Securities or commodities lending or securities or commodities borrowing
European Union Electricity Market Glossary

 


 

 

 

Pursuant to Article 3(7) of the Regulation (EU) 2015/2365 of the European Parliament and of the Council of 25 November 2015 on transparency of securities financing transactions and of reuse and amending Regulation (EU) No 648/2012 (SFTR) 'securities or commodities lending' or 'securities or commodities borrowing' means a transaction by which a counterparty transfers securities or commodities subject to a commitment that the borrower will return equivalent securities or commodities on a future date or when requested to do so by the transferor, that transaction being considered as securities or commodities lending for the counterparty transferring the securities or commodities and being considered as securities or commodities borrowing for the counterparty to which they are transferred.

 

Securities lending transactions are conceptually similar to repos, where one counterparty borrows securities for a fee, against a collateral in the form of cash or non-cash (Report on securities financing transactions and leverage in the EU Report prepared under the mandate in Article 29(3) SFTR, 4 October 2016, ESMA/2016/1415, p. 12).

 

When cash collateral is provided by the borrower, it can be reinvested into other instruments.

 

In securities lending arrangements, haircuts apply to the collateral provided and not the securities borrowed.

 

Securities or commodities lending and securities or commodities borrowing transactions are subject to reporting requirements as laid down in Article 4(1) of the SFTR and in the secondary legislation.

 

For the reporting purposes of with respect to counterparties roles ESMA proposes to use the terms "collateral giver" and "collateral taker".

 

In the case of securities or commodities borrowing and securities or commodities lending, the counterparty that lends the securities or commodities, subject to a commitment that equivalent securities or commodities will be returned on a future date or on request, shall be identified as the collateral taker.


The other counterparty shall be identified as the collateral giver (Consultation Paper Draft RTS and ITS under SFTR and amendments to related EMIR RTS, 30 September 2016, ESMA/2016/1409, p. 44, 45).

 

As ESMA argues, the counterparty would always know whether it provides or receives the collateral.

 

 

 

As at the end of 2015 there were around EUR 3tn in EU securities available for lending, including EUR 1.5tn in equities, EUR 1tn in government bonds and EUR 0.5tn in corporate bonds.

 

The value of EU securities on loan amounted to EUR 500bn, two thirds of which were government bonds and the rest mainly equities and corporate bonds.

 

Other instruments such as asset-backed securities or exchange-traded funds are also sometimes borrowed, but this remains currently marginal.

 

EU securities lending markets are, therefore, smaller than repo markets.

 

Most EU securities on loan are collateralised with non-cash, especially in the case of EU government bonds, and to a lesser extent, equities.

 

Currently, there are no data available on the sector of the borrowing counterparties, or on the characteristics of the non-cash collateral received, although the feedback received from market participants suggests that a large share of transactions involve bank-to-non-bank exchanges, while the volume of non-bank to non-bank transactions is currently very small.

 

Public data collected by ESMA on SFTs for some of the largest EU investment funds show only banking sector counterparties, and a relatively high degree of concentration.

 

Securities lending arrangements may involve the use of tri-party agents, as in repo transactions.

 

However, a specificity of this market is the very high reliance on agent lenders, for around 75% of EU government bonds, and 90% of EU equities.

 

Agent lenders are typically large custodian banks or asset managers that lend the securities they hold in custody on behalf of beneficial owners.

 

Agent lenders reinvest cash collateral on behalf of their clients, but typically do not reuse non-cash collateral.

 

This set up brings together a much broader range of institutions in EU securities lending markets, compared for example to repo markets.

 

For example, institutional investors and banks own the largest shares of EU government bonds available for lending, with respectively EUR 275bn (44% of the total) and EUR 124bn (20%) available.

 

For EU equities, the vast majority available for lending is owned by investment funds, with EUR 719bn available (54% of the total), including EUR 206bn owned by UCITS specifically.

 

It is worth highlighting that public sector entities (central banks, governments, public sector enterprises and public pension plans) also contribute substantially to securities lending markets.

 

The structure of securities lending markets reflects the purpose that securities lending transactions serve.

 

Where repos were originally used by banks for financing purposes, securities are primarily lent by buy-side firms seeking to earn extra returns.

 

Market participants also borrow securities to cover short positions, avoid settlement fails and perform collateral transformation operations.

 

The feedback received from UCITS funds suggests that they mainly use SFTs to generate extra returns, rather than obtain financing.

 

Although there are no quantitative data to confirm this, according to market participants central clearing of securities lending and borrowing arrangements remains marginal.

 

This can be explained by different factors, including the structure of the market, where the same participants always sit on one side of the trade with thus limited interest in CCP multilateral netting, as well as existing incentives, with central clearing likely to reduce returns from securities lending activities.

 

Lastly, securities lending transactions tend to have long tenure, reflecting the fact that many transactions are open term (around 80% of the market).

 

Although term transactions have recently been growing in EU markets, they remain nonetheless less standard than fixed-maturity transactions in repo markets.

 

In summary, the main trends in securities lending markets are:
a. Use of (high-quality) government bonds and equities as collateral;


b. Predominant use of non-cash collateral, especially for government bond loans;
c. Large reliance on agent lenders;


d. Many bank to non-bank transactions;


e. No central clearing;
f. A growing share of term transactions.

 

Report on securities financing transactions and leverage in the EU Report prepared under the mandate in Article 29(3) SFTR, 4 October 2016, ESMA/2016/1415, p. 45 - 48

 

 

 


 

 

Links

 

 

Securities financing transaction (SFT)

 

 

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Last Updated on Wednesday, 16 November 2016 22:55
 

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