The International Securities Lending Association (ISLA) has released a report analyzing the need for a central counterparty (CCP) in the securities lending market.
A major premise of the report was that a CCP would only work if the securities lending market preserved many of the key features of the current market model, which brings into question the need for a CCP in the securities lending market.
The driving factor for introducing a CCP into any market is to reduce counterparty risk, yet for lenders the securities lending industry is a relatively low risk market. The securities lending market is also a one way market, the flow moving from lenders to borrowers. This means the opportunities for netting, often cited as one of the major benefits of a CCP, are slim.
The report also points out that the securities lending market comprises of a variety of types of institution in many countries subject to different regulatory frameworks. It is clear that various regulators would have conflicting views over the demands a CCP would place on politically sensitive bodies such as pension funds.
ISLA also put forward a number of potential benefits from the introduction of a CCP. Reduced capital requirements, lower use of credit lines, a wider group of counterparties and the preemption of enforced regulation may all stem from the introduction of a securities lending CCP.
However the introduction of a CCP would only work if the CCP had a large and sophisticated back office in order to deal with collateral management, recalls, re-rates, corporate actions, collection of fees and dividend payments.
While the report lays out a number of high level guidelines for a CCP in the securities lending market, it not clear that ISLA sees any overall benefit from the introduction of a securities lending CCP.
The full report can be found here.