Solutions: Sec Finance

market analyst, Astec Analytics, SunGard's capital markets business

Short Selling Bans: Are They Effective?

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A version of this blog post originally appeared on Forbes.

Over the past few years, economic turmoil and global recession have brought about a surge of political pressure to intervene in the markets in hopes of preventing, or at lease lessening, the world’s troubles. More than this, fears of “shadow banking” and the role lenders had in bringing about the credit crunch and recession means legislators have never had such free reign in curbing the industry and implementing controls on free market mechanisms. One tool widely used has been to enact restrictions on short selling, which have been implemented to different degrees across many countries.

But does this actually work? Does limiting traders from selling shares short for example, stop or help reduce the decline in the stock market? This is the subject of the latest white paper published by SunGard’s Astec Analytics, which, using Spain as the setting, utilizes Astec Analytics securities lending data to examine the effectiveness of short selling bans.

The investigation in “Effectiveness of Short Selling Bans on Minimizing Stock Decline” looks at two main areas that are often cited as the benefits of short selling restrictions: actual stock market performance and the volatility of the stock market.

Stock market performance actually has been heralded by both sides of the argument as evidence for the effectiveness on bans. As we can see from the graph below, which shows an indexed comparison of the DAX and IBEX in the months following the latest Spanish short selling ban, at certain times and under certain circumstances, stock markets have climbed and even outperformed other, usually stronger markets.

On the other hand, numerous short selling bans have seen no such recovery, and in many cases seem to have had no impact on downward moves whatsoever. Add to this the many other factors that could be having an impact on the stock market, and it may be difficult to filter through the noise and draw a definitive conclusion. In the case of Spain, for example, although the IBEX 35 did outperform Germany’s DAX following the instigation of the ban, this doesn’t take into account other contributing factors, predominantly that the Spanish market had been massively underperforming in the first place. As the domestic issues were generally resolved, through actions such as the banking bailout, the Spanish market was able to bounce back more sharply than many of its peers.

In fact, when comparing periods when a ban was and wasn’t in place, we see very little correlation between short selling and overall market performance. At this point, it is worth noting one strong caveat: Astec Analytics data may indicate that over a long period of time, and on an aggregated level, levels of short selling have had little correlation to the Spanish stock market performance, but this isn’t to say they have no impact. Indeed over shorter periods of time, and under specific circumstances, short selling activity can be a very useful indicator of share performance. Naturally, under these periods the correlation is very significant.

Ultimately, politics have been the driving force behind the implementation of short selling bans throughout the world. The bans may have a place, and indeed the much-used argument that “without a ban, things could have been worse” is hard to prove or refute. But the potential for short selling bans to actually cause more problems than they solve is not one that should be ignored. Even when used with all best intents and purpose, there is little evidence to support the idea of how useful they actually are.

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senior vice president, Astec Analytics, SunGard’s capital markets business

Trade Repositories: The Answer to Life, the Universe and Everything?

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The Financial Stability Board (FSB) has recently released a set of recommendations for regulatory reporting on the securities lending and repo markets. The report underpins the FSB’s aims to manage systemic risk as well as prevent a shortfall in collateral liquidity. Both are excellent aims, but if the industry was looking for definitive leadership, I wonder if the opportunity has already been missed?

Let’s pick on two salient points: national versus global repositories and minimum haircuts.

The FSB report suggests that each national authority can set up a trade repository for its own jurisdictions, but it does not specify what that repository should actually include or cover. Gathering securities lending and repo exposures between organizations will indeed give an indication of the impact of one counterpart defaulting. However, it ignores the fact that such organizations will trade with each other on many levels and across multiple products. The financing business is large, but is a long way from the whole picture. Further, setting off each jurisdiction to develop its own solution sets the stage for all such systems to be different, as well as the double-counting of some of each other’s data while missing the rest. Independent solutions ignore the fact that financial markets are truly global businesses. Do we need a global solution, then?

The report does recognize that “one or more global” solutions would have an advantage – but if a global repository is the right thing, why have more than one?

