Collateral Annual 2021 - Securities Lending Times
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Collateral Annual 2021
Accelerating Collateral Mobility
New Technology - New Efficiencies
Interoperability across custodians without moving securities
Transfer of ownership / pledge at precise times during the day
Reduction in intraday credit exposures
Reduction in intraday liquidity requirements
DLT technology records ownership of baskets of securities
www.hqla-x.com
Editor’s note
3
No margin for error
Microsoft founder Bill Gates speculates that the Looking ahead, Clearstream and HQLAᵡ detail how
COVID-19 pandemic has set the global economy new technologies, especially of the distributed ledger
back 25 years, to say nothing of the personal variety, also offer ways to significantly enhance
tragedies and losses of freedoms we’ve all endured. optimisation of assets and are becoming increasingly
attractive options.
But, for collateral management, the opposite may
be true. As the pages of this handbook will attest, Finally, this annual answers the question on
the unexpected disruption wrought by the disease everyone’s lips which is, what do Jaffa Cakes have
has provided a rude awakening to those lagging in in common with collateral management. Find out on
updating their collateral toolkits. page 16.
As FIS (page 20) suggests, the size of the collateral
movements in Q1 offered a useful preview of what Drew Nicol
will happen when the next wave of the Uncleared Editor
Margin Rules belatedly arrives in 2021.
Despite the delay, readers will not struggle to find a
collateral manager who, after being buffeted by the
volatility in February and March, is arguing that the
Publisher: Justin Lawson
time to invest in margin optimisation tools, enhanced Justinlawson@securitiesfinancetimes.com
straight-through processing capabilities and silo- +44 (0) 208 075 0929
busting technologies is now.
Editor: Drew Nicol
Drewnicol@securitiesfinancetimes.com
Echoing this point, CME (page 31) describes how
+44 (0) 208 075 0928
collateral managers like calm and certainty, but got
precious little of either for much of the year. It is further Reporter: Natalie Turner
noted that continued reliance on Excel to manage the Natalieturner@securitiesfinancetimes.com
greater volumes of margin adjustments that are predicted +44 (0) 208 075 0926
going forward is not the way to regain a Zen-like state.
Reporter: Maddie Saghir
According to Vermeg (page 50), the market should Maddiesaghir@blackknightmedialtd.com
aspire for a no-touch collateral management world. +44 (0) 208 075 0925
A central theme of this year’s collateral annual Office Manager: Chelsea Bowles
+44 (0) 208 075 0930
was encapsulated by J.P. Morgan (page 8) as the
unlocking of trapped assets by smashing internal Marketing Director: Steven Lafferty
silos and creating what Pirum (page 44) describes as Stevenlafferty@securitiesfinancetimes.com
enterprise-wide collateral management — a concept
it argues is more achievable than ever thanks to the Published by Black Knight Media Ltd
technological tools available today. Copyright © 2020 All rights reserved
www.securitiesfinancetimes.com
Inside this issue
08
Collateral Evolution
Five drivers of convergence
J.P. Morgan examines the drivers behind
collateral convergence and standardisation
Digital Age
Winning the fight against the crisis
As banking, funding and financing deals with the pandemic, Richard Glen and
12 Banu Apers outline how collateral management is evolving at Clearstream
Ultimate Question
Collateral management: Biscuit or cake?
Understanding the history of the popular snack can help us think about how to
16 design collateral management departments and systems
Looking Ahead
Collateral management in 2021
UMR’s delay until 2021 does not mean the problem has gone away. Now is the
20 time to focus on your collateral management processes, and FIS can help
Distributed Ledger
Collateral innovation with HQLAx
Nick Short breaks down the ways DLT will provide solutions to tomorrow’s
24 collateral management challenges once UMR is complete
Inside this issue
Collateral Damaged
Collateral in the era of global pandemic
CME’s Neil Murphy unpicks how the outbreak of COVID-19 caused a perfect
30 storm of disruption for collateral managers
UMR Waves
Initial margin: The final straight
BNP Paribas collateral gurus offer a look at the final phases of the Uncleared
36 Margin Rules and examine the road ahead for those affected
Clearing Safely
The role of CCPs in securities lending
OCC details how the it has gone above and beyond to ensure its members are
40 protected from defaults and extreme market volatility
Holistic Collateral
Centralised management is possible
Enterprise-wide collateral management: dream, nightmare or emerging reality. A
44 selection of the Pirum team was asked for their views on this important topic
Hands Free
No-touch collateral management world
Vermeg explains why firms should leverage technology to drive efficiency and
50 invest in a profit-making collateral IT infrastructure
Vendor Profiles
52 Profiles of our sponsors
SUPPORTING
ALL YOUR
COLLATERAL
NEEDS
EquiLend Spire is a best-in-class technology-driven hub leveraging EquiLend’s many
automated trading and post-trade services to optimize inventory management, cash
and non-cash collateral, trade distribution through electronic trading algos and trading
desk P&Ls. Users gain enhanced reporting, insight and control to better manage their
business.
EQUILEND COLLATERAL TRADING
EquiLend Collateral Trading is designed for funding or financing desks to effectively
trade collateral. The platform allows for a centralized way for clients to execute and
manage trade structures with their counterparties.
EQUILEND EXPOSURE
EquiLend Exposure offers clients real-time visibility and management of counterparty
intra- and end-of-day exposure, optimization of collateral usage and reduction of
unnecessary costs of settlement for borrows and loans.
