Transparency clarified
24 March 2015
The collection and aggregation of securities finance transaction data will be a complicated business. Recommendations were put to the FSB in February
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The Financial Stability Board鈥檚 (FSB) overhaul of 鈥榮hadow banking鈥 includes two yet-to-be completed reforms of securities financing transactions. Chair Mark Carney said in a letter to G20 country finance ministers and central bank leaders in early February that the board plans to complete much of its work in this area by the end of 2015.
Carney鈥檚 comments came ahead of a 12 February deadline for feedback on the FSB鈥檚 November 2014-issued proposed standards and processes for global securities financing data collection and aggregation. The board received 21 responses that it made public at the end of the month.
While the feedback was generally supportive of the FSB鈥檚 proposals, there were concerns about the inclusion of certain fund types, regulators鈥 ability to manage data collection and aggregation, and reporting on collateral re-use.
In its response, European asset management firm Amundi expressed disappointment over reverse repos and securities lending being considered securities finance transactions under the FSB鈥檚 definition.
The asset management firm said it is 鈥渧ery sorry鈥 to see that reverse repos and securities lending are now called securities finance transactions, 鈥渁 wording that does not reflect the way they are conceived by asset managers鈥.
Only hedge funds should be included in the scope of any regulation of securities finance transactions, argued Amundi, because asset managers rarely use repos or borrow securities. A notable absentee from the list of respondents was anyone representing hedge funds. The Alternative Investment Management Association did not provide a response, although it is believed to be following the discussions closely.
In its response, Amundi went on to argue that UCITS funds should be entirely exempt, while alternative investment funds that use significant leverage 鈥渁re the only ones that can present any risk at a systemic level鈥.
Asset managers are closely regulated and supervised already, and so reporting should not be used as a means to 鈥渋ntroduce new regulation鈥.
鈥淸The FSB鈥檚 recommendations] should remain limited to its role of getting better information in order to ensure financial stability and track systemic risk.鈥
The Life Insurance Association of Japan, which represents all 42 life insurance companies operating in the country, was similarly reluctant for its members to be caught up in recommendations for data collection and aggregation that 鈥渁re being put forward against the background of concern about excessively leveraged transactions being conducted via repos and securities lending鈥.
The association argued: 鈥淭here is no concern about the insurers in Japan, for example, are sufficiently supervised and monitored by regulatory authorities with regards to liquidity risk management. Thus, we think that adopting uniform regulations is not appropriate.鈥
BVI, the German investment fund and asset management association, is worried that additional reporting of securities financing transactions will overburden its members. 鈥淗ighly regulated investment funds already have to adhere to the reporting obligations of securities financing transactions as required by the UCITS/Alternative Investment Fund Managers Directive and the national central bank.鈥
鈥淣ational regulators should use this information in the collection of data for securities financing transaction before requiring further reporting. We encourage the FSB to take into consideration these already existing reporting obligations when drafting the standards and processes for global data collection and aggregation in order to avoid any overlapping requirements. Furthermore, it could also be useful to harmonise trade reporting with existing European Market Infrastructure Regulation and Markets in Financial Instruments Directive transaction reporting obligations.鈥
This point is doubly apparent in Europe, where the European Commission is pressing ahead with plans to implement a regulation for securities finance transaction reporting, which commentators have suggested goes above and beyond what the FSB is proposing.
It鈥檚 the regulators who should be worrying
The International Capital Market Association鈥檚 European Repo Council expressed concerns about the workload facing regulators that have to collect data about the repo market in Europe. 鈥淲e question the manageability of the huge volume of transactional data that would be generated by the repo market alone. And even comprehensive data is no substitute for market expertise and skilled interpretation.鈥
Instead, the European Repo Council suggested that the FSB should consider collecting data directly from central counterparties (CCPs), electronic trading platforms and triparty agent repo systems. 鈥淚n the European market, these may account for perhaps over 80 percent of repo business,鈥 it explained in its response.
鈥淗uge economies of scale and timing advantages are therefore available. Such data also comes without double-counting and with greater consistency and accuracy. Moreover, for obvious confidentiality reasons, the identity of counterparties to CCP-cleared transactions (except those registered post-trade) is only possible with data from CCPs.鈥
In their joint response, the Risk Management Association (RMA), Pan Asian Securities Lending Association (PASLA) and the International Securities Lending Association (ISLA) said they want to see reporting of securities lending positions be at the same level that agent lenders routinely report their exposures to borrowers, under the agent lender disclosure (ALD).