Designing the solutions, whether national or global, and gathering the data, are very large tasks. This is long before the regulatory bodies look into the data and try to understand what they are looking at, let alone derive actionable information from it. The prospect reminds me of biting into a six-inch-thick peanut butter sandwich –it seems like a great idea at the time, but the execution is far from easy.

The FSB has also covered the idea of minimum haircuts for collateral. On the face of it, this seems like a market intervention too far. However, just prior to the Lehman default, there was a steady move towards a zero haircut on U.S. Treasury lending. In a highly commoditized market, there were few other variables to adjust to differentiate yourself, and it became a race to the bottom. Thankfully, the idea never really got out of the blocks, and with the following crash in the credit markets, that seems like a bullet dodged.

If minimums were to be set, they would naturally become maximums as competitive market pressures push the participants. However, there would be a floor beyond which they could not go, and surely this would be a good thing for the industry and importantly, investors.

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market analyst, Astec Analytics, SunGard's capital markets business

Netflix: Poison Pill or Poisoned Chalice?

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This blog post originally appeared on Forbes.

DVD and streaming media company Netflix (NFLX) has been seeing some interesting press recently. As the market for online videos took off, so did the prospects for Netflix, a company seen at the forefront of an exciting new industry. However following a botched attempt to split its DVD and streaming video business last year, and the build-up of rival businesses by companies with larger brands and more financial power, the future for Netflix now seems far from certain.

There have been some mixed signals to say the least. At the end of October for example, rumors that Microsoft may be making a bid for the company sent its share price rocketing; climbing almost 30% in two days. Just last week ‘corporate raider’ Carl Icahn announced he had taken a 10% stake in the company, saying Netflix is undervalued and may be a prime candidate for sale or some other form of boosting its value. Netflix did not take too kindly to this however. Instead it instigated a ‘poisoned pill’ shareholder rights plan, which in effect means an active investor’s stake would be severely diluted if they increased their holdings above the 10% level.

Meanwhile Amazon has launched a paid subscription service which many see as a rival to Netflix, although to what extent this proves to be true is not necessarily clear. What is becoming clearer is that with this growing interest, those traders actively taking bets against the company are growing in number. A look at securities lending data starts to tell us the story.

Over the past 12 months the number of Netflix shares being borrowed, a prerequisite for short selling, has climbed almost 200%. Although this was prone to some fairly wide fluctuations in the first half of the year, since July the volumes have really only been going one way – up! Similarly, the price traders have been willing to pay for the privilege of borrowing Netflix shares, another reliable proxy for the demand to sell short, has been climbing steadily since summer. Both volume and rates really took off however, when the Microsoft rumor caused the company’s shares to jump. In a seemingly direct inverse of the price move, the volume of shares being borrowed has also climbed by 30% since the rumor, while the cost of borrowing Netflix stock jumped from just 0.78% on an annualized basis to 4.4%.

So what does this tell us? Well, despite the hype surrounding the streaming video business, it would seem that the market has been taking an increasingly skeptical view over the past year. At the same time, the prospects for Netflix itself have perhaps been getting more uncertain. What is even more telling is the reaction of the market to the Microsoft rumor. Such a positive piece of news for the company, while sending share prices higher, doesn’t appear to have improved the outlook overall. In fact, it seems as though many in the market were highly skeptical, not just of the rumor but of the increase in share price.

Despite Mr. Icahn’s assurance that the company is undervalued, many would seem to think this price jump brought it towards overbought territory. Although the 30% climb in share price is by no means insignificant, the company’s share price is still well below the peak of last year. If it is overbought now, what chance is there of it climbing further? Without a fundamental shift in favor of Netflix, or some broader improvement for the company that is yet unforeseeable, the lending data would indicate caution is well advised.

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market analyst, Astec Analytics, SunGard's capital markets business

Short Selling: A Cold Gust for Wind Energy?