NEW YORK BOSTON TORONTO LONDON DUBLIN HONG KONG TOKYO
+1 212 901 2200 +1 857 800 9551 +1 416 865 3395 +44 207 426 4426 +353 1 653 2122 +852 3622 3988 +81 50 3579 3335
EquiLend LLC, EquiLend Europe Limited, EquiLend Limited, EquiLend Canada Corp. and EquiLend Clearing Services are subsidiaries of EquiLend
Holdings LLC (collectively, “EquiLend”). EquiLend LLC and EquiLend Clearing Services are members of FINRA and SIPC. EquiLend Clearing Services is
registered with the SEC and FINRA as Automated Equity Finance Markets, Inc. EquiLend Europe Limited is authorized and regulated by the Financial
Conduct Authority. EquiLend Canada Corp. is authorized and regulated by IIROC. EquiLend Limited is regulated by the Central Bank of Ireland. All
services offered by EquiLend are offered through EquiLend LLC, EquiLend Europe Limited, EquiLend Limited, EquiLend Canada Corp. and EquiLend
Clearing Services. EquiLend and the EquiLend mark are protected in the United States and in countries throughout the world. © 2001-2020 EquiLend
Holdings LLC. All Rights Reserved.
Collateral Evolution
8
Five drivers of collateral convergence
Michele Filippini
What is driving collateral convergence and
Collateral services product manager standardisation across organisational structures,
J.P. Morgan operating processes and technology, and what’s next?
In a year marked by challenges and quick adoption as collateral receivers in financing; under UMR, use
of new solutions, the securities financing market of triparty will materially increase to receive initial
is renewing its focus on collateral management margin. Some buy-side firms are also embracing
innovations that will allow businesses to operate even triparty to post IM, becoming collateral providers
more efficiently. What is driving collateral convergence for the first time and further centralising collateral
and standardisation across organisational structures, inventory to create efficiencies.
operating processes and technology, and what’s next?
The next step could be to further optimise the derivatives
Structural convergence operating flow when it comes to collateralising variation
margin for over-the-counter (OTC) derivatives. Can
As institutions evolve their business structures, we the industry get comfortable with the transfer of legal
continue to see business reporting lines come together, ownership occurring not through bilateral physical
central funding units arise, and investment spending settlement, but by way of books and records settlement
on collateral services increase. These trends not only through a triparty agent? The speed of collateralisation
create new efficiencies within individual institutions, through triparty might have helped to minimise
but also raise the potential for new synergies across settlement challenges experienced by derivatives
securities financing. The question is, can we come counterparties, such as settling large same-day margin
together to create an even more efficient industry? swings via bilateral physical settlement, back in March
Yes, we can. Abundant opportunities remain, because and April. Such a change, however, would need to be
many of the fundamental operational processes for broadly adopted across the derivatives market in order
managing collateral have not changed in several years for the benefits of triparty to be widely felt.
— despite the emergence of market solutions that
could provide greater efficiency. Financing convergence
Initially, led by some large investment banks who Creating central collateral business units has allowed
structurally aligned financing and derivatives collateral firms to look at how collateral can be managed more
margining, optimisation and operations teams, many holistically. Available collateral is no longer limited to
buy-side firms are following similar approaches and margin assets provided by a hedge fund to an equity prime
leveraging best practise or core systems processing broker: now it is any unencumbered asset regardless of
through the convergence. line of business, legal entity or custody location.
Used traditionally for securities financing, the broad This has created significant interest in unlocking trapped
adoption of triparty collateral management solutions assets to use them as collateral, and is an area we’ve
to support the introduction of the Uncleared Margin addressed by working closely with clients across multiple
Rules (UMR) has created a new way of managing markets. Trapped assets can be specific to a particular
collateral for firms trading and collateralising firm or legal entity where securities cannot be financed,
derivatives. Buy-side firms already leverage triparty or related to a security or market where operational,
Collateral Annual 2021
Collateral Evolution
9
regulatory or legal inhibitors restrict the ability to mobilise Technology convergence
and finance them. Some examples include emerging
market equities, physical certificates or restricted share Managing collateral and identifying new solutions
classes, or assets that are difficult to fund in their current requires continuous technology development
custody location due to a lack of operational infrastructure and exploration by collateral agents, clients and
or a depth of liquidity in the client base. fintech providers.
Trapped assets need innovative financing solutions to Creating new efficiencies will require ongoing integration
reduce drain on alpha. Further, the ability to efficiently and standardisation across the industry wherever
mobilise them unlocks value, making them available possible, with near term opportunities that include:
to meet margin calls to a central counterparty • Increasing the use of application programming
clearing house or to collateralise an OTC derivative interfaces (APIs) to provide system-to-
transaction. In combination with triparty solutions, system connectivity and create scale in data
including reuse technology, inter-entity funding can communication between agents and their clients
occur quickly and seamlessly. • Expanding online options for managing eligibility
to support faster time to market, particularly critical
Operational convergence in times of market stress. This could include the
use of APIs to update schedules directly from
As businesses restructure and regulations change, clients’ risk systems to more efficiently manage
operational support must continue to evolve. Operational counterparty risk with minimal delay
challenges need technology solutions to maintain levels • Embracing digitisation to accelerate
of straight-through processing but, with budgets often legal execution and negotiation, by using
squeezed, they are too often asked to do more with less. e-signatures and document sharing, and
the mobilisation of collateral by creating
That’s where data, analytics and insight from a anonymised collateral tokens
collateral agent such as J.P. Morgan can help. We Longer term, the ongoing exploration of digitising
can provide a holistic view of their portfolios, including general collateral, through the use of distributed
available collateral inventory, eligibility, allocation and ledger technology, could increase the velocity of
exception management and diagnostic tools. collateral across the ecosystem and ensure collateral
is effectively being utilised across counterparties
Inventory management remains the starting point and exposures.
for effective allocation and optimisation. Being able
to view, simulate and allocate collateral held in any Data convergence
custody location and mobilise it to satisfy an exposure
remains challenging for most operational groups. Within the collateral ecosystem, data and insight
Technology-driven solutions such as J.P. Morgan’s provide both challenge and opportunity.
