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RMA: Capital rules to rock sec lending
17 October 2013
Future capital requirements are posing an ever-growing threat to the US securities lending market, according to a panel at the RMA’s annual conference in Boca Raton. Hardeep Dhillon reports
US securities lending
Future capital rules are set to shape the US securities lending industry, according to a panel at the Risk Management Association’s annual securities lending conference.
Gregory Lyons, partner, Debevoise & Plimpton noted that Basel Committee and the Financial Stability Board are trying to prevent arbitrage between countries. “All these rules are overlapping, [and] whatever the international community does, that will be the floor for the US.”
He stated that the final US capital rules deal with any large bank or holding company based in the US but do not cover holding companies of foreign organisations.
He added that although most broker dealers are part of bank holding companies, they are not subject to the same rules that holding companies are it will be the holding companies that will propose limits on broker dealers.
The final rules were approved by the Federal Reserve Board (FRB) in July and will come into effect partly in 2014 and partly in 2015.
Lyons said “it is the terrible trifecta” as it will increase capital ratios; the numerator is reduced, as for instance, trust preferred will be phased out, while on the assets side the nominator is going up for counterparty based activities.
The regulators are demanding more capital and this will create stress in the system as capital charges will move higher, he argued. “Banks are re-evaluating the cost of capital.”
However, Governor Daniel Tarullo has said that more “complementary” burdens are on the horizon. Lyons said that the proposed rule by the FRB, Federal Deposit Insurance Corporation (FDIC) and OCC announced on July 9 would increase the Supplementary Leverage Ratio (SLR).
He noted that the US ratio for banks is twice as high as that in Europe. The international SLR is 3%, while the Fed is proposing a 5% SLR for holding companies and 6% for banks. “The banks do not know where they need to be, especially in derivatives.”
Lyons expressed concern over the impact of the SLR on banks’ ability to provide indemnification of borrower default.
“Indemnification is not in the SLR, but it will be a nightmare” if it is included, he said. He noted that over the past 10 to 15 years, securities lending has generally been a safe low-cost activity for banks, where indemnification has not cost very much.
But now, indemnification is going to be taken on a more selective basis. Lyons argued that smaller clients will be losers because banks will not be able to afford the credit counterparty limits and so will not provide indemnification.
He said that “next year is high noon for the securities lending market” and there should be more clarity on how the rules turn out at the next meeting of the RMA.