The EU’s Securities Finance Transactions Regulation (EU Regulation 2015/2365, or SFT-R) is now officially “live”, as of January 12, 2016. We spoke with European market participants over the last couple of weeks to get an initial take on their readiness to comply with the new requirements.
Vice Chairman Stanley Fischer
At the “Financial Stability: Policy Analysis and Data Needs” 2015 Financial Stability Conference sponsored by the Federal Reserve Bank of Cleveland and the Office of Financial Research, Washington, D.C.
December 3, 2015
In a strongly worded article, the Financial Times yesterday came out swinging against collateral transformations. This was a surprise attack against a practice that certainly carries some risk, but is far from the backhanded and devious business that the author implies. What’s going on here?
The topic of shadow banking has been in the press lately, driven by the Financial Stability Board’s recent annual Shadow Banking monitoring update. This update was nothing if not full of gas and big numbers, but at least they pulled out an important point: some Shadow Banking matters and some doesn’t, so let’s get to the heart of the matter and figure out what’s worth worrying about. Maybe the rest should just stay in banks where it belongs for effective risk management.
The FSB is publishing today:
- New ECB report covers banks as well as other financial intermediaries
- Banks, insurance companies and pension funds in largest euro area economies exposed primarily domestically
- Consolidation and rationalisation in the banking sector continued in 2014, and the median Tier 1 ratio increased to 14.4% from 13%
- Insurance companies and pension funds are starting to adjust structurally to low yield environment
- Shadow banking sector continues to grow mainly on account of an expanding investment fund sector
The European Central Bank has today published the Report on Financial Structures (RFS) 2015. The RFS succeeds the Banking Structures Report (BSR) and covers not only the banking sector, but also other financial intermediaries, such as insurance corporations and pension funds (ICPFs), as well as non-bank and non-insurance financial intermediaries.
* Capital buffers for shadow banks could fuel swings – Noyer
The Financial Stability Board (FSB) issued a press release outlining what they discussed at their Sept. 25th meeting in London. Leverage and liquidity is still on their mind. Securities lending is also a hot topic, and while the FSB has been writing about this for years, it seems like they are starting to focus more attention on wrapping up some longstanding business.
Chinese government authorities have created a multi-tiered plan to support sharply falling stock prices, including providing liquidity to the China Securities Finance Corporation (CSF). This entity provides margin and securities loans to brokers. By offering more capital to CSF, China hopes to stimulate demand for margin loans. At this point, more froth is needed and CSF will play a role. This article looks at CSF, what it is and how it works.
An article in the FT “US regulator gets tough on asset managers’ shadow banking” (May 24, 2015) by Chris Flood (sorry behind the pay wall) reminds us that regulators are still obsessed with connecting dots between shadow banking, securities financing, and asset managers.
Zoltan Pozsar’s recent paper on the macro view of Shadow Banking pointed out an important connection in financial markets – that the Bank of England is now the global backstop for liquidity in Eurodollar transactions. This is a massive change in the functioning and perception of offshore US dollar markets. Here are the details.
One of our favorite thinkers on Shadow Banking, Zoltan Pozsar, has released a new paper on the role of Shadow Banking in financial markets. His previous work focused on the microstructure and mapping of Shadow Banking – who does what and how they do it. This latest piece makes the case that Shadow Banking plays an important part in leveraged bond portfolios, which in turn could create new policy arguments for increasing market liquidity without increasing balance sheet utilization. We review his draft paper published on January 31, 2015.
We argue for better language to describe various functions in financial markets. There are banks and bank holding companies that offer a wide variety of credit intermediation and agency services. There are nonbanks including hedge funds and asset managers that provide liquidity and offer credit intermediation. Calling something Shadow Banking doesn’t work when we are talking about financial market activities since banks can perform supposedly Shadow Banking activities, and nonbanks like insurance companies and corporates issue funding obligations, like a bank, on a regular basis. The language doesn’t work. We propose here some straight-forward alternatives based on function, not form.
The Fed has published a staff report on the emergence of new banks that is sure to confound and distress some market participants. In the report, “Hybrid Intermediaries“, author Nicola Cetorelli argues that some of today’s nonbank intermediaries look very similar to earlier nonbank conglomerates that have become banks post-Lehman. BlackRock in securities lending is cited as an example. The subtext argument here is whether BlackRock and firms like it are SIFIs, should be forced to become bank holding companies, or receive some other form of bank-like regulation.