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In the next two months, a 2.2 cents per kilowatt tax credit for producers of wind energy, originally set up in 1992 by George Bush Sr., is due to expire, and so far the U.S. Congress has shown no sign of extending the subsidy. Naturally this is having a worrying impact on the sector; just recently Vestas Wind Systems, the world’s largest wind turbine manufacturer, has been making a series of lay-offs while closing down a number of its facilities across the United States. As if it were not facing enough hardship in the U.S., Vestas’ own Danish government has come out and said it will not offer financial support to the company to bridge it through times of financial stress, with Vestas already posting a series of warnings thanks to the escalating costs of developing its V112 turbine. As the industry’s largest player, where it goes, so will the rest follow – at least in view of a skeptical public. So what bet is the market taking on Vestas?

Over the past 12 months, the share price of Vestas has collapsed almost 60 percent, and despite a short-lived rally in September, remains under pressure as fears surrounding the green energy sector continue to weigh. But more than this perceived caution however, securities lending data from SunGard’s Astec Analytics shows that there may also be significant pressure coming on the share price from those selling it short. This is a key difference; caution about a company leading to a lack of demand and a falling share price is one thing, but pressure being placed on a stock by those who think it is set to fall further can represent a real problem for its future.

The securities lending data shows us that over the past year, the volume of Vestas’ stock being borrowed, a prerequisite for short selling, has been increasing steadily – now up around 40 percent. At the same time, and perhaps even more significantly, the rate traders have been willing to pay for the privilege of borrowing Vestas’ shares, again a show of demand for borrowing and a proxy for short selling, began to increase around June. Initially subject to some wide fluctuations, the cost of borrowing has seen a more steady increase over the past 8 weeks or so. Those wanting to sell the stock short are now paying more than 10 percent annualized in order to do it.

So what does the future hold for Vestas? Well despite this seemingly downbeat outlook from the market, there is perhaps hope on the horizon. For one, although the U.S. subsidy shows no signs of being renewed, this in many ways has been the case because of the elections. The simple fact is that with an unknown factor in the form of both Presidential and Congressional elections (after all representatives and senators are also getting elected tonight), the tax credit still has a chance of being renewed before it expires in December. In addition, although the Danish government warned it will in effect not bail out Vestas, the government is still largely pro-green energy, with around 6.4 percent of the country’s power currently coming from wind.

There are certainly shadows on the horizon for Vestas, and a growingly austere world may not be as keen on expensive renewable energy as it once was. However, along with the shadows there is also optimism. The worst of the potential problems for the company have not yet come to fruition, and may never do so. The results of the U.S. election will be key, not just for Vestas but across the renewable energy sector. The lending data certainly suggests the market seems to be making bets against Vestas, but as we all know, the market has been wrong plenty of times before.

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senior vice president, Astec Analytics, SunGard’s capital markets business

Regulatory Alphabet Soup: ESMA, UCITS and ETFs

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A certain excitement spread through the securities lending market during August 2012. A new set of guidelines from ESMA (European Securities and Markets Authority) that govern securities lending for UCITS (Undertakings for Collective Investments in Transferable Securities) and ETFs (Exchange-Traded Funds) were published. These guidelines, due to come into force in February 2013, had the laudable objective of strengthening and harmonizing regulatory practices, but one particular aspect was jumped on and, unfortunately, misinterpreted.

It is entirely appropriate for ESMA to underline that any investment vehicle is run for the benefit of the investor, but this was interpreted by some as guidance over how services are provided to those funds and how they pay for them. Those misinterpreting the guidance hailed the end of payments to agent lenders for providing securities lending services, whereas it seems the focus was intended to be on the third-party splits that fund managers themselves take from the lending revenue.

The International Securities Lending Association stepped quickly into the breach and gave a clear message about just what ESMA had intended. But is ESMA right? Or is there a place for a third split paid to the fund manager? HSBC Asset Management does not seem to think so, announcing on August 23 that it would be “returning all profits from securities lending operations” across its UCITS range.

Many asset managers, including those managing ETFs, are believed to charge some level of “oversight” or management charge for stock lending, and it is rumored that in some cases these are as much as 70 percent of lending revenue. If so, once the agent lenders’ fee split has been taken out, there would be precious little left for the fund. While it is clear that some charges can be excessive, if the manager is providing an actual oversight function for their clients, then there is an argument for charging a fee of some sort. Such fees should, of course, be proportionate and transparent, allowing the investor to make an informed decision as to what service provider he or she selects.

