they can
usually be recalled from the borrower within the settlement
period of the market concerned. Nevertheless open loans can
remain on loan for a long period.
Termtrades – fixed or indicative?
The general description “term trade” is used to describe differ-
ing arrangements in the securities lending market. The parties
have to agree whether the term of a loan is “fixed” for a defi-
nite period or whether the duration is merely “indicative” and
therefore the securities are callable. If fixed, the lender is not
obliged to accept the earlier return of the securities; nor does
Traditionally securities loans
have been negotiated between
counterparts on the phone, and
followed up with written or
electronic confirmations
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 57
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 57
the borrower need to return the securities early if the lender
requests it. Accordingly, securities subject to a fixed loan
should not be sold while on loan.
Where the term discussed is intended to be “indicative”, it
usually means that the borrower has a long term need for the
securities but the lender is unable to fix for term and retains
the right to recall the securities if necessary.
Putting securities “on hold” (also known as “icing”)
Putting securities “on hold” (referred to in the market as
“icing” securities) is the practice whereby the lender will
reserve securities at the request of a borrower on the borrow-
er’s expected need to borrow those securities at a future date.
This occurs where the borrower must be sure that the securi-
ties will be available before committing to a trade that will
require them.
While some details can be agreed between the parties, it is
normal for any price quoted to be purely indicative, and for
securities to be held to the following business day. The borrow-
er can “roll over” the arrangement (continue to ice the securi-
ties) by contacting the holder before 9am, otherwise it termi-
nates.
Key aspects of icing are that the lender does not receive a fee
for reserving the securities and they are generally open to chal-
lenge by another borrower making a firm bid. In this case the
first borrower would have 30 minutes to decide whether to take
the securities at that time or to release them.
“Pay-to-hold” arrangements
A variation of icing is “pay-to-hold” where the lender does
receive a fee for putting the securities on hold. As such, they
constitute a contractual agreement and are not open to chal-
lenge by other borrowers.
How are loans settled?
Securities lenders need to settle transactions on a shorter time-
frame than the customary settlement period for that market.
Settlement will normally be through the lender’s custodian
bank and this is likely to apply irrespective of whether the
lender is conducting the operation or delegating to an agent.
The lender will usually have agreed a schedule of guaranteed
settlement times for its securities lending activity with its cus-
todians. Prompt settlement information is crucial to the effi-
cient monitoring and control of a lending programme, with
reports needed for both loans and collateral.
In most settlement systems securities loans are settled as
“free-of-payment” deliveries and the collateral is taken quite
separately, possibly in a different payment or settlement system
and maybe a different country and time zone. For example, UK
equities might be lent against collateral provided in a European
International Central Securities Depository or US dollar cash
collateral paid in New York. This can give rise to what is known
in the market as “daylight exposure”, a period during which the
loan is not covered as the lent securities have been delivered
but the collateral securities have not yet been received. To
avoid this exposure some lenders insist on pre-collateralisa-
tion, so transferring the exposure to the borrower.
The CREST system for settling UK and Irish securities is an
exception to the normal practice as collateral is available within
the system. This enables loans to be settled against cash intra-
day and for the cash to be exchanged, if desired, at the end of
the settlement day for a package of DBV securities overnight.
The process can be reversed and repeated the next day.
CREST settlement facility for stock lending
CREST also has specific settlement arrangements for stock
loans, requiring the independent input of instructions by both
parties, who must complete a number of matching fields,
including the amount and currency of any cash collateral,
together with the percentage value of applicable loan margin.
Loans may be effected against sterling, euro or dollar consider-
ation or made free-of-payment.
Immediately after the settlement of the loan, CREST auto-
matically creates a pre-matched stock loan return transaction
with an intended settlement date of the next business day. The
return is prevented from settling until the borrower intervenes
to raise the settlement priority of the transaction. The stock
lender may freeze the transaction in order to prevent the stock
from returning.
Termination of the loan
Open loans may be terminated by the borrower returning secu-
rities or by the lender recalling them. The borrower will normal-
ly return borrowed securities when it has filled its short posi-
tion. A borrower will sometimes refinance its loan positions by
borrowing more cheaply elsewhere and returning securities to
the original lender. The borrower may, however, give the origi-
nal lender the opportunity to reduce the rate being charged on
the loan before borrowing elsewhere.
Redelivery, failed trades and legal remedies
When deciding which markets and what size to lend in, securi-
ties lenders will consider how certain they can be of having
their securities returned in a timely manner when called, and
what remedies are available under the legal agreement (see
below) in the event of a failed return.
Procedures to be followed in the event of a failed redelivery
are usually covered in legal agreements or otherwise agreed
between the parties at the outset of the relationship. Financial
redress may be available to the lender if the borrower fails to
redeliver loaned securities or collateral on the intended settle-
ment date. Costs that would typically be covered include:
Direct interest and/or overdraft incurred
Costs reasonably and properly incurred as a result of the bor-
rower’s failure to meet its sale or delivery obligations
Settlement will normally be
through the lender’s custodian
bank and this is likely to apply
irrespective of whether the
lender is conducting the opera-
tion or delegating to an agent
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Total costs and expenses reasonably incurred by the lender as a
result of a “buy-in” (i.e. where the lender is forced to? purchase
securities in the open market following the borrower’s failure
to return them)
Costs that would usually be excluded are those arising from
the transferee’s negligence or wilful default and any indirect or
consequential losses. An example of that would be when the
non-return of loaned securities causes an onward trade for a
larger amount to fail. The norm is for only that proportion of
the total costs which relates to the unreturned securities or col-
lateral to be claimed. It is good practice, where possible, to
consider “shaping” or “partialling” larger transactions (break-
ing them down into a number of smaller amounts for settle-
ment purposes) so as to avoid the possibility of the whole
transaction failing if the transferor cannot redeliver the loaned
securities or collateral on the intended settlement date.
Corporate actions and votes
The basic premise underlying securities lending is to make the
lender “whole” for any corporate action event – such as a divi-
dend, rights or bonus issue – by putting the borrower under a
contractual obligation to make equivalent payments to the
lender, for instance by “manufacturing” dividends. However a
shareholder’s right to vote as part owner of a company cannot
be manufactured. When securities are lent, legal ownership
and the right to vote in shareholder meetings passes to the
borrower, who will often sell the securities on. Where lenders
have the right to recall securities, they can use this option to
restore their holdings and voting rights. The onus is on the
borrower to find the securities, by borrowing or purchasing
them in the market if necessary. This can damage market liq-
uidity, which is a risk that intermediaries manage.
It is important that beneficial owners are aware that when
shares are lent the right to vote is also transferred. The SLRC’s
code of guidance states in section 2.5.4 that lenders should
make it clear to clients that voting rights are transferred. A bal-
ance needs to be struck between the importance of voting and
the benefits derived from lending the securities. Beneficial
owners need to ensure that any agents they have made respon-
sible for their voting and stock lending act in a co-ordinated
way.
Borrowing securities in order to build up a holding in a com-
pany with the deliberate purpose of influencing a shareholder
vote is not necessarily illegal in the United Kingdom. However,
institutional lenders have recently become more aware of the
possibility, and tend not to see it as a legitimate use of securi-
ties borrowing.
A number of market bodies, in the United Kingdom and
internationally, have been addressing the relationship between
securities lending and voting. For example, a recent report by
Paul Myners to the UK Shareholder Voting Working Group3
made the following recommendation:
Stocklending is important in maintaining market liquidity but
borrowing of shares for the purpose of voting is not appropri-
ate… it is important that beneficial owners are fully aware of
the implications for voting if they agree to their shares being
lent. In particular, when a resolution is contentious I start from
the position that the lender should automatically recall the
related stock, unless there are good economic reasons for not
doing so.’
Internationally, a working group of the International
Corporate Governance Network is currently examining best
practices for long-term investors in relation to securities lend-
ing and voting. The SLRC is also considering additions to its
code in this area.
UK tax arrangements and London Stock Exchange reporting by
member firms
London Stock Exchange rules require lending arrangements in
securities on which UK Stamp Duty/Stamp Duty Reserve Tax
(SDRT)4 is chargeable to be reported to the Exchange.
This enables firms to bring their borrowing and lending activ-
ity ‘on Exchange’ and to allow them to be exempt from Stamp
Duty/SDRT.
Firms which are not members of the Exchange but which
conduct borrowing and lending through a member firm are
also eligible for relief from stock lending Stamp Duty/SDRT.
On Exchange lending arrangements are evidenced by regula-
tory reports that are transmitted to the Exchange by close of
business on the day the lending arrangement is agreed.
Prior to entering into a lending arrangement, member
firms are required to sign a written agreement with the other
party.
The Exchange has authorised the following agreements:
- Global Master Securities Lending Agreement
- Master Equity & Fixed Interest Stock Lending Agreement
(1996)
- PSA/ISMA Global Master Repurchase Agreement as
Total
Return
Leverage
Related
Returns
Interest
Exposure
Dividend
Exposure
Short
Interest
Rate
Current
Yield
+
0
-
+ =
COMPONENTS OF RETURN
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 59
When securities are lent, legal
ownership and the right to vote
in shareholder meetings passes
to the borrower, who will often
sell the securities on. Where
lenders have the right to recall
securities, they can use this
option to restore their holdings
and voting rights
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 59
extended by supplemental terms and conditions for equity
repo forming Part 2 of Annex 1 of the agreement
Where an authorised agreement does not cover the circum-
stances in which a member firm wishes to enter into a lend-
ing arrangement, the firm must ensure that the agreement
includes provisions equivalent to those contained within the
Exchange’s rules on lending arrangements in relation to
member firm default.
Transparency in the UK market
CREST provides time-delayed information on the value of
securities financing transactions in the top 350 UK equities.
This is a subscription service begun in September 2003
following extensive discussion with market participants and
the Financial Services Authority.
