On September 9, 2015, the United States Department of the Treasury’s Office of Financial Research (“OFR”) published the Reference Guide to U.S. Repo and Securities Lending Markets (the “Guide”).  The Guide provides a useful overview of the basic market structures and mechanics, major market participants, risks, and a survey of the sources of data available.  The report then details certain purported “vulnerabilities” in the repo and securities lending markets.  For the repo market the vulnerabilities and potential remedies discussed included the following:

Perceived Vulnerability Identified Remedy
1.  Dealer leverage and liquidity risk 1.  FDIC expanded deposit insurance base to include repo liabilities;2.  Basel III liquidity coverage ratio makes short-term repo funding with low quality collateral more costly;3.  Dodd Frank incentivized dealers to extend the term of their liabilities;4.  Supplemental leverage ratio for large banks includes leverage incurred through repo borrowings;5.  Basel III net stable funding ratio encourage longer term duration of liabilities;

6.  Fed Reserve’s Reg.  YY will subject certain foreign banks to same prudential standards as US Banks such as certain Basel III and Dodd Frank rules.

2.  Tri-party market infrastructure 1.  Significant reduction to intra-day credit extended by clearing banks and related operational changes.
3.  The risk of fire sales either when a dealer sells securities to raise liquidity or securities are sold by repo investors upon the default of a dealer 1.  Special resolution authority or a consortium of dealers that would commit to taking possession of the collateral and fund the portfolio of a failed dealer and then orderly dispose of the assets once market conditions stabilize.2.  Repeal of repo bankruptcy safe harbors on the premise that such safe harbors encourage excessive use of repo borrowings.

The Guide discusses how certain elements of the repo and securities lending markets have evolved since the financial crisis.  One important highlight from the Guide is the divergence in data available for the repo markets in comparison to the securities lending markets.  While gaps remain, particularly with respect to bilateral repos, the data for repo markets has vastly improved since the financial crisis.  Since May 2010, the FRBNY has published monthly tri-party repo market statistics, which are covered each month here on DR2 (see August ‘15 statistics).  With respect to securities lending, however, there is such a lack of comprehensive market data available that the OFR did not even attempt to size the securities lending market.  We have already seen efforts by the Securities and Exchange Commission to begin collecting more data from registered investment advisers regarding repo and securities lending market activity (see our post on Form ADV revisions here).  Market participants should expect to see continued efforts in this regard.

The Guide is available here.

Good day. Good Guide. DR2