In a recent white paper, BlackRock argued that “common misunderstandings” have underpinned recent policy discussions regarding the asset management industry generally and its business specifically. The paper explains the securities lending process and seeks to address some of the misconceptions. Securities lending has been a target for regulators analyzing systemic risk, and served as part of the FSOC’s reasoning in designating MetLife a SIFI.
The document appears to be in response to a research paper released by New York Fed assistant vice president Nicola Cetorelli which identified BlackRock as “one of the largest providers of intermediation services in securities lending.” Cetorelli argued that, based on securities lending-related activities, BlackRock “seems to have the scale and organizational scope to stretch beyond the core business model of an asset manager” and actually looked similar to banks in the securities-lending arena.
The white paper addresses, point by point, issues the firm finds with Cetorelli’s paper. The paper seeks to counter the argument that a conflict may exist where an asset manager in its role as a lending agent to a mutual fund lends securities to a hedge fund that it advises by asserting that “regional regulatory requirements, market practices, and BlackRock’s policies and procedures” prevent it from doing so. The firm also argues that securities lending activities do not introduce leverage into a portfolio because “the effective lending utilization rates are typically quite low and, more importantly, post-Crisis regulations highly constrain the economic risks allowable in cash collateral reinvestment pools.” Further, the paper points out that collateral is used to protect against default, not for other transactions or to purchase additional assets. Pushing back against the argument that cash collateral held in a cash reinvestment pool is subject to run risk and is a source of maturity and liquidity transformation, BlackRock points to SEC and OCC reforms that help ensure a high degree of liquidity in these vehicles.
The firm also argues that indemnifying against borrower default does not pose a material balance sheet risk because such indemnification is only triggered when the collateral value falls short of the amount needed to replace the lent securities. BlackRock asserts that concerns in the area are unfounded because loans are marked-to-market, over-collateralized, and the fact that its indemnification agreements have never been triggered.