Three out of five pension plan executives surveyed by Finadium believe securities lending revenue will shrink over the next two years, a decline driven largely by a drop in hedge fund demand and other external factors.
Only 15% believe revenue will grow, while 25% believe it will stay unchanged, according to a report by Finadium, a financial markets research and consulting firm, on Jan. 19 that details the survey results.
“Declines in hedge fund borrowing have reduced the size of the securities lending market by over 40% from its 2008 high; this in turn has meant a sharp reduction in securities lending revenues for plan sponsors,” according to the report, “U.S. Plan Sponsors on Securities Lending, Collateral Management and Custody in 2011: A Finadium Survey.”
Among the 98 corporate and pension plans surveyed, securities lending revenue fell 30% in 2010. In 2008, it had increased 8%.
“While plan sponsors recognize that 2007 and 2008 in particular were extraordinary, a revenue decline of 30% or more would certainly be noticed by boards and could potentially impact custody costs or other uses for this revenue,” the 46-page report said.
Among other findings, of the 52% of plans that have securities lending fee splits with agents, the dominant split rose to 85/15 in favor of plan sponsors, up from 75/25 in recent years.
This change “has been driven by increased competition between major agent lenders, including those who according to plan managers have proactively lowered client fees, as well as more aggressive negotiating by plan sponsors,” the report said.
Some 80% of plan executives favor using intrinsic-value-based securities lending programs, which lend based on the return from the demand for securities on loan, while 20% support programs that combine return from the demand for the securities and collateral reinvestment.
“Plan executives note that intrinsic-value lending is really a return to what the lending business was supposed to be at the beginning, and that the move into mortgages and other riskier collateral investments were the sole reason for losses over the last couple of years,” the report said. “As these collateral investments were made to increase collateral returns, and a focus on increased collateral returns suggests the utilization approach to lending, by sticking with intrinsic value lending a substantial amount of trouble could have been avoided.”
Eighty-two percent of the respondents believe securities lending revenue is “somewhat important” to their pension fund return. Only 9% believe securities lending revenue is “important” to their pension fund return, while 9% believe it is “not important.”
The public and private pension plan executives surveyed have $2.23 trillion in combined assets. The report includes findings of interviews, conducted in the fourth quarter of last year, with 27 plan executives and managers overseeing $894.6 billion in assets.
