All change, please, all change
30 October 2018
As delegates hit Amsterdam for the 12th Annual Collateral Management Conference, panellists discussed how to prepare for the future of collateral management and what could be learned from the past
Image: Shutterstock
Deliberations around initial margin trends and the popularity of outsourcing collateral processes were high on the agenda for this years’ 12th Annual Collateral Management Conference, as was Brexit and debate on the use of machine learning within collateral management.
On the first morning of the conference held in Amsterdam, a representative from LCH, discussed clearing’s reputation both within and beyond securities finance.
He said: “Most people think clearing is mandated and is not the greatest thing on Earth, but people have come to realise the benefits of clearing, especially given that today, globally, 70 to 80 percent of the world’s derivatives are now cleared.”
“People have come to realise the benefit, more now than compared to 25 years ago, and there are economic drivers around this”, he said, naming Brexit as the main economic driver currently.
The speaker clarified three initiatives that LCH is trying to implement in the run-up to the Brexit deadline and beyond.
Firstly, he said: “LCH is applying for authorisation as a third country central counterparty (CCP) under the European Market Infrastructure Regulation”, but he said the challenge there is, “as long as the UK is not a third country, we can’t really apply—the timeline is a challenge”.
The second point, he said, was a consideration of that timeline. He stated: “We want to make sure European members and clients benefit from, and have access to, global pools at LCH—to clear where they want to clear.”
“[LCH] is optimistic—regulators are recognising our challenge. The Bank of England has already granted temporary recognition to European CCPs for three years after Brexit.”
Thirdly, he remarked that not allowing Euro clients access to LCH or other UK CCPs, will lead to fragmentation of markets, which he warned, could result in “higher cost and risk to financial stability”.
In a separate panel, panellists discussed the impact Brexit could have on the collateral market.
One moderator asked: “As the March deadline of next year looms, Brexit still lies among a lot of negotiation, we don’t know what Brexit is going to look like, it could have any kind of impact on the market, but what about the collateral market?”
One panellist explained, from a counterparty perspective, that if a counterparty is located in the UK, you need to “repaper your documents towards a European entity to be able to move from one jurisdiction to another”.
But he added: “There is significant risk related to that especially if it is located in the UK, it could be quite a hostile environment after Brexit.”
An audience member also stated that this description of a hostile environment was also a concern when considering CCPs.
He said: “I work for a vendor, but Brexit could mean certain businesses having to initiate a CCP in mainland Europe and possibly a CCP in the UK, also”, which he indicated “means two quotes from brokers—meaning more complexity and more cost”.
But the panellist also said that the “impact could be overestimated at the moment. It could remain just political”.
“We’ll know by March, but firms should prepare for any outcome”.
Responding to a question on collateral outsourcing, more than half of the 50 delegates asked stated that they had not yet outsourced any part of their collateral process within their firm.
To this result, one panellist stated: “It would be interesting to see what percentage of those people who said ‘no’ are still doing business completely manually.”
Another panel, still on the topic of collateral, heard delegates discuss the investigation of disputes on collateral calls.
“We’re not exactly hiding away, but we aren’t doing enough to investigate disputes on collateral calls”, said one panellist, when asked what were his day to day challenges of collateral management.
The panellist, head of collateral management at a Nordic-based asset management firm, said that more collaboration was needed in these disputes.
He said that one particular problem was that collateral portfolios are not being aligned well enough.
The moderator also asked the panel how they calculated initial margin calls, to which the head of collateral said he used an external firm to enhance delivery, though he affirmed he did not receive calculations from all of them, as not all calculations were done in-house at his firm. However, he said: “We fully trust our outsource company to do so.”
When the conversation moved on to the consideration of certain security portfolios, one panellist said he used government bonds to a large extent, but indicated there is a question of how liquid these can be and indicated regulation is trying to enhance this. He stated that regardless of your firm’s level of compliance, “you should always have to ensure you are aware of who knows what—there needs to be clarity on ownership”.
The panel then gave their views on how important it was for their firm to keep vendor margin calculations in-house, and if they would consider using a third party.
One panellist said: “From a buy-side perspective, there’s no reason for keeping calculations in-house.”
“If we get rid of portfolio disputes, and have complete collateral efficiency, you shouldn’t have to look at your collateral on a daily basis.”
He added: “Looking further into the future, it could be developed as a cloud-type system—having one central cloud system could be extremely beneficial. If I have to provide extra information I will, it’s easy to talk to counterparties about it.”
Another panellist agreed that a central utility would greatly help, but he said he wouldn’t hold his breath waiting for that to happen, because “in some places, the industry still uses faxes” for collateral purposes.
In a panel looking to the future of collateral management, a speaker from a Swedish bank discussed collateral’s future potential impact on the stability of the global economy.
With a visual of the Mel Gibson film, Maverick, he indicated how collateral has been used in poker games for decades, even as far back as the Wild West.
He described that in the game of poker, collateral has also been needed as an insurance.
He stated it is an “important defaulter and should pay its mistake from the 2008 financial crisis”.
Historically, he said, whether by loan or contract, collateral was initially traded in physical forms, this moved in to ledgers, which was then followed by the introduction of the stock exchange in the 1920’s, before the Great Depression in 1929.
He continued: “Before the Financial Crisis of 2008, the collateral process was mainly in line with the market from spreadsheets to email.”
He went on to explain the current challenge of fragmentation and the collaboration he had seen for integration across the whole industry, to make the process fully automated.
He concluded: “Talking about the future is both an easy and difficult topic, you can’t be right or wrong.”
