Watson Wyatt has recommended clients suspend their securities lending if they are in doubt about their lending guidelines and arrangements with their lending agent.
The firm told its clients that the risk reward trade off around securities lending had changed and may no longer be worthwhile.
“Recent events have had a substantial impact on securities lending practitioners and their clients. It is imperative that institutional funds review their lending arrangements to ensure they fully understand the risks involved and confirm their lending guidelines are appropriate,” said Watson head of strategy Tim Unger.
He identified counterparty risk, indemnification and collateral as key areas that an institutional fund should focus on when their securities lending program is run on an agency basis by the fund’s lending agent.
While lending agents coped well with re-purchasing clients’ assets following the collapse of Lehman Brothers, the default of the company showed the dangers involved in counterparty risk.
Unger said the collateral agreed on for an institutional fund’s lending program must be in line with its risk tolerances, generate high quality, and clients must be aware of the potential risks involved in indemnification.
