Rethinking Europe’s repo marketplace: the case for digitisation and defragmentation
05 March 2024
In this final contribution to a three-part series, Cyril Louchtchay de Fleurian examines a roadmap for growth and efficiency gains in European repo markets, including a case for the repositioning of GC Pooling and €GCplus solutions
Image: stock.adobe/Rossi0917
The first two parts of this article have examined the ecosystem supporting use of general collateral baskets in Europe and the potential case for repositioning GC Pooling and €GCplus.
The article identifies two fundamental issues that crystallise this challenge. The first concerns a decline in the velocity of collateral circulation. The second relates to the shift in bias on liquidity conditions, necessitating a change in the “temporality” of monetary operations. In simple terms, it is important to align the near-instantaneous ability that individuals and businesses have to manage cash in their bank accounts with the operations and risk management capabilities that banks possess in the market.
This involves developing the concept of intraday management. In other words, the same-day value date is no longer an impassable horizon but must be restructured around distinct intraday time slots, allowing for processing, settlement and delivery based on specific intraday time points.
The future is likely to involve a dilution of the same-day value date into a single and homogeneous temporal continuum. Thanks to their specific design — in terms of clearing, digital execution, back-office support allowing real-time valuation, substitution and margin calls — GC Pooling and €GCplus are inherently equipped to meet this major challenge.
Fusion and digitalisation
At this stage, achieving a positive solution to this challenge requires a profound reconsideration of the logic and role of the GC Pooling and €GCplus platforms. The harmonisation of these platforms undoubtedly offers an opportunity. The goal is to reinforce the neutral and agnostic nature of liquidity. The aim would be to break away from the logic of silos, reduce the fragmentation of security pools that penalise profitability and hinder the integration and competitiveness of the European market.
The instability of the money market, combined with a decline in bank intermediation in the repo market, creates a situation where liquidity pools are fluid and constantly relocating. For this reason, it seems valuable to promote a pan-European solution offering a single and harmonised access for all participants.
In the logic of a central banker, the objective could be more deliberate and there may also be a possibility of merging the €GCplus and GC-Pooling offerings. Far from being heresy, the technical characteristics of both offerings make such a convergence conceivable. This would send a strong economic and political signal, an additional vector of Franco-German convergence, offering the prospect of complementing and strengthening the Eurosystem Collateral Management System (ECMS) collateral management harmonisation framework.
This presents an opportunity to smooth out some of the disparities prevailing in Europe, notably fostering the integration of the Italian and Spanish silos. The fusion of platforms will provide standardised and unified access for all European participants, breaking down silos, reducing costs and enhancing transparency and international attractiveness as the European authorities have intended. This bold proposal ultimately aligns with the centralisation and simplification initiatives advocated by the ECB over the past 15 years (T2, T2S, ECMS).
In practice, this proposal is based on three main axes:
• A single and interoperable GC offering by triparty agents and clearing houses, a medium-term prelude to at least partial operational integration of market infrastructures. This is the path towards lower complexity for the user, standardisation and concentration of volumes and liquidity.
• Open access for banks and buy-side actors, based on the sponsoring model and guaranteed and indemnified repo, addressing both the increasing fragility of bank intermediation and the integration of new participants. It is worth noting that buy-side flows represent 50 per cent of repo volumes and are not cleared, triparty or electronic. This innovative model is a structuring, determining factor that will inherently increase the collateral turnover rate.
• A digital execution platform built around intraday cash and GC HQLA trading, aligning the reactivity of interbank trading with that of external retail clients. Blockchain and tokenisation technologies will enhance processing immediacy, maximising security, cost reduction and collateral turnover. Since 80 per cent of repo market flows have a maturity of less than a week, with over half being overnight, it seems pertinent to focus the model on its most natural slope, that is the very short term. The platform will support strong connectivity with the ecosystem (collateral management), favour regulatory compliance (risk management), collect and analyse pre- and post-trade data (reporting and benchmarking tools). A selection process among proposals from private actors will define the suitable model.