Collateral Transport can enable greater efficiency and
help solve these problems. Transmission: APIs have increased the ability to
transmit data from vendor to client to third parties.
The desire for increasingly sophisticated optimisation However, with institutions that vary in size and scale,
capabilities is also increasing as the front office and technology budgets always under pressure, the
continues to seek efficient collateral allocation in order road to a better connected ecosystem through true
to positively impact profitability. With collateral overlay system-to-system integration remains a long one.
functionality, multi-asset allocation orders and targetted
client allocation, clients have access to granular and The industry should review current data flows and
customisable capabilities that allow operational groups connectivity to determine whether the work already
to meet the objectives set by their business unit. done to meet the regulatory deadline for the Securities
www.securitiesfinancetimes.com
Collateral Evolution
10
Financing Transactions Regulation is sufficient or if set is, should the trade be cleared, should it be done
there are additional opportunities to improve. via a swap or other securities financing transaction,
should it be a pledge or transfer of title, etc. This pre-
Standardisation: This can encompass anything from trade information can impact the profit-and-loss value
identifying a trading volume data point for exchange- of that transaction.
traded funds, a method of classifying an asset and
whether it qualifies in an environmental, social and After the trade is placed, post-trade analytics identify
governance bucket, an legal entity identifer for an the right collateral to select and how to settle it to
asset issuer or the consolidation of reference data and minimise any impact to a binding constraint. For
pricing vendors into a common technical architecture example, this data can be used to efficiently allocate
to reduce costs. assets to minimise excess collateral usage of capital
as determined by the regulatory environment.
The technical limitations to some of these Operations dashboards can highlight exceptions and
standardisation examples are often less of a barrier to provide workflow tools to ensure accurate settlement
change than the industry coordination and agreement of transactions, thus reducing fail costs.
required to reach the standard. Because different
institutions, beneficial owners, risk managers and These five drivers are interlinked and need to be tackled
data providers could all have a separate view on the in parallel. Fortunately, with the frequency of regulatory
standard, industry trade bodies and associations reforms seemingly reducing, resources and technology
should bring the market together to identify the are freeing up to focus on the opportunities that
framework for change. With viewpoints considered additional convergence could create. Some challenges
and consensus reached, unified standards could drive can be addressed unilaterally, while others demand
significant market improvements. broader engagement and standardisation.
Analytics: The convergence of ideas and best As a global provider of custody and trading services,
practices in data analytics can lead to a more efficient including agency financing and collateral management
collateral ecosystem. Pre-trade analytics support fully for triparty and derivatives, J.P. Morgan is deeply
informed decisions at the point of trade. This could engaged with these industry developments. We remain
allow the client to identify the best venue or trade type committed to working across client segments and industry
to execute a transaction, the optimal counterparty from groups to embrace new solutions and drive efficiency
a risk and capital perspective, how flexible the eligibility with holistic solutions for financing and margining.
These five drivers are interlinked
and need to be tackled in
parallel. Fortunately, with the
frequency of regulatory reforms
seemingly reducing, resources and
Michele Filippini
Collateral services product manager
technology are freeing up to focus
J.P. Morgan on the opportunities
Collateral Annual 2021GetConnected GetCollateralised CollateralConnect & ExposureConnect Enterprise-wide, end-to-end collateral visibility, efficiency and exposure management Control Connect Collaborate Cover Consolidated, real-time Turnkey, SaaS Streamlined, automated Tools to ensure visibility across Repo, solution to access workflows meet the optimal coverage and Stock Loan and your entire collateral needs of collateral maximum efficiencies Derivatives ecosystem providers and receivers +44 (0)20 7220 0968 (UK & Europe) +1 917 565 8575 (US & Canada) connect@pirum.com Tw: @PirumSystems Li: pirum-systems-ltd
Digital Age
12
Winning the fight against the crisis
As the world of banking, funding and financing deals with the
ongoing challenges of the COVID-19 pandemic, Richard Glen,
head of collateral management, and Banu Apers, head of securities
lending and borrowing, outline how collateral management
continues to evolve at Clearstream in the new digital age and why
safer markets require safer infrastructure
Collateral Annual 2021Digital Age
13
For opticians, 20/20 means perfect vision. Safety first
However, even those with perfect visual acuity
couldn’t have predicted the full scale of the When the rearranged GSF Summit took place in
pandemic that has swept the globe throughout Luxembourg in January 2009 under the motto
2020 and now presents new challenges that could ‘going beyond fragmentation’, the traditional
potentially remain for many years to come, as the mechanics of safe markets and collateral
new normal. management were discussed at length. In times
of market uncertainty, counterparties considered
Crisis management resonates with many across the emerging trend of bundling collateral in
financial markets, and banking has adapted well central liquidity pools to make markets and
to the current COVID-19 readiness situation. In the wider financial sector safer. They debated
2020, global banking continues to evolve under how market infrastructure could help to unlock
the watchful eye of its college of regulators, and trapped inventory and thereby support banks to
the industry has taken huge leaps forward as it mobilise collateral both swiftly and effectively in
has looked to adapt and comply with the likes good times and in bad. Safer markets ultimately
of the Dodd-Frank Act, Basel III and European required safer infrastructure.