The information it provides pertains to total Stamp Duty
Reserve Tax-exempt transactions taking place in each securi-
ty on a given day and excludes intermediary activity where
possible. CREST has provided answers to many frequently
asked questions on its website, www.crest.co.uk.
The launch of its securities financing data service coincid-
ed with its publication of settlement failure statistics The
London Stock Exchange monitors both and makes public
announcements on stock lending activity when it feels it is
appropriate.
UK Takeover Panel
If it is proposed that any securities lending should take
place during an offer period for a UK company, the Takeover
Panel should be consulted to establish whether any disclo-
sure is required and whether there are any other conse-
quences.
Risks, regulation and market oversight
This chapter describes the main financial risks in securities
lending, and how lenders usually manage them. It is not a
comprehensive description of the various operational, legal,
market and credit risks to which market participants can be
exposed. The chapter then briefly summarises the UK regula-
tory framework for securities lending market participants and
the role of the UK Stock Lending and Repo Committee.
Financial risks in securities lending are primarily managed
through the use of collateral and netting. As described in
Chapter 1, collateral can be in the form of securities or cash.
The market value of the collateral is typically greater than that
of the lent portfolio. This margin is intended to protect the
lender from loss and reflect the practical costs of collateral
liquidation and repurchase of the lent portfolio in the event
of default. Any profits made in the repurchase of the lent
portfolio are normally returned to the borrower’s liquidator.
Losses incurred are borne by the lender with recourse to the
borrower’s liquidator along with other creditors.
Risks and risk management
When taking cash as collateral
Because of its wide acceptability and ease of management,
cash can be highly appropriate collateral. However, the
lender needs to decide how best to utilise this form of collat-
eral. As described in Chapter 1, a lender taking cash as col-
lateral pays rebate interest to the securities borrower, so the
cash must be reinvested at a higher rate to make any net
return on the collateral. This means the lender needs to
decide on an appropriate risk-return trade-off. In simple
terms, reinvesting in assets that carry one of the following
risks can increase expected returns:
a higher credit risk: a risk of loss in the event of defaults or a
longer maturity in relation to the likely term of the loan
Many of the large securities lending losses over the years
have been associated with reinvestment of cash collateral.
Typically, lenders delegate reinvestment to their agents,
(for example, custodian banks). They specify reinvestment
guidelines, such as those set out in Chapter 1. There is a
move towards more quantitative, risk-based approaches;
often specifying the ”value-at-risk” in relation to the different
expected returns earned from alternative reinvestment pro-
files. Agents do not usually offer an indemnity against loss-
es on reinvestment activity so that the lender retains all of
the risk while their agent is paid part of the return.
When taking other securities as collateral
Compared with cash collateral, taking other securities as col-
lateral is a way of avoiding reinvestment risk. In addition to
the risks of error, systems failure and fraud always present in
any market, problems then arise on the default of a borrow-
er. In such cases the lender will seek to sell the collateral
securities in order to raise the funds to replace the lent secu-
rities. Transactions collateralised with securities are exposed
to a number of different risks:
Reaction and legal risk. If a lender experiences delays in
either selling the collateral securities or repurchasing the
lent securities, it runs a greater risk that the value of the col-
lateral will fall below that of the loan in the interim.
Typically, the longer the delay, the larger the risk.
Mispricing risk. The lender will be exposed if either collateral
securities have been over-valued or lent securities under-val-
ued because the prices used to mark-to-market differ from
prices that can actually be traded in the secondary market.
One example of mispricing is using mid rather than bid
prices for collateral. For illiquid securities, obtaining a reli-
able price source is particularly difficult because of the lack
of trading activity.
Liquidity risk. Illiquid securities are more likely to be
realised at a lower price than the valuation used. Valuation
“haircuts” are used to mitigate this risk (i.e. collateral is val-
ued at, for example, 98% or 95% of the current market
value). The haircuts might depend upon:
- The proportion of the total security issue held in the portfo-
lio – the larger the position, the greater the haircut.
- The average daily traded volume of the security: the lower
Today, there is an increasing
amount of bilateral and
multilateral automated lending
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the volume, the greater the haircut.
- The volatility of the security; the higher the volatility, the
greater the haircut.
Congruency of collateral and lent portfolios (mismatch
risk). If the lent and collateral portfolios were identical then
there would be no market risk. In practice, of course, the
lent and collateral portfolios are often very different. The
lender’s risk is that the market value of the lent securities
increases but that of the collateral securities falls before
rebalancing can be effected. Provided the counterpart has
not defaulted, the lender will be able to call for additional
collateral on any adverse collateral/loan price movements.
However, following default, it will be exposed until it has
been able sell the collateral and replace the lent securities.
The size of mismatch risk depends on the expected co-
variance of the value of the collateral and lent securities.
The risk will be greater if the value of the collateral is more
volatile, the value of the lent securities is more volatile, or if
their values do not tend to move together, so that the
expected correlation between changes in their value is low.
For example, in deciding whether to hold UK government
securities or UK equities to collateralise a loan of BP shares,
a lender would have to judge whether the greater expected
correlation between the value of the UK equities and the BP
shares reduced mismatch risk by more than the lower
expected volatility in the value of the government securities.
Many agent intermediaries will offer beneficial owners pro-
tection against these risks by agreeing to return (buy-in) lent
securities immediately for their clients following a fail, tak-
ing on the risk that the value of the collateral on liquidation
is lower.
Realistic valuations
The first consideration is whether the valuation prices are
fair. Assuming the portfolios have been conservatively valued at
bid and offer (not mid) prices, then the lender might require
some adjustment (haircut) to reflect concentration and price
volatility of the different assets. For example, in the case of the
sterling cash collateral, the haircut might be negligible. But for
the Malaysian equity portfolio, a high adjustment might be
sought on the assumption that it would probably cost more
than GBP100 million to buy back this part of the lent portfolio.
Required haircuts might be based on the average daily liquidity
for the asset class, the price volatility of the asset class and the
residual risk on individual securities, taken from Table 2.
Using the adjusted portfolios, the lender can then calculate
the risk of a collateral shortfall in the event of the borrower
defaulting. Broadly, this will need to assess the volatility of
each asset class, the correlation between them and the residual
risk of securities within them to derive a range of possible sce-
narios from which probabilities of loss and the most likely size
of losses on default can be estimated. Working on the
assumption that the lender can realise its collateral and replace
its lent securities in a reaction time of 20 days, Table 4 shows
the results for the portfolio, together with some sensitivity
analysis in case market volatility and liquidity that has been sig-
nificantly changed. By increasing the volatility assumption or
reducing the liquidity assumption, the probability and scale of
expected losses increase.
Netting
Netting is an important element of risk management given
that market participants will often have many outstanding
trades with a counterpart. If there is a default the various stan-
dard industry master agreements for securities lending should
provide for the parties’ various obligations under different
securities lending transactions governed by a master agree-
ment to be accelerated, payments become due at current mar-
ket values. So instead of requiring the parties to deliver securi-
ties or collateral on each of their outstanding transactions
gross, their respective obligations are valued (given a cash
value) and the value of the obligations owed by one party are
set off against the value of the obligations owed by the other,
and it is the net balance that is then due in cash.
This netting mechanism is a crucial part of the agreement.
That is why there is so much legal focus on it: for example, par-
ticipants need to obtain legal opinions about the effectiveness
of netting provisions in jurisdictions of overseas counterparts,
particularly in the event of a counterpart’s insolvency.
That is also why regulators of financial firms typically
expect legal opinions on the robustness of netting arrange-
ments before they will recognise the value of collateral in
reducing counterpart credit exposures for capital adequacy
purposes. In the United Kingdom, SLRC has a netting sub-
group, which, on behalf of subscribing banks, is monitoring
an exercise to gather opinions on the legal bases for netting
in different jurisdictions.
UK regulation
Any person who conducts stock borrowing or lending business
in the United Kingdom would generally be carrying on a regu-
lated activity under the terms of the Financial Services and
Markets Act 2000 (Regulated Activities) Order 2001, and
would therefore have to be authorised and supervised under
that Act. The stock borrower or lender would, as an authorised
person, be subject to the provisions of the FSA Handbook,
including the Inter-Professional chapter of the Market Conduct
Sourcebook. They would also need to have regard to the mar-
ket abuse provisions of the Financial Services and Markets Act
2000, and the related Code of Market Conduct issued by the
Financial Services Authority (FSA). The Conduct of Business
Sourcebook requires a beneficial owner’s consent to carry on
stock lending on its account. The FSA Handbook contains
rules, guidance, and evidential provisions relevant to the con-
duct of the firm in relation to the FSA’s High Level Standards.
Stock Borrowing and Lending Code
Many of the large securities
lending losses over the years
have been associated with
reinvestment of cash collateral
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In addition to the essentially prudential standards set by the
FSA, market participants have drawn up a code, the Stock
Borrowing and Lending Code. This is a code that UK-based
participants in the stock borrowing and lending markets of
both UK domestic and overseas securities observe as a matter
of good practice. The Code covers matters such as agents, bro-
kers, legal agreements, custody, margins, defaults and close-
outs, and confirmations. It is based on the current working
practices of leading market practitioners and is kept under reg-
ular review. The Code does not in any way replace the FSA’s or
other authorities’ regulatory requirements; nor is it intended to
override the internal rules of settlement systems on borrowing
or lending transactions. Work is currently in progress to pro-
duce a UK Annex to the Code that will consider specific aspects
of UK law and practices in the equity stock lending market.
The Code is available on the Bank of England’s website at
www.bankofengland.co.uk/markets/stockborrowing.pdf.
