As the end of the year approaches, finance directors are looking into ways of sprucing up the year’s results. The newest way involves the crafty use of securities lending. This practice, which increased by 15 per cent this year, sees financial institutions swapping different securities with one another.
Since policymakers have created a new supply-demand dynamic in securities lending as a consequence of new regulations, financial institutions are finding new ways to use these to their benefit. On the supply side, the low interest rates encouraged asset managers to be inventive with their investments and in their quest for returns they are lending out more of their assets for longer periods of time.
On the demand side, banks are more than happy to borrow government bonds and use equity as collateral. Securities lending helps banks to increase their liquid assets to comply with the new Basel III requirements, as well as use high quality assets as collateral for derivatives clearing, thereby avoiding haircuts imposed on some equities.
Balance sheets are left with ultra-safe assets, while getting rid of the riskier assets, which also attracts higher capital weightings. Used for tax avoidance reasons in the past, securities lending is now used for circumventing unfavorable regulation.
While some say that securities lending is actually de-risking banks, isn’t this just another way for banks to pass on the risk (into the realm of shadow banking) until it will backfire?
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