“But it is also difficult because you have to predict and plan for something you don’t know.”
Though he stated regulators should be able to move forward, making smart regulations, to meet responsible targets to counter risk to reach “that golden state”
On the first morning of the conference held in Amsterdam, a representative from LCH, discussed clearing’s reputation both within and beyond securities finance.
He said: “Most people think clearing is mandated and is not the greatest thing on Earth, but people have come to realise the benefits of clearing, especially given that today, globally, 70 to 80 percent of the world’s derivatives are now cleared.”
“People have come to realise the benefit, more now than compared to 25 years ago, and there are economic drivers around this”, he said, naming Brexit as the main economic driver currently.
The speaker clarified three initiatives that LCH is trying to implement in the run-up to the Brexit deadline and beyond.
Firstly, he said: “LCH is applying for authorisation as a third country central counterparty (CCP) under the European Market Infrastructure Regulation”, but he said the challenge there is, “as long as the UK is not a third country, we can’t really apply—the timeline is a challenge”.
The second point, he said, was a consideration of that timeline. He stated: “We want to make sure European members and clients benefit from, and have access to, global pools at LCH—to clear where they want to clear.”
“[LCH] is optimistic—regulators are recognising our challenge. The Bank of England has already granted temporary recognition to European CCPs for three years after Brexit.”
Thirdly, he remarked that not allowing Euro clients access to LCH or other UK CCPs, will lead to fragmentation of markets, which he warned, could result in “higher cost and risk to financial stability”.
In a separate panel, panellists discussed the impact Brexit could have on the collateral market.
One moderator asked: “As the March deadline of next year looms, Brexit still lies among a lot of negotiation, we don’t know what Brexit is going to look like, it could have any kind of impact on the market, but what about the collateral market?”
One panellist explained, from a counterparty perspective, that if a counterparty is located in the UK, you need to “repaper your documents towards a European entity to be able to move from one jurisdiction to another”.
But he added: “There is significant risk related to that especially if it is located in the UK, it could be quite a hostile environment after Brexit.”
An audience member also stated that this description of a hostile environment was also a concern when considering CCPs.
He said: “I work for a vendor, but Brexit could mean certain businesses having to initiate a CCP in mainland Europe and possibly a CCP in the UK, also”, which he indicated “means two quotes from brokers—meaning more complexity and more cost”.
But the panellist also said that the “impact could be overestimated at the moment. It could remain just political”.
“We’ll know by March, but firms should prepare for any outcome”.
Responding to a question on collateral outsourcing, more than half of the 50 delegates asked stated that they had not yet outsourced any part of their collateral process within their firm.
To this result, one panellist stated: “It would be interesting to see what percentage of those people who said ‘no’ are still doing business completely manually.”
Another panel, still on the topic of collateral, heard delegates discuss the investigation of disputes on collateral calls.
“We’re not exactly hiding away, but we aren’t doing enough to investigate disputes on collateral calls”, said one panellist, when asked what were his day to day challenges of collateral management.
The panellist, head of collateral management at a Nordic-based asset management firm, said that more collaboration was needed in these disputes.
He said that one particular problem was that collateral portfolios are not being aligned well enough.
The moderator also asked the panel how they calculated initial margin calls, to which the head of collateral said he used an external firm to enhance delivery, though he affirmed he did not receive calculations from all of them, as not all calculations were done in-house at his firm. However, he said: “We fully trust our outsource company to do so.”
When the conversation moved on to the consideration of certain security portfolios, one panellist said he used government bonds to a large extent, but indicated there is a question of how liquid these can be and indicated regulation is trying to enhance this. He stated that regardless of your firm’s level of compliance, “you should always have to ensure you are aware of who knows what—there needs to be clarity on ownership”.
The panel then gave their views on how important it was for their firm to keep vendor margin calculations in-house, and if they would consider using a third party.
One panellist said: “From a buy-side perspective, there’s no reason for keeping calculations in-house.”
“If we get rid of portfolio disputes, and have complete collateral efficiency, you shouldn’t have to look at your collateral on a daily basis.”
He added: “Looking further into the future, it could be developed as a cloud-type system—having one central cloud system could be extremely beneficial. If I have to provide extra information I will, it’s easy to talk to counterparties about it.”
Another panellist agreed that a central utility would greatly help, but he said he wouldn’t hold his breath waiting for that to happen, because “in some places, the industry still uses faxes” for collateral purposes.
In a panel looking to the future of collateral management, a speaker from a Swedish bank discussed collateral’s future potential impact on the stability of the global economy.
With a visual of the Mel Gibson film, Maverick, he indicated how collateral has been used in poker games for decades, even as far back as the Wild West.
He described that in the game of poker, collateral has also been needed as an insurance.
He stated it is an “important defaulter and should pay its mistake from the 2008 financial crisis”.
Historically, he said, whether by loan or contract, collateral was initially traded in physical forms, this moved in to ledgers, which was then followed by the introduction of the stock exchange in the 1920’s, before the Great Depression in 1929.
He continued: “Before the Financial Crisis of 2008, the collateral process was mainly in line with the market from spreadsheets to email.”
He went on to explain the current challenge of fragmentation and the collaboration he had seen for integration across the whole industry, to make the process fully automated.
He concluded: “Talking about the future is both an easy and difficult topic, you can’t be right or wrong.”
“But it is also difficult because you have to predict and plan for something you don’t know.”
Though he stated regulators should be able to move forward, making smart regulations, to meet responsible targets to counter risk to reach “that golden state”
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