Securities Lending and Repo Committee
The Stock Borrowing and Lending Code was produced by the
Securities Lending and Repo Committee (SLRC), that is a UK-
based committee consisting of market practitioners, members
of bodies such as CREST, the United Kingdom Debt
Management Office, the Inland Revenue, the London Clearing
House, the London Stock Exchange and the FSA. It provides a
forum in which structural (including legal, regulatory, trading,
clearing and settlement infrastructure, tax, market practice and
disclosure) developments in the stock lending and repo mar-
kets can be discussed, and recommendations made. It also co-
ordinates the development of gilt repo and equity repo codes;
produces and updates the Gilts Annex to the ISMA/TBMA
Global Master Repurchase Agreement (GMRA); keeps under
review the other legal agreements used in the stock lending
and repo markets; and maintains a sub-group on legal netting.
It liaises with similar market bodies and trade organisations
covering the repo, securities and other financial markets, both
in London and internationally. Minutes of SLRC meetings are
available on the Bank of England’s website, at www.bankofeng-
land.co.uk/markets/slrc/htm. The SLRC’s terms of reference
are shown in Appendix 2.
The work of the SLRC complements the work of the various
market associations, including, in the securities lending field,
the International Securities Lending Association (ISLA). The
objectives of ISLA include representing the common interests
of securities lenders and assisting in the orderly, efficient and
competitive development of the securities lending market.
ISLA has helped to produce standard market agreements,
including the Overseas Securities Lending Agreement (OSLA
1995 version), the Master Equity and Fixed Interest Securities
Lending Agreement (MEFISLA 1999 version) and the Global
Master Securities Lending Agreement (GMSLA May 2000).
Securities Lending and Corporate governance
What is Corporate Governance?
Corporate governance has increased in importance over
recent years. This high profile has been supported by investors,
their associations and increasingly by regulators. As the
Organisation for Economic Co-operation and Development
writes in response to the following frequently asked question
“What is corporate governance and why is it important?”
Corporate governance deals with the rights and responsibili-
ties of a company’s management, its board, shareholders and
various stakeholders. How well companies are run affects mar-
ket confidence as well as company performance. Good corpo-
rate governance is therefore essential for companies that want
access to capital and for countries that want to stimulate pri-
vate sector investment. If companies are well run, they will
prosper. This, in turn, will enable them to attract investors
whose support can help to finance faster growth. Poor corpo-
rate governance, on the other hand, weakens a company’s
potential and, at worst, can pave the way for financial difficul-
ties and even fraud.
Exercising the right to vote is therefore an integral and
important aspect of good corporate governance for institution-
al investors. To be more precise the exercising of a right to vote
against management is the ultimate sanction that a sharehold-
er has and can be seen as a major step in meaningful engage-
ment with the company.
Avoiding Conflict
There has been widespread discussion regarding the possible
conflict between the exercising of good corporate governance
on behalf of investors and the lending of securities. This dis-
cussion focuses upon the ability of investors, either directly or
by instructing their agents, to vote when they have securities
on loan.
We will draw upon specific examples, where appropriate, and
highlight best practice.
The Legal Position
There are differing views in the market place as to the exact
meaning of the term Securities Lending. “The word ‘lending’ is
in some ways misleading. In law the transaction is, in fact, an
absolute transfer of title against an undertaking to return
equivalent securities.”
This results in some important consequences arising from
the nature of securities lending transactions:
- Absolute title over both lent and collateral securities passes
between parties, meaning that these securities can be sold out-
right or “on lent”.
- Once securities have been passed, the new owner of them
has certain rights. For example they have the right to sell or
Corporate governance deals with
the rights and responsibilities of
a company’s management, its
board, shareholders and various
stakeholders. How well compa-
nies are run affects market confi-
dence as well as company
performance
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lend them to another buyer and vote in the AGMs/EGMs if
they are the holder at the record date.
- The lender of equities no longer owns them and has no enti-
tlement to vote. But they are still exposed to price movements
on them since the economic exposure to owning those securi-
ties is not passed. Typically lenders reserve the right to recall
equivalent securities from the borrower and must exercise this
option if they wish to vote.
Shares should not be borrowed for the purpose of voting
As Paul Myners writes in the March 2005 Report to the
Shareholder Voting Working Group, ‘Review of the
Impediments to voting UK shares’: “Borrowing shares for the
purpose of acquiring the vote is inappropriate, as it gives a pro-
portion of the vote to the borrower which has no relation to
their economic stake in the company. This is particularly the
case in takeover situations or where there are shareholder reso-
lutions involving acquisitions or disposals. The potential to vote
borrowed shares means that there is a risk that decisions could
be influenced by those that do not have an economic interest in
the business. I believe that this merits the attention of lenders,
fund managers and the ultimate beneficial owners, and their
respective trade associations. They should visit existing prac-
tices to see whether practical procedures could be put in place
to prohibiting the borrowing of stock for the purposes of voting.
In this respect, the Securities Borrowing and Lending Code of
Guidance states: “there is consensus in the market that securi-
ties should not be borrowed solely for the purposes of exercis-
ing the voting rights at, for example, an AGM or EGM. Lenders
should also consider their corporate governance responsibilities
before lending stock over a period in which an AGM or EGM is
expected to be held” .
Similarly collateral held, which can be of equal or greater
value than the shares lent, should not be voted. This is a clear
position and one of which practitioners actively engaged in the
business of securities lending are acutely aware.
The Right to Recall
It is the case that securities on loan cannot be voted by the
lender. Should they wish to exercise their right to vote, they
need to recall these securities by the pre-determined time i.e.
record date.
Notwithstanding the above, it is not the case that, in aggre-
gate, all votes on lent shares are lost.
Some shares that have been borrowed will be delivered into
the market to settle sales and end up with buyers. These buyers
will be oblivious to the fact that these shares have been bor-
rowed and will view them as their property and choose to vote
as they see fit.
It is the case that there may be some loss of votes associated
with collateral positions or positions sitting long in trading
books because shares held as collateral or in trading books are
not normally voted.
The right to recall any security on loan is enshrined in the
legal agreement underpinning this activity and typically the
lender recalling securities must provide their agent or borrower
with “standard settlement period notice.” Recalls are part and
parcel of the securities lending business.
However, borrowers seek to avoid recalls wherever possible
and frequent recalls may discourage borrowers from accessing
portfolios.
In practice the lenders, or their agent, communicate the
lender’s position with regards to voting to the borrowers so as
to avoid any surprises.
It is important for all parties that they understand the impor-
tance of this communication and the rights of the underlying
client to recall their securities to vote.
There are several positions that can be taken and these are
driven by the owners of the assets made available for loan.
At all times it is the owner who determines what can and can-
not be done with their securities.
The beneficial owners of these assets include the following
types of organisations:
- Pension Funds
- Mutual Funds
- Insurance Companies
- Unit Trusts
- Charities and Religious Institutions
The Lenders’ Choices
The following positions are possible and there are securities
lending programmes constructed to cater for each of them:
Voting (and therefore recalling) securities at every opportuni-
ty, for example when the owner has a strong culture of voting
and does not wish to miss an opportunity to demonstrate its
position to the company.
This is quite a rare position to take and is often only made in
a subset of markets that are very important to the owner e.g. A
UK pension fund might wish to recall all UK securities to vote.
In his report, Paul Myners accepted that investors might
have legitimate economic reasons for not recalling all securi-
ties to vote.
Voting (and therefore recalling) securities only when the
vote is deemed important enough, for example when a
takeover is being considered.
This is a more commonplace position and enables the
owners to enjoy higher securities lending revenues whilst
voting when they feel it is warranted. It is important to note
that the beneficial owner determines when it is important to
vote, not their agents or borrowers. Here again the owners
might focus upon their local market where their corporate
governance aspirations are understandably higher than they
might be overseas.
Not voting securities at all
There are still organisations that choose, for their own rea-
sons, not to vote. This is their decision although increasing
pressure in the UK from the government and others with
Open loans may be terminated
by the borrower returning
securities or by the lender
recalling them
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regulatory responsibility may well encourage greater voting
over time. However, should they change their mind and
make an exception, they would have the capability to notify
their agent or borrower and recall the securities in the nor-
mal way.
Maintaining a buffer of at least one share in all holdings
To ensure that the beneficial owner or asset manager
receives direct advice regarding voting (and all other corpo-
rate actions) the retention of at least one share in their
account is advisable. This has the advantage of ensuring the
efficient and direct flow of information whilst retaining opti-
mal lending returns. It is typical for there to be some reten-
tion or “buffer” of securities to be made in a lending pro-
gramme and this level could be as low as one share or could
be expressed as a percentage of the value of the holding.
Market Practice
Currently the majority of lenders of securities do not recall
securities for voting except for the more contentious votes.
This choice is theirs to make and should they wish to alter
this position they are free to do so.
Typically a lender of securities would let their counterparts
know their position regarding corporate governance and
propensity to vote before joining a lending programme.
Lending agents have strong operational procedures in
place to ensure recalls are made where appropriate.
Putting Disenfranchisement in Context
So there is a material amount of borrowing in this blue chip
index that peaks over dividend dates. What impact does this
pattern have upon voting turnout and thereby upon corpo-
rate governance?
It is difficult to say in specific terms without going into
detailed examples and space prohibits us from doing so
here.
However, the following conclusions easily emerge from the
research.
The scale of securities lending does not typically exceed the
voluntary disenfranchisement one sees at typical AGMs.
In other words more investors choose not to vote (for
whatever reason) than choose to lend (and not recall).
Suggestions
So what should be done to alleviate the perceived problem?
Here are some suggestions that are currently being consid-
ered and that will make a difference if implemented:
- Transparency
All stakeholders, not just securities lending professionals,
for example fund managers and corporate governance pro-
fessionals, should understand the following:
- The established legal framework underpinning the
lending arrangement.
- Securities must be recalled to vote.
- The exact notice required to recall the shares to
vote - this may be different to normal market settlement
periods depending on the lending agent being used.
- Which securities are on loan.
