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Opportunities and Challenges for Hedge Funds in the Coming Era of Optimization
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47
Nuetral
Chart 34: Asset Optimization for Supply Managers
Make Money
Ceate
Synthetic
Exposure
Source: Citi Business Advisory Services
Transform
Asset
Lend
Asset
Save Money
Internalize
Borrow/Cover
Fail
Post as
Collateral
Hold Asset
In Custody
Profit Potential
Receive
Cash
Receive
New Asset
Hold Asset
In Custody
Post as
Collateral
Receive
New Asset
Post as
Collateral
Hold Asset
In Custody
Internalize
Borrow/Cover
Fail
Reinvest
Cash
Reverse
Repo cash
I
li
il
Internalize
Borrow/Cover
Fail
Re-use of Asset
Minimum
Maximum
in custody to meet the client’s own collateral
obligation in the legacy broker-dealer part of the
organization. This could be against a cleared or
noncleared OTC derivative obligation, against a
futures or options position or against a margin or
structured loan. Having the resources required to
move these assets embedded in the same solutions
team eliminates friction that can sometimes cause
transactions to get caught in different bank silos.
The third option would offer the asset owner several
options around how to create a profit from re-use of
the asset. This is where having the solutions team able
to easily solicit views from product experts across the
agency, principal, and synthetic lending teams helps
to create such optionality. There are three uses for
the supply along this path:
The client’s supply could be directed to the
agent lender that in turn could put the supply
up for auction and enter into a traditional
loan agreement. The lender could then use
the incoming collateral for reinvestment.
Alternatively, the lender could put the client’s
asset out on loan in a less traditional manner if
authorized. There is a growing use of doing equity-
for-equity loans or even multi-asset loans. These
can be facilitated by repo or by securities lending
agreements with custom collateral terms. There
is also an increased demand to be able to loan
ETF securities. Suppliers of ETF product are often
realizing their outperformance in these funds
through the strength of their lending program,
according to several survey participants. Markit
data shows that there was $87 billion in lendable
North American ETF supply at the end of Q1 2014
and that 21.3% of that supply was out on loan.
This contrasts to Europe where there was only
$37 billion in lendable supply of which only
2.3% was out on loan. Efforts are underway to
standardize the listings of ETFs and introduce
more supply into the European marketplace as
this is seen as an important area of growth for the
European industry.
The solutions team could help the client to
transform the asset that is held in custody. They
could do this in several ways. They could offer up
an illiquid security as part of an arranged trade