Corporate pension plans gain from rule change

Corporate pension funds' securities lending activities should get a boost and become more profitable if new regulations proposed by the Department of Labor become law.

The DOL's proposal would allow ERISA-governed pension plans to lend securities to U.K.-based borrowers and take collateral for the loans in either pounds or euros. Currently, they can only lend to U.S.-based borrowers and take collateral in U.S. dollars.

Public pension funds and mutual funds, which are not governed by the Employee Retirement Income Security Act, have been doing this type of securities lending for years.

If the new rule goes into effect, it is expected to have the biggest influence over the lending of international securities and fixed-income lending. The comment period for the proposed regulations ends Dec. 8. Securities lending executives think the new rules will be approved by February.

"It's a watershed event," said Ed O'Brien, executive vice president and head of securities finance at State Street Corp., Boston. Executives from banks that handle securities lending, along with the Risk Management Association, have been working for more than 10 years to get the rules changed, according to Mr. O'Brien.

"The RMA has been very active working with the DOL for a number of years," said Mr. O'Brien. "One of the original petitions was signed in 1990 by Ralph Vitale," he added. Mr. Vitale retired in June as an executive vice president of State Street.

Gene Picone, global product executive in securities lending at J.P. Morgan Investor Services Inc., New York, has been involved in the effort to change the rules for almost 10 years as a member of the RMA's executive committee.

"The new rules are coming in at just the right time," he said. Foreign collateral has found a strong niche in the securities lending area, he said, and it's important for ERISA plans to be able to take foreign collateral in securities lending.

Mr. Picone also thinks the new rules will lead to increased revenues for ERISA pension plans from their securities lending activities. "Pension plans will put more securities out on loan and make more money, or they will get better fees for those same loans and make more money."

But Mr. O'Brien believes it is more likely that more ERISA assets will go out on loan, but not necessarily at higher rates. However, he added that "it may be that ERISA plans going forward will get more (securities) out on loan, so they will get a greater utilization rate (from their securities) and they will earn more money from that."

Executives from corporate pension funds are happy about the new rules.

"Any time you broaden the amount of firms you can lend to and the collateral that you can take, it helps the lending of funds," said William F. Quinn, president of AMR Investment Services, Fort Worth, Texas, which oversees American Airlines' $11 billion pension fund. "It will improve our results from securities lending."

"It certainly has to help (securities lending); anything like this would help," said Ira Powell, chief administrative officer for DuPont Capital Management, Wilmington, Del., which oversees the $14.5 billion E.I. du Pont de Nemours & Co. Inc. pension fund. "I know that State Street (the fund's custodian) is in favor of it, so it has to be in our best interests," he added.

"For (ERISA) funds that have international securities they can be more efficiently lent by those guidelines," said Chris Kunkle, first vice president of Mellon Global Securities Lending, Boston, and a member of the RMA's executive committee. "The pension plans will have the benefit of lending into the foreign broker network, which can more efficiently use their securities," he added.

Mr. Picone thinks that the biggest benefits to ERISA pension funds will be from lending international securities. "They had to find a way to make the securities more attractive," he said. "If this (the rules) didn't change, they (pension funds) would have lost business to European lenders," he added.

Fixed-income securities lending will also benefit from the rule changes, according to Mr. Picone. It will be cheaper for a borrower to obtain foreign fixed-income securities from ERISA plans under the new rules because they will not have to deal with foreign-exchange risk if they can give collateral in euros or pounds, he said.

Tom Ford, head of securities lending at Bank of New York, agrees the fixed-income securities lending by ERISA pension plans will benefit from the new rules.

"Non-U.S. fixed-income markets are typically collateralized by securities denominated in local currencies, or by cash with the euro as collateral. Those trades had been lost to ERISA plans. They will be positioned competitively now," said Mr. Ford. "It is a market they (ERISA funds) had been almost completely shut out of."

The new rules "will allow them (ERISA plans) to be more competitive (in securities lending) than they are today," said Mike Vardas, senior vice president of Northern Trust Co., Chicago. "ERISA funds were at a relative disadvantage to other (public) pension funds in securities lending."

State Street's Mr. O'Brien pointed out that some large U.S. broker-dealers with U.K.-based affiliates have gotten exemptions from the rules and have been borrowing from U.S. corporate pension funds for years.

He also pointed out another potential large benefit from the new proposals, once they are approved. "It opens up the dialogue with the DOL to go in and ask for more," said Mr. O'Brien. He said the DOL has indicated it will consider allowing ERISA funds to lend securities to borrowers from other countries besides the United Kingdom if the DOL get appropriate information about how those markets are regulated.