Fidelity Investments
Justin Aldridge, head of agency lending at Fidelity Investments, speaks to Bob Currie about Fidelity’s track record in lending and prime brokerage, the launch of its agency lending programme and the value of being able to serve large complex institutions through an automated, customisable service
What motivated Fidelity to launch an agency lending service? How was this shaped by your previous experience in lending fund assets?
Fidelity Capital Markets (FCM) has been a significant participant in the securities lending market as a borrower, principal lender, prime broker and lending agent for over 20 years. These business units have thrived and provide unique and meaningful solutions for our clients. Fidelity began lending on behalf of its institutional and retail clients in 2001. In 2003, we launched our prime brokerage offering, Fidelity Prime Services, by leveraging our captive supply base and our strong credit profile as a large, privately held institution.
Today the prime brokerage group services some of the largest and most-sophisticated asset managers in the world. From there, in 2012, we identified a gap in the marketplace for transparency and asset managers’ ability to evaluate the performance of their prime brokers and lending agents effectively. Our solution was PB Optimize, which is a proprietary portfolio finance and treasury management solution for institutional investors. This provides unique data, benchmarking, custom analytics and streamlined workflow solutions that maximise revenue and performance for asset managers.
Given the success and experience we have had in our securities lending businesses, it made sense for us to build a best-of-breed lending capability for our affiliated mutual funds. We successfully launched our platform in June 2019 and have delivered our goal of meaningfully improving overall returns to fund shareholders while creating operating efficiencies and customisation.
Given that agency lending is a scale business and we have successfully launched with over US$2.4 trillion in attractive assets, it was logical for us to offer this service to the marketplace. The market needs an agent with new technology and a proven ability to serve large complex institutions in a highly automated and customisable fashion that is backed by a large and reputable firm known for putting its customers first.
Our experience as a major player in all aspects of securities lending most certainly shaped our vision and the development of Fidelity Agency Lending (FAL). We can tackle many of the major pain points that most lenders face and we have our systems on innovative proprietary technology and connectivity that allows us to provide a seamless end-to-end experience. This allows clients to fully customise their lending parameters while taking advantage of our automated trading technology for effective pricing and distribution of their assets using artificial intelligence (AI)-loan decision functionality.
Which firms are your core clients and prospects for your agent lending service? How is this shaped by wider relationships you may have with these clients (execution, prime brokerage, funding ...)?
Currently, our primary target clients are asset managers, particularly US mutual funds and exchange-traded funds (ETFs), and pension plans. We feel that US mutual funds and ETFs are underserved in general as they are looking for higher levels of programme customisation, automation, and unique benchmarking that Fidelity can now provide to external customers.
Being affiliated to one of the world’s largest asset managers, FAL believes it is best equipped to service and support these client types, given its DNA, rich history, and its ability to put clients first in its priorities. Fidelity has very deep and meaningful relationships with the asset management community and we are finding that firms are looking to place their business with providers, like Fidelity, that they view as strategic partners for the future.
How do you assess the current state of the agency lending market?
The lending markets have been very challenging since early 2020, with low interest rates, muted single stock shorting on high short interest names, and limited voluntary merger events. That said, the lending markets are still generating over US$8 billion a year in a less than cooperative market and we are highly optimistic that returns may potentially be even higher if we start to see interest rates return – which will provide additional reinvestment opportunities. Interest rates could also be a driver of increased short demand, as many companies have increased their debt levels during this low interest rate environment and will be impacted negatively if their earnings don’t also increase.
The regulatory environment is always evolving. Market participants are confronted with new challenges every year and we will all work together to find a path forward, while limiting the negative impact to our customers and meeting the needs of the regulators. We are well positioned with our real-time connectivity and flexible technology stack to be able to meet any of the new requirements and initiatives that come from the regulators to support our client base.
Where do you identify primary drivers for growth in the coming 24 months? And which factors may suppress lending activity?
Our primary growth will be through adding new clients to our platform with non-dilutive assets. We are heavily focused on onboarding clients that are underserved and that could benefit from our expertise, scale, cutting-edge technology, and proprietary benchmarking and transparency tools. Given the financial strength of Fidelity, and the strong relationships we have with the borrower community broadly, we expect to see additional growth in demand from the borrowers in our programme as we bring on new clients and they look to diversify their exposures in this market.
The agency lending service provider market is contracting from consolidation and retrenchment from existing providers. However, there are very few viable new entrants on the horizon owing to the high barriers to entry and the scale required to be profitable. We feel we are very well positioned with our scale and commitment and the marketplace has been very receptive since our arrival in the agency space.