- How to access loan and/or governance information.
- The potential effect of dividend record dates.
Some beneficial owners are already in receipt of detailed
reporting from their lending agents, although it is fair to say
that the frequency and distribution of this information
varies. Best practice is to provide daily reports securely on
the internet. This enables permissioned users throughout
the beneficial owners organisation to understand which
securities are on loan.
- Consistency
A clear policy is required so that the inherent conflict
between the securities lending income forgone and the
“value” of recalling to vote is addressed explicitly. This policy
should be carefully drafted and agreed by stakeholders. In
practice, accurately assessing the economic trade off is chal-
lenging – the opportunity cost of making a recall may be
known and is easier to assess than the benefit of making a
vote. Any policy should be flexible enough to take into
account a wide variety of security specific situations.
- Communication
It is imperative that all stakeholders have access to all nec-
essary information in time to make informed decisions. This
requires accurate communication of data throughout the
chain of organisations that are involved in lending, including
the stakeholders at the beneficial owners, all teams at their
providers and also the issuer. The efficient communication
of any recalls is a vital part of the process that is normally
well documented in the securities lending agreement.
Beneficial Owners should typically expect that securities on
loan will be returned upon the provision of standard settle-
ment period notice.
- Timing
Given the scale of lending activity around the dividend
record date it is constructive to maintain the separation of
the record date from the AGM.
However, the issuers should ensure that the necessary
documentation regarding the shareholders meeting are dis-
tributed prior to the record date so that the owners can
decide whether they would prefer to vote or make the securi-
ties available for loan.
Currently the majority of lenders
of securities do not recall
securities for voting except for
the more contentious votes.
This choice is theirs to make and
should they wish to alter this
position they are free to do so
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Furthermore, bringing the payment date closer to the AGM
would ensure that the dividend timetable is not unduly
lengthened. This would enable lenders that wish to
participate in profitable dividend related lending activity to
do so with less voting conflict.
It will also ensure that lenders are fully informed and can
vote when it matters to them. This change does not require
changes in company law and could be affected by the issuing
companies.
- Guidance
It is clear from the SLRC Code of Guidance and the Myners
reports on the subject of securities lending and voting that
the practice of borrowing shares specifically to vote is unac-
ceptable.
Many active participants in the securities lending business
already have the suggested measures outlined above in
place. That should be a source of comfort to those con-
cerned about the activity.
Lending is only part of the picture
The evidence suggests that lending is not one of the pri-
mary reasons why voting turnout is low.
The value of a vote is determined by the owner of that
vote – if they do not value it they may choose not to exer-
cise their right, irrespective of their willingness to lend.
As the law currently stands in the UK, borrowing securi-
ties in order to build up a holding in a company with the
deliberate purpose of influencing a shareholder vote is not
illegal. However, based on recent headlines and the work
done by the International Corporate Governance Network,
institutional lenders have recently become more aware of
this possibility, and tend not to see it as a legitimate use of
securities borrowing.
Since the demise of the borrowing purpose test, it is
technically possible for someone to borrow securities to
vote.
However, it has been made very clear that this is not
acceptable practice as the UK Annex to the Stock
Borrowing and Lending Code, SLRC, 11 May 2004 makes
clear.
Should this activity become an issue of concern in the
future, it would draw regulatory attention very quickly, with
the widespread support of the securities lending industry.
It is vital that beneficial owners are aware that when
shares are lent the right to vote is also transferred. The
SLRC Code of Guidance states that “agents should make it
clear to clients that voting rights are transferred.”
Going forward, a balance needs to be struck between vot-
ing securities and the benefits derived from lending securi-
ties. Quantifying these competing benefits is challenging.
The income derived from securities lending can be
explicitly measured but the value of a vote is perhaps less
tangible - particularly now that most securities carry a vote
and the majority of equity securities in publicly quoted
companies rank pari passu (i.e. there are fewer companies
that issue both voting and non voting shares that can be
compared with one another).
Beneficial owners need to ensure that any agents they
have made responsible for their voting and stock lending
act in a co-ordinated way. This may mean that portfolio
managers need to receive reports regarding securities on
loan so as to avoid any situation whereby votes that they
intend to make are not possible.
This should be straightforward as notification of a vote
taking place is given well in advance and securities can
easily be recalled if necessary.
Conclusion
Securities lending and the pursuit of good corporate gov-
ernance are not necessarily in conflict. Both activities can
and do co-exist happily within the investment manage-
ment mainstream.
Today, many of the foremost proponents of good corpo-
rate governance successfully combine an active voting
role with a successful securities lending role.
The information flow and communication necessary to
ensure that conflict is avoided is already in place but
could be developed further. Those that are concerned
about possible conflict need to openly discuss the issue
with their securities lending counterparts and corporate
governance colleagues.
There is no need for anyone to feel that securities lend-
ing will disenfranchise them. At all times it should be
remembered that the owner of the securities determines
whether securities are either lent or voted. SLMG
Mark Faulkner, Spitalfields Advisors
The previous section is an edited extract from 'An
Introduction to Securities Lending' and 'Securities Lending &
Corporate Governance' by Mark Faulkner, Spitalfields Advisors.
It has been prepared with Faulkner's permission. The original
publication of 'An Introduction to Securities Lending' was com-
missioned by the International Securities Lending Association,
the Association of Corporate Treasurers, the British Bankers
Association, the London Investment Banking Association, the
London Stock Exchange and the Securities Lending and Repo
Committeee. It was welcomed by the National Association of
Pension Funds and the Association of British Insurers. The
original publication of 'Securities Lending & Corporate
Governance' was commissioned by the International Securities
Lending Association and endorsed by the Association of
Corporate Treasurers, the British Bankers Association, the
London Stock Exchange, the National Association of Pension
Funds and the Securities Lending and Repo Committeee.
Since the demise of the
borrowing purpose test, it is
technically possible for someone
to borrow securities to vote
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What do people mean when they talk about transfer of title?
Contracts provide for ownership of lent securities to pass from
the lender to the borrower.
A moment's thought about one of the principal motivations
for borrowing and lending securities will make the necessity for
this clear.
Say the borrower needs to borrow securities to cover a short
position, i.e. to fulfil a contract it has entered into to sell on the
securities. The buyer is expecting the borrower to pass it own-
ership on settlement of that sale, as is normal in a sale. If the
borrower cannot do that, the borrower will not be able to fulfil
its contract with that purchaser. In order to enable it to fulfil its
contract, the borrower obtains title from the lender and then
passes it on to the purchaser, hence “transfer of title”.
What does this mean for the lender?
The lender needs to be aware that it will be transferring owner-
ship of the securities and of the various consequences that
flow from this.
First, any transfer taxes applicable to a purchase of
securities will be due unless an exemption applies. This will
typically be an issue for the borrower on the initial leg of the
transaction. But the lender should recognise that the return
leg of the transaction (when the borrower transfers securities
back to the lender) may also attract transfer taxes where they
are applicable.
Second, the transfer of the lent securities is in legal terms a
disposal of them, and the lender needs to establish whether
such a disposal will have any consequences. Again this is usu-
ally a tax question e.g. are there tax consequences for the
lender in disposing of the lent securities?
Third, and very importantly, the obligation of the borrower on
the return leg of the transaction is to transfer equivalent s
ecurities back to the lender, not the original securities. In a
securities lending transaction, the borrower is not “holding”
the securities in trust or in custody on behalf of the lender. The
borrower actually owns them, which is to say that the lender
has no right to securities that are in the hands of the borrower.
Given that the borrower will often have sold on the securities,
it is unlikely that the securities would be in the borrower's
hands).
Fourth, as the lender will cease to be the owner, it will no
longer be entitled to income from the securities, will not
receive notice or proceeds of corporate actions, and will lose all
voting rights in respect of the securities.
The standard documentation sets out contractual mecha-
nisms for putting the owner in a comparable economic posi-
tion in respect of income and corporate actions.
Voting rights are transferred and the lender must recall equiv-
alent securities from the borrower in order to vote.
Why is it called securities “lending” when there is
transfer of title?
Because commercially and economically people think of it as
lending. Reflecting this, for accounting and capital require-
ments it is usually treated as a loan.
Does it mean that the lender gets exactly the same
securities back?
No. The borrower’s obligation is to return “equivalent securi-
ties” i.e. from the same securities issue with the same
International Securities Identification Number (ISIN).
Often it will have sold the original lent securities and has to
borrow or purchase securities in the market to fulfil its obliga-
tion to the lender.
Does the lender have a pledge over the collateral?
No. Under standard market agreements and English law, there
is usually a transfer of title to the collateral. If the collateral is
cash, all that means is that there is a cash payment by the bor-
rower into the lender’s bank account. If the collateral is securi-
ties, there is a transfer of title of those securities to the lender.
Many of questions that arise for borrowers in relation to
collateral securities also arise for lenders in relation to lent
securities.
Why are there so many different agreements?
Historically the different tax treatment of securities lending in
different jurisdictions has driven the need for different agree-
ments (such as OSLA – the Overseas Securities Lenders'
Agreement, MEFISLA – the Master Equity and Fixed Income
Stock Lending Agreement, and so on). Following tax changes it
has generally become possible to use a single document and
the GMSLA – the Global Master Securities Lending Agreement,
consolidates the various historical documents.
If the securities lending is carried out under English Law, but a
custodian appoints a sub-custodian in another country, or
lends to an entity in another country which does not recognise
English Law, what happens when something goes wrong?
Simplifying a bit, there are three elements in the application of
law to a securities lending transaction. The first is the contrac-
tual law, the second are the home country laws applying to
each party, and the third is the law applying to the place where
the securities are held.
The contractual law is that which applies to the legal
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agreement between the parties, which sets out the contractual
terms relating to the lending transaction.
Most lending agreements are in practice subject to
English law, so that any disputes can be settled in the
courts of England.