Returning more of the securities lending revenues directly to the funds will no doubt improve their overall performance and returns, which will in turn benefit the fund and its managers. However, using legislation to cut off another source of revenue for banks and asset managers will place yet more strain on a system that is already under pressure. To be clear, there is no room and no defense for inflated fees that do not pass “the blush test” in terms of value for money. But investors can make their own choice between high and low cost providers without the help of a regulator.

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senior vice president, Astec Analytics, SunGard’s capital markets business

Are You Playing for Manchester United?

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Adding Robin van Persie to the team at Manchester United (MANU) was intended to hail a turnaround for the club’s performance. The much anticipated debut for the £22m player ended in a 1-0 loss to Everton. Van Persie is not the only big name to join the bench at Manchester United. George Soros has just purchased 3.1 million shares or 1.9% of the club (about $40m worth at Monday’s closing price). Can his presence turn the club’s financial fortunes around?

Soros is believed to be a keen investor in football clubs, but more importantly, he carries a kudos that van Persie could only dream of. The “Soros effect” is believed to have a positive effect on share prices just through Soros’s investment, attracting others who want to benefit from his reputation as a highly skilled investor. Should the short sellers leave the field before they suffer a penalty? Those who have played so far are certainly ahead as the price has fallen almost 7% since the IPO.

Shares on loan for MANU have been relatively low, but the utilization figures we see suggest that the supply is fairly tight, backed up by the huge fees borrowers are willing to pay. Relatively small trade sizes always attract higher than normal fees, but at the -99% rebates seen in the data, these shares are more expensive than Facebook was immediately post-IPO. Shares on loan closed yesterday at just shy of 2m shares, but as the balances rose, the utilization fell, indicating that new supply was coming. This new supply helped borrowers re-rate their trades downward, but MANU remains a very expensive stock to borrow.

SunGard's Astec Analytics Lending Pit Data

The question now is which side do you want to play on? Will you back Manchester United, or do you want to play against George Soros?

senior vice president, Astec Analytics, SunGard’s capital markets business

No “Silly Season” for Securities Lending

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The time known as the “Silly Season” is upon us. An annual tradition, the Silly Season marks that time in the year where nothing of note is happening. As a result, our newspapers usually contain bizarre stories that would never normally get any airtime and people realize that as our politicians are all on holiday, no one is actually running the country. This year is different of course; with the Queen’s Jubilee and the Olympics in London, there is no shortage of activity.

Similarly, securities lending has much going on. For example, the European Securities and Markets Authority (ESMA) has launched new guidelines on income distribution for securities lending. Of arguably more immediate importance, new short selling bans have also been re-introduced in Italy and Spain. Spain has put a three-month ban on all shares in place from July 23, and Italy mandated a new ban for one week only starting July 29 for insurance and banking shares.

In what some have described as an act of desperation, the short selling bans have been introduced as a result of market volatility even though such bans have been shown in the past to be ineffective and indeed even counter-productive to this aim. Such bans have impaired liquidity and damaged already ailing investor confidence; they have also been seen to drive short selling into other European markets.

While securities lending is not equal to short selling, it is a good proxy for measuring such activity, especially as we are now outside of the main dividend season. While it is a little early to see an impact from these bans on lending activity in these locales, prior evidence shows that such bans raise spreads, drive out liquidity and scare investors – presumably exactly what the regulators do not intend. For Spain and Italy, does this herald the start of their own Silly Season, perhaps?

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senior vice president, Astec Analytics, SunGard’s capital markets business

On Your Marks (& Spencer), Get Set, Bid

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Following a torrid first half of sales performance, shares in Marks and Spencer had fallen from this year’s high of £3.89 to a low of £3.12 on July 12, triggering speculation that a takeover bid may be in prospect. Rumors of a bid have boosted the share price almost 10 percent in the last 10 days, but not everyone agrees that this will occur.