ALD was adopted by agent lenders in Europe and North America as a mechanism of reporting to borrowers all securities lending exposures to underlying beneficial owners, explained the associations, and its adoption by the FSB makes sense because 鈥渢his type of reporting is already in use by much of the market and it would appear to capture a reasonable proportion of the requirements鈥.
The associations added: 鈥淭he mechanisms for reporting collateral need to be further considered as when investors receive collateral against their securities loans, they generally do so on a portfolio basis. This means that individual items of collateral cannot be tied to individual transactions or positions. However, the separate data elements for collateral suggested within the latest consultation should facilitate the appropriate alignment of loans and collateral on a portfolio basis.鈥
Agent lenders are in a good position to submit data to the appropriate local regulator, explained the associations.
鈥淭his is operationally more straightforward and less subject to error or double counting.鈥
鈥淚t simplifies the clarification of who is responsible to report transactions and to whom, where elements of the transaction itself may touch a number of jurisdictions (such as the jurisdiction of the underlying principal lender, borrower, issuer of the security being lent, issuer(s) of the collateral received, and of the vehicle in which any cash collateral is invested, etc). This structure would also avoid issues with proper matching, cleansing, and subsequent interpretation of data by the local regulator and by the FSB.鈥
鈥淐onversely, if each participant in a transaction is required to report the same trade, the supranational regulator will be required to match and eliminate duplicate trades as this task cannot be accomplished at the national level if the lender and borrower are in different jurisdictions. The use of a consistent identifier such as the legal entity identifier (LEI) would help reduce the potential of the multiple counting of trades.鈥
The use of LEIs was a common suggestion among the responses. Financial services company Markit, whose securities finance division鈥檚 dataset covers more than $15 trillion of global securities in the lending programmes of more than 20,000 institutional funds, said in its response: 鈥淲e believe that, in order to avoid the potential double counting of transactions and/or positions, the use of identifiers such as LEIs and consistency across jurisdictions will be required.鈥
The associations added: 鈥淲hilst we recognise that various regulators will potentially employ different methods of collection, we therefore think that it is vitally important that data standards, definitions and aggregation methodologies are applied consistently, otherwise it will be difficult to both reconcile and consolidate positions at the global level.鈥
鈥淭his should include distinction of data being submitted, ie, repo, securities lending, margin lending, as it is important to minimise data reporting overlap and facilitate
data cleansing.鈥
Collateral considerations
The issue of how data on collateral re-use or rehypothecation will be captured under the FSB鈥檚 plans was pondered by respondents, with the European Repo Council explaining: 鈥淐ollateral re-use will be difficult to capture given that securities are not issued in definitive form.鈥
鈥淗owever, given that the regulatory interest in re-use is assumed to derive from concerns over interconnectedness and potential contagion at a systemic level, the problem can be narrowed down to the largest global banks. In this case, periodic reporting of positions between such banks, broken down by types of collateral, should suffice. This data could be combined with existing large exposure regulatory reporting requirements.鈥
The RMA, PASLA and ISLA were keen to point at that, while re-use is not practiced by every participant, those that do employ highly complex collateral management practices, suggesting that reporting on it accurately might be difficult.
鈥淚t is important to recognise that any subsequent re-use or rehypothecation of collateral is typically driven by the aims and objectives of the receiving party and there is a clear distinction between institutional lenders and brokers or banks that may hold and think about collateral very differently.鈥
Jurisdictions in which non-cash collateral models have developed, such as those in Europe and Asia, allow for the full title transfer of collateral from the borrower to the lender, according to the associations. 鈥淭his allows for legal certainty, particularly where a lender may have to take control of the collateral in a bankruptcy situation.鈥
鈥淗owever, full title transfer of collateral also infers that the lender has full and unencumbered rights over that collateral, including the right to re-use it if they so desire. Notwithstanding this, market convention today is such that very little collateral received by institutional lenders is actively re-used with most being held within triparty collateral arrangements.鈥
鈥淲here banks using securities lending techniques receive collateral, it is normally held in a central pool and managed as part of the banks鈥 overall liquidity process. Consequently and unlike the institutional lending sector, collateral received here is likely to be re-used.鈥
鈥淟arge financial entities will have multiple sources and uses of securities, including from investment, securities market making and trading, asset and liability management, securities financing transactions and margining (eg, initial and variation margins).鈥
鈥淎s a result of all these sources and uses, securities will be flowing in and out, with multiple transactions in any given line of securities (ISIN) occurring on a daily basis,鈥 explained the associations.
