Spotlight on Securities Lending in Asia

Zubair Nizami, head of Asian securities lending trading at BBH, gives his views on regulatory challenges and potential opportunities in Asia ahead of the PASLA/RMA Conference in Hong Kong.

What effects will new EU regulations, such as MiFID II, have on the Asia Pacific region?

Securities Finance Transactions (SFT’s) were not a significant focus of MiFID II as they were generally not in scope for transaction reporting requirements. However, there were some specific impacts to securities lending. Most notably was the definitive clarification that best execution requirements should be adhered to in respect of SFT’s, with lenders required to take all sufficient steps to obtain the best possible results on a consistent basis, rather than on an individual transaction level. As a result, agent lenders have largely adopted or updated best execution policies and made these available to clients.

At BBH, the provisions within our policy are adhered to globally, so SFT execution for Asian clients is subject to the same standards as those executed for MiFID regulated / European clients.

In terms of other regulations, SFTR continues to receive a significant amount of the industry’s attention. The effects of the initiative will be felt more broadly than just Europe, especially market participants who transact with European counterparties.  For example, a loan by a Japanese pension to a German borrower will be impacted by the reporting obligations.  Lending agents are actively engaged with clients and borrowers to develop solutions to comply with this far-reaching regulation.  At BBH, we have taken the lead in partnering with IHS Markit/Pirum to provide a delegated reporting service for our impacted clients.

Which Asian markets were the headliners of 2017, and which will capture market interest this year?

Hong Kong and Japan led the way from a demand perspective, resulting in robust returns in 2017. Increased focus on corporate governance, particularly from several activist hedge funds, was a significant theme for the year. This was highlighted by a wave of scandals in a wide spectrum of Japanese companies in the automobile and manufacturing sectors due to lax quality controls or falsification of data. In addition, many Hong Kong-listed Chinese firms were targeted by activist hedge funds for their alleged poor accounting and disclosure practices.  These themes helped drive particularly strong specials activity in these markets.

We expect securities lending opportunities in Hong Kong to continue to remain robust in 2018. Given the current low market volatility, high equity valuations and increased confidence in both the Hong Kong and mainland Chinese economies there is likely to be an increase in IPO and secondary capital activity in Hong Kong this year. Additionally, recent changes by the HK stock exchange operator to permit a dual-class shareholding structure, despite historically being firmly against the idea, will further drive new listings particularly in the mainland Chinese tech / startup space. All of this should act as a catalyst for driving securities lending demand this year.

South Korea has been one of the most lucrative markets for securities lending for years. How did the hardening of short selling rules in the country affect business?

Whilst South Korea has been one of the strongest drivers of revenue for us in the past few years, we did witness some softening in demand and fees in 2017 compared to previous years. This was largely due to significantly reduced activity in some key specials, which had driven much of this revenue growth for the past few years. In our opinion, the imposition of additional short selling regulations early in 2017, whereby securities that are deemed to be ‘overheated’ can be restricted from trading for a day, has had a negligible impact for market demand as a whole.

We expect to see a healthy level of demand in South Korea this year. In recent months there has been an uptick in deal activity which has boosted specials trading opportunities.

Additionally, we are witnessing renewed interest in the heavy industry and shipbuilding sectors which have come into focus again as they continue to struggle with declining orders as a result of overcapacity in the industry.

Shenzhen-Hong Kong Connect and Shanghai-Hong Kong Connect gave international investors access to China’s two main bourses. Are we any closer to this contributing to a Chinese lending market?

Little has changed in the past year regarding the development of the Chinese offshore securities lending market. Technically speaking, there is a model for offshore holders of A-Shares to lend their securities via the Stock Connect scheme. However, due to various restrictions that curb both lending supply and end-user demand, the level of activity has been almost non-existent. In the short-term we are not optimistic that much will change given other priorities for regulators at present. In the longer-term, given that China has signalled that it intends to further liberalize its capital markets, we expect the relevant authorities will gradually introduce reforms that will enable a more scalable offshore lending platform to emerge over time.

The 15th Annual PASLA/RMA conference will take place on 6-8th March at the J.W. Marriott Hotel Hong Kong. Representatives from BBH will be attendance, including conference co-chair Thomas Poppey, Robert Lees, Zubair Nizami, and Garrett Berkery. We hope to see you there.