On balance, this triptych combines the best to maximise the efficiency of a unified European triparty cleared GC repo tool. For good reason, it is based on four strong market trends: the integration of buy-side players, the need for electronic execution, technological innovation through blockchain, and the centralisation of the offering in the hands of the ECB.
As indicated, this proposal will have the capacity to encourage the creation of baskets identified as "green HQLA", supported by incentive measures and pricing to foster their development as a first priority.
Moreover, this triptych forms the ideal framework for the development of neutral and independent European reference indices such as the Secured Overnight Financing Rate (SOFR) and secured EURIBOR index. This related aspect, focused on data management and transparency, could represent a crucial step forward to strengthen the credibility of the Eurosystem and deliver a better representation of the fundamentals of the secured cash market.
Conclusion
At this stage, we have formulated a number of proposals, but these are not exclusive. Let us acknowledge, nonetheless, that the peculiarities punctuating the lifecycle of repo transactions in Europe, far from fostering healthy competitiveness, instead fragment liquidity and create friction. The multiplication of intermediaries generates additional costs, high complexity, low transparency and ultimately hinders the actions of the central bank and the realisation of the Capital Markets Union.
If our analysis is relevant, then the context would be ideal for the ECB to take notice and push the European market frontier further. From this perspective, it is undeniable that the culture of domestic peculiarities in the repo processing chain cannot be ignored. Today, this represents much more than an anachronism, but rather a high risk that the central bank will correct sooner or later.
If we were to list the changes pushed by bank treasurers, it is obvious that the following subjects would be included, all of which have been addressed in this three-part article:
• Capacity to transfer collateral 24/7.
• Expansion of delivery time slots.
• Reduction of friction between cash and collateral to streamline transfers in both directions.
• Interoperability of systems.
• Optimisation of transparency and information sharing on collateral storage locations.
The underlying theme connecting these changes is that they all necessitate, to varying degrees, the integration of digital technologies for realisation. This marks the essential investment needed to shift from an environment that is in the process of freezing, and that crystallises systemic risks, to a new dynamic paradigm. This is precisely the proposition we advocate for GC Pooling and €GCplus.
The article identifies two fundamental issues that crystallise this challenge. The first concerns a decline in the velocity of collateral circulation. The second relates to the shift in bias on liquidity conditions, necessitating a change in the “temporality” of monetary operations. In simple terms, it is important to align the near-instantaneous ability that individuals and businesses have to manage cash in their bank accounts with the operations and risk management capabilities that banks possess in the market.
This involves developing the concept of intraday management. In other words, the same-day value date is no longer an impassable horizon but must be restructured around distinct intraday time slots, allowing for processing, settlement and delivery based on specific intraday time points.
The future is likely to involve a dilution of the same-day value date into a single and homogeneous temporal continuum. Thanks to their specific design — in terms of clearing, digital execution, back-office support allowing real-time valuation, substitution and margin calls — GC Pooling and €GCplus are inherently equipped to meet this major challenge.
Fusion and digitalisation
At this stage, achieving a positive solution to this challenge requires a profound reconsideration of the logic and role of the GC Pooling and €GCplus platforms. The harmonisation of these platforms undoubtedly offers an opportunity. The goal is to reinforce the neutral and agnostic nature of liquidity. The aim would be to break away from the logic of silos, reduce the fragmentation of security pools that penalise profitability and hinder the integration and competitiveness of the European market.
The instability of the money market, combined with a decline in bank intermediation in the repo market, creates a situation where liquidity pools are fluid and constantly relocating. For this reason, it seems valuable to promote a pan-European solution offering a single and harmonised access for all participants.
In the logic of a central banker, the objective could be more deliberate and there may also be a possibility of merging the €GCplus and GC-Pooling offerings. Far from being heresy, the technical characteristics of both offerings make such a convergence conceivable. This would send a strong economic and political signal, an additional vector of Franco-German convergence, offering the prospect of complementing and strengthening the Eurosystem Collateral Management System (ECMS) collateral management harmonisation framework.
