How has Northern Trust’s year been so far?
Northern Trust has had a solid year and we have seen relatively stable to higher volumes on the trading side compared to last year, however, in general fees and spreads are slightly lower.
In addition, we continue, as always, to seek new ways to enhance volume and revenue for our clients.
We launched securities lending in Poland in 2014 and Brazil in 2015, and are looking potentially at opening up in Malaysia and Turkey next. Being able to add new markets regularly to our programme is encouraging and has contributed to our overall supply and transaction growth for 2015. We added 26 borrowers to our programme in 2014, and have added nine so far this year, and will continue to review key strategic counterparties for our programme for the remainder of this year and in to 2016.
The securities lending industry as a whole must continue to look for new avenues and opportunities. For Northern Trust, we consider the product to be quite straightforward to develop. We aim to lend in new markets, expand the number of counterparties we deal with, expand the collateral that we take, and add clients to our programme.
On the collateral side, we expanded the number of equity indices that we accept for our programme, mainly in Asia Pacific. This has allowed us to increase utilisation of lending in our programme, as borrowers in general prefer to pledge equities as collateral.
We have also had a lot of success in introducing new clients to securities lending. Our international client base has increased by more than 35 percent over the last 24 months, and we have a very strong pipeline of new clients to take us through to the end of the year. In response to this we have increased the size of our client servicing team globally.
Looking forward, our aim is to ensure smooth integration for our new business and clients, while maintaining our high service standards for our client base.
How is the wider securities lending industry developing and what are the most significant challenges?
We are seeing greater demand for fixed income assets, which is being driven by borrowers needing to acquire high-quality liquid assets for their trading activities.
The demand for overall borrowing has maintained at a steady level. However, due to continuing regulatory initiatives, we must maintain our watchful eye on our beneficial owners and the lending of their assets. Basel III in particular remains an area of focus, with clarity still required over some areas of implementation processes.
Under Basel III, the type of loaned and collateral securities dealt with will dictate the amount of capital that must be retained. It currently looks like equity collateral and lending to non-banking institutions will be the most costly scenarios under the current framework. Northern Trust continues to review its options for collateral within the context of capital requirements and increasing regulatory compliance costs.
Is recent global and regional market turbulence driving demand for borrowing?
The apparent slowdown of the Chinese economy has had global consequences and all markets have taken a significant hit recently. It will be interesting to see if this trend is sustained. We haven’t seen an immediate growth in demand for securities lending and hedge funds specifically seem to be sitting long on the sidelines and waiting to see what happens.
Looking at the broad picture, overall, securities lending opportunities have not shifted dramatically but the issues regarding regulation and the wider market conditions are creating some challenges for the industry.
How popular are new trades, such as collateral upgrades, and why?
As with any trade, our role as an agent lender is to ensure our clients are well-versed and clear in all aspects of the business in which they engage. Historically, it has been more common to see lending of fixed-income assets versus equity at a higher level of risk than the other way around.
Some clients within our securities lending programme have reviewed this type of trade and decided to participate in collateral transformation trades. The way to mitigate the additional risk in turn for the additional revenue that can be earned is through taking a greater margin, above the 2 to 5 percent industry standard. These trades are also typically done on a term basis, which can be an ‘evergreen’ 97-day trade, or a ‘bullet’ trade of 365 days.
Here, we also see some clients undertaking their own risk modelling, but Northern Trust can undertake this task as well, performing various stress tests for clients based on different scenarios. We are continuously seeing more supply coming to market for fixed-income versus equity to meet the demand, so it is growing.
How big of a player is Northern Trust in the UK pension fund market, and how are these beneficial owners behaving in the current climate?
Northern Trust currently services 31 percent of the top 100 UK pension funds and also 37 percent of the UK local government pension schemes (LGPS). We have added three new LGPS clients to our securities lending programme in the past 12 months. LGPS clients represent 18 percent of our total international client base with £23 billion in lendable assets.
In terms of regulation, LGPS beneficial owners are governed by their own regulations. These guidelines dictate they can only lend to borrowers in the European economic area and with a maximum lending cap of 35 percent of their total assets. Generally, in this sector we are seeing clients move towards a national framework agreement, which they have set up to provide uniformity and standardisation in what they do.
In terms of upcoming considerations for LGPS clients, these are largely the same issues as all our other clients, in terms of the need to meet regulatory compliance and exercise strong oversight of their programmes. No direct demands on them are exercised by new regulation, but ongoing developments may have an indirect impact on supply and demand in the market, which may, of course, in turn lead to increases or decreases in revenues.
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