In 2014, the tri-party repo market will undergo significant reform in the settlement process in order to essentially eliminate intraday credit risk, as clearing banks will no longer provide the same credit to handle the unwinding process for repo transactions. As a result, participants need to be prepared to adjust their timing for moving cash, explained panelists at the IMN 20th Annual Beneficial Owners’ International Securities Lending Conference in Austin, Texas.
As part of the reform, the Federal Reserve Bank of New York recommended that the two major tri-party repo clearing banks, BNY Mellon and J.P. Morgan, set their settlement deadlines for tri-party repo maturities to 5:15 p.m. ET and moved the timeline to receive funding for the unwind from the following morning to 3:30 p.m the same day. As funding would be received earlier, the banks would not need to extend credit to cover maturing positions.
Currently, even after 3:30 p.m., clearing banks still provide credit so dealers can return cash to investors. But this will no longer be possible once J.P. Morgan initiates the Fed’s recommendations first, targeting implementation in the first quarter this year. BNY Mellon plans to be ready by the fourth quarter this year.
“This is going to require a lot of change,” said Vic Chakrian, vice president of the Federal Reserve Bank of New York. “Currently 60-80% of funding comes in after 5 [p.m.]…this is change that won’t be easy, but it will be required.”
So rather than relying on the clearing banks to extend intraday credit as they may have in the past, dealers will need to ensure they have more of a handle on their own ability to unwind repo transactions.
“We need to position ourselves as such that we have our own liquidity, or through an amount of credit up to 10% of our tri-party book that clearing banks will extend us, that we’re in a position to meet our maturity requirements,” said Edward Corral, executive director at Morgan Stanley. “Every day we should be terming out our books and early matching our trades. Dealers needs to position themselves so that they are able to finance their books every day.”
Panelists also stressed that in order for implementation to be successful, investors need to take a proactive approach to understand the process and services that clearing banks provide. After implementation, dealers will need to receive cash on time in order to finance the unwind process, and netting positions will make it easier for parties to transact efficiently.
“We can’t emphasize enough that cash needs to be delivered on a timely basis, and netting is an absolute cornerstone for this whole process to work,” said Corral.
Tri-Party Repo Reforms Aim to Eliminate Intraday Credit Risk
In 2014, the tri-party repo market will undergo significant reform in the settlement process in order to essentially eliminate intraday credit risk, as clearing banks will no longer provide the same credit to handle the unwinding process for repo transactions.