Our Insights

The ongoing evolution of securities lending in Canada

How data needs are shaping the marketplace for 2019 and beyond

The Canadian securities lending market is among the world's largest and most mature, and includes sophisticated, knowledgeable participants. In 2018, spurred by increased market volatility and continuing demand for Canadian equities and fixed income, the Canadian securities lending market experienced healthy growth.1

While Canada has considerable bench strength in the practice of securities lending, ongoing education around industry developments and the benefits and risks of participating in the securities lending market remains an important area of focus for beneficial owners and investors.

Key insights

  • The Canadian securities lending marketplace continues to see growth as large institutional investors, including pension plan providers, increase their securities lending activities as a way to enhance returns
  • With the expected growth of the alternative retail mutual fund marketplace in Canada as the result of new regulations starting January 2019, the demand for securities lending may increase, including the demand for information about securities lending from new market entrants
  • In the coming years, the focus of the Canadian securities lending market may increasingly move to optimizing outcomes by adopting emerging technologies, such as blockchain, machine-based learning, and algorithmic trading techniques, all of which may deliver enhanced transparency and efficiency to the marketplace

Supporting effective securities lending markets: data's critical role

“Markets run on information and the securities lending market is no exception," comments Donato D'Eramo, Managing Director of Securities Lending, RBC Investor & Treasury Services, and President of the Canadian Securities Lending Association (CASLA). “Globally, beneficial owners are continuing to ramp up their securities lending activities, resulting in the role of education remaining very strong which, in turn, drives the need for high-quality data."

Recently, beneficial owners in Canada have been adopting a much more active role in securities lending. For example, Canadian pension plan providers, who are generally considered sophisticated institutional investors, are continuing to increase their participation in securities lending as a way to boost revenue to support plan sustainability. As a result, their information needs have expanded.

Industry data and metrics assist in supporting lenders with the information required to facilitate their participation in securities lending programs. “Here at home, Canadian asset managers have demonstrated their ongoing commitment to understanding the risk/reward trade-off in implementing a securities lending program," notes D'Eramo, “and good information is a precursor to this understanding. This means information that is complete, current, accessible, and delivered on time."

New rules for alternative funds may expand market for securities lending

Canada may see growth
in the liquid alternatives
marketplace and an
increased demand for
securities financing
solutions

In January 2019, a new regulatory regime providing retail investors with access to alternative investments comes into force in Canada. Under the new rules, a new category of prospectus-offered investment funds, known as “alternative mutual funds," will become available to retail investors. Alternative mutual funds can invest in physical commodities or specified derivatives and borrow cash and engage in short selling in ways that were formerly restricted to hedge funds, thus out of reach for retail investors.

With the advent of retail alternative mutual funds, Canada may see growth in the liquid alternatives marketplace and an increased demand for securities financing solutions. “One implication of this new regime is a substantially augmented need for information for all parties—retail investors, fund managers, and regulators—as the market expands with the implementation of the new rules," comments D'Eramo. “As other markets have forged ahead, we can look to the alternative funds marketplace in the European Union and the United States, which already provide access to alternative mutual funds to retail investors, for insights and guidance." For example, the European Union and the United States have evolved regulatory compliance standards, including reporting standards for alternative investments.

Third installment of Basel accord arrives in Canadian market

Looking beyond Canada's borders, the ongoing implementation of the Basel Committee on Banking Supervision and the Board of the International Organization of Securities Commission's uncleared margin rules continue to impact banks and their ability to facilitate securities financing transactions in Canada.

In September 2018, Phase 3 of the initial margin requirements for non-centrally cleared derivatives began to be implemented. This is the most recent development in a long-term process created in the aftermath of the global financial crisis of 2008–2009, when the G20 agreed to a financial regulatory reform agenda encompassing the over-the-counter derivatives markets and market participants. The final phases of implementing the uncleared margin regulations will take place in September 2019 and 2020.

Markets run on
information and the
securities lending
market is no exception

In a July 2018 joint whitepaper, the International Swaps and Derivatives Association and the Securities Industry and Financial Markets Association commented that “the significant number of counterparties coming into scope in the final phases will create an untenable rush of demand on market resources across participants and service  providers in a relatively short time period."2

Looking forward at the implementation of the final phases, Canadian institutional investors have a full agenda to complete in order to be ready by September 1, 2020. “Again, this is an area where data that supports the dialogue required to bring Canadian institutions into line with upcoming regulatory requirements is key," comments D'Eramo. “After the global financial crisis, alternative investment market participants around the globe sought to create a system of oversight and supervision to better manage systemic risk. These discussions were based on the premise of improved transparency which, in turn, is based on the availability and integrity of data."

Optimizing securities lending through emerging technologies

“With a mature market like Canada, the focus often shifts to optimizing via technology," says D'Eramo. “In Canada, adding efficiencies through technology has been a consistent focus for industry participants." This trend has included a focus on technology deployed across the industry in both the front and back office with the aim to build efficiencies in trade processing and trade reconciliation, but also in terms of aggregating information and data from multiple sources (internal and external) to enhance and improve decision making and response times with counterparties.

 In Canada, adding efficiencies through technology has been a consistent focus for industry participants

“This focus has delivered improved trade flow by increasing trade connectivity between lenders and borrowers," says D'Eramo. “In the coming years, the focus may shift to optimizing the market by adopting emerging digital technologies, such as blockchain, machine-based learning, and algorithmic trading techniques."

As in other markets worldwide, these data-intensive technologies may deliver enhanced transparency and efficiency to the securities lending market, which will help bolster its strength and reach both in Canada, and around the world.

For 2019 and beyond, the strength of the Canadian securities market will continue to rely on high-quality, robust information as new rules are implemented, new technologies are integrated, new market participants engage in securities lending, and existing participants increase their activities to meet emerging challenges.

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Sources

  1. Canadian Securities Lending Association www.canseclend.com
  2. International Swaps and Derivatives Association and Securities Industry and Financial Markets Association (July 2018) Initial Margin for Non-Centrally Cleared Derivatives: Issues for 2019 and 2020