Market Infrastructure Regulation (EMIR). Crisis
management and risk mitigation come hand-in-hand This seemed like a sensible objective. Within this
with safer markets, and collateral has been the context, however, the ‘R’ number started to rise.
common theme that has underpinned all regulatory At this point in history, the ‘R’ number represented
initiatives since the outset of the financial crisis. In the rate of release of new regulation that would
fact, investment in collateral management in the ultimately change the financial industry forever.
meantime has become a strategic objective for both In Europe, there was EMIR, then the Uncleared
banks and non-banks alike. Margin Rules (UMR). This was followed by the
The number of use cases for the mobilisation
of assets, both in book-entry and tokenised
form, for collateral upgrades and margin
pledges continues to grow
Let’s wind the clock back to September 2008 Securities Financing Transactions Regulation, the
when wholesale banking entered a new age. second Shareholder Rights Directive and now the
Liquidity tightened dramatically in the aftermath of Central Securities Depositories Regulation (CSDR).
the default of Lehman Brothers. Central banks and
policymakers took immediate action and injected In the collateral management business, regulation
enormous amounts of cash as they attempted to drives change and when we think back to the
stabilise wholesale markets. For the first time in its messages from the 2009 GSF Summit, it is not
history, Clearstream’s GSF Summit, a leading global only the location of that collateral and the ability
conference for securities financing, was postponed to access liquidity that remains important; it is
in 2008 as traders, treasurers and securities also the mechanics that make up the collateral
financiers across the industry tried to make sense of management workflow that remain a source of
what subsequently became the new normal. constant discussion and now evolution.
www.securitiesfinancetimes.comDigital Age
14
The dawn of the digital age In securities lending, we also continue to invest in
our ASL and ASLplus products which offer clients
As the UMR programme originally mandated by the end-to-end automation when borrowing or lending
Basel Committee on Banking Supervision (BCBS) securities. Whilst the settlement discipline regime
and the International Organization of Securities mandated by CSDR seems to be delayed, we
Commissions (IOSCO) now reaches the fifth and continue to discuss readiness with clients to ensure
penultimate phase, albeit delayed, in 2021, it brings that they have access to critical liquidity if needed.
a number of counterparties into scope that have
never previously mobilised securities inventory or Separately, we’re also supporting market
collateral to the extent that they will need to. In participants by investing in the future of collateral
fact, many still underestimate the huge amount of management. This includes the cloud-based user
operational and technological competence required experience offered by CloudMargin as well as new
to mobilise collateral effectively. Investing in this digital collateral partnerships such as HQLAᵡ. The
type of process during a normal business cycle, let number of use cases for the mobilisation of assets,
alone a pandemic is both costly and complex, and both in book-entry and tokenised form, for collateral
this is why market participants continue to place upgrades and margin pledges continues to grow,
their trust in partners such as Deutsche Boerse and the need to navigate a fragmented collateral
Group and Clearstream who continue to invest in ecosystem is driving digital innovation and more
industry infrastructure for the benefit and resilience importantly, investment in digital trust.
of the wider marketplace.
Innovating with data
Whilst 2020 will be memorable for the wrong
reasons, in the financial sector it has truly seen Digitisation is also creating new opportunities
the dawn of the digital age in wholesale banking. for data. In collateral management, much of the
The technology that companies such as Deutsche complexity is driven by the huge amount of data that
Boerse Group deploy has not only allowed its risk managers use to determine or assess eligibility
employees and service providers to work safely of assets. Since the outset of the financial crisis,
and securely from home across all locations, the industry has come a long way but continues
it has also allowed it to support its clients in to evolve. In 2008, new innovative functionality
mobilising their global collateral pools seamlessly included the ability to dynamically apply increased
throughout, across different locations, time zones haircuts to stale prices or to flexibly layer different
and investment venues. Whilst people cannot eligibility rules together to create sophisticated
travel, collateral always needs to remain mobile, collateral profiles for multiple asset classes.
and mobilising and monitoring assets effectively
in times of crisis relies heavily on automation and In 2020, clients are looking to apply further filters to
real-time processing. It also requires investment dynamically manage a number of different scenarios and
in capabilities that are designed to improve both trigger points as well as coordinate dialogue with different
existing and future collateral processes. stakeholders both internally and externally. These
include not only minimum prices and volatility ratios
For the likes of Clearstream, this includes developing but also liquidity scores. With the growing importance
cross-border collateral management processes in of specific regulatory criteria, such as those required
Europe as we look to help market counterparties to manage cleared or uncleared margin requirements
optimise assets for financing as well as to minimise or access to central bank liquidity, the sophisticated
intraday credit usage in our Luxembourg and nature of eligibility management will continue to
Frankfurt hubs as well as across other sub-custodian evolve. As we edge towards the end of 2020, new
locations. It also includes collaborating with fellow investment parameters, particularly those focusing on
market participants in the Americas, Asia and Africa. environmental, social and corporate governance (ESG)
Collateral Annual 2021Digital Age
15
criteria, will continue to drive innovation in collateral Bundesbank, Banque de France and Banca d’Italia
management. We believe there will be a continued into a single collateral management platform covering
focus on ‘green’ data as well as end-to-end common the entire eurosystem towards the end of 2023. With
domain models as the industry seeks to harmonise and further harmonisation of the existing TARGET2 and
standardise many of its antiquated legacy systems. T2S process planned in parallel plus the inclusion
of Eurobonds as collateral within T2S, collateral
Moving to a new managers and triparty service providers face several
European standard compelling challenges both in terms of operational
and technical complexity. Legacy systems and
Whilst data and digitisation create opportunities for processes will require upgrades; clients and market
banks to manage risk, balance sheet and exposure participants will have to adapt to new messaging
requirements more effectively, the ability to unlock interfaces, new reporting and new processes that
new collateral and liquidity pools remains a key impact not only collateral management but also
objective for clients and service providers alike. asset servicing and settlement.
