LONDON — If 130/30 strategies grow as expected, the flood of money going into securities lending and the number of new players entering that market will force more transparency on securities lending fees, according to a new research paper.
The paper, by London-based Spitalfields Advisors Ltd. and commissioned by Deutsche Bank AG, Frankfort, claims 130/30 strategies could generate an additional $600 billion of borrowing demand in the securities lending market over the next five years; that prediction assumes the 130/30 industry will reach $1 trillion over the same time period.
Growth will drive up demand, and possibly prices, for harder-to-borrow securities such as many small-cap stocks. But the increased demand will also lead to more efficient pricing for borrowing stocks.
“Hedge fund managers will not welcome the increased competition for supply,” the paper said. “Initially, it might be a minor irritant, as focus will be on large-cap, liquid securities, but as the confidence of 130/30 managers grows, there will be a natural progression toward other indices that will inevitably see hedge funds and 130/30 managers in direct competition for assets.”
That competition will lead to more transparency, said Mark Faulkner, Spitalfields managing director and co-founder and author of the paper.
Many prime brokers now set prices based on the amount of securities the manager borrows, the length of time they borrow the stocks and the portion of harder-to-borrow stocks used, Mr. Faulkner said. But as more managers enter the market and establish relationships with prime brokers, the prime brokers will be forced to move away from that model and toward something more efficient, where all managers are offered similar prices based on the demand for borrowing that particular security.
“One of the questions in a lot of peoples’ minds is why these prices (for borrowing stocks) are so high,” Tom Stevens, chairman of Los Angeles Capital Management & Equity Research Inc., Los Angeles. Demand from more 130/30 managers “is going to force these firms to respond,” he added.
Competition among prime brokers will also drive increased transparency, said Mr. Faulkner. “The willingness of providers to share and use data will be a differentiating factor in the market,” he said. Transparency could drive down the price of borrowing some stocks.
“For easy-to-borrow names, the combination of more supply (as more pension funds and mutual funds lend stocks), greater price discovery and increased competition among prime brokers will drive down the price of general collateral stocks,” said Will Cazalet, the director of long/short equities for AXA Rosenberg Investment Management LLC, Orinda, Calif.
But for the hard-to-borrow stocks, “the pricing, even with more transparency, is still going to be driven by demand. You’ll have more people competing for a smaller amount of stocks that are available,” Mr. Cazalet said.
