Settlement efficiency remains point of concern for sec lending industry, says BoE's Pyzer
22 June 2023 Lisbon
Image: Shutterstock
Settlement rates remain a point of concern for the securities lending industry, delegates heard at ISLA’s 30th Annual Conference in Lisbon.
Jon Pyzer, senior adviser at the Bank of England, told the audience that failure rates for the return leg of a securities lending trade are often above 10 per cent and are sometimes close to 20 per cent in times of high trading volumes. “Settlement frameworks for securities lending trades are not functioning as they should be,” he observed.
To address this inefficiency, the Bank of England has established a working group to understand the causes of high settlement rates and to look for solutions. The group anticipates that advances in technology offer potential for significant improvements in straight-through processing (STP) rates across the securities finance transaction lifecycle from pre-trade to closure of the return leg.
However, for Pyzer, the challenge is broader than technology adoption and also lies in motivating firms to change their settlement culture as well as to upgrade their workflow.
Twenty years ago, he recalls a fierce commitment across counterparty firms to ensure that a trade did not fail. Subsequently, he suggests that this commitment has diminished and it is important to refocus on eliminating trade fails, particularly in advance of a future move to T+1 settlement in line with the US, Canada and India.
In planning for next-day settlement, an HM Treasury task force has been established to evaluate the case for T+1 and to scope out the requirements for this to be delivered. In earlier times, when securities were delivered physically from one settlement counterparty to another to complete transfer of ownership, there was a case for working with T+3 (or longer) settlement windows. Now that these transfers take place electronically, the case for settling on T+2 is substantially weaker.
These steps to drive improvements in settlement efficiency will be one element of the Bank’s forthcoming plans to review and update the Money Markets Code (MMC), planned for 2024.
The existing code has been in place since 2017 and was drafted by the market with the Bank of England standing as facilitator. The Code has four sections, with its overarching principles and ethics followed by chapters on unsecured financing markets, repo and securities lending markets.
As part of the MMC review, working groups have now started to review each of its existing chapters, updating its content and “keeping it fresh”.
The MMC is a voluntary code, Pyzer explains, with more than 200 firms on the register that have signed up to the Code. In case of a breach, the Bank has mechanisms to voice its disapproval and to advise that market participants should change their behaviour. The recent case of an EU bank borrowing stock to vote at a company AGM — when Mediobanca borrowed shares in the London market in Trieste-based insurer Generali — provides an example where the Securities Lending Committee made clear its disapproval in the minutes of its quarterly. meeting and the UK Money Markets Subcommittee wrote to all signatories to condemn this practice.
The Bank of England Securities Lending Committee was established in 2017 and is a sub-committee of the Bank’s Money Markets Committee, involving participants from across the market to discuss development activity, efficiency and stability in unsecured financing, repo and securities lending.
Membership is drawn from across the industry, embracing buy-side, sell-side and their relevant service intermediaries. Members join by invitation from the Bank.
In the discussion, which was moderated by ISLA’s head of legal services Tina Baker, Pyzer emphasised that the work of the Securities Lending Committee aligns with the central function of the Bank of England to ensure monetary and financial stability.
Pyzer highlighted the central role that the Bank had played in restoring financial stability in response to the UK gilts crisis that extended from late September into early October 2022, when he observes that the “gilts market was not in a stable format” and many LDI funds were facing large margin calls on the repo and derivatives positions.
“The Bank announced that we would buy the long end of the gilts market,” he says, making a commitment to buy up to £65 million in gilts holdings if required. “Our presence in the market was fundamental in breaking that ‘doom loop’ and to restoring stability,” he concludes. In practice, the BoE bought £19.3 million in gilts through its temporary asset purchase programme, well below the £65 million threshold that it had announced, and completed its unwind of this tranche of gilts holdings in January 2023.
Jon Pyzer, senior adviser at the Bank of England, told the audience that failure rates for the return leg of a securities lending trade are often above 10 per cent and are sometimes close to 20 per cent in times of high trading volumes. “Settlement frameworks for securities lending trades are not functioning as they should be,” he observed.
To address this inefficiency, the Bank of England has established a working group to understand the causes of high settlement rates and to look for solutions. The group anticipates that advances in technology offer potential for significant improvements in straight-through processing (STP) rates across the securities finance transaction lifecycle from pre-trade to closure of the return leg.
However, for Pyzer, the challenge is broader than technology adoption and also lies in motivating firms to change their settlement culture as well as to upgrade their workflow.
Twenty years ago, he recalls a fierce commitment across counterparty firms to ensure that a trade did not fail. Subsequently, he suggests that this commitment has diminished and it is important to refocus on eliminating trade fails, particularly in advance of a future move to T+1 settlement in line with the US, Canada and India.
In planning for next-day settlement, an HM Treasury task force has been established to evaluate the case for T+1 and to scope out the requirements for this to be delivered. In earlier times, when securities were delivered physically from one settlement counterparty to another to complete transfer of ownership, there was a case for working with T+3 (or longer) settlement windows. Now that these transfers take place electronically, the case for settling on T+2 is substantially weaker.
These steps to drive improvements in settlement efficiency will be one element of the Bank’s forthcoming plans to review and update the Money Markets Code (MMC), planned for 2024.
The existing code has been in place since 2017 and was drafted by the market with the Bank of England standing as facilitator. The Code has four sections, with its overarching principles and ethics followed by chapters on unsecured financing markets, repo and securities lending markets.
As part of the MMC review, working groups have now started to review each of its existing chapters, updating its content and “keeping it fresh”.
The MMC is a voluntary code, Pyzer explains, with more than 200 firms on the register that have signed up to the Code. In case of a breach, the Bank has mechanisms to voice its disapproval and to advise that market participants should change their behaviour. The recent case of an EU bank borrowing stock to vote at a company AGM — when Mediobanca borrowed shares in the London market in Trieste-based insurer Generali — provides an example where the Securities Lending Committee made clear its disapproval in the minutes of its quarterly. meeting and the UK Money Markets Subcommittee wrote to all signatories to condemn this practice.
The Bank of England Securities Lending Committee was established in 2017 and is a sub-committee of the Bank’s Money Markets Committee, involving participants from across the market to discuss development activity, efficiency and stability in unsecured financing, repo and securities lending.
Membership is drawn from across the industry, embracing buy-side, sell-side and their relevant service intermediaries. Members join by invitation from the Bank.
In the discussion, which was moderated by ISLA’s head of legal services Tina Baker, Pyzer emphasised that the work of the Securities Lending Committee aligns with the central function of the Bank of England to ensure monetary and financial stability.
Pyzer highlighted the central role that the Bank had played in restoring financial stability in response to the UK gilts crisis that extended from late September into early October 2022, when he observes that the “gilts market was not in a stable format” and many LDI funds were facing large margin calls on the repo and derivatives positions.
“The Bank announced that we would buy the long end of the gilts market,” he says, making a commitment to buy up to £65 million in gilts holdings if required. “Our presence in the market was fundamental in breaking that ‘doom loop’ and to restoring stability,” he concludes. In practice, the BoE bought £19.3 million in gilts through its temporary asset purchase programme, well below the £65 million threshold that it had announced, and completed its unwind of this tranche of gilts holdings in January 2023.
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