Financing Risks Revisited
A fresh look at best practices for securities finance and delta-one derivatives
Financing risks pervade many products and transactions, paving the way for future losses if they are not managed with rigor and consistency.
Trading losses suffered by some dealers triggered a review of risk policies and business activities across the industry; the damage associated with the failure of Archegos Capital Management was only one example of securities financing and delta-one trading gone awry. Financing risks are now also playing out in crypto markets as leverage unwinds in painful fashion, and in traditional capital markets more losses may be lurking in financings that are not adequately secured.
Among these risks, and despite prudential measures prompted by the Financial Crisis of 2007-08, unsecured credit exposure in financing transactions now dominates, with devastating consequences. Risk management often falls short when revenue targets or client relationships are at stake, and losses tend to increase while responses are debated.
This paper covers business, client and risk management, transactions, culture, organization, skills and capabilities. It is worth reviewing these fundamental principles in order to reset risk parameters, tighten operations, and avoid losses that can exceed the profitability of the business itself. Regulators may find it a useful resource during examinations, and asset managers should take heed — both to understand the challenges facing their counterparties and to ensure the stability of their own financing sources.
- 01 Securities finance defined
- 02 Financing risk defined
- 03 Primary sources of financing risk
- 04 Revelations from the Archegos transactions
- 05 The case for minimizing unsecured risk in securities finance
- 06 A brief history of unsecured risk in securities finance
- 07 Prospects for future losses
- 08 Managing securities finance and delta-one derivatives
- 09 Final thoughts
Risk management often falls short when revenue targets or client relationships are at stake, and losses tend to increase while responses are debated.