Carney鈥檚 comments came ahead of a 12 February deadline for feedback on the FSB鈥檚 November 2014-issued proposed standards and processes for global securities financing data collection and aggregation. The board received 21 responses that it made public at the end of the month.
While the feedback was generally supportive of the FSB鈥檚 proposals, there were concerns about the inclusion of certain fund types, regulators鈥 ability to manage data collection and aggregation, and reporting on collateral re-use.
In its response, European asset management firm Amundi expressed disappointment over reverse repos and securities lending being considered securities finance transactions under the FSB鈥檚 definition.
The asset management firm said it is 鈥渧ery sorry鈥 to see that reverse repos and securities lending are now called securities finance transactions, 鈥渁 wording that does not reflect the way they are conceived by asset managers鈥.
Only hedge funds should be included in the scope of any regulation of securities finance transactions, argued Amundi, because asset managers rarely use repos or borrow securities. A notable absentee from the list of respondents was anyone representing hedge funds. The Alternative Investment Management Association did not provide a response, although it is believed to be following the discussions closely.
In its response, Amundi went on to argue that UCITS funds should be entirely exempt, while alternative investment funds that use significant leverage 鈥渁re the only ones that can present any risk at a systemic level鈥.
Asset managers are closely regulated and supervised already, and so reporting should not be used as a means to 鈥渋ntroduce new regulation鈥.
鈥淸The FSB鈥檚 recommendations] should remain limited to its role of getting better information in order to ensure financial stability and track systemic risk.鈥
The Life Insurance Association of Japan, which represents all 42 life insurance companies operating in the country, was similarly reluctant for its members to be caught up in recommendations for data collection and aggregation that 鈥渁re being put forward against the background of concern about excessively leveraged transactions being conducted via repos and securities lending鈥.
The association argued: 鈥淭here is no concern about the insurers in Japan, for example, are sufficiently supervised and monitored by regulatory authorities with regards to liquidity risk management. Thus, we think that adopting uniform regulations is not appropriate.鈥
BVI, the German investment fund and asset management association, is worried that additional reporting of securities financing transactions will overburden its members. 鈥淗ighly regulated investment funds already have to adhere to the reporting obligations of securities financing transactions as required by the UCITS/Alternative Investment Fund Managers Directive and the national central bank.鈥
鈥淣ational regulators should use this information in the collection of data for securities financing transaction before requiring further reporting. We encourage the FSB to take into consideration these already existing reporting obligations when drafting the standards and processes for global data collection and aggregation in order to avoid any overlapping requirements. Furthermore, it could also be useful to harmonise trade reporting with existing European Market Infrastructure Regulation and Markets in Financial Instruments Directive transaction reporting obligations.鈥
This point is doubly apparent in Europe, where the European Commission is pressing ahead with plans to implement a regulation for securities finance transaction reporting, which commentators have suggested goes above and beyond what the FSB is proposing.
It鈥檚 the regulators who should be worrying
The International Capital Market Association鈥檚 European Repo Council expressed concerns about the workload facing regulators that have to collect data about the repo market in Europe. 鈥淲e question the manageability of the huge volume of transactional data that would be generated by the repo market alone. And even comprehensive data is no substitute for market expertise and skilled interpretation.鈥
Instead, the European Repo Council suggested that the FSB should consider collecting data directly from central counterparties (CCPs), electronic trading platforms and triparty agent repo systems. 鈥淚n the European market, these may account for perhaps over 80 percent of repo business,鈥 it explained in its response.
鈥淗uge economies of scale and timing advantages are therefore available. Such data also comes without double-counting and with greater consistency and accuracy. Moreover, for obvious confidentiality reasons, the identity of counterparties to CCP-cleared transactions (except those registered post-trade) is only possible with data from CCPs.鈥
In their joint response, the Risk Management Association (RMA), Pan Asian Securities Lending Association (PASLA) and the International Securities Lending Association (ISLA) said they want to see reporting of securities lending positions be at the same level that agent lenders routinely report their exposures to borrowers, under the agent lender disclosure (ALD).
