# Podcast: how central banks use securities lending

Central banks are 'critical' participants in the securities lending market. Securities lending is the practice of loaning shares or bonds for which a borrower puts up collateral and pays a fee.

Securities lending works as a “portfolio overlay strategy to deliver alpha or excess return to a portfolio of fully paid securities,” Michael Saunders, head of agency lending for the Americas at BNP Paribas Securities Services, tells Central Banking.

Central banks may use securities lending to inject liquidity into a market, or increase their own returns.

In this Central Banking podcast, Saunders talks about why central banks’ high-quality liquid assets are highly sought after in the market.

“There is about $24 trillion of assets in the securities lending market on the supply side, with about$2.5 trillion of assets on loan,” Saunders says.

Breaking that down a little further, “about $2.2 trillion of sovereign debt is available to be lent in the market”, with a current balance today of “about$800 billion”.

Market players may want to borrow high-quality liquid assets to meet regulatory ratios, such as the liquidity coverage ratio or the net stable funding ratio.

Another demand driver for securities lending is opportunistic lending or trading. That can be achieved by “taking advantage of the cross-currency basis spread trade”. Often, this is a measure of dollar shortage in the market.

Central banks may also trade on the 'specialness' of a specific issue, whether it's a UK gilt, a German Bund or a US Treasury, that is subject to exceptional demand in the market.

Because central banks provide liquidity to the market, by injecting assets that are in demand from counterparties, they are 'ideal' participants in securities lending.

“Most central banks prefer to operate on what is known as a non-cash collateral transaction,” Saunders says. This means they are willing to accept securities for the one being borrowed by a counterparty.

There are also capital benefits to banks' risk-weighted assets when borrowing securities, as well as balance sheet benefits, that allow counterparties to borrow 'significantly'.

Despite some central banks’ reserve portfolios declining 'substantially' to fund socioeconomic campaigns as a result of the turmoil of recent years, Saunders says he sees central banks willing to engage in low-margin, high-notional volume transaction securities lending.

Whether engaging in collateral transformation, monetising special trading or engaging in a cross-currency collateral swap, these three dynamics are transparent from a pricing perspective, Saunders says.

Index

1:00 Introduction

3:31 Types of securities lent

5:54 Borrower aims

7:52 Demand drivers

9:47 Pricing

11:49 Cross-border lending

You need to sign in to use this feature. If you don’t have a Central Banking account, please register for a trial.