While the possibility of a tie-up with another large retailer has been mooted in the past, it seems that the more likely suitor this time round would be a private equity house. However, with a market capital currently exceeding £5.4 billion, it would take an extremely audacious bid to move M&S into private hands, even before a purchase premium is applied which would take it closer to a price of £6bn.

As a result, short sellers have been taking up positions ready to take advantage of the rumors falling flat; shares on loan as of August 1 were just under 70 million shares, rising around a third to 93 million by the close of Friday August 3, pushing utilization up to around 18 percent (on a par with Mothercare, who are suffering their own difficulties, but way ahead of average levels in both the Multiline Retail sector and the FTSE 100).

Data from SunGard's Astec Analytics

The remainder of this week will be of great interest as we see whether the rumors turn into reality or evaporate, when we could see the short sellers heading for the check-out to count their profits.

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senior vice president, Astec Analytics, SunGard’s capital markets business

Trouble Ahead? New Short Selling Regulations from ESMA

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The first half of this year has seen a flurry of activity among regulators as they battle to construct new regulatory regimes that reduce risk, increase efficiency and bring a new level of transparency to volatile markets. Driving this volatility is a series of unknowns, ranging from the longevity and stability of the euro to which country will be next to require a bailout.

I recently attended the annual International Securities Lending Association (ISLA) conference in Madrid, where one of the subjects up for debate was, of course, regulation. Based on the keynote, it seems very clear that increased regulation is coming, whether the industry wants it or not, and it’s coming soon. The keynote opinion stated that the political glue that holds Europe and the single currency together may be more like concrete, and the solution for Europe could be, in fact, “more Europe.”

The new SSR legislation is a prime example of this in the context of the securities lending industry. While its primary aims are to increase market settlement certainty and reduce naked short selling, the original drafts included many potentially serious unintended consequences for securities lending, and by association, the wider financial market itself through reduced liquidity, wider spreads and poorer price discovery. Thankfully, much of this has been avoided through effective use of the short consultation period available, but in the run up to implementation of the new rules in November this year we face a new problem – that of interpretation and application.

At the conference, I co-chaired a well-attended roundtable on SSR. Two aspects of that session raised concerns that are worth further debate. In a room of more than 30 people, there was only one agent lender. He agreed with two senior representatives of two large borrowers present that the lending community were generally taking little action responding to the new SSR regulations, instead expecting their borrower counterparts to create a new one-size-fits-all liquidity measuring and locate recording process for them. While this may sound like a good idea, the two major borrowers then explained that they had totally opposing positions in interpreting the regulations, so how they were going to apply them?

While as an industry, securities lending has an amazing way of finding its way through difficulties, there could be trouble ahead.

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executive vice president, Astec Analytics, SunGard's capital markets business

Securities Lending: Eyes on Facebook and Zynga

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Viewing the movement of securities lending volumes and prices for stocks during the day can provide a detailed picture of market sentiment on a minute-by-minute basis. This can be especially useful after a major announcement.

It is apparent that the price movements and market sentiment responses to corporate news are more immediate with social media associated stocks than they are with traditional manufacturing companies. Perhaps this is not so surprising given the will o’ the wisp nature of the former. At the end of the day, if Caterpillar is in trouble, you have a stockpile of large dumpers and diggers to play with in your personal sandbox, but what have you got with Internet and social media companies?

Today, the arcane market of securities lending watched for Facebook’s first earnings announcement. Facebook’s stock price was affected by the poor results from Zynga yesterday on July 25, but what were the short sellers going to do?

Well, writing at midday Thursday, July 26, the early morning was quite slow to get going, which was remarkable for its “unremarkableness.” Certainly, there was not much borrowing of shares to support increased short selling activity in either Zynga or Facebook by mid-morning. However, things have started to move since then.

By lunchtime, according to our real-time data, the cost of borrowing Zynga shares had doubled to about 1% per annum as had the cost to borrow Facebook, which rose to 0.85% per annum. In addition, the volume borrowed of Zynga shares had increased by nearly 2 million shares on an already outstanding borrowed volume of about 20 million. While not as large an increase was seen in Facebook volumes, it was ticking up slightly.

It remains to be seen what might happen following Facebook’s announcement after the close of trading.

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