US crisis hits securities lending
29 July 2011 New York
Image: Shutterstock
The ongoing budget crisis in Washington is having serious effects on the securities lending market, and although a default is still considered unlikely, the fragile confidence of participants could be hit further in the event of a ratings downgrade.
Although few in the industry are prepared to publicly predict what will happen, the expectation amongst many appears to be that a default will be averted at the last minute but a downgrade is virtually inevitable.
Any downgrade will affect the collateral on account - US debt is one of the most common forms of collateral, but losing its AAA rating would technically make most of the collateral agreements in breach.
"We're seeing a lot of our clients looking for much shorter agreements at the moment," said one insider. "They don't want to have to stay in the market any longer than necessary."
Meanwhile the cost of UK debt, which is not under pressure at the moment, is now higher than that of the US, the first time in several years. General collateral repo rates have also become more expensive, while money market rates have fallen. Stock markets in both the US and internationally have seen heavy falls.
If US debt is downgraded, some industry insiders have speculated there will be a huge rush to find alternative collateral, pushing up the cost of borrowing. But, says one, more important is the issue of liquidity.
"We don't just accept AAA rated collateral, but a lot of our clients have specified that is all they will accept. So when the downgrade occurs, everyone is going to be dumping the same collateral and demanding new stuff. The issue is how long it will take - I think we should be able to reorganise in a week, but there will be a lot of nervous faces in that time.
Although few in the industry are prepared to publicly predict what will happen, the expectation amongst many appears to be that a default will be averted at the last minute but a downgrade is virtually inevitable.
Any downgrade will affect the collateral on account - US debt is one of the most common forms of collateral, but losing its AAA rating would technically make most of the collateral agreements in breach.
"We're seeing a lot of our clients looking for much shorter agreements at the moment," said one insider. "They don't want to have to stay in the market any longer than necessary."
Meanwhile the cost of UK debt, which is not under pressure at the moment, is now higher than that of the US, the first time in several years. General collateral repo rates have also become more expensive, while money market rates have fallen. Stock markets in both the US and internationally have seen heavy falls.
If US debt is downgraded, some industry insiders have speculated there will be a huge rush to find alternative collateral, pushing up the cost of borrowing. But, says one, more important is the issue of liquidity.
"We don't just accept AAA rated collateral, but a lot of our clients have specified that is all they will accept. So when the downgrade occurs, everyone is going to be dumping the same collateral and demanding new stuff. The issue is how long it will take - I think we should be able to reorganise in a week, but there will be a lot of nervous faces in that time.
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