Published On: Sun, Oct 13th, 2013

How many separate pools of collateral do you oversee?

Barnaby Nelson Head of Client Development, Asia BNP Paribas Securities Service

Barnaby Nelson Head of Client Development, Asia BNP Paribas Securities Service

Everyone has complained about liquidity or collateral this year. It has become an increasingly accepted cliché to say that we all face major liquidity challenges and that they are becoming more acute every day.

But are all brokers powerless to fix this? Are you absolutely sure that you couldn’t be doing more to reduce the amount of collateral that you keep tied up or to make more use of it? Here are a few ideas on what more could be done.

Yes, collateral is a problem

In a world of multi-trillion-dollar collateral shortfalls, a recent survey on found that over 40% of brokers in Asia currently oversee “more collateral pools than they can count”, averaging more than five each. Traditionally, multiple and static collateral pools invariably lead to more collateral being tied up than should be necessary – meaning wasted assets. It can also mean a huge operational burden when it comes to tracking and funding multiple margin calls on a daily basis – meaning higher operating costs and risk. Either way, the management of collateral is obviously already a problem.

Yes, it is getting worse

In a recent survey by BNP Paribas Securities Services, 54% of brokers in Asia-Pacific have noticed an increase in the amount of collateral that they are being asked to keep year-on-year – during a year when trading volumes have only just begun to recover from previous lows. Of these same brokers, 58% expect collateral requirements across Asian markets to continue to grow in 2014, with 15% expecting a dramatic increase: driven by requests from trading counterparties, market infrastructures and clearing houses.

The challenge though is that it is getting harder and harder to address the problems that poor administration of collateral can cause – as the competition for scarce internal resources continues to grow. In 2013, Asian brokers spent 33% of their resources on regulatory change and 14% on cost reductions – leaving less than half their spend available for innovation, client service and transformational projects such as liquidity management.

So who to turn to?

Banks have always been the go-to partners for managing collateral and liquidity– and prime brokers have historically provided an excellent means of optimising brokers’ liquidity (as they have for fund managers) by rehypothecating assets and using their balance sheets. Unfortunately however, this model has demonstrated its limitations in the last few years as clients and investors focus more on asset safety and recovery risk – to the point that many see the risk/benefit equation as no longer being in Banks’ favour.

That is not to say though that brokers aren’t still looking for a solution. 54% of brokers have said that they see major liquidity benefits in outsourcing their risk (only 19% see no value at all) and so it is clear that the market is looking for a solution that can drive their business forward in a capital-scarce world.

Experience in the last few years shows that brokers can significantly restructure not only the amount of collateral that is asked of them but also the ways in which collateral is managed, simply by taking a new look at an old problem.

The main considerations in doing this are as follows:

1. Focus on Regulatory Capital (e.g. FRR in Hong Kong): Look for ways to outsource your settlement risks. By outsourcing their settlement obligations to a clearing Bank, brokers have been able to transfer their settlement risks and associated regulatory capital obligations for many years in markets such as London. With a robust and proven equivalent solution live in Hong Kong, this is a real option for any brokers in the Region today.

2. Keep your collateral in one place: By maintaining a single, comprehensive banking relationship you can reduce your collateral requirements by simply reducing overlapping requirements (e.g. FX versus clearing, etc.).

3. Keep your collateral safe: Make sure that you avoid any agreements that will endanger your (clients’) assets in a worst-case scenario. Today clients need assets to be recoverable in any scenario and they won’t accept anything less.

4. Make your collateral dynamic: Look for opportunities to monitor your collateral requirements in real time – in order to reduce the amount of static collateral that gets wasted every day.

Liquidity and collateral challenges are here to stay. Each of us needs to make sure that we react quickly and intelligently – by making the most of the options available in the Asian market today.

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