ESRB assesses risks in sizeable EU market
28 July 2016 Frankfurt
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The total outstanding value of EU securities on loan reached €501 billion at the end of 2015, the European Systemic Risk Board (ESRB) has reported.
This figure, comprised of government bonds (€304 billion), corporate bonds (€39 billion) and equities (€158 billion), was reported in the first EU Shadow Banking Monitor, an annual series looking at the growth in ‘shadow banking’ activities since the financial crisis of 2008.
Using IHS Markit Securities Finance data, the ESRB found that securities lending, long described as a shadow banking activity by regulators, largely utilised non-cash collateral in 2015, with equities volumes peaking during Q2 thanks to dividend arbitrage trading.
In terms of risks, the ESRB pinpointed agent lenders as a worry, due to their significant stake in the business, which was put at around €500 billion, including €304 billion in government bonds lending, “although no comprehensive regulatory or official sector data are currently available”.
The ESRB is also worried about the risks associated with cash collateral reinvestment and non-cash collateral reuse, because they “imply that overall credit provision to the financial system might be much greater than the headline estimates available through commercial databases”.
Despite a lack of data, the ESRB surmised that the “degree of interconnectedness is likely to be very high, given that investment fund and ICPF assets are often held in custody in financial institutions (custodian banks) that lend securities on behalf of their clients”.
“Agent lender data indicate that three-quarters of the securities available for lending were managed by the reporting entities on behalf of non-EU clients, suggesting significant cross-border linkages between EU and non-EU jurisdictions,” the ESRB added.
There is also a “potentially significant run risk” due to transactions being performed on an open maturity basis, which may “be exacerbated by the fact that most of the cash received against EU client assets is managed in comingled accounts rather than separate accounts”.
“Assets managed in comingled accounts create greater incentives for ‘runs’ by clients. Based on the limited data available, liquidity risks seem somewhat contained, as cash collateral reinvestment goes mostly into high-quality assets.”
This figure, comprised of government bonds (€304 billion), corporate bonds (€39 billion) and equities (€158 billion), was reported in the first EU Shadow Banking Monitor, an annual series looking at the growth in ‘shadow banking’ activities since the financial crisis of 2008.
Using IHS Markit Securities Finance data, the ESRB found that securities lending, long described as a shadow banking activity by regulators, largely utilised non-cash collateral in 2015, with equities volumes peaking during Q2 thanks to dividend arbitrage trading.
In terms of risks, the ESRB pinpointed agent lenders as a worry, due to their significant stake in the business, which was put at around €500 billion, including €304 billion in government bonds lending, “although no comprehensive regulatory or official sector data are currently available”.
The ESRB is also worried about the risks associated with cash collateral reinvestment and non-cash collateral reuse, because they “imply that overall credit provision to the financial system might be much greater than the headline estimates available through commercial databases”.
Despite a lack of data, the ESRB surmised that the “degree of interconnectedness is likely to be very high, given that investment fund and ICPF assets are often held in custody in financial institutions (custodian banks) that lend securities on behalf of their clients”.
“Agent lender data indicate that three-quarters of the securities available for lending were managed by the reporting entities on behalf of non-EU clients, suggesting significant cross-border linkages between EU and non-EU jurisdictions,” the ESRB added.
There is also a “potentially significant run risk” due to transactions being performed on an open maturity basis, which may “be exacerbated by the fact that most of the cash received against EU client assets is managed in comingled accounts rather than separate accounts”.
“Assets managed in comingled accounts create greater incentives for ‘runs’ by clients. Based on the limited data available, liquidity risks seem somewhat contained, as cash collateral reinvestment goes mostly into high-quality assets.”
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