The keynote speaker at the 2009 GSF Summit
was Luc Frieden, minister for finance and budget However, in the long-term, new digital solutions
in Luxembourg, who spoke on ‘winning the fight that offer harmonisation and standardisation are
against the crisis’. This was at a time when Europe positive for financial markets, and the changes
was at a crossroads. Markets were in lockdown, will encourage participants to deploy new data
contagion spread from a localised outbreak to a and operational workflow to promote collateral
truly global phenomenon. Even countries were no mobility which, as the GSF Summit predicted,
New digital solutions that offer harmonisation
and standardisation are positive for financial
markets, and the changes will encourage
participants to deploy new data and operational
workflow to promote collateral mobility
longer too big to fail. Safer markets required safer go beyond fragmentation. With new technology
infrastructure. (All of this sounds very familiar.) and innovative expertise coming to the forefront
across both the vendor and middleware space,
The rollout of TARGET2-Securities (T2S), whilst the future looks bright for banking, funding and
originally designed to harmonise and reduce the cost financing.
of settlement processes in Europe, was now focused
on the safe haven of central bank money and central A little while from now, when we look back on the
bank liquidity. Now, as we enter the new CSDR current pandemic era and the lessons learned
era, focus continues across the Eurosystem on a and we jointly reflect on the message from Luc
renewed push for harmonisation and standardisation. Frieden in 2009, bankers and financiers will gather
The Single Collateral Rulebook for Europe (more together, hopefully physically, and re-affirm that
conveniently known as SCoRE) seeks to merge the safer markets need safer infrastructure and that
legacy collateral management systems of the likes of together, the world will be a safer place as a result.
www.securitiesfinancetimes.comUltimate Question
16
Collateral management: Biscuit or cake?
Understanding the history of a favourite snack in the
Martin Walker
Head of product, securities finance
UK and the former Yugoslav republics can help us
and collateral management think about how to design collateral management
Broadridge departments and systems
Walk into a supermarket anywhere in the Yugoslav The other parallel is the biscuit or cake dilemma. Jaffa
republics and you are likely to be confronted in the Cakes have been involved in legal disputes in both the UK
biscuit section by a large selection of a very British and Ireland relating to whether they are cakes or biscuits.
snack, the Jaffa Cake, a snack invented by Scottish For collateral management the question is whether it is
biscuit manufacturer McVitie and Price in 1927. Though a revenue generating front office activity or operational
biscuit sized, sold next to biscuits and eaten as an activity where the focus should be efficiency and control.
alternative to biscuits to accompany hot beverages,
Jaffa Cakes have some very non-biscuit-like qualities. In the UK, Her Majesty’s Customs and Revenue
A Jaffa Cake consists of three layers: a sponge base, (HMRC) has long agonised about the classification of
an orange jelly layer and a covering of dark chocolate. Jaffa Cakes. To quote its website: “Customs and Excise
But what does this have to with collateral management? had accepted since the start of VAT that Jaffa cakes
were zero-rated as cakes, but always had misgivings
Jaffa Cakes in their 93 years of existence have seen an about whether this was correct.” In 1991, it decided
explosion in variety. There are multiple manufacturers to take action and imposed value added tax on Jaffa
and flavours and they are even available in milk instead Cakes. McVities, the inventor and primary manufacturer
of dark chocolate. Yet, all the varieties are clearly appealed. The nation held its breath and sipped its
identifiable as the same sweet snack. Likewise, so is tea as highly-paid lawyers debated the question. To
collateral management. The process of giving and demonstrate the fundamentally cake-like properties of
receiving collateral in the form of cash or securities has Jaffa Cakes, McVities baked a giant cake-sized Jaffa
also grown in a very wide variety of forms. Some of the Cake. In the end the court decided on the essentials. If
more recent forms are driven by financial innovation but a Jaffa Cake was left exposed to the air for a long time,
many of the others resulting from tougher regulation in what would happen? Biscuits that are left exposed grow
the light of the great financial crisis. soggy, while cakes, if left exposed, grow dry and hard.
Collateral Annual 2021Ultimate Question
17
Science demonstrated the exposed Jaffa became dry
Figure 1: Collateral variations
and hard, like a cake. The judgement was made and
consumption continued, untaxed. In Ireland a similar
case was solved even more scientifically based on
the moisture content of Jaffa cakes compared to the
average moisture content of biscuits and other cakes.
The equivalent judgement in the front or back office
dilemma for collateral management is, firstly, to
understand why the question matters, secondly, to
identify the criteria for making the decision. For Jaffa
Cakes the question of cake or biscuit mattered for tax
reasons. In collateral management the question of
where it belongs in a firm’s organisational structure
matters for the following reasons:
• The choice of collateral provided has a direct impact
on the profit-and-loss and risk positions of a firm
• Whether it is in the front office or operations has opposed to progressively more complex systems and
important implications for segregation of duty departments.
• It influences the design of systems used for
collateral management and the data they need Looking across all the variations (see Figure 2) does
contain and process reveal a small set of common themes, though in some
cases the activity is performed outside the core collateral
Before looking at the answer to that question it management system or department.
is worth considering the sheer range of types of
collateral management that have emerged, often Figure 2: Flavour of collateral
performed by different teams or systems within the
same organisations. For much of their history collateral
management systems focused on margin management
for over-the-counter derivatives. Separate collateral
processes existed in products such as futures, contracts
for difference (CFDs) and securities lending, where
the margin process was essentially integrated into the
trade lifecycle. Forms of collateral management evolved
where collateral management was placed with a third
party rather than bilaterally exchanged, where the agent
arranging trades received/managed collateral, where
trades were cleared and both parties faced a central
counterparty (CCP) and where cleared trades were
executed via a clearing broker (see Figure 1).
The problem with so many variations was how to identify
the key elements that made collateral management.