This presents an opportunity to smooth out some of the disparities prevailing in Europe, notably fostering the integration of the Italian and Spanish silos. The fusion of platforms will provide standardised and unified access for all European participants, breaking down silos, reducing costs and enhancing transparency and international attractiveness as the European authorities have intended. This bold proposal ultimately aligns with the centralisation and simplification initiatives advocated by the ECB over the past 15 years (T2, T2S, ECMS).
In practice, this proposal is based on three main axes:
• A single and interoperable GC offering by triparty agents and clearing houses, a medium-term prelude to at least partial operational integration of market infrastructures. This is the path towards lower complexity for the user, standardisation and concentration of volumes and liquidity.
• Open access for banks and buy-side actors, based on the sponsoring model and guaranteed and indemnified repo, addressing both the increasing fragility of bank intermediation and the integration of new participants. It is worth noting that buy-side flows represent 50 per cent of repo volumes and are not cleared, triparty or electronic. This innovative model is a structuring, determining factor that will inherently increase the collateral turnover rate.
• A digital execution platform built around intraday cash and GC HQLA trading, aligning the reactivity of interbank trading with that of external retail clients. Blockchain and tokenisation technologies will enhance processing immediacy, maximising security, cost reduction and collateral turnover. Since 80 per cent of repo market flows have a maturity of less than a week, with over half being overnight, it seems pertinent to focus the model on its most natural slope, that is the very short term. The platform will support strong connectivity with the ecosystem (collateral management), favour regulatory compliance (risk management), collect and analyse pre- and post-trade data (reporting and benchmarking tools). A selection process among proposals from private actors will define the suitable model.
On balance, this triptych combines the best to maximise the efficiency of a unified European triparty cleared GC repo tool. For good reason, it is based on four strong market trends: the integration of buy-side players, the need for electronic execution, technological innovation through blockchain, and the centralisation of the offering in the hands of the ECB.
As indicated, this proposal will have the capacity to encourage the creation of baskets identified as "green HQLA", supported by incentive measures and pricing to foster their development as a first priority.
Moreover, this triptych forms the ideal framework for the development of neutral and independent European reference indices such as the Secured Overnight Financing Rate (SOFR) and secured EURIBOR index. This related aspect, focused on data management and transparency, could represent a crucial step forward to strengthen the credibility of the Eurosystem and deliver a better representation of the fundamentals of the secured cash market.
Conclusion
At this stage, we have formulated a number of proposals, but these are not exclusive. Let us acknowledge, nonetheless, that the peculiarities punctuating the lifecycle of repo transactions in Europe, far from fostering healthy competitiveness, instead fragment liquidity and create friction. The multiplication of intermediaries generates additional costs, high complexity, low transparency and ultimately hinders the actions of the central bank and the realisation of the Capital Markets Union.
If our analysis is relevant, then the context would be ideal for the ECB to take notice and push the European market frontier further. From this perspective, it is undeniable that the culture of domestic peculiarities in the repo processing chain cannot be ignored. Today, this represents much more than an anachronism, but rather a high risk that the central bank will correct sooner or later.
If we were to list the changes pushed by bank treasurers, it is obvious that the following subjects would be included, all of which have been addressed in this three-part article:
• Capacity to transfer collateral 24/7.
• Expansion of delivery time slots.
• Reduction of friction between cash and collateral to streamline transfers in both directions.
• Interoperability of systems.
• Optimisation of transparency and information sharing on collateral storage locations.
The underlying theme connecting these changes is that they all necessitate, to varying degrees, the integration of digital technologies for realisation. This marks the essential investment needed to shift from an environment that is in the process of freezing, and that crystallises systemic risks, to a new dynamic paradigm. This is precisely the proposition we advocate for GC Pooling and €GCplus.
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