How have European revenue sources changed in the past 12 months?
When one looks at sources of revenue it is clear that general collateral has always played a significant role in revenue generation and the last 12 months is no exception. Seasonal spring demand for European equities continues to diminish both in terms of markets and appetite. The most consistent revenue stream year on year has come from lending European government debt on a term basis for longer than 30 days.
What effect is EU regulation having on the buy and sell side behaviour?
Buy side clients are in the thick of regulatory changes if they are European asset managers, UCITS or Insurance companies as there are a number of regulations which apply to their own activities and to us as agents such as MiFID II. Clients outside of the EU are somewhat immune from it but are interested in how regulation is changing the demand dynamics and whether this is leading to increased, decreased or stable revenue stream. A change to the risk profile requirements in Germany for example has led to an all but elimination of demand at certain times of the year. IHS Markit published a very interesting report recently comparing the first quarter of 2016 to 2017 and it’s a sobering read. All equity markets are producing less revenue than over the same period last year however, when the markets are in a bull run perhaps this is not of great concern.
The LCR is one regulation that has increased demand for HQLA and this continues to be a stable source of consistent revenue. The need to accept equity collateral is resonating with the buy side but it’s not a “slam dunk”. Internal policy, governance and risk and liquidity metrics have to be satisfied if clients are to introduce the obvious collateral swap nature of these transactions. Those that have are reaping the rewards. One of the more interesting developments to watch over the next 12 -18 months will be how regulation will start to shape the traditional lending models that the industry has come to know so well, the implications of which could increase market focus on the use of CCPs and pledge collateral structures. Over supply relative to borrower demand and the increasing balance sheet costs of this demand may result in lenders that are looking to maintain revenue streams with little choice than to consider these market developments more seriously than in previous years.
European beneficial owners are becoming aware of the revenue opportunities associated with scrip trades. What role should agent lenders be playing in making sure their clients maximise these options?
Proceed with caution. It is an agent’s fiduciary responsibility to act in the best interests of clients and for the best possible outcome. It is not however an agents role to offer investment advice, and in this current regulatory and conduct environment, one does not want an interpretation of an agent playing a role that is considered as offering advice. Investment managers make decisions and agent lenders work with the parameters given to them. Clearly there is an environment where both parties are made aware of mutual objectives that are simply a reflection of good relationship management. These transactions have definitely taken a greater role in all of the strategies employed by agents and those clients that automatically elect for cash are rewarded accordingly.
How has the transition to T2S affected the securities lending industry so far?
The shortening of the settlement cycle across Europe following the implementation of Target 2 Securities (T2S) has led many investment managers and equity brokers to put in place securities lending and borrowing programmes to assist with any settlement fail coverage they may need. Historically, utilising securities lending programmes to cover potential trade settlement fails was a key service offered to sell-side institutions by the large Prime Brokers, however, the cost of carrying large equity inventories on balance sheet by the Prime Brokers to service their clients in this way has dramatically increased under Basel III. As a result, many of these managers and brokers have turned to their custodian for solutions. As a provider of both agency and principal lending and borrowing programmes, BNP Paribas has been well positioned through its extensive custodial network to provide these services to its clients.
What should European beneficial owners be doing going forward to adapt their lending programmes to perform best in the next 12 months?
Engage, engage, and engage. No beneficial owner should be surprised by a sudden change in the revenue of its programmes if their agents are doing their job. The market is shedding its reactionary past, partly as a result of regulatory initiatives which is increasing the cost of business and partly out of necessity as it moves closer to accepting pledge collateral, preparing for SFTR and the higher likelihood of far greater CCP usage. All of these developments have a direct effect on beneficial owners, particularly in the case of SFTR which has costs associated with it. A clear understanding of how each or all of these could affect performance of a programme and more importantly how adjustments to parameters could potentially enhance revenue will be very important in the coming 12 months.