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T+1 will increase ETF lending costs and volumes
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Exchange-traded fund providers are facing additional costs in their securities lending business due to the shift in the U.S. settlement cycle to T+1, as industry observers expect an increase in securities lending.
The United States, Canada and Mexico have moved to a shortened settlement cycle end of May for U.S. corporate stocks and bonds two business days after the trading date, called in the industry T+2, overnight, or T+1.
The move has significant implications for the industry as many of the largest ETF issuers, representing 80% of global ETF assets, engage in securities lending programs to generate additional income on behalf of their ETF, according to Brown Brothers Harriman.
However, the International Securities Lending Association said the difference in settlement cycles between the U.S. and Europe creates a “misalignment” that will drive additional costs into the ETF lending market.
This article was previously published by Set Europe on firea title belonging to the FT group.
Tony Holland, regulatory and markets consultant at Isla, said the US move to T+1 created a “misalignment funding gap” for ETFs engaged in securities lending.
“How can you pay for something at T+1 if you don’t receive the cash proceeds from the investor until T+2? “Holland said.
He added that it was unclear “whether a fund will be shorted to pay for the U.S. security,” whether the authorized participant will “swallow” the cost of financing, whether the cost will be passed on to the ETF creator, or whether the cost will be passed on to the final fund investor once settled at T+2.
ETFs may need to “pull more levers to put themselves in a position to raise the cash funding needed to pay for the U.S. security at T+1,” he added.
Others agreed that the move to T+1 would trigger more activity in the securities lending market.
Matthew Chessum, director of securities financing at S&P Global Market Intelligence, said: “We expect volumes to increase following this change.
“Securities lending will be necessary to help provide liquidity to asset holders, who need to cover short positions that are expected to be generated by a mismatch in settlement dates or settlement dates. [foreign exchange] currency settlement cycles.
He added, however, that he expected the increased activity to be short-lived.
“While we expect volumes to increase, many asset owners and investors already operate across multiple time frames and settlement cycles. »
“As a result, many are well-trained in navigating these complex environments, so over time we expect these additional volumes to moderate,” Chessum said.
Adrian Whelan, global head of market intelligence at Brown Brothers Harriman, agrees, saying he expects securities lending activity to increase in the near term.
Deborah Fuhr, ETFGI managing partner, also expects increased demand for borrowing to ensure payments are made on time.
“There are rules and penalties if you don’t settle in on time,” she said.
“By borrowing securities, you can ensure you pay debts on time. So I think in the short term, the amount of borrowing will increase to ensure that settlements happen more quickly than in the past. »
*Ignites Europe is a news service published by FT Specialist for professionals working in the asset management industry. Trials and subscriptions are available at igniteseurope.com.