On October 30th the FSB released “Global Shadow Banking Monitoring Report 2014”, their annual examination of the world of shadow banking. Shadow banking is described as “non-bank credit intermediate with bank-like systemic risks…includ[ing] maturity transformation, liquidity transformation, imperfect risk transfer, and leverage…” We take a look at the report.
In October 2014, the International Monetary Fund (IMF) published its Global Financial Stability Report (“the Report”) entitled “Risk Taking, Liquidity, and Shadow Banking: Curbing Excess while Promoting Growth”. The report asserts that global economic recovery is dependent upon “accommodative” monetary policy in advanced economies by way of shadow banking. At the same time, the Report cautions that prolonged accommodation may also encourage excessive financial risk.
The October 2014 Global Financial Stability Report (GFSR) finds that six years after the start of the crisis, the global economic recovery continues to rely heavily on accommodative monetary policies in advanced economies. Monetary accommodation remains critical in supporting the economy by encouraging economic risk taking in the form of increased real spending by households and greater willingness to invest and hire by businesses. However, prolonged monetary ease may also encourage excessive financial risk taking.
Interesting news and articles from the last week that we haven’t gotten a chance to talk about elsewhere, including MiFID and liquidity, a suggestion that Moody’s has preferenced ratings of bonds held by its corporate owners, and securities lending CCPs. Read on.
Sheila Blair, former head of the FDIC and now head of the private, nonpartisan Systemic Risk Council wrote an article in the July 24th Wall Street Journal “The Federal Reserve’s Risky Reverse Repurchase Scheme”. She has joined a group of regulators and former regulators who have some hesitation about the Fed’s RRP program.
We’ve seen several recent news articles and commentary on Shadow Banking, from The Economist’s special report to news on China’s CITIC. Below are the most interesting articles we’ve seen lately.
An article published in December 2013 by the Centre for Economic Policy Research “The roots of shadow banking” by Enrico Perotti of the University of Amsterdam, ECB and CEPR grabbed our attention. The author blames repo for the bad lending in the mortgage markets during the financial crisis.
IMN held its 20th beneficial owners in securities lending last week in Austin, TX. Finadium chaired the conference and was represented in both individual talks and a panel. Here’s a synopsis of what we heard and what we said.
Reading the news this morning we were struck by how far Shadow Banking has spread into the popular financial lexicon. We point out five recent observations from the spot-on to the dubious.
Following the initial reactions of regulators to protect market stability and dial down risk, we are seeing several points suggesting that the tide is turning: maintaining market liquidity is being looked at more kindly than in the last few years. In particular, we note European suggestions that securitization is really alright and that even Shadow Banking might not be so bad after all.
The Federal Reserve’s Daniel Tarullo give a speech last Friday called “Shadow Banking and Risk Regulation,” in which he laid out a few new ideas for regulating securities finance transactions (SFTs) including repo and securities lending. Most of the speech was old news for those of us who follow shadow banking but some of the new ideas warrant closer investigation.
It’s not the big bang, but there are a number of important points in the new FSB publication, “Strengthening Oversight and Regulation of Shadow Banking: Policy Framework for Addressing Shadow Banking Risks in Securities Lending and Repos,” that market practitioners should note.
We’ve collected some spot data on the size of the Shadow Banking market today, in light of regulators starting to ease up on regulations reducing credit and maturity transformation trades. Here’s what we’ve got:
After years of careful investigation into the dangers of shadow banking, some regulators appear to be concluding now that the benefits of liquidity provided by credit and maturity transformation may outweigh the inherent risks.
While we are new to China’s banking system and its policies, we do know a thing or two about Shadow Banking. That’s why recent articles tying China’s credit boom to Shadow Banking activities have us paying attention. Here’s what recent reports are saying about the matter.
We’ve been thinking lately about hedge fund dynamics, the “other side of the fence,” if you will. Finadium’s next two research reports are surveys of hedge funds on prime brokers, leverage, repo and prime custody, the first of which will be out next week. Today we read an interesting piece from Citi about where new hedge fund growth will come from.