Where a party incorporated in England proposes to conduct a
securities lending transaction with a party incorporated in
another country, the UK-incorporated party will need to check,
normally by obtaining a legal opinion, that the home country
law of the other party will allow the contract to be given effect
in accordance with its terms.
This opinion will normally focus in particular on the close out
and netting (set-off ) provisions of the legal agreement that
apply in the insolvency of either party (see section on netting in
Chapter 5). This together with the collateralisation and margin
arrangements should keep the risks in conducting such busi-
ness to acceptable levels.
As regards the law relating to where the securities are held,
securities borrowers need to be certain that they have good
title to the securities since there is a potential for conflicts of
laws or legal uncertainty in this respect.
The traditional rule for determining the validity of a disposi-
tion of securities is to look to the law of the place where the
securities are located [the “lex sitae” or “lex situs” principle].
This is, however, difficult to apply if securities are held
through a number of intermediaries. The generally preferred
approach now is to look to the location of the intermediary
maintaining the account into which the securities are credited
(the “PRIMA” principle).
The EU Collateral Directive as implemented in EU member
states applies the PRIMA principle, and there are plans to
extend it further through the so-called Hague Convention.
What happens if the lender has lent a stock over the
dividend period?
The “borrower” of stock makes good to the lender the dividend
amount that the lender would have received had it not lent the
stock in the first place. This amount is the gross dividend less
any withholding tax that the lender would
usually incur.
Does the lender still receive the dividend or coupon
payment?
No, the lender receives from the borrower a “manufactured”
dividend or coupon rather than the dividend or coupon itself.
Does the lender still receive the (manufactured) dividend or
coupon payment on the due date?
Yes, the lender’s account should be credited on the due date by
the borrower, even if the borrower has not actually received it.
What happens if the lender has loaned a stock over a scrip
dividend record date – does it get the relevant cash or stock
on the pay date?
The lender should tell the borrower in advance which it would
like to receive. Again the borrower must manufacture the cash
or stock for the lender even if it is receiving the other.
Who organises that?
It is between the borrower and the lender (or its designated
agent or custodian).
Why do lenders get higher loan rates if they take cash for a
scrip dividend?
Usually there is a financial incentive offered by a company to
shareholders that take scrip rather than cash. Therefore the
borrower can take scrip, sell it to give additional income
over the cash amount of the dividend, and may share this
with the lender.
What is collateral?
Financial instruments given by borrowers to lenders to protect
them against default over the term of the loan. Collateral secu-
rities are usually marked to market every day.
Borrowers are required to maintain collateral with a market
value at least equal to the market value of the loaned securities
plus some agreed margin “haircut”.
What is a haircut?
“Haircut” or margin is the extra collateral that a borrower pro-
vides in order to mitigate any adverse movements in the value
of the loan and value of collateral between the mark-to-market
date, and the value of liquidated collateral and repurchased
loan securities on the default date.
How often is the collateral valued?
Usually every day, as with the loaned securities, but it can be
more frequent in exceptional circumstances.
Is the collateral held in the lender’s name or its agent’s name?
It should be held in the lender’s name, but can be held by an
agent to the lender’s order if so desired.
(Source SPITALFIELDS ADVISORS) SLMG
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 67
SLMG 2007 pp50-69 10/9/07 5:07 pm Page 67
Investors have always been thrilled by hedge
funds’ returns and, to a certain extent, by the
regulators’ inability to implement a framework
for this market segment. Since institutional
investors and hedge funds of funds have
become major liquidity suppliers, funds and
service providers now require formal proce-
dures and supervision put in place. In addition,
the recent liquidity drain in consequence of the
sub-prime mortgage disaster will force counter-
parties to rethink procedures in hedge fund
related services (collateral management, securi-
ties financing, Basel II compliant operations,
prime brokerage and leveraged financing).
Therefore, it is a must to know the market’s
mechanics.
The market today
In the bear market between 2001 and 2003,
most of the media coverage on hedge funds
was positive. After the internet bubble burst, the
performance of hedge funds was impressive.
Their ability to generate stable returns in a high-
ly volatile market environment suggested that
their earnings were uncorrelated to equity mar-
kets. This unexpected performance led to a sig-
nificant number of new entrants into the market
using a wide range of strategies from risk arbi-
trage and distressed debt to global macro.
Today, experts believe the growth in innovative
hedge funds is ongoing. Nonetheless, the num-
ber is unlikely to rise significantly due to the exit
of smaller unsuccessful market participants and
funds that follow strategies which turn out to be
unfavourable in their risk/return profile.
In accordance with our training philosophy,
FinTuition believes there are six aspects to
today’s hedge fund industry worth knowing:
• the foundation of hedge funds and their
environment;
• the techniques hedge funds use to gen-
erate returns;
• the risks hedge funds encounter;
• the leveraged financing of their strate-
gies;
• the regulatory framework to which hedge
funds are subjected; and
• and the measuring of hedge funds’ per-
formances.
The importance of training
To sustain success in this competitive market,
you have to follow the manifold legal and strate-
gic changes and developments. Reading trade
journals, exchanging information with col-
leagues and attending conferences is one way of
staying abreast of the latest developments.
Another way is to attend courses and get inter-
active training.
FinTuition is a leading training company spe-
cialising in the securities finance and hedge
fund business. It is our objective to make an
opaque financial segment transparent by pro-
viding tailor made financial training for hedge
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and close the gap between theory and practice
effectively.
We would be delighted to see you on one of our
courses. If you are interested in registering for our
courses, please visit our website at
www.fintuition.com or call us on
+44 (0) 8452 303 065.
68 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
FinTuition - HEDGE FUND MARKET
Trends in
Hedge Funds
SLMG 2007 pp50-69 10/9/07 5:08 pm Page 68
Securities Finance & Hedge Fund Training - Public & In-House Courses
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SLMG 2007 pp50-69 10/9/07 5:08 pm Page 69
Accrued interest
Coupon interest that is earned
on a bond from the last coupon
date to the present date.
All-in dividend
The sum of the manufactured
dividend plus the fee to be paid
by the borrower to the lender,
expressed as a percentage of the
dividend on the stock on loan.
All-in price
The market price of a bond plus
accrued interest. Also known as
"dirty price".
Bearer securities
Securities that are not registered
to any particular party on the
books of the issuing company
and hence are payable to the
party that is in possession.
Beneficial owner
A party that is entitled to the
rights of ownership of property.
In the context of securities, the
term is usually used to distin-
guish this party from the regis-
tered holder (a nominee for
example) that holds the securi-
ties for the beneficial owner.
Buy-in
The practice whereby a lender of
securities enters the open market
to buy securities in order to
replace those that have not been
returned by a borrower. Strict
market practices govern the buy-
in process.
Carry
The difference between interest
return on securities held and
financing costs. See Negative
carry and Positive carry.
Negative carry: Net cost incurred
when financing cost exceeds
yield on securities that are being
financed.
Positive carry: Net gain earned
when financing cost is less than
yield on financed securities.
Cash trade
Where an outright purchase or
sale of securities is made for a
purpose other than financing.
Close-out (and) netting
An arrangement to settle all
existing obligations to and claims
on a counterpart falling under
that arrangement by one single
net payment, immediately upon
the occurrence of a defined event
of default.
Collateral
Securities or cash delivered by a
borrower to a lender to support a
loan of securities or cash.
Conduit borrower
A party that borrows a security in
order to on-deliver it to a client,
rather than borrowing it for its
own in-house needs.
Corporate event
An event in relation to a security
as a result of which the holder
will be or may become entitled to:
* a benefit (dividend, rights
issue etc.); or
* securities other than those
which he holds prior to that
event (takeover offer, scheme of
arrangement, conversion,
redemption etc). This type of cor-
porate event is also known as a
stock situation.
Coupon date
The date upon which the issuer
of an interest paying security
makes an interest payment to the
registered holder (as of the ex-
coupon date) of that security.
Coupons may be paid (in most
cases) annually, semi-annually or
quarterly.
Daylight exposure
The period in the day when one
party to a trade has a temporary
credit exposure to the other due
to one side of the trade having
settled before the other. It would
normally mean that the loan had
settled but the delivery of collat-
eral would settle at a later time,
although there would also be
exposure if settlement happened
in reverse order. The period
extends from the point of settle-
ment of the first side of the trade
to the time of settlement of the
other. It occurs because the two
sides of the trade are not linked
in many settlement systems or
settlement of loan and collateral
take place in different settlement
systems, possibly in different
time zones.
Days to cover
The number of days (in terms of
average daily outright
buying/selling turnover of the
security) that it would take to
cover the value on loan as of the
date reported.
Dividend date
The date upon which the issuer
of the share pays the dividend to
the owner (as at the ex-dividend
date) of the security.
Double counting
Financing transactions include a
proportion of trades executed by
intermediaries. These transac-
tions artificially inflate the overall
value on loan and are, therefore,
automatically removed prior to
publication of the data. In brief,
the process to exclude double
counting removes transaction
values where one participant is
seen to lend and borrow the
same security value from two
other participants on the same
day. The originating lender and
end borrower values are retained
to represent the true level of
value on loan.
ERISA
The Employee Retirement
Income Security Act, a U.S. law
governing private U.S. pension
plan activity, introduced in 1974
and amended in 1981 to permit
plans to lend securities in accor-
dance with specific guidelines.
Equivalent
A term denoting that the securi-
ties or collateral returned must
be of an identical type, nominal
value, description and amount to
those originally provided. If, dur-
ing the term of a loan, there is a
corporate action in relation to
loaned securities, the lender is
normally entitled to specify at
that time the form in which he
wishes to receive equivalent
securities or collateral on termi-
nation of the loan. The legal
agreement will also specify the
form in which equivalent securi-
ties or collateral are to be
returned in the case of other cor-
porate events.
