Germany
18 September 2012
SLT talks to Markus B眉ttner of German software and consulting firm Comyno about regulatory limitations on securities lending in Germany and the technological drive to overcome them
Image: Shutterstock
How have German regulations driven securities lending market participants towards better technological solutions for supporting trade and post-trade processing?
From what we see in the market, budgets are moving back along the value chain, from the front office driving the introduction of new products to more of a focus on enhancing post-trade efficiency. The regulations on liquidity and capital requirements made numerous investments in technology necessary, so that market participants can make the entire process chain on trading and triparty platforms more transparent. Generally speaking, the regulations force firms to improve and enhance existing products and subsequent processes, and they therefore have to limit their resources to develop and pursue new business ideas.
The obvious need for more high-grade collateral on the other hand requires more sophisticated collateral management tools to fully support collateral trading activities. Banks that have not yet overcome their 鈥榮iloed鈥� approaches are now being forced to get a bank-wide view of their collateral inventory, including assets that were not previously seen as relevant to the business. This subsequently requires, from a technological point of view, higher product flexibility and a clearer focus on easy integration into a bank鈥檚 infrastructure. In the end, collateral trading systems have to not only provide a view of the collateral pool that is available, but they also have to extensively support analysis functions to automatically come up with collateral trading propositions.
What is the effect of the 10 percent lending limit that is placed on Germany funds, and how have technological solutions developed to accommodate and take advantage of this rule?
German funds are regulated, among others, by the Deutsche InvestmentGesetz (InvG). A major regulation within the InvG is the so-called 鈥榣ending limit鈥�, which forbids funds from lending out more than 10 percent of their net asset value to a single borrower. Additionally, beneficial owner have to keep their right to sell any assets without restrictions from lending activities.
Firms negotiate these hurdles in different ways. While being able to trade as a principle up to the 10 percent limit, a firm would have to access an agency lending and/or synthetics desk to get hold of the remaining 90 percent of the fund鈥檚 assets.
Alternatively, a firm could make use of Clearstream鈥檚 KAGplus lending programme. As the programme is categorised as an 鈥渙rganized system鈥� under the InvG, the lending limit does not apply.
With standard front-office solutions out in the market not covering the full list of the requirements arising from the InvG, Comyno fills this gap with a variety of tools. For efficient utilisation of funds assets, the Allocation Engine merges the assets of similar type funds into pools. Traders at the lending desk do not have to worry about which security in which size is being held by which fund in particular. All they see is the real available position that they have, with all relevant limits already applied. Also, they only book the street-side trade, letting the engine do the legwork of pulling out the securities of the single funds. Naturally, the engine caters for respective limits that are not being breached while creating the tickets and applying fees respectively.
It even goes a few steps further. Should the net asset value not move proportionally to the value of open trades against a particular fund, a 鈥榩assive limit violation鈥� could occur. The engine would detect such events intraday and not only alert the traders, but also re-allocate automatically to ensure that no limit is broken at end of the day.
To avoid the necessity of constant communication between trading and asset manager, the engine would also alert the trader of a fund going potentially short due to assets on loan being sold.
On top of these, what other solutions are you developing for your clients in Germany?
We have developed a variety of connectors鈥擪AGplus is a good example. Others are trading platforms such as BrokerTec, EurexRepo and EquiLend. Recently, post-trade information flow for the triparty business has become critical due to regulations, which we have brought from end-of-day procedures to a more near-time infrastructure.
How do these solutions differ to those that you do for clients in other European markets?
As long as German funds are of interest for the client, it doesn鈥檛 matter if its business is run out of Frankfurt or London or elsewhere鈥攖he limits that are specified within the German InvG have to be taken into account. In other instances, the full automation of allocating / re-allocation that has been described is a plus for any lending desk. Our work on connecting the desk straight-through and as real-time as possible to the outside world doesn鈥檛 show many differences either鈥攊t鈥檚 required throughout the whole industry.
What is happening in the CCP space in Germany?
The production readiness announcement from Eurex Clearing for its CCP for securities lending has definitely found its way to the business in Germany. Nowadays, you will not find any events or roundtable discussions where CCPs are not on the list of topics. Discussions evolve mainly around the cost of service and collateral that is accepted鈥攂ut it is clear that a lot of banks do not yet have a close enough view of the offering.
Two things have to happen here. On the one hand, the market needs to be educated in more detail about what is possible today, while on the other market feedback has to be continuously taken into account at the providers鈥� end. I鈥檓 convinced that several reasons will, slowly but surely, lead to many banks connecting up to the service. It鈥檚 not only to do with capital requirements. More and more firms see the advantage of possibly growing a business that is seriously limited by credit lines on bilateral business today. We are currently working actively on both sides. We are helping to further enhance the CCP offering on the providers鈥� side and also driving a project to make use of the lending CCP at a major German lender.
What can CCPs do from a technology point of view to make market participants more confident in them, in Germany and Europe as whole?
Honestly, I think given current state of discussions, technology can neither be the main driver nor is it seen as the main issue at the moment.
Nevertheless, CCPs that are active in the lending market are open to connect themselves to lending platforms, so banks can re-use existing infrastructures to get their trades through to the CCP. Today, to get a CCP up and running, firms need to talk to the variety of involved parties, such as flow providers, triparty agents, custodians and the CCP themselves. The integration has to be done by companies like ours, which is good for us, but if CCPs offered a more complete package, that would surely lower the entry barrier for clients. With near future releases of the CCP鈥檚 offering, I鈥檓 sure that integration will be easier, making it also interesting for mid- and small-sized market participants.
