The amount of capital that banking organisations will have to set aside to cover exposures in the stock lending market could increase significantly, said a report on the issue.
Promontory Financial Group, a regulatory consulting firm, has waded into the debate between regulators and the banking industry over what levels of capital banks should hold in future to guard against another financial crisis.
The firm prepared a whitepaper that summarises the statutory capital rules affecting agent lenders and prime brokers engaged in the stock lending business at the request of SL-x, an electronic trading marketplace for stock lending transactions.
The capital rules discussed include the proposals issued in July this year by the Federal Reserve and other US banking supervisors.
The Federal Reserve’s vice chair, Janet Yellen, said at an international monetary conference that stock lending markets have potential to “create sizeable macroprudential risks”.
Promontory’s report said that the amount of capital that banking organisations will have to set aside to cover exposures in the stock lending market will generally increase, “in some cases significantly”; and stock loan transactions cleared by a qualified central counterparty (QCCP) will receive favourable capital treatment relative to those transactions that are bilaterally settled.
It also noted that one of the factors driving up capital requirements is the likely elimination of certain current practices, specifically the netting of internal transactions by prime brokers and the special treatment of agent lender guarantees as permitted under various regulatory interpretive letters.
More broadly, the report points out that rule-makers have significantly reduced the scope of banks to use internal VaR models to calculate the exposures against which capital requirements are calculated.
In addition, as reflected by the Dodd-Frank Law’s mandate to centrally clear swaps, Promontory states that regulators have identified central clearing as one of the few remaining vehicles for the significant reduction of capital charges.
A case study in the white paper shows the capital savings arising from central clearing to be in excess of 95 percent.