Fail
The failure to deliver cash or col-
lateral in time for the settlement
of a transaction.
Free-of-payment delivery
Delivery of securities with no cor-
responding payment of funds.
General Collateral (GC)
Securities that are not "special"
in the market and may be used,
typically, simply to collateralise
cash borrowings. Also known as
"stock collateral".
Global Master Securities Lending
Agreement (GMSLA)
A market standard legal agree-
ment drafted with a view to com-
pliance with English law. An
English law opinion has been
obtained on the agreement.
Haircut
Initial margin on a repo transac-
tion. Generally expressed as a
percentage of the market price.
Hold in Custody (HIC) repo
Repo whereby the borrower of
cash segregates collateral in a
specific internal account for the
cash lender, rather than deliver-
ing out collateral.
Icing/putting stock on hold
The practice whereby a lender
holds securities at a borrower's
request in anticipation of that
borrower taking delivery.
Indemnity
A form of guarantee or insur-
ance, frequently offered by
Agents. Terms vary significantly
and the value of the indemnity
does also.
ISLA
The International Securities
Lenders Association, the trade
association for securities lenders.
ISMA
The International Securities
Market Association, an organisa-
tion of international securities
dealers, maintains offices in
Zurich. ISMA is an industry
group that sets standards of
business conduct in the global
securities markets, advises regu-
lators on market practices and
provides educational opportuni-
70 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Securities Lending GLOSSARY
Securities Lending A-Z
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 70
ties for industry participants.
LIBA
London Investment Banking
Association, the principal trade
association in the UK for firms
active in the investment banking
and securities industry. LIBA
members are generally borrowers
and intermediaries in the stock
lending market.
Manufactured dividends
When securities that have been
lent out pay a cash dividend, the
borrower of the securities is gen-
erally contractually obligated to
pass on the distribution to the
lender of the securities. This pay-
ment "pass-through" is known as
a manufactured dividend.
Margin, initial
Refers to the excess of cash over
securities or securities over cash
in a repo/reverse repo, sell/buy-
buy/sell, or securities lending
transaction. One party may
require an initial margin due to
the perceived credit risk of the
counterpart. No initial margin is
typically expected in fixed-income
transactions, but where it does
occur, it normally ranges from
1% to 3%.
Margin, variation
Once a repo or securities lending
transaction has settled. The vari-
ation margin on a repo or securi-
ties lending transaction refers to
the band within which the value
of the security used as collateral
may fluctuate before triggering a
margin call. Variation margin
may be expressed either in %age
or absolute currency terms. The
GMRA (See PSA/ISMA Global
Master Repurchase Agreement)
states that all legitimate requests
for variation margin must be
honoured.
Margin call
A request by one party in a trans-
action for the initial margin to be
reinstated or to restore the origi-
nal cash/securities ratio to parity.
Mark-to-market
The act of revaluing the securi-
ties collateral in a repo or securi-
ties lending transaction to cur-
rent market values. This maybe
done daily or at a suitable inter-
val agreed upon by the parties to
a transaction.
Matched/mismatched book
Refers to the interest rate arbi-
trage book that a repo trader may
run. By matching or mismatch-
ing maturities, rates, currencies,
or margins, the repo trader gen-
erates a P&L.
Moving average
A statistical measure that reports
the average of the previous stat-
ed number of day's data in pref-
erence to the actual value for that
day. This process can improve
trend recognition by smoothing
shorter-term fluctuations.
Negative carry
Net cost incurred when financing
cost exceeds yield on securities
that are being financed.
Net paying securities
Securities on which interest or
other distributions are paid net
of withholding taxes.
Open transactions
Trades done with no fixed maturi-
ty date.
Pair off
The netting of cash and securi-
ties in the settlement of two
trades in the same security for
the same value date. Pairing off
allows for settlement of net dif-
ferences.
Partialling
Market practice or a specific
agreement between counterparts
that allows a part-delivery against
an obligation to deliver securities.
Pay for hold
The practice of paying a fee to
the lender to hold securities for a
particular borrower until the bor-
rower is able to take delivery.
Positive carry
Net gain earned when financing
cost is less than yield on financed
securities.
Prime brokerage
A service offered by both Bank
and Non-Bank financial institu-
tions (e.g. Investment Banks and
Broker/Dealers) to support cus-
tomers' proprietary trading,
investment and hedging activi-
ties. Clients of this service are
frequently Hedge Funds, who are
often long on ideas, short on
capital and the necessary support
infrastructure. Prime Brokerage
may therefore include Clearing,
Custody and Reporting, but also
Securities Lending, Financing
and Execution.
Principal
A party to a loan transaction that
acts on its own behalf or substi-
tutes its own risk for that of its
client when trading.
Proprietary trading
Trading activity conducted by a
securities firm for its own account
rather than for its clients.
Rebate rate
The interest paid on the cash
side of a securities lending trans-
action. A rebate rate of interest
implies a fee for the loan.
Recall
Request by a lender for the return
of securities from a borrower.
Repo
A transaction whereby one party
sells securities to another party
and agrees to repurchase the
securities at a future date at a
fixed price.
Repricing
Occurs when the market value of
a security in a repo or securities
lending transaction changes and
the parties to the transaction
agree to adjust the amount of
securities or cash in a transaction
to the correct margin level.
Reverse repo
A transaction whereby one party
purchases securities from anoth-
er party and agrees to resell the
securities at a future date at a
fixed price.
Securities lending
The collateralised (usually) bor-
rowing and lending of Securities.
This business allows large
investors (for example, Pension
Funds, Insurance and Assurance
Companies and Investment
Funds of various types) to gener-
ate additional income from their
investments in securities by lend-
ing them. There is no formal
market structure, and no
compulsion to use any interme-
diary. Lenders and Borrowers can
thus configure their programs to
suit individual needs - using
either Agent or Principal
Intermediaries as required, or
going direct to the Proprietary
Borrowers, including Hedge
Funds. Securities are borrowed
to support hedging and
arbitrage transactions,
market making, as well as settle-
ment activities.
Short squeeze (bear squeeze)
Where one or more market partic-
ipants reduce liquidity by with-
holding securities that are "spe-
cial"/in high demand for any of
several reasons, are sought after
in the market by borrowers.
Holders of special securities will
be able to earn incremental
income on the securities by lend-
ing them out via repo, sell/buy, or
securities lending transactions.
Specials
Securities that for any of several
reasons are sought after in the
market by borrowers. Holders of
special securities will be able to
earn incremental income on the
securities by lending them out
via repo, sell/buy, or securities
lending transactions
Spot
Standard non-dollar repo settle-
ment two business days forward.
A money market convention.
Substitution
The ability of a lender of general
collateral to recall securities from
a borrower and replace them
with other securities of the same
value.
Term transactions
Trades with a fixed maturity date.
Third party lending
The system whereby an
institution lends directly to a
borrower and retains decision-
making power, while all
administration (settlement col-
lateral monitoring, and so on) is
handled by a third party, such as
a global custodian.
Triparty repo
Repo used for funding/invest-
ment purposes in which bonds
and cash are delivered by the
trading counterparts to an inde-
pendent custodian bank or clear-
ing house (the 'Triparty
Custodian") that is responsible
for ensuring the maintenance of
adequate collateral value, both at
the outset of a trade and over its
term. The Triparty Custodian
marks the collateral to market
daily and makes margin calls on
either counterpart, as required.
Triparty repo reduces the opera-
tional/systems barriers to partici-
pating in the repo markets.
Value
The value of loan securities or
collateral as determined using
the last (or latest available) sale
price on the principal exchange
where the instrument was traded
or, if not so traded, using the
most recent bid or offered prices.
© Spitalfields Advisors
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 71
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 71
72 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Service Provider PROFILES
Company Brief:
Fortis Global Securities Financing Group has
established itself as an important player within
the global securities financing arena.
We have a solid track record with the infrastruc-
ture to handle large and complex securities
financing transactions globally, whereby we com-
bine our equities and fixed income financing
capability in an integrated and tailor made, one
stop shop client service. We can furthermore cus-
tomise our client’s securities borrowing and lend-
ing programme to meet their specific require-
ments. Dedicated teams are working in offices
around the globe; the Netherlands, Belgium,
Cayman, Denmark, Germany, France,
Luxembourg, Italy, Spain, the United Kingdom,
Hong Kong, Singapore, Turkey and the United
States.
Fortis is known for its dedication and its proven
ability to develop new products, services and tech-
nology. As a result we now rank among the most
important principal players worldwide in the secu-
rities borrowing and lending market.
Structured transactions are an interesting alterna-
tive to traditional securities borrowing and lend-
ing. Fortis has a dedicated strategy and product
development team, enhancing securities financing
capabilities by structuring your specific needs.
Fortis is a solid, financially strong and internation-
ally oriented company with a stable credit rating
(AA-).
Bastian Cohen is global head of the Securities
Financing Group at Fortis’ Global Markets, part of
Merchant Banking
Key Services:
- Securities borrowing and lending
- Equity financing
- REPO, bond and collateral financing
- Equity swaps
Key Locations:
Amsterdam:
+ 31 20 527 1499
London:
+ 44 20 7444 8511
New York:
+ 1 212 418 6802
Paris:
+ 33 1 5567 9084
Hong Kong:
+ 852 2823 2188
Key Contacts:
Wouter van der Ploeg, Managing Director Sales
Securities Financing
Sander Baauw, Executive Director Sales Equity
Financing
Francois Nissen, Executive Director Sales Structured
Securities Financing
Manuel Postigo, Executive Director Sales Bond and
Collateral Financing
Bastian Cohen
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 72
Company Brief:
Société Générale Securities Services (SGSS) liq-
uidity management division offers several cash
and securities liquidity programmes through its
various teams. Our product range includes securi-
ties lending and borrowing services, middle and
back office securities lending in-sourcing and cash
collateral reinvestment services.
