Ten years on from the financial crisis, investment managers and corporate treasurers are still haunted by the prospect of markets freezing and banks crashing. But, asks Brian Caplen, what happens if their funds are caught in the middle?
Investment funds and corporates are awash with liquidity. This makes the challenge of finding safe havens for short-term money ever more stressful and banks are not always the ideal choice.
If anything, the new banking regulations have made fund managers more nervous about banks, as opposed to than less nervous. Under the Basel III liquidity coverage ratio, banks are less likely to suffer liquidity problems but the new rules also stipulate that banks in trouble should be bailed in rather than bailed out. Small depositors will be protected by guarantee schemes but those with larger funds will be expected to take a hit.
On top of this, regulators are expecting investment managers themselves to hold greater liquidity and, more importantly, to be able to demonstrate how portfolios will fare in times of crisis if hit with redemptions. Iosco, the global standard setter for securities regulation, has given impetus to this trend, with the publication of its final report on Recommendations for Liquidity Risk Management for Collective Investment Schemes. The report raises serious questions for investment managers.
“If 10% of a portfolio’s assets are liquidated, how liquid are the remaining assets and what is the cost of liquidating them?” asks Mark McKeon, global head of investment analytics at State Street, which models portfolios under a range of scenarios from a global cyber-attack to war breaking out on the Korean peninsula.
So far so good, and this should help funds understand and better manage stressed conditions when investors want their money back in a hurry. But this still leaves the problem of where to park funds without having to worry about counterparty risk.
Banks obviously carry counterparty risk and they are charging more for holding liquidity as their own costs of risk have risen.
An unusual answer has come from Safe Deposit Bank of Norway (SDBN) which aims to put funds directly with central banks of AAA countries. In fact, under the terms of its licence SDBN can only hold cash at the central bank which, at the moment, is confined to Norges Bank in Norwegian kroner. A euro service with Banque Central de Luxembourg (BCL) is set to go live in the third quarter.
At present the capacity is relatively small – about NKr40bn (€4bn) with Norges Bank and probably the same with BCL – but discussions are under way to involve the Bundesbank that would give a big capacity uplift in 2019.
SDBN’s chairman, Olga Godinho, who used to structure equity derivatives for Goldman Sachs in New York, says: “This provides asset managers and companies with effectively a put on surplus cash. They pay an annual fee for a certain capacity and then the central bank rate, whether positive or negative, is passed directly though to them.”
With so much liquidity needing a safe haven, no doubt other innovations to help investment managers and treasurers sleep at night will soon emerge.
Brian Caplen is the editor of The Banker. Follow him on Twitter @BrianCaplen
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