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Opportunities and Challenges for Hedge Funds in the Coming Era of Optimization
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53
the asset owner to move across the same “re-use”
axis that lenders pursue as noted earlier in Chart 34.
Several survey participants also noted that this
approach allows them to be more efficient in handling
the organization’s pool of cash. Today, many portfolio
managers have excess cash in their fund that they
trade in for government securities overnight and
unwind the next session. This is an inefficient process
when split out across multiple pools and can be better
handled when one central team looks at the holistic
cash and HQLA pool to understand the organization’s
need. They can then internalize much of this trading
and eliminate an unnecessary counterparty risk.
The team can also better target uses for the cash,
including reverse repo and even choosing to extend
term on some cash investment if there is comfort with
this approach, but at a larger scale that can maximize
the organization’s pricing power.
In addition to the measurable benefits cited above,
there are also softer benefits to be had by having
a unified approach to liquidity management. One
consequence of the new Basel III rules is that much
of the financing portfolio managers rely on is moving
from overnight to term structures. This could have
important implications for the portfolio manager and
require them to either adjust their investment style or
at the least improve their communication with their
lending team to ensure that the assets they are most
likely to recall will be available as required. This is
done more comfortably with an internal lending team
rather than with an external organization.
Having the entire pool of collateral being managed
holistically also provides better opportunities to
model and manage the risk surrounding these assets
in conjunction with the organization’s overall value-at-
risk and to stress that exposure in various scenarios.
In some instances, this may allow the internal lending
team to be more aggressive around managing the
asset pool and in other instances it may signal them
to pull in their exposures based on the risks in the
underlying funds.
Creating the flexibility to do the most with their assets
is the main goal of these programs. This is especially
important in Europe where there are differing
restrictions on collateral in a UCITS fund versus what
collateral can be accepted in an insurance fund. This
complexity requires internal teams to think about
the lending and collateral situation in a more
nuanced fashion.
“ When a firm has very localized units as in one team doing
securities lending collateral and one doing FX collateral etc., we
are paying away our netting potential. We need one business
unit looking at collateral as a whole,” — Asset Owner—Money
Manager
“ We tier our collateral by what we’re going to have to post. If we
can lend, it will go out on loan. If it’s GC and we can’t lend, we
put it out by haircut. We think first about the haircut and then
about the cost. This is what we call collateral optimization,”
— Asset Owner--Institution
“ Most of our funds are UCITS which means we can’t do much
with collateral. We thus looked at the funds that used the most
derivatives and reclassified them as insurance funds. This allows
us more flexibility. The insurance funds are more limited on how
much cash they can take, so they need to be more flexible on
what they can accept in terms of collateral. This works because
they are long G10 and have to have a more diversified collateral
pool,” — Asset Owner—Money Manager
“ Insourcing allows us to know and follow real
revenues and trends. If we outsource, it might cost
less and risk less, but we will also earn less. The
ROA is higher on the 1/3 that we are doing than
the 2/3 being done by the custodian. We can’t
really challenge the custodian on that because
there is no best execution or transparency,”
— Asset Manager—Money Manager