Only by identifying the essential characteristics (sponge, Position reconciliation and break resolution:
jelly and chocolate in the case of a Jaffa Cake) is it reconciling positions and resolving breaks is a process
possible to design systems and operating models that well served in different flavours of collateral management
allow a holistic approach to collateral management as by different processes and systems. Securities lending
www.securitiesfinancetimes.comUltimate Question
18
has contract compare processes, OTC derivatives has The final area to consider that is common to almost all
a portfolio reconciliation while other flavours rely on a forms of collateral management is Asset Selection. It is
centralised golden source of the truth. A centralised consideration of asset selection that answers collateral
collateral management department/system therefore management’s “biscuit or cake” question, “is collateral
needs to be able to integrate with reconciliation tools management a front or back office activity?”
that are outside their direct control.
The optimal choice of assets to deliver as collateral
Valuation and pricing: valuations of trades and (or substitute/recall) is influenced by multiple
pricing of collateral to feed into exposure calculations factors including:
are also functions carried out most effectively in other • The acceptable set of collateral as specified in
systems, so the central team/system needs to interact a credit support annex or other relevant legal
with incoming price and valuations feeds, rather than document that specifies eligible collateral
generate themselves. • The opportunity cost of using collateral including
potential returns/costs of using securities in
Collateral settlements: the management of securities lending/repo or cash
settlements is another area where other systems and • The impact on measures such as the
teams are specialised in carrying out these activities leverage ratio, liquidity coverage ratio and risk
and the key need is to have a clearly defined and • weighted assets
implemented interface between collateral management • Settlement costs of transferring collateral or
teams/systems and settlements/payments. Though positioning collateral in the right location
integrating collateral related settlements into a • The impact of client relations of recalling or
collateral management team or system can significantly substituting collateral
reduce communication errors between both systems
and people. Making the correct decisions fundamentally needs a
consideration of both risk and profitability i.e. front-office
Margin workflow: This is the area that needs to tasks. Fortunately, algorithms can be configured to have
have most flexibility because depending on the type the appropriate objectives and constraints and can do most
of collateral management it is likely there are different of the thinking, subject to a degree of human supervision
participants involved, different degrees of straight- and fine tuning. Leaving exception management and most
through-processing (STP) and different parties driving of the client interaction to more operationally focused staff.
the overall process. For instance, if a CCP is involved it
is likely the CCP’s view of the trade would be treated as Overall, the combination of skills, activities and data
the golden source, valuations and margin calls will be required for effective collateral management make it an
driven by the CCP rather than the parties that originally activity that is aligned to both trading and operations. In
entered it into the trade. addition to a wide range of functionality and interfaces, a
good collateral management system therefore requires a
Interest calculation and payment: The use of cash sophisticated permission-based model to control access
as a form of collateral, particularly as variation margin to both functionality and data to avoid segregation of
and the processing of other cash flows from collateral duty issues and the risk of fraudulent activities.
(such as coupons on bonds) mean there is a general
requirement to calculate interest and other cash flows. Depending on the skillset, size and location of the team
As with some of the other processes, depending on it is also necessary to have sufficient flexibility built into
the asset class and type of trading, it is likely that the core workflows to either add in additional four eye checks
collateral management department/system will need or allow maximum STP. The properly designed system
to be able to perform calculations but also integrate to and department is therefore far superior to a Jaffa Cake
other systems and teams where calculations are more but does not provide such a good accompaniment to
tightly integrated into the lifecycle of products. tea or coffee.
Collateral Annual 2021Looking Ahead
20
Collateral management in 2021
Delays to the Uncleared Margin Rules until
Ted Allen
Vice president capital
2021 does not mean the problem has gone away.
markets collateral Now is the time to focus on your collateral
FIS management processes, and FIS can help
Let’s start with some good news: 2020 is nearly gone Given the pre-pandemic predictions that there was
and next year we can hopefully look forward to enjoying a widespread lack of preparation and many firms
all those things that didn’t happen this year. Just think wouldn’t be able to comply with the regulations by the
what we might get in 2021: a COVID-19 vaccine, the original deadline, the delay is helpful. The industry has
Tokyo Olympics, an Ashes series, a Ryder Cup, a had more time to prepare and fewer will run the risk of
couple of rovers on Mars and the United Nations’ not complying by September 2021. Another benefit we
International Year of Peace and Trust. It’s not all good are seeing from numerous clients is that the goal of
news of course. We can also expect a plague of locusts the preparations has moved from doing the minimum
(well, cicadas really – check out Brood X), the end of tactically to taking a more strategic approach. Not just
Moore’s Law, a return to commuting and wave five of how to comply, but how to use this as an opportunity
the Uncleared Margin Rules (UMR). This being the to implement fundamental improvements.
collateral management issue of SFT, we will focus our
attention on that last point and some related predictions The delay is hailed by operations teams because
for the year ahead that are driving FIS’ strategies. it has allowed them to concentrate on improving
business-as-usual. Mass working from home
When the UMR delay was first announced, many in showed the benefits of automation in a model
the industry breathed a small sigh of relief. At least where there is less ad-hoc communication
that was one less problem to deal with in this car between colleagues in the office environment.
crash of a year. Of course, the problem didn’t go The big swings in volumes and values of margin
away, it was just kicked down the road to be dealt calls in the early days of lockdown put a huge
with when things have settled down and we have strain on collateral managers and highlighted the
all got back to normal. Normality, though, will take value of an automated straight-through process.
longer to return than many of us expected, so we Firms have also had the time to make more
will have to deal with the alternative reality. UMR strategic decisions about how they will adapt
projects that were summarily put on hold in early their operations to wave five, and they have had
2020 are now starting up again in earnest. a preview of what the extra volumes will do to
their business process. They have been able to
Those firms in wave five of UMR are now seriously understand the pinch points and get better insight
engaging in preparations and are following five key steps. into what they will need.