A speech over the weekend by Federal Reserve Vice Chair Janet Yellen gave a concise status of the Fed’s thinking on shadow banking. We review the main elements and provide some supporting evidence for future regulatory actions.
An article in Bloomberg BusinessWeek, “EU Weighs Curbs on Banks’ Use of Client Assets as Collateral” by Jim Brunsden last week, discussed a move that could have some serious ramifications for repo.
The Wall Street Journal published an article on May 22nd, “The Fed Squeezes the Shadow-Banking System”, written by Andy Kessler. Much of it was about repo. While we appreciate the attempt to talk up repo by linking it to the real economy, we think some of the technical points were off in important ways. Here’s our commentary:
One theme of the Finadium conference this year was that securities finance is now meeting the world. This idea extends to how regulators view securities lending and repo. A regulatory understanding of these markets is critical not only for regulators to achieve their goals, but also to connect regulatory objectives with impacts for the real world. We think that the dangers of disconnect in some parts of the world is at a real high; the sooner that regulators understand the role that securities finance plays in financial markets and real economies, the better the results of their policy making for banks and real economies.
ESMA published last week their first Trends, Risk, Vulnerabilities report of the year. The report is worth reading for its data points and a view into the thinking of this important European regulator. We take a look at what ESMA had to say about Shadow Banking and collateral, particularly the prospects of upcoming collateral shortages.
In a speech today before the Committee on Banking, Housing, and Urban Affairs of the U.S. Senate, Federal Reserve Governor Daniel Tarullo will outline key priorities for the Federal Reserve in 2013 including work on Basel III, Dodd-Frank 165 and Shadow Banking. Excerpts from the speech are below.
Reading the public responses to the Financial Stability Board’s Shadow Banking consultation paper provides an important view into the thinking of major banks and international organizations on Shadow Banking. Below are a selection of quotes we found compelling.
William Dudley, the President of the New York Fed, just gave a speech at the New York Bankers Association 2013 Annual Meeting. His focus was on wholesale funding and these days, that means tri-party repo and money market funds. This post takes a look at what he had to say on tri-party repo. It was an important speech.
From Securities Lending Times:
In a December 4 2012 research report, the IMF discussed their views on how to best regulate shadow banking. The paper, “Shadow Banking: Economics and Policy,” has some interesting points that we discuss below. The paper was written by Stijn Claessens, Zoltan Pozsar, Lev Ratnovski, and Manmohan Singh; as far as we can see, Pozsar and Singh are the IMF’s leading thinkers on all things collateral, stability and shadow banking. On a related note, Finadium has the honor of speaking at two events in January 2013 featuring Manmohan Singh.
An interesting speech last week from Marisa Lago, Assistant Secretary for International Markets and Development at the US Treasury, offers the US view on Shadow Banking activity in China. It also highlighted areas where the US Treasury is concerned about China’s financial market evolution. Excerpts from the speech follow, along with our commentary.
The FSA consultative document “Strengthening Oversight and Regulation of Shadow Banking, A Policy Framework for Addressing Shadow Banking Risks in Securities Lending and Repos” has a lot to chew on. This post will focus on the idea they floated on minimum repo haircuts.
The Financial Stability Board has released its next paper on possible steps for managing risk in the “Shadow Banking” world of securities lending and repo. Some of these recommendations are tame while others have very serious potential implications. We will be providing our analysis on several of these recommendations as the weeks go on. For today however, below are the recommendations themselves.
An article in Bloomberg on September 17, 2012 by Rebecca Christie and Jim Brunsden entitled “ECB to Set Up Repo Database as EU Moves to Rein in Shadow Banks “ is worth a quick read. We have some thoughts on the matter too.
From Bloomberg News:
A “Commentary” piece in the Telegraph by Lord Turner, Executive Chair of the FSA, was published on September 8, 2012. While a lot of it is hashing what we already know, there are some hints of how the British regulators will go after shadow banking and in particular securities financing.
On Monday, August 27th the FRBNY Liberty Street Economics blog posted a story entitled “Interest on Excess Reserves and Cash “Parked” at the Fed”. Written by Gaetano Antinolfi and Todd Keister, it basically says that lowering Interest on Excess Reserves (IOER), not unlike what the ECB did recently, won’t really make a difference. Well, in our humble opinion, yes and no.