Our lending and borrowing programmes are
entirely customer driven and tailored to clients’
needs. Through our dedicated Global Customer
Service Unit, in charge of operational support, we
help set a fully customised monitoring and report-
ing for your lending activity. Our cash reinvest-
ment programmes are diversified yet remain fully
compliant within your guidelines.
Société Générale’s financial strength and commit-
ment to the securities services field make SGSS a
strong agent. Moreover, our safe and flexible tech-
nology will help make the most of your assets
with flexibility and dedication.
Guy d’Albrand, global head of Liquidity
Management, SGSS
Guy d’Albrand has been global head of Liquidity
Management since fall 2004. He began his career as
a futures broker and then spent several years as an
auditor at Société Générale. He joined Fimat to run
the Tokyo office and was then appointed executive
vice president of Société Générale Securities, North
Pacific. He then headed up the online brokerage
operations in Japan. In 2002, d’Albrand moved back
to head office to become global head of audit for the
Corporate and Investment Banking Division of the
bank.
He is a graduate of Ecole Superieure de Commerce
de Paris and holds a BA in Mathematics from Paris
IV University and a post-graduate degree in Japanese
language and civilization from Paris VII University.
Key Services:
- Securities lending and borrowing services
- Securities lending and borrowing middle
and back office in-sourcing services
- Excess Cash and Cash collateral reinvest-
ment services
- SG short term paper programs
Key Locations:
Paris:
Société Générale Securities Services
Liquidity Management
52, rue de la Victoire
75009 Paris
France
T: +33 (0) 1 53 05 48 42
F: +33 (0) 1 53 05 47 54
Key Contacts:
Europe:
Denis Tréboit
Head of Securities Lending Group
T: +33 (0) 1 53 05 48 42
[email protected]
www.sg-securities-services.com
Guy d’Albrand
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 73
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 73
74 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Service Provider PROFILES
Company Brief:
COMIT offers the financial industry a wide range of
consulting services, individual software develop-
ment and standard software solutions such as
FINACE. FINACE is the leading modular and fully
integrated solution in the area of securities lending,
repo and collateral management covering front to
back processes.
Felix Oegerli, member of the executive committee,
COMIT
Oegerli is member of the executive committee of
COMIT, a consulting, IT solutions and integration
partner of the finance industry. He was the founder
and CEO of IFBS, an IT application solutions and
consulting firm specialising in securities lending, repo
and collateral management. IFBS was recently sold
to COMIT. Prior to launching IFBS, Oegerli held a
number of business leadership roles at UBS in
Zurich, New York, and London for over 20 years in
different functions. Between 1990 and 1999, he was
responsible for the creation and expansion of the
Securities Lending, Repo and Prime Brokerage busi-
ness at UBS Zurich, was deputy global head of
Securities Lending and Repo, global head of Prime
Brokerage and head of global product management
Collateral Trading and Management. Oegerli holds
a degree as Swiss federal certified banking expert,
and is a frequent conference speaker and industry
expert on securities lending, repo and collateral trad-
ing and management.
Key Services:
FINACE is the leading modular and fully integrated
solution in the area of securities lending, repo and
collateral management covering front to back
processes.
Key Locations:
IFBS AG, Buckhauserstrasse 11
CH_8048 Zurich, Switzerland
Key Contacts:
Felix Oegerli, CEO, IFBS
T: +41 (0)44 218 14 14
F: +41 (0)44 218 14 18
E: [email protected]
W: www.ifbs.com
Felix Oegerli
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 74
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 75
Company Brief:
EquiLend is a leading provider of trade and post-
trade services for the securities finance industry.
Owned by a consortium of 11 of the largest global
financial services firms, EquiLend facilitates
straight through processing by using a common
standards-based protocol and infrastructure,
which automates formerly manual business
processes. Used by borrowers and lenders
throughout the world, the EquiLend platform
increases efficiency and enables access to addi-
tional liquidity. EquiLend's end to end solutions,
which reduce the risk of potential errors and
eliminate the need to maintain costly point to
point connections, include: Availability,
AutoBorrow, AutoBorrow Express, Negotiation,
EquiLend AuctionPort, Contract Comparison,
Mark-to-Market Comparison, Returns, Recalls,
Billing Comparison and Delivery, Dividend Claims
Comparison, and Agent Lender Disclosure (ALD).
Brian Lamb CEO, Equilend Holdings
As CEO, Brian Lamb is responsible for all global
operations for EquiLend, its affiliates and subsidiaries.
He brings 20 years of hands on experience and a deep
knowledge of the global securities finance industry
with an emphasis on technology solutions. Prior to
joining EquiLend, Lamb spent 17 years with Barclays
Global Investors (BGI). While at BGI, Lamb held var-
ious positions, including head of Global Derivatives
Services and Cash Strategist. Lamb spent many years
in securities finance while at BGI. His roles in that
area ranged from product manager for Fixed Income
Securities Lending, as well as program manager and
alternate board member of EquiLend. He is one of
the thought leaders among the initial ownership
group that helped design the EquiLend platform.
Lamb is a graduate of the University of Notre Dame,
and holds a BS in business administration with a con-
centration in finance.
Key Services:
EquiLend is a leading technology provider of
trade and post-trade services for the securities
finance industry. EquiLend facilitates straight
through processing by automating formerly man-
ual business processes. EquiLend's services sup-
port the full lifecycle of a trade. In doing so, the
EquiLend platform increases efficiency, mitigates
risk, allows for scalability, and cost containment.
The EquiLend platform also supports the execu-
tion of payment and delivery instructions, as well
as Agency Lender Disclosure (ALD), through the
DTCC.
Key Locations:
New York:
17 State Street, 9th Floor
New York NY 10004
T: +1 212 901 2200
London:
54 Lombard Street
London EC3P 3AH
+44 20 7743 9510
Key Contacts:
Brian Lamb
CEO
Michelle Lindenberger
Vice president, marketing and communications
E: [email protected]
Brian Lamb
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 75
76 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Service Provider PROFILES
Company Brief:
eSecLending is a global securities lending man-
ager and a leading provider and administrator of
customised securities lending programmes. Its
programmes attract some of the world’s largest
and most sophisticated asset gatherers, includ-
ing pension funds, mutual funds, investment
managers and insurance companies. The firm
awards principal securities lending business
through a competitive auction process that has
provided clients with higher returns compared to
traditional programme structures and improved
transparency and objective criteria upon which to
make decisions. The company has auctioned
over USD1.3 trillion to date. eSecLending main-
tains offices in Boston, London and Burlington,
Vermont. Securities Finance Trust Company, an
eSecLending company, performs all regulated
business activities.
Daniel Fowler, managing director and chief informa-
tion officer, eSecLending
Daniel Fowler’s primary responsibilities within
eSecLending are for systems and information tech-
nology and application. Prior to joining the firm in
2006, Fowler held several jobs that gave him broad
exposure to both technology and financial markets.
Most recently, he was employed by Brown Brothers
Harriman as vice president of Systems, Private
Account and Securities Lending. Prior to that, he
worked at Boston Global Advisors as vice president,
head of Technology. Fowler holds a BS in Computer
Science from the University of Massachusetts.
Key Services:
Securities lending management and administra-
tion
Cash collateral portfolio management
Key Locations:
Boston:
175 Federal Street, 11th Floor
Boston, MA 02110
United States
T: +1.617.204.4500
F: +1.617.204.4599
London:
1st Floor
10 King William Street
London EC4N 7TW
United Kingdom
T: +44 20 7469 6000
F: +44 20 7469 6099
Key Contacts:
Christopher Jaynes
T: +1.617.204.4500
F: +1.617.204.4599
[email protected]
Daniel Fowler
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 76
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 77
Company Brief:
4sight Financial Software is a leading supplier
of innovative software solutions to the securi-
ties finance, settlement and connectivity mar-
kets with offices and clients worldwide.
4sight Securities Finance is a flexible modular
solution that empowers financial institutions of
all sizes, from the smallest direct lender to the
global custodian, broker or intermediary on an
agency or principal basis. It supports borrow-
ing, lending, repo, swaps and collateral man-
agement across the equity and fixed-income
markets and provides 24 hour continuous oper-
ation, inter-desk trading, a ‘global book’, real-
time value dated position keeping and a power-
ful web reporting module, allowing full front to
back office processing.
4sight Securities Finance also integrates seam-
lessly with external systems and employs a data
model that enables quick and easy real time
access to your data, with the ability to import
and export data in any required format.
As a company 4sight delivers:
- Ground breaking securities lending software
at the cutting edge of technology
- Expert industry knowledge
- Outstanding responsiveness to our clients
- The reliability of a company that has worked
with some of the world’s largest financial insti-
tutions to deliver many successful projects
Visit www.4sight.com for further details
Alastair Chisholm, managing director, 4sight
Financial Software
Alastair Chisholm is managing director of 4sight
Financial Software. 4sight was formed in 2003
when he led an MBO of the Securities Finance
and Settlement business units from OM
Technology, where he was general manager.
Chisholm has been involved in software develop-
ment for the financial markets for the last 18 years
in a variety of roles, both with software houses and
financial organisations. Prior to joining OM in
1999, he was a director at TCAM Systems and
held senior positions with Accenture, NatWest
Markets and Wood Mackenzie.
Key Services:
The key features of our company and products
include:
- Highly configurable software solutions to
meet each client’s unique individual require-
ments.
- Quick and easy integration with third party
solutions.
- A professional implementation, ensuring a
minimum of disruption to business during sys-
tem changeover.
- Many years of expertise in our chosen fields.
- A strong focus on development and cus-
tomer service to ensure our products stay at the
forefront of market requirements, and our
clients continue to remain happy.