Where do you identify competitive advantage as a large international asset manager with an agent lending programme?
As a leading asset manager and large global broker-dealer, Fidelity places a significant emphasis on state-of-the-art technology to ensure it has every advantage when servicing clients. This thought process spills over to all of its businesses. As a private company, Fidelity does not always follow the same path as a public company when funding and launching a new business — and in some cases this can allow Fidelity to bring products to market more quickly. Furthermore, Fidelity has always known that high levels of service are key to maintaining relationships and our agency lending programme follows that same belief.
With US$2.4 trillion in attractive assets, our agency lending programme has the size to be relevant and stable for borrowers — and our clients are not negatively impacted by a large general collateral pool as they wait in the queue at some competitors.
There is also a diversification benefit for borrowers in the FAL programme, since they reach regulatory risk limits with our competitors in this space. Given the attractiveness of our assets, we may see above average growth in demand. Many of the borrowers in our programme have “other” very large relationships with Fidelity and that strong bond has helped to grow this business.
FAL has implemented new, modern technology, allowing clients to implement programme parameters using technology and automation — rather than spreadsheets and people — reducing errors by the agent. FAL has experience in working with some of the most sophisticated investors and ensures that their clients’ programmes operate seamlessly and to their expectations.
This appears counterintuitive according to current management orthodoxy — which tells companies to focus on core competencies (eg managing money) and outsource the non-core. But you have opted to run securities lending in-house for Fidelity fund assets from December 2018 and now commercialise this as a third-party business. Why does this work?
As we discussed earlier, securities lending is a core competency for Fidelity as we have built very meaningful businesses supporting this activity over the past 20 years. It was a natural evolution for us to enter the agency space. We are set up for success because of our programme’s attractive assets, our commitment to technology, and our scale.
In some cases, Fidelity has built businesses to meet the needs of a market segment that has been underserved. FAL is an example of a business Fidelity has launched to work with a strategically targeted segment of the agency lending client base. FAL’s goal is to create a business in which client revenue expands as new clients join, because assets are accretive to the programme.
How does your lending programme measure up in terms of front-to-back efficiency? What are STP rates like across the loan transaction lifecycle? And your ability to provide real-time connectivity to borrowers and lenders?
We believe we are at the forefront of automation and real-time connectivity. We have automated over 90 per cent of our lending transactions with our street-side counterparties and six global custodians. Our ability to transmit, receive, and process this information in real time gives us an advantage over other third-party agent lenders and maybe even some custodians. This allows us to reduce operational risk, generate additional returns, and puts us at the top of the queue with our borrowers.
We have allocated a large percentage of our technology dollars to tackling manual processes in operations and corporate actions and we pride ourselves on being operationally efficient. We believe our agency lending workstation and workflow model is second to none and this is a major selling point to potential prospects. Our existing clients are already benefiting from this technology.
We are well positioned, owing to our flexibility, to support future initiatives such as the Central Securities Depositories Regulation (CSDR), T+1 settlement, and each firms’ ESG requirements. Our access to real-time information allows us to transact as if the assets are held in custody here.
How are lender and borrower requirements changing in terms of the tools they require to support their lending activity and meet oversight and reporting requirements? And for applying ESG screening on collateral and counterparties?
Current market dynamics are compelling institutions to take a more active role in their securities lending programmes to find a competitive advantage. Clients need their agents to be technology driven, enabling them to customise their programmes at scale and consequently provide more efficiency, better connectivity and adaptability than lending agents have typically offered. The importance of securities lending to a fund’s returns has only grown stronger in the highly competitive asset management industry.
Risk-adjusted securities lending returns can be a differentiator and sometimes can fully offset management fees. We are also seeing a proliferation of asset managers utilising lending data to inform their investment decisions on whether to buy, hold and sell securities and they want this information in real time.
With respect to ESG, proxy voting seems to be at the top of the list for our clients. Providing clients with real time, consumable, and actionable data is key to helping them to make the best decisions for their investors. For clients that can take equities as collateral, being able to screen out securities based on their ESG requirements is vital.
What is next in your development pipeline as an agent lender? Where are your clients taking you?
Our top development priorities continue to centre on enhancing our clients’ experience through technology and strengthening their connectivity with their custodians and borrowers while improving their returns. We will continue to make enhancements to our automated trading platform and we plan to release our ESG screening technology in partnership with our colleagues at PB Optimize.
We will also continue to work on our unique benchmarking and transparency tools to assist our clients with programme management and investment decisions. We’ve built our technology to be nimble and believe that we can quickly pivot to manage CSDR requirements, a move to T+1 if that occurs, as