Only if it鈥檚 beneficial to the owner
16 June 2015
What should a beneficial owner consider before entering one of the emerging markets in Asia? Sunil Daswani of Northern Trust takes a look
Image: Shutterstock
Before expanding into new markets, Northern Trust carefully researches each new marketplace to understand the dynamics and identify securities lending opportunities.
The initial market review process looks at: overall market opportunities; settlement procedures, regulatory and tax implications; the number of lendable issues in our programme to be lent in the new market; demand for those specific assets within the market in question; the diversity of demand across our borrower base; and the overall current and anticipated future lending demand in that market.
With this mind, we turn to Asia to identify the opportunities in emerging markets there, and what needs to be done locally to attract foreign participants.
Taiwan
Taiwan is operationally complex, which puts some lenders off, although a survey at the Pan Asia Securities Lending Association/Risk Management Association Conference on Asian Securities Lending in March indicated that both supply and demand will increase throughout the latter part of this year.
Also in March, the Taiwan Stock Exchange expanded the collateral that foreign institutional investors can provide when borrowing securities. They can now provide collateral in euro, the Japanese yen, British pound, Australian dollar and Hong Kong dollar, on top of the US dollar.
In Taiwan, a beneficial owner must appoint a local broker as its direct securities borrowing and lending market participant. Also required is the appointment of a local tax agent, because lending fees are subject to Taiwanese income tax.
A lender must also pre-advise sales to ensure a loan recall is settled prior to instructing sales in the market, and ensure that it signs an addendum to its lending agreement covering all of these points. A letter of authorisation must be provided, permitting a local sub-custodian to facilitate lending.
Repeatedly failing to settle sales due to stock not being returned before the settlement date can result in suspension of the lender鈥檚 trading licence. This should be avoided by your lending agent having the necessary controls in place.
Malaysia
Malaysia鈥檚 securities borrowing and lending system is similar in structure to Taiwan鈥檚, with Bursa Malaysia running the central model through which negotiated transactions can be agreed between offshore participants and settled.
There is less demand in Malaysia than in other Asian markets, due to a lack of liquidity brought on by limited supply. Hedge funds have limited focus on Malaysia as a result.
Having said that, the list of securities eligible for short selling has been expanded in a bid to attract offshore participants and boost securities borrowing and lending business in Malaysia.
Lenders must practice caution over settlement failures and ensure the timely notification of sales, as penalties can be significant. This should be avoided by your lending agent having the necessary controls in place.
Like Taiwan, Malaysia expanded the list of eligible securities for borrowing and lending, as well as those that can be used as collateral for transactions, in January.
Some 30 new securities were added to the eligible list for borrowing and lending, while 18 were removed. With the updates, there are 239 eligible securities for borrowing and lending in the jurisdiction.
It is also worth noting that following the implementation of the Goods and Services Tax (GST) Act 2014, Bursa Malaysia amended its operational guidelines for lenders and borrowers, with the changes taking effect from 1 April.
The intermediary fee that borrower and lender representatives must pay has been set at 0.02 percent of the outstanding loan per annum, with a minimum of RM 100 ($27) payable, or 0.04 percent per annum, with a minimum of RM 200 ($53), on the borrowing representative only. The 6 percent GST is separate from this and must be paid on all fees, on every third business day of the month by 10am.
Indonesia, China and India
The KPEI (Indonesian Clearing and Guarantee Corporation) is working on the country鈥檚 securities borrowing and lending system, and more details on the final model are expected to be released at some point this year, likely soon. The KPEI appears to favour a bilateral model similar to that of South Korea.
On what the securities borrowing and lending system could look like in the future, the KPEI says its main aim is to support settlement management and facilitate margin trading and securities financing. To this end, it has worked to enable custodian banks to participate, and is pushing for more clearing members, investors and financial institutions to join and benefit from the facility.
In China, meanwhile, the Shanghai Stock Exchange has confirmed plans to promote securities lending business in the country.
To boost securities lending business, the Shanghai Stock Exchange plans to encourage institutional investors to participate, including publicly-offered funds and asset managers. They will be allowed to take up securities lending from the date of their establishment.
Securities lenders and borrowers will also be allowed to negotiate rates and term length, in a bid to raise trading efficiency and meet demand for securities lending.
Short selling received a boost in China, with the number of stocks that can be sold short increased to 1,100. The short selling of certain Shanghai-listed A shares was also permitted through the Shanghai-Hong Kong Stock Connect programme at the beginning of March.
Some 414 securities could be sold short through Stock Connect from 2 March, including Industrial and Commercial Bank of China, KPC Pharmaceuticals and state media website People.cn. Naked short selling is prohibited for northbound trading under Stock Connect鈥檚 rules.
India has work to do if it is going to attract more foreign investors and their lending agents.
Authorised intermediaries can now enter into securities borrowing and lending agreements with clearing members in India, following market calls for the change. The Securities and Exchange Board (SEBI) of India confirmed in 2014 that the country鈥檚 framework had been modified to allow authorised intermediaries such as agent lenders and prime brokers to directly enter into agreements with clearing members for the purpose of facilitating borrowing and lending.
Under the updated rules, an agreement must specify rights, responsibilities and obligations, and include basic conditions for lending and borrowing. The agreement must also detail the 鈥渆xact role鈥� of authorised intermediaries and clearing members in relation to their clients.
Authorised intermediaries have to ensure that there will be no direct agreement between lender and borrower, despite market participants expressing a desire to move away from the country鈥檚 stock exchange settlement system to a bilateral format.
The move followed SEBI鈥檚 decision to create a unified and simplified regulatory framework for foreign portfolio investments. A new investor class, foreign portfolio investor (FPI), has been created, merging the three existing investor classes.
