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Opportunities and Challenges for Hedge Funds in the Coming Era of Optimization
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15
European and U.S. Lending Experiences
Diverge in GFC
Difficulties related to collateral reinvestment pools
that emerged during the crisis disproportionately
impacted lenders that participated in programs
with U.S. broker-dealers. In the 1970s, the SEC
put out their customer protection rules that lay
out guidelines on collateral in Rule 15c-3. This rule
steers lenders toward cash as their primary source of
acceptable collateral. Only a select set of non-cash
collateral (most commonly, U.S. treasuries) is deemed
acceptable under this rule. This contrasts with
European lending programs that are able to accept
a broader range of collateral, including equities and
corporate securities.
Going into the 2008 crisis, there was a distinct
difference in the types of collateral postings being
held by U.S. versus European lenders as shown in
Chart 8. Cash collateral postings represented 95%
of the holdings for North American equities out on
loan, but only 37% of the equities out on loan in
Europe. Similarly, cash collateral represented 86% of
the collateral out on loan for North American bonds
versus only 29% for the combined pool of Euro bonds
and UK Gilts.
Beyond having a much larger pool of cash to deal
with, the type of lending being done in the U.S. also
had a significant impact. U.S. lending programs skew
heavily toward an agency model. Under the 40 Act
rules, mutual funds are required to hold their fully-
“ Post the crisis a fair number of lenders went to the
sidelines or dramatically scaled back. We actually
saw decreased lending in July 2007 as a result of
Bear Stearns but much more after Lehman defaulted.
Some lenders had to stay in their programs because
of their cash reinvestments,” — Agent Lender
“ Lenders started focusing on third-party credit risk
and some made the decision that it’s not worth the
risk to make $3M-$4M on a $30B portfolio. Right
now, overnight borrowing balances in the industry
are about $35 billion. At the height of the lending
markets pre-2008, those balances were in excess of
$100 billion on any given night,” — Agent Lender
“ We did not see a mass exodus of clients post-2008,
but the number of risk-focused discussions has
increased,” — Agent Lender
Chart 7: Total Assets on Loan
$.5T
$1.5T
$2.0T
$2.5T
$3.0T
$3.5T
Source: Markit
97
100
89
123
0
$3.50T
2007
2008
$1.76T
2009
$1.70T
2010
$1.79T
2011
$1.76T
2012
$1.66T
2013
$1.75T
$1.0T
Trillions of Dollars