The industry has no choice.Processes need to be modernized, automated and optimized, or risk delays, market experts say
Collateral management was once seen as the “ugly duckling” of the financial services suite, said Gaël Delaunay, global head of collateral management at Clearstream.
And just like in Anderson's classic fairy tale, collateral has turned into a fascinating market player. The service, which Delaunay described as “a full-scale, break-even trading activity,” is now an important aspect of the securities finance ecosystem.
Because of its growing importance, it also requires critical discussion. With interest rates, operating costs and regulatory pressures rising, a strong collateral framework is more important than ever.
Market evolution
The role of collateral management has undoubtedly evolved over the past two decades, as highlighted by several leading industry experts.
Adrian Dale, head of regulatory and market practices at the International Securities Lending Association (ISLA), describes the service's humble origins: Bonds were sometimes used, but were not preferred because they required more instructions and manual monitoring. ” The diversification of the collateral market now includes discussions about corporate bonds, equities, and even shinier assets such as tokenized gold.
David White, chief commercial officer at Crowdmargin, also mentioned a simpler collateral market. “Before 2008 and during the global financial crisis, the vast majority of derivatives market trades were unsecured, and clearing was performed on only a small proportion of interest rate swap trades,” and initial margin for OTC trades simply did not exist. It was. ”
The impact of the 2008 crisis on collateral management is clear. Originally more of a back-office function, the economic crisis saw stakeholders recognize the need for greater security of exposure, and the commercial focus initially shifted to collateral management. Ta. There were many ways companies could adapt their services to accommodate this.
“One of the key trends since the crisis has been market restructuring to reduce systemic risk and improve resilience,” said Todd Crowther, head of corporate development and collateral services at Pillam. Masu. “Second is prudential regulation to reduce firm-specific default risk, strengthen the backstop, and enhance the ability to successfully deal with stress events.”
Globally, regulatory approaches have introduced a number of initiatives, including accelerating payments, centrally clearing more products, and introducing margin for uncleared OTC products. Increasing margin locations, products, and number of participants along with shorter time horizons mean companies need to improve efficiency to comply with these enhanced standards.
“Without a doubt, our market is much more secure and there has been a tremendous amount of effort to get to this point,” White reflects. “These developments also highlight the critical role that collateral management plays in the global financial landscape.”
common domain model
The Common Domain Model (CDM) is an example of an industry group's attempt to promote standardization among companies. Dale argues that this model, which provides a standardized way to represent transactions and collateral on DLT platforms, is essential to improving efficiency.
He noted several recent studies and developments on post-trade processes, driven by the Central Securities Depository Regulation (CSDR) settlement penalty regime and response to EU consultations. “I keep coming to the same conclusion over and over again,” Dale reveals. “Improving post-trade processes will require widespread adoption of both technology and prescriptive standards.”
The brainchild of various industry associations, CDM provides a consensus-driven standard that can be used to standardize legal documents across platforms and entities. The documentation can also be applied to both trade and collateral origination and lifecycle management.
Implementing standards and technology has multiple benefits, including reduced costs and disruption of coordination. Dale suggested common standards could also be used to prepare regulatory reports, which is the biggest cost for companies, according to a 2023 study by Value Exchange.
Benefits aside, there are practical and necessary reasons to standardize payments. Dale explains: “The EU regulatory community has stated at multiple meetings that if the market's payments performance does not improve, regulatory changes imposing fines, mandatory buy-ins, or other mandatory tools will be implemented. ”
As regulatory pressures increase, CDM provides a logical solution.
Regulation and innovation
As industries evolve, regulation and innovation are often portrayed as opposing forces. I believe that it is often difficult for financial companies to be positioned between these two.
When asked about the challenge of balancing regulation and innovation, Clearstream's Delaunay is surprisingly circumspect. He argues that compliance should not be seen as an obstacle to innovation, but rather as an opportunity: “Compliance generates ideas.”
He was keen to point out Clearstream's unique position in this balance, saying, “As a Central Securities Depository (CSD), it is true that we are highly regulated. There are strict rules to follow.”
Again, “we don't see this as a problem, but we see it as a way to make our business more robust and our industry more secure,” he said. emphasizes.
It also highlights how Clearstream, as a CSD, differentiates itself by offering unique services to its clients. “We are the only CSD that offers clearing and clearing repos for central bank funds. This reduces the risk our clients take with their tri-party agents by settling trades in T2S,” he said. explains.
It's clear that Clearstream has found a way to operate within regulatory standards rather than preventing entry into new areas.
Cloudmargin shows similar pragmatism. “Regulatory compliance is non-negotiable, so we need to make regulations our top priority,” White said. “But the key is to frame and meet regulatory compliance within the context of a broader overall strategy and vision. Regulatory compliance success and collateral management innovation are never mutually exclusive. ”
technology
How can companies innovate? Talk to fintechs.
For Broadridge, technology and artificial intelligence offer an opportunity to address pain points in the payments process. Darren Crowther details the securities financing and collateral management (SFCM) platform that Broadridge has focused on over the past two years.
He describes the collateral utility they created. This allows for a streamlined workflow, simplified UX, and a single dashboard view of all margin call types across derivatives and securities financial collateral management. “Our flexible workflow approach has enabled integration of vendors into our ecosystem, resulting in significant automation and reduced manual work,” he comments.
Still, Krauser gives a decidedly balanced assessment of automation. Providing some good news for those still worried about AI taking their jobs, he added: “It's important not to lose sight of the basics of data quality. Poor data quality leads to weaker decision making, and poor connectivity leads to lower STP rates.”
In fact, while technology is often used as a buzzword that connotes modernization, efficiency, and success, many participants distinguish between the promise of technology and practical, working systems that deliver real results. “You can have the best technology and the most sophisticated tools, but they take years to implement, cost a lot of money to operate, and require significant time delays and expense,” says CloudMargin's White. “If you can't change it, there's no point in it.”
He reflects on the significant amount of time and investment CloudMargin has put into making its cloud-based platform flexible and cost-effective. “We believe that if all vendors had this mindset, we would have a more efficient market,” he posits. “Legacy technology that requires patching and upgrading should be a nightmare for all of us.”
Pirum's Crowther offers a similar approach to the topic of technology in collateral management. One particular challenge the company has found is encouraging market participants to adopt new solutions. “As with other drivers of change, this decision is based on a compelling return on investment, cost, duration and risk,” he said.
But the results speak for themselves. “The growing impact between efficiency and inefficiency, given the benefits of material costs and collateral optimization, is leading companies to embrace transformation in the collateral space,” Todd Krauser explains.
digitalization
As regulatory standards evolve and technology advances, what can we expect from the future of collateral management?
“The trend is towards stronger regulation, more CCP flows, and greater integration and connectivity between players,” Delaunay says. “These are interesting times, especially in digital.”
In fact, when asked about the future of the collateral space, all of my interview participants mentioned one topic: digitalization.
Todd Crowther said Pirum is “leading from the front” when it comes to accelerating the adoption of new technologies such as DLT, AI, blockchain, and tokenization. He emphasized that the company is focused on integrating new solutions with existing market infrastructure.
Broadridge's Darren Crowther discusses the important role of CDM in allowing AI tools to manage more of the remaining exceptions. This “further reduces operational risk and enables teams to return value to the business in other ways.” For ISLA’s Dale, collateral management as a service will only grow as the rise of digital assets and advances in technology pave the way for new asset classes.
The choice is clear: adapt or retreat.
“The industry doesn't have a choice,” White warns. “Processes must be modernized, automated and optimized. Enterprise profits and effective risk management depend on processes.”
