One of the many lessons of the global financial crisis was the need for regulators to have good insight into securities financing activity. Now, European regulators are, for the first time, detailing the results of their efforts to get a handle on that shadowy market segment.
In a new report, the European Securities and Markets Authority (ESMA) published the first comprehensive market-wide overview of the €9.8 trillion securities financing market — which generally represent secured lending transactions backed by securities, such as repo trades, securities lending and margin lending arrangements.
These kinds of transactions, “represent a crucial link between financial intermediaries by providing short-term funding, facilitating hedging and supporting secondary market liquidity and price discovery,” ESMA said in its report.
These connections can also transmit risks in unanticipated ways.
Indeed, the regulators noted that the financial crisis “highlighted the systemic dimension of securities financing, as [this activity] could exacerbate funding strains in times of market stress.”
In response, global policymakers, the Financial Stability Board (FSB), called on regulators to enhance their oversight of these markets, and step up the collection and analysis of data on these activities.
As a result, regulators are now collecting “an unprecedented level” of data on securities financing transactions, ESMA said.
“Its primary objective is to contribute to our supervisory and systemic risk assessment work at ESMA, including on financial stability and other areas,” the report said.
While this work remains in its early stages, ESMA detailed the results of its initial data collection efforts in its report.
The first edition of this reporting focuses on repos, which make up the majority of the securities financing activity (68%), with securities lending activity accounting for much of the rest of the market (23%), ESMA noted.
Repo activity rose by 11% year over year in 2023, the report said, totalling €6.7 trillion, with the majority of this activity happening over the counter.
The report found that less than half (43%) of repos traded on an exchange, and only 8% of securities lending transactions take place on an exchange.
The higher level of exchange trading for repos reflects the fact that most of these transactions involve financial institutions on both sides of the trade, whereas securities lending trades usually involve banks and other kinds of financial firms on one side, with non-financial players on the other side of theses kinds of trades, the report noted.
Most of these trades (84%) involved specific forms of collateral, with government bonds representing the most popular form of collateral (87%).
ESMA said it will continue to monitor and analyze risks in securities financing markets.