Key Locations:
4sight Financial Software Ltd
Conference House
152 Morrison Street
Edinburgh, EH3 8EB
United Kingdom
T: +44 (0) 131 557 5522
4sight Financial Software Ltd
11-29 Fashion Street
London, E1 6PX
United Kingdom
T: +44 (0) 207 043 8300
Key Contacts:
Judith McKelvey, global sales director
T: +44 (0) 207 043 8319
[email protected]
Jason Hayes, North American sales director
T: +1 416 548 7922
[email protected]
Peter Sanders, Asia Pacific general manager
T: +61 (0) 2 90378416
[email protected]
Alastair Chisholm
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 77
78 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Service Provider PROFILES
Company Brief:
JPMorgan's breadth of capability, financial
strength, professional expertise and seamless
operation make it a strong lending agent to its
clients. JPMorgan’s lending program enables
investors to access a broad spectrum of lending
markets, with a diverse borrower base while
achieving very competitive bids for their securi-
ties - all of this in an environment designed not
to compromise the activities of their fund man-
agers. As one of the founding members of
EquiLend, a global automated platform for bor-
rowers and lenders, JPMorgan is at the forefront
of technology and is ideally placed given its
integrated lending, custody and accounting plat-
forms. JPMorgan also affords clients a broad
indemnification against borrower default.
Sandie O’Connor, managing director and business
executive, Securities Lending and Execution
Products, JPMorgan Worldwide Securities Services
O’Connor is a managing director and global head
of the Securities Lending and Execution Products
(SLEP) business of JPMorgan Worldwide Securities
Services, an industry leader in custody and investor
services. O'Connor serves on the executive commit-
tee for Worldwide Securities Services.
In this role, O’Connor is responsible for domestic
and international securities lending, foreign
exchange, futures and options clearing and transi-
tion management. She directs overall strategy for
this product set including product development,
marketing, investment management and opera-
tions worldwide. She is also focused on positioning
the SLEP business for growth by delivering innova-
tive, market leading products, services and client
facing technology.
Key Services:
Discretionary (Agency) Securities Lending
Services
Directed Securities Lending Services
Third Party (non custody) Securities Lending
Principal Securities Lending Program (via
JPMorgan Securities Ltd)
Tri-Party collateral management and Escrow
services
Cash collateral reinvestment services
Key Locations:
New York:
T: +1-212-552-8075
London:
T: (44-20)7-742-0249
Sydney:
T: (61-2)9250 4606
Key Contacts:
Europe, Middle East, Africa
Paul Wilson, managing director, global head Client
Management and Sales
[email protected]
T: (+44-20)7-742-0249
Europe, Middle East, Africa
Michael Fox, head of Sales
[email protected]
T: (+44-20)7-742-0256
Western Hemisphere
William Smith, managing director, head of Sales
The Americas
T: +1-212-552-8075
Sandie O’Connor
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 78
SECURITIES LENDING MARKET GUIDE 2008 INVESTOR SERVICES JOURNAL 79
Company Brief:
RBC Dexia Investor Services offers proven
expertise in global custody, fund and pension
administration and shareholder services to
institutions around the world. Established in
January 2006, we are a joint venture equally
owned by Royal Bank of Canada and Dexia. We
rank among the world’s top 10 global custodi-
ans, with USD2.4 trillion in client assets under
administration.
RBC Dexia Investor Services offers clients a
complete range of investor services supported
by: a worldwide network of offices in 15 coun-
tries on four continents; unparalleled European
transfer agency capabilities; fund administration
services in 14 global markets; strong credit rat-
ings: Aa3 (Moody’s), AA- (S&P); more than 100
years of experience in institutional financial
services; products and technology that meet
clients’ present and future needs; top ratings for
client service in industry client satisfaction sur-
veys.
Our innovative products and services help
clients maximise operational efficiency, min-
imise risk and enhance portfolio returns. And
our more than 4,320 experienced and enthusias-
tic professionals in 15 markets offer proven
expertise to enhance clients’ business perform-
ance.
Mark Fieldhouse, head, Technical Sales, Americas,
RBC Dexia Investor Services
Mark Fieldhouse serves as head, Technical Sales,
Americas. His team is responsible for overall
growth and development of the Global Products
client base, as well as the product level manage-
ment of its strategic clients in North America.
Global products include securities lending, foreign
exchange, cash management and portfolio man-
agement services.
Key Services:
RBC Dexia Investor Services provides clients an
extensive range of solutions including: global
custody, fund and pension administration,
shareholder services, distribution support, rec-
onciliation services, transition management,
investment analytics, compliance monitoring
and reporting, securities lending and borrowing,
treasury services and commission recapture.
rbcdexia-is.com
Key Locations:
RBC Dexia Investor Services
71 Queen Victoria Street
London EC4 V4DE
United Kingdom
RBC Dexia Investor Services
77 King Street West, 35th Floor
Toronto, ON M5W 1P9
Canada
Key Contacts:
Tony Johnson
Global Head, Sales & Relationship Management
44 20 7653 4096/[email protected]
Mark Fieldhouse
Director, Technical Sales, North America
1 416 955 5525/[email protected]
Blair McPherson
Director, Technical Sales, Europe, Middle East &
Asia Pacific
44 20 7653 6365/[email protected]
Mark Fieldhouse
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 79
80 INVESTOR SERVICES JOURNAL SECURITIES LENDING MARKET GUIDE 2008
Service Provider PROFILES
Company Brief:
A global leader with nearly 200 years of experi-
ence, Brown Brothers Harriman (BBH) helps
many of the world's most sophisticated mutual
funds, investment managers, banks and insur-
ance companies achieve their international busi-
ness objectives. With approximately USD2 tril-
lion of assets in safekeeping, BBH provides spe-
cialist services and innovative solutions to
clients in over 90 markets for custody, account-
ing, administration, securities lending, foreign
exchange, and brokerage services. Combining
entrepreneurial thinking, innovative technology,
and unmatched client service, BBH is consis-
tently ranked among the world's top global cus-
todians and maintains a presence in each of the
principal financial centres around the globe.
BBH Global Securities Lending leverages these
resources to achieve customised solutions and
optimised returns for every client. Delivered
through award winning client service and inte-
grated technology, our product expertise with
respect to trading, risk management, and seam-
less product delivery, allows us to customise
each securities lending programme based upon
specific portfolio characteristics. This has
allowed us to create an attractive programme
for some of the world's most sophisticated
investors.
BBH stands alone as an organisation large
enough to compete with behemoth organisa-
tions, yet small enough to be innovative, flexi-
ble, and responsive at the individual client level.
We consistently develop creative solutions in
support of new initiatives and growth. We work
hard to earn our clients’ trust as a reliable, con-
sultative business partner who does not com-
pete; rather our interests are truly aligned. We
possess the experience, depth, and stability of a
major custodian bank, yet one with the agility
and nimbleness needed to offer clients a “total
solution” based on their current securities lend-
ing objectives. The BBH programme offers its
clients multiple routes to market, compelling
economics, full customisation, transparency,
comprehensive risk management, and award
winning relationship management.
For more info please visit www.bbh.com
Elizabeth Seidel, senior vice president, co-manager
of BBH Global Securities Lending
Elizabeth Seidel joined BBH in 1999 and was
recently appointed department co-manager for
Global Securities Lending. In her new role, Seidel
has management responsibility for Relationship
Management, Risk Management, Sales, and
Marketing groups.
Key Services:
* Award-winning custodial and third party
agency lending
* Auction/exclusive platform
* In-house cash collateral reinvestment
option
* Relationship excellence
* Critical market intelligence provided
through daily trading summaries, specials
list, newsletter
Key Locations:
London:
Brown Brothers Harriman Ltd
Veritas House
125 Finsbury Pavement
London EC2A 1PN
Boston:
Brown Brother Harriman & Co
40 Water Street
Boston, MA 02109
Key Contacts:
London:
Ciaran McNamee
T: +44 (0) 2076 142114
Boston:
Casey Gildea
T: +1 617 772 1492
Elizabeth Seidel
SLMG 2007 pp70-82 10/9/07 5:28 pm Page 80
Financial Markets Solutions
• Software with the flexibility to be tailored to your
unique business requirements
• Maximise efficiency through quick and seamless
integration with your existing systems
• Quick and easy real time access to your data,
with the ability to import and export in any
required format.
EDINBURGH • LONDON • TORONTO • SYDNEY
email: [email protected] www.4sight.com
Choose a flexible Securities Finance solution
that integrates seamlessly
Time to change?
4sight Securities Finance provides a full front
to back office system for lending, borrowing,
repo, swaps, and collateral management of
both Equities and Fixed Income Securities.
4sight Securities Finance is a proven solution
used globally by a wide range of financial
institutions, and can be used on an agency
or principal basis.
Project1 10/9/07 12:15 pm Page 3
Crowded Pool or Exclusive
Access? The choice is yours.
eSecLending takes an active
approach to securities lending by
managing customized programs
for institutional investors. Unlike
the traditional agency approach,
where many lenders’ portfolios
are grouped together and their
securities sit in a pool waiting to
be borrowed, eSecLending markets
each client’s portfolio individually
and awards lending rights to the
optimal bidders.
Our clients receive more lending
revenue compared to traditional
programs, because eSecLending
introduces objective competition
via an auction process.
eSecLending clients achieve all
this while maintaining conserva-
tive risk parameters, retaining
close control over their lending
programs and receiving superior,
customized client service.
eSecLending provides services only to institutional investors and other persons who
have professional investment experience. Neither the services offered by
eSecLending nor this advertisement are directed at persons not possessing such
experience. Securities Finance Trust Company, an eSecLending company, performs
all regulated business activities. Past performance is no guarantee of future results.
Our services may not be suitable for all lenders.
Crowded Pool or Exclusive Access?
or
United States +1.617.204.4500
Europe +44 (0) 207.469.6000
[email protected]
www.eseclending.com
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