ALD was adopted by agent lenders in Europe and North America as a mechanism of reporting to borrowers all securities lending exposures to underlying beneficial owners, explained the associations, and its adoption by the FSB makes sense because 鈥渢his type of reporting is already in use by much of the market and it would appear to capture a reasonable proportion of the requirements鈥.
The associations added: 鈥淭he mechanisms for reporting collateral need to be further considered as when investors receive collateral against their securities loans, they generally do so on a portfolio basis. This means that individual items of collateral cannot be tied to individual transactions or positions. However, the separate data elements for collateral suggested within the latest consultation should facilitate the appropriate alignment of loans and collateral on a portfolio basis.鈥
Agent lenders are in a good position to submit data to the appropriate local regulator, explained the associations.
鈥淭his is operationally more straightforward and less subject to error or double counting.鈥
鈥淚t simplifies the clarification of who is responsible to report transactions and to whom, where elements of the transaction itself may touch a number of jurisdictions (such as the jurisdiction of the underlying principal lender, borrower, issuer of the security being lent, issuer(s) of the collateral received, and of the vehicle in which any cash collateral is invested, etc). This structure would also avoid issues with proper matching, cleansing, and subsequent interpretation of data by the local regulator and by the FSB.鈥
鈥淐onversely, if each participant in a transaction is required to report the same trade, the supranational regulator will be required to match and eliminate duplicate trades as this task cannot be accomplished at the national level if the lender and borrower are in different jurisdictions. The use of a consistent identifier such as the legal entity identifier (LEI) would help reduce the potential of the multiple counting of trades.鈥
The use of LEIs was a common suggestion among the responses. Financial services company Markit, whose securities finance division鈥檚 dataset covers more than $15 trillion of global securities in the lending programmes of more than 20,000 institutional funds, said in its response: 鈥淲e believe that, in order to avoid the potential double counting of transactions and/or positions, the use of identifiers such as LEIs and consistency across jurisdictions will be required.鈥
The associations added: 鈥淲hilst we recognise that various regulators will potentially employ different methods of collection, we therefore think that it is vitally important that data standards, definitions and aggregation methodologies are applied consistently, otherwise it will be difficult to both reconcile and consolidate positions at the global level.鈥
鈥淭his should include distinction of data being submitted, ie, repo, securities lending, margin lending, as it is important to minimise data reporting overlap and facilitate
data cleansing.鈥
Collateral considerations
The issue of how data on collateral re-use or rehypothecation will be captured under the FSB鈥檚 plans was pondered by respondents, with the European Repo Council explaining: 鈥淐ollateral re-use will be difficult to capture given that securities are not issued in definitive form.鈥
鈥淗owever, given that the regulatory interest in re-use is assumed to derive from concerns over interconnectedness and potential contagion at a systemic level, the problem can be narrowed down to the largest global banks. In this case, periodic reporting of positions between such banks, broken down by types of collateral, should suffice. This data could be combined with existing large exposure regulatory reporting requirements.鈥
The RMA, PASLA and ISLA were keen to point at that, while re-use is not practiced by every participant, those that do employ highly complex collateral management practices, suggesting that reporting on it accurately might be difficult.
鈥淚t is important to recognise that any subsequent re-use or rehypothecation of collateral is typically driven by the aims and objectives of the receiving party and there is a clear distinction between institutional lenders and brokers or banks that may hold and think about collateral very differently.鈥
Jurisdictions in which non-cash collateral models have developed, such as those in Europe and Asia, allow for the full title transfer of collateral from the borrower to the lender, according to the associations. 鈥淭his allows for legal certainty, particularly where a lender may have to take control of the collateral in a bankruptcy situation.鈥
鈥淗owever, full title transfer of collateral also infers that the lender has full and unencumbered rights over that collateral, including the right to re-use it if they so desire. Notwithstanding this, market convention today is such that very little collateral received by institutional lenders is actively re-used with most being held within triparty collateral arrangements.鈥
鈥淲here banks using securities lending techniques receive collateral, it is normally held in a central pool and managed as part of the banks鈥 overall liquidity process. Consequently and unlike the institutional lending sector, collateral received here is likely to be re-used.鈥
鈥淟arge financial entities will have multiple sources and uses of securities, including from investment, securities market making and trading, asset and liability management, securities financing transactions and margining (eg, initial and variation margins).鈥
鈥淎s a result of all these sources and uses, securities will be flowing in and out, with multiple transactions in any given line of securities (ISIN) occurring on a daily basis,鈥 explained the associations.
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