In this “Five Questions” article, BBH’s Chris Griffin talks with Co-Heads of Global Securities Lending, Marney McCabe and Tom Poppey, about the state of securities lending during the COVID-19 crisis, the likely aftermath, and how asset managers are reacting. What follows is an excerpt of their conversation.
1. Chris Griffin: How has the securities lending market responded to COVID-19?
Tom Poppey: We’ve seen quite a significant increase in transaction volumes as managers positioned portfolios in response to market developments. At the same time, regulators in March imposed short selling bans around the world, particularly in Europe and South Korea, which had a temporary chilling effect on the demand. Additionally, many financial companies were either required by regulators or chose to pull back on issuing cash dividends, which has adversely impacted demand for certain trades. But there have been positive developments as well, such as event driven trading opportunities related to voluntary cash or stock dividends, and rising fees on “specials,” or securities high in demand.
2. Chris Griffin: What market trends do you expect for the remainder of 2020?
Tom Poppey: Regionally, we think that most of the opportunity will manifest in the US and European developed markets over the second half of the year. For example, we are seeing demand in particular sectors such as travel, leisure, and luxury goods, as investors look to hedge against the companies and sectors hardest hit by COVID-19. We think that the extreme volatility is probably behind us, but we do anticipate there will be sustained impact on certain companies with investors taking positions on how they fundamentally view the recovery and growth prospect of those sectors.
Marney McCabe: Investment managers continue to seek any competitive advantage and may be interested in the value that lending can provide. We have heard of some lenders suspending their participation while our clients have elected to remain active throughout the crisis based on the program structure and high level of transparency BBH provides. We believe interest in lending will continue to be highly relevant and don’t anticipate COVID-19 will cause managers to fundamentally reconsider their position.
3. Chris Griffin: How is the current crisis different from the 2008 Financial Crisis?
Tom Poppey: As it turns out, a lot. We believe what happened in 2008-2009 was the result of fundamentally flawed investment products and organizations that were quite exposed to short term funding markets for viability. Contrast that to the current crisis, which was largely unforeseen and has resulted in a sudden closing of many parts of the real economy. Banks and other market participants are generally well capitalized and able to withstand the shock, thanks to regulation that was implemented following the last crisis.
Additionally, the crisis of 2008-2009 highlighted weaknesses in cash collateral reinvestment across some market participants. Cash collateral products have performed well over the past few months, due in part to lenders not taking as much credit and duration reinvestment risk as they had in the past.
Interestingly, the current crisis has in some ways impacted all market participants equally in terms of having to adapt business operations to social distancing requirements. This has presented unique challenges to ensure trading and operational teams can continue to run uninterrupted – this simply wasn’t an issue in the previous crisis. That said, the emergence of technology such as broadly available video conferencing and remote work infrastructures has minimized, but not eliminated, the impact of social distancing.
Finally, I would add that unlike 2008, we have not seen any clients pause their lending activity or make material changes to their programs.
4. Chris Griffin: What should market participants consider as they evaluate their securities lending strategies in the wake of COVID-19?
Marney McCabe: First and foremost, lenders need to make sure that the risk reward profile continues to align with current market dynamics. Most recently, we’ve been proactively speaking to clients about the way they’re investing their cash collateral and encouraging them to ensure it can meet their program’s liquidity requirements given the market volatility. That conversation is now transitioning to how programs can be best positioned coming out of this crisis. Early indications hint that securities lending demand will be strong in the latter part of 2020 and lenders should focus on making sure their programs are able to take advantage of these opportunities when they arise.
5. Chris Griffin: How is BBH’s Securities Lending team adapting to the current environment?
Marney McCabe: So far, so good. Over the course of a couple of weeks, 98% of our staff adjusted to working remotely, and I am pleased to report that there was no negative impact on our business or our clients’ experience. Now, it’s really about how we continue to engage and inspire the workforce to continue excelling in the new normal with a focus on physical and mental well-being. We’re putting a lot of emphasis on engaging with our clients in an environment where you can’t travel and most of the connectivity you’re going to be having is digital.
In addition to our attention on a virtual team, we continue to advance our business goals and investments in strategic projects. We remain focused on driving the success of our program performance through the use of data and automation while enhancing clients’ transparency and control through our digital platforms on both a pre- and post-trade basis. Paramount, in even the most challenging environments, is our ability to put our clients first.