Q+A: Innovating With Peer-To-Peer Securities Lending

Paul Fleming, executive vice president and global head of securities finance at State Street, sees securities lenders experimenting to meet the cost of complying with Basel III. banking rules.

Global Finance: What are corporate clients looking for in securities lending?

Paul Fleming: It’s the revenue stream. Look at the two sides of the transaction. You’ve got the supply side, who are the beneficial owners of securities. They are more engaged than I have seen them since 2008. The revenue from securities lending goes toward paying for operational expenses, helping to contribute to underfunded pension obligations, or spending commitments tied to the price of oil.

GF: What about the institutions that are borrowing the securities?

Fleming: That’s the demand side, which is driven by investment managers, primarily. Until very recently, that customer segment has been growing quickly. If the demand side of the securities lending spectrum starts to contract a little bit, given some of the weak returns we have seen, that could be a risk. But we really haven’t seen that despite all of the concerns around redemptions.

GF: What other challenges do banks face in securities lending?

Fleming: We are all trying to adjust to a new regulatory landscape. Basically, when we lend for beneficial owners, we guarantee them that if a counterparty defaults and the collateral that we have taken in against the securities lending transaction is insufficient to buy back their security, we will make up the difference. We have to hold risk-weighted assets against that indemnification, as do all of our competitors. Under Basel III, the amount of risk-weighted assets we have to hold has gone up at least tenfold.

GF: How are banks addressing this challenge?

Fleming: We have got to manage our capital in the most efficient way possible. There are different ways we can do that. We can work with clients to take a look at how much indemnification we are offering against counterparty default, which drives most of the capital in our agency securities lending business.

GF: What technologies are you exploring and what new features are offering?

Fleming: We are actively experimenting with peer-to-peer structures, an emerging market that will be big at some point in the future. We are matching costumers up directly and helping them manage their transactions with one another, but we don’t intermediate in the transaction or commit our balance sheet or capital. We allow them to deal directly with one another. That’s very new.

GF: How is your company innovating in technology?

Fleming: We are doing a lot in the securities lending space around digitization and straight-through processing that will go a long way towards automating a business where there is still a lot of processing in the front office as well as the operations side. We are experimenting with blockchain technology to help automate some of what we do.