From what we see in the market, budgets are moving back along the value chain, from the front office driving the introduction of new products to more of a focus on enhancing post-trade efficiency. The regulations on liquidity and capital requirements made numerous investments in technology necessary, so that market participants can make the entire process chain on trading and triparty platforms more transparent. Generally speaking, the regulations force firms to improve and enhance existing products and subsequent processes, and they therefore have to limit their resources to develop and pursue new business ideas.
The obvious need for more high-grade collateral on the other hand requires more sophisticated collateral management tools to fully support collateral trading activities. Banks that have not yet overcome their 鈥榮iloed鈥� approaches are now being forced to get a bank-wide view of their collateral inventory, including assets that were not previously seen as relevant to the business. This subsequently requires, from a technological point of view, higher product flexibility and a clearer focus on easy integration into a bank鈥檚 infrastructure. In the end, collateral trading systems have to not only provide a view of the collateral pool that is available, but they also have to extensively support analysis functions to automatically come up with collateral trading propositions.
What is the effect of the 10 percent lending limit that is placed on Germany funds, and how have technological solutions developed to accommodate and take advantage of this rule?
German funds are regulated, among others, by the Deutsche InvestmentGesetz (InvG). A major regulation within the InvG is the so-called 鈥榣ending limit鈥�, which forbids funds from lending out more than 10 percent of their net asset value to a single borrower. Additionally, beneficial owner have to keep their right to sell any assets without restrictions from lending activities.
Firms negotiate these hurdles in different ways. While being able to trade as a principle up to the 10 percent limit, a firm would have to access an agency lending and/or synthetics desk to get hold of the remaining 90 percent of the fund鈥檚 assets.
Alternatively, a firm could make use of Clearstream鈥檚 KAGplus lending programme. As the programme is categorised as an 鈥渙rganized system鈥� under the InvG, the lending limit does not apply.
With standard front-office solutions out in the market not covering the full list of the requirements arising from the InvG, Comyno fills this gap with a variety of tools. For efficient utilisation of funds assets, the Allocation Engine merges the assets of similar type funds into pools. Traders at the lending desk do not have to worry about which security in which size is being held by which fund in particular. All they see is the real available position that they have, with all relevant limits already applied. Also, they only book the street-side trade, letting the engine do the legwork of pulling out the securities of the single funds. Naturally, the engine caters for respective limits that are not being breached while creating the tickets and applying fees respectively.
It even goes a few steps further. Should the net asset value not move proportionally to the value of open trades against a particular fund, a 鈥榩assive limit violation鈥� could occur. The engine would detect such events intraday and not only alert the traders, but also re-allocate automatically to ensure that no limit is broken at end of the day.
To avoid the necessity of constant communication between trading and asset manager, the engine would also alert the trader of a fund going potentially short due to assets on loan being sold.
On top of these, what other solutions are you developing for your clients in Germany?
We have developed a variety of connectors鈥擪AGplus is a good example. Others are trading platforms such as BrokerTec, EurexRepo and EquiLend. Recently, post-trade information flow for the triparty business has become critical due to regulations, which we have brought from end-of-day procedures to a more near-time infrastructure.
How do these solutions differ to those that you do for clients in other European markets?
As long as German funds are of interest for the client, it doesn鈥檛 matter if its business is run out of Frankfurt or London or elsewhere鈥攖he limits that are specified within the German InvG have to be taken into account. In other instances, the full automation of allocating / re-allocation that has been described is a plus for any lending desk. Our work on connecting the desk straight-through and as real-time as possible to the outside world doesn鈥檛 show many differences either鈥攊t鈥檚 required throughout the whole industry.
What is happening in the CCP space in Germany?
The production readiness announcement from Eurex Clearing for its CCP for securities lending has definitely found its way to the business in Germany. Nowadays, you will not find any events or roundtable discussions where CCPs are not on the list of topics. Discussions evolve mainly around the cost of service and collateral that is accepted鈥攂ut it is clear that a lot of banks do not yet have a close enough view of the offering.
Two things have to happen here. On the one hand, the market needs to be educated in more detail about what is possible today, while on the other market feedback has to be continuously taken into account at the providers鈥� end. I鈥檓 convinced that several reasons will, slowly but surely, lead to many banks connecting up to the service. It鈥檚 not only to do with capital requirements. More and more firms see the advantage of possibly growing a business that is seriously limited by credit lines on bilateral business today. We are currently working actively on both sides. We are helping to further enhance the CCP offering on the providers鈥� side and also driving a project to make use of the lending CCP at a major German lender.
What can CCPs do from a technology point of view to make market participants more confident in them, in Germany and Europe as whole?
Honestly, I think given current state of discussions, technology can neither be the main driver nor is it seen as the main issue at the moment.
Nevertheless, CCPs that are active in the lending market are open to connect themselves to lending platforms, so banks can re-use existing infrastructures to get their trades through to the CCP. Today, to get a CCP up and running, firms need to talk to the variety of involved parties, such as flow providers, triparty agents, custodians and the CCP themselves. The integration has to be done by companies like ours, which is good for us, but if CCPs offered a more complete package, that would surely lower the entry barrier for clients. With near future releases of the CCP鈥檚 offering, I鈥檓 sure that integration will be easier, making it also interesting for mid- and small-sized market participants.
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