India鈥檚 National Stock Exchange introduced a rollover facility at the end of May to
boost participation.
Participants can now extend deals for up to three months. Before May, borrowers and lenders could only carry positions forward for a month.
The initial market review process looks at: overall market opportunities; settlement procedures, regulatory and tax implications; the number of lendable issues in our programme to be lent in the new market; demand for those specific assets within the market in question; the diversity of demand across our borrower base; and the overall current and anticipated future lending demand in that market.
With this mind, we turn to Asia to identify the opportunities in emerging markets there, and what needs to be done locally to attract foreign participants.
Taiwan
Taiwan is operationally complex, which puts some lenders off, although a survey at the Pan Asia Securities Lending Association/Risk Management Association Conference on Asian Securities Lending in March indicated that both supply and demand will increase throughout the latter part of this year.
Also in March, the Taiwan Stock Exchange expanded the collateral that foreign institutional investors can provide when borrowing securities. They can now provide collateral in euro, the Japanese yen, British pound, Australian dollar and Hong Kong dollar, on top of the US dollar.
In Taiwan, a beneficial owner must appoint a local broker as its direct securities borrowing and lending market participant. Also required is the appointment of a local tax agent, because lending fees are subject to Taiwanese income tax.
A lender must also pre-advise sales to ensure a loan recall is settled prior to instructing sales in the market, and ensure that it signs an addendum to its lending agreement covering all of these points. A letter of authorisation must be provided, permitting a local sub-custodian to facilitate lending.
Repeatedly failing to settle sales due to stock not being returned before the settlement date can result in suspension of the lender鈥檚 trading licence. This should be avoided by your lending agent having the necessary controls in place.
Malaysia
Malaysia鈥檚 securities borrowing and lending system is similar in structure to Taiwan鈥檚, with Bursa Malaysia running the central model through which negotiated transactions can be agreed between offshore participants and settled.
There is less demand in Malaysia than in other Asian markets, due to a lack of liquidity brought on by limited supply. Hedge funds have limited focus on Malaysia as a result.
Having said that, the list of securities eligible for short selling has been expanded in a bid to attract offshore participants and boost securities borrowing and lending business in Malaysia.
Lenders must practice caution over settlement failures and ensure the timely notification of sales, as penalties can be significant. This should be avoided by your lending agent having the necessary controls in place.
Like Taiwan, Malaysia expanded the list of eligible securities for borrowing and lending, as well as those that can be used as collateral for transactions, in January.
Some 30 new securities were added to the eligible list for borrowing and lending, while 18 were removed. With the updates, there are 239 eligible securities for borrowing and lending in the jurisdiction.
It is also worth noting that following the implementation of the Goods and Services Tax (GST) Act 2014, Bursa Malaysia amended its operational guidelines for lenders and borrowers, with the changes taking effect from 1 April.
The intermediary fee that borrower and lender representatives must pay has been set at 0.02 percent of the outstanding loan per annum, with a minimum of RM 100 ($27) payable, or 0.04 percent per annum, with a minimum of RM 200 ($53), on the borrowing representative only. The 6 percent GST is separate from this and must be paid on all fees, on every third business day of the month by 10am.
Indonesia, China and India
The KPEI (Indonesian Clearing and Guarantee Corporation) is working on the country鈥檚 securities borrowing and lending system, and more details on the final model are expected to be released at some point this year, likely soon. The KPEI appears to favour a bilateral model similar to that of South Korea.
On what the securities borrowing and lending system could look like in the future, the KPEI says its main aim is to support settlement management and facilitate margin trading and securities financing. To this end, it has worked to enable custodian banks to participate, and is pushing for more clearing members, investors and financial institutions to join and benefit from the facility.
In China, meanwhile, the Shanghai Stock Exchange has confirmed plans to promote securities lending business in the country.
To boost securities lending business, the Shanghai Stock Exchange plans to encourage institutional investors to participate, including publicly-offered funds and asset managers. They will be allowed to take up securities lending from the date of their establishment.
Securities lenders and borrowers will also be allowed to negotiate rates and term length, in a bid to raise trading efficiency and meet demand for securities lending.
Short selling received a boost in China, with the number of stocks that can be sold short increased to 1,100. The short selling of certain Shanghai-listed A shares was also permitted through the Shanghai-Hong Kong Stock Connect programme at the beginning of March.
Some 414 securities could be sold short through Stock Connect from 2 March, including Industrial and Commercial Bank of China, KPC Pharmaceuticals and state media website People.cn. Naked short selling is prohibited for northbound trading under Stock Connect鈥檚 rules.
India has work to do if it is going to attract more foreign investors and their lending agents.
Authorised intermediaries can now enter into securities borrowing and lending agreements with clearing members in India, following market calls for the change. The Securities and Exchange Board (SEBI) of India confirmed in 2014 that the country鈥檚 framework had been modified to allow authorised intermediaries such as agent lenders and prime brokers to directly enter into agreements with clearing members for the purpose of facilitating borrowing and lending.
Under the updated rules, an agreement must specify rights, responsibilities and obligations, and include basic conditions for lending and borrowing. The agreement must also detail the 鈥渆xact role鈥� of authorised intermediaries and clearing members in relation to their clients.
Authorised intermediaries have to ensure that there will be no direct agreement between lender and borrower, despite market participants expressing a desire to move away from the country鈥檚 stock exchange settlement system to a bilateral format.
The move followed SEBI鈥檚 decision to create a unified and simplified regulatory framework for foreign portfolio investments. A new investor class, foreign portfolio investor (FPI), has been created, merging the three existing investor classes.
India鈥檚 National Stock Exchange introduced a rollover facility at the end of May to
boost participation.
Participants can now extend deals for up to three months. Before May, borrowers and lenders could only carry positions forward for a month.
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