One: identifying when they are in scope; two: identifying
which of their counterparties is in scope; three: working As an example, the over-the-counter (OTC) derivatives
out their strategy for custody (third-party custodian or market saw an 80 percent increase in margin calls in
triparty); four: negotiating the legal documentation March and was settling down to around 20-25 percent
with their custodian and their counterparties; and five: higher in April, May and beyond. This created tension,
upgrading their capabilities to calculate the standard as firms grappled with the extra volume, whilst
initial margin model and exchange collateral. adapting to staff working from home.
Collateral Annual 2021Looking Ahead
21
Another pandemic pinch-point has been a slight the impact of a new trade across the various
increase in the prevalence of collateral settlement counterparty or clearing options to identify the best
fails. Fails typically have one of four potential overall counterparty based on existing portfolios
causes: incorrect SSIs, technology shortcomings, and the margin impact. This is another arrow in the
insufficient collateral on hand or counterparty traders’ quiver.
insolvency. The first two can be alleviated with
investment in collateral management technology Inventory optimisation tools are used to maximise
to streamline the operational processes. The a firm’s use of their inventory to ensure that they
problem of insufficient collateral can be mitigated have enough of the right quality of assets, in the
by investing in central inventory management and right place, at the right time. Combining collateral
collateral optimisation to mobilise a greater pool of management with securities finance and liquidity
assets. Unfortunately, there isn’t an easy technology management means firms have a single decision-
solution to counterparty insolvency, but integrated making point about how to allocate their inventory
cross-asset collateral management across the silos to collateral requirements, capital requirements,
can act as the canary in the coalmine. A counterparty liquidity and the securities lending program.
disputing, failing or delaying a collateral move can
be an indicator of liquidity problems. Combining Inventory optimisation, however, is dependent on
collateral management across products has helped. knowing what assets your firm has, where they
Those firms that have centralised the collateralisation are, who owns them, and where they can be used.
across OTC and listed derivatives and combined this Unfortunately, many firms are unable to view and
with the securities finance business have a good view allocate their global set of inventory positions across
on the overall client situation and are better able to securities lending and borrowing, repo, outright buys
identify and deal with problems quickly. Identification and sells and cross-product collateral management.
of the problem is best done early, and an integrated Position data is held across multiple silos of systems
collateral process will pick this up sooner than if a and geographies without a real-time view of actual
firm is operating in silos. depot balances or a single point of consolidation.
Disparate systems used across business lines
Addressing these issues through strategic and locations means that data normalisation is
investments in technology and operations will make also problematic without common standards.
the wave 5 implementation smoother. These problems have a direct impact on economic
The delay has also given time to prepare strategically performance. Firms without this global view of
for solving the problem of how to minimise the impact inventory are unable to optimise the allocation of
of higher collateral requirements from the exchange positions during normal day-to-day activity. The
of initial margin under UMR. The size of the collateral goals of optimisation are to:
movements during the pandemic increased even • Maximise the returns from the securities lending
more than the number of calls – on average, there programme
was a two to five-fold increase in the size of margin • Minimise the costs of cash and non-cash
calls across market participants. That’s a useful liquidity management
preview of what will happen when wave five hits. • Minimise the costs of allocating positions
There are essentially two approaches to this, which for cross-product collateral management
should operate in tandem: margin optimisation and requirements
inventory optimisation. When combined, they are • Minimise balance sheet impact of securities
effective tools to reduce the overall cost of collateral. allocations across the various programmes
Moving from assumed settlement and end-of-day
Margin optimisation tools help with reducing the reconciliations to optimising inventory allocations
amount of collateral required to achieve the desired across the firm in real time reduces operational risk
risk profile. Margin optimisation analytics simulate and increases efficiency.
www.securitiesfinancetimes.comLooking Ahead
22
Considering some further trends for 2021, vendors to allocate assets in the optimisation process.
and industry associations are working closely on We also see applications of machine learning in
initiatives like the International Swaps and Derivatives determining settlement patterns for both cash and
Association’s and International Securities Lending non-cash collateral. That means, firms can more
Association’s common domain models (CDM). accurately predict what settlements would likely
These are standardised ways of representing and fail or be delayed. This helps reduce the buffers
communicating data relating to OTC derivatives and needed for intraday liquidity management. There’s
securities finance trades that have good potential a substantial cost for banks – the use of smart tools
if widely adopted. Common standards can reduce can reduce those.
inefficiencies from having multiple representations
of the same data within a firm and across the There are many pieces in the collateral puzzle
market. CDM, together with digitisation of collateral and numerous providers offering bits and
agreements and collateral schedules, will help pieces that need to be stitched together. FIS
reduce the number of disputed collateral calls and is uniquely positioned to offer the whole end-
increase the potential for optimisation of operations to-end collateral management and securities
and inventory. finance value chain, from a single vendor and
in the cloud. Our solutions can be deployed in-
We can also expect artificial intelligence and house, but we have seen a considerable uptick
machine learning to gain ground in securities in demand for cloud deployment over the last
finance and collateral in 2021. Standardisation of few quarters. Simplicity, scale and reliability are
data will help. FIS is investing heavily in this space compelling virtues. You may find Occam’s razor
and we’re already seeing machine learning being a useful maxim to finding a pragmatic optimal
used in repo, collateral management and securities approach to collateral management.
lending to help traders decide when to borrow or
lend and with whom to trade. Machine learning The time and experiences gained in 2020 can be
makes it easier to spot patterns and opportunities turned into opportunities for growth in 2021 and
in liquidity and trading by looking at the behaviour beyond. Now is the time to use that knowledge to
of clients and trading partners. It can be used for drive investment and innovation and deal with what
collateral allocation decisions to influence where we know is around the corner.
The size of the collateral
movements during the
pandemic offered a useful
preview of what will happen
when wave five hits. There are
essentially two approaches to
Ted Allen this, which should operate in
Vice president capital
markets collateral
tandem: margin optimisation
FIS and inventory optimisation
Collateral Annual 2021BY THE TIME YOU MASTER THE GAME,
IN A CHANGING WORLD,
THE RULES HAVE CHANGED.
ANTICIPATING YOUR BUSINESS ENVIRONMENT
At Securities Services, we support your business
in adapting to ever changing regulations. Our
expertise across the globe ensures your assets
are serviced effectively in over 90 markets.
www.securities.bnpparibas
BNP Paribas Securities Services is incorporated in France as a Partnership Limited by Shares and is authorised and supervised by the
European Central Bank (ECB) the ACPR (Autorité de Contrôle Prudentiel et de Résolution) and the AMF (Autorité des Marchés Financiers).
BNP Paribas Securities Services, London branch is authorised by the ACPR, the AMF and the Prudential Regulation Authority and is
subject to limited regulation by the Financial Conduct Authority and Prudential Regulation Authority. Details about the extent of our
authorisation and regulation by the Prudential Regulation Authority and regulation by the Financial Conduct Authority are available
from us on request. BNP Paribas Securities Services, London branch is a member of the London Stock Exchange. BNP Paribas Trust
Corporation UK Limited (a wholly owned subsidiary of BNP Paribas Securities Services), incorporated in the UK is authorised and
regulated by the Financial Conduct Authority. ©“3 man chess”Distributed Ledger
24
Collateral innovation with HQLAX
Nick Short
Nick Short explains how HQLAX provide solutions
Chief operating officer for the collateral management challenges of today
HQLAX and tomorrow
Collateral Annual 2021Distributed Ledger
25
It’s been said before that innovation can be achieved All of this is achieved across multiple collateral pools
by putting existing things together in a different involving assets held for safekeeping at three leading
way to create something new. This is something European triparty agents, Clearstream, Euroclear
that could also be said of HQLAᵡ. We’re coupling and J.P. Morgan, all of which are all already
the benefits of distributed ledger technology (DLT) connected to the HQLAᵡ platform. Additional triparty
with existing triparty and custody infrastructure, to agents and custodians will connect in the future.
improve collateral ownership mobility for our clients. Our digital collateral registry uses R3’s Enterprise
Corda DLT solution coupled with a Luxembourg
To begin with we’re improving collateral ownership legal framework to enable ownership exchanges of
mobility between market-leading triparty agents assets to take place simultaneously and at precise
and custodians to help our clients more efficiently moments in time.
manage their collateral portfolios in order to
satisfy key regulatory ratios such as capital ratio, Despite all that’s happened this year with the
leverage ratio, net stable funding ratio (NSFR), pandemic, we’ve continued to make great progress
liquidity coverage ratio (LCR). Initially, we’re doing to address what we call ‘specific pain points’ for our
this to help financial institutions who are active in clients and for the broader benefit of the securities
securities lending and collateral management in lending and collateral management market. We’re
Europe. The HQLAᵡ post trade processing solution incredibly grateful to our clients and partners for
which we’ve developed with our strategic partner the time they’ve invested to do this, and for the
Deutsche Boerse Group, achieves this for securities enthusiasm they’ve shown for the benefits of using
lending collateral swap transactions by enabling the HQLAᵡ platform.
ownership exchange of baskets of securities: one:
without settlement movement between custodians We’ve done this by innovating on top of our base-
or triparty agents; two: simultaneously (we call line product described above. This has been a very
this DvD – delivery vs. delivery; three: at precise satisfying experience, involving focusing on detail,
moments in time. connecting the dots, challenging existing ideas,
and a sprinkle of creativity to ensure that we arrive
The benefits of the HQLAᵡ model are captured in the at solutions that benefit not only one client but the
diagram below. broader market. The reality is that there are many
www.securitiesfinancetimes.comDistributed Ledger
26
things we as a company could focus on, so we’re working remotely puts more emphasis on improved
careful about developing the ideas that will provide documentation so that everyone’s clear on what’s
the most benefit to our clients. For the solutions been agreed. In terms of technical connectivity,
that reach the top of the priority list, we run regular we’ve put considerable effort into defining flows in
client roundtable meetings to help focus everyone on order to plug into existing infrastructure providers,
designing the solution, validating it, and to then get and we’ve continued to streamline our technical
the solution up and running on the HQLAᵡ platform. connectivity to clients to facilitate their onboarding
to HQLAᵡ. For example, we’ve worked with the
We call this ‘agile innovation’ where we iterate Deutsche Boerse Trusted Third Party (TTP) to
and improve via baby steps which don’t attempt deliver a solution to make the Securities Financing
to change the collateral ecosystem in one go Transactions Regulation (SFTR) reporting of HQLAᵡ
but instead move things forward pragmatically collateral swap transactions as easy as possible for
towards our vision of frictionless ownership our clients.
transfers of assets. Throughout this process, the
importance of connectivity - be it to counterparts, One example of innovating on top of our initial product,
trading platforms, exposure management is that we’re working with a leading agency securities
platforms, or market infrastructure providers - has lender to enable their bank borrowers and beneficial
remained key. Connectivity can mean a couple of owners to benefit from exchanging ownership of
different things. One: people connectivity, and collateral and principal legs simultaneously via the
two: technical connectivity. HQLAᵡ platform. For borrowers, this will help avoid
the capital costs that exist today because of intraday
This year many existing client and partner credit exposures and operational risk caused by
relationships have been enhanced, whilst many new the collateral and principal legs moving at different
client and partner relationships have been forged – times. Beneficial owners will also benefit from a
all achieved this year mostly via remote conference potential reduction in ‘fails’ risk.
calls rather than in person. It’s been inspirational
to see how everyone’s adapted to the new way of Another example of where we’re innovating on top
working to the point where we’ve even run successful of our base-line product, is in helping clients finance
‘whiteboarding’ sessions remotely. If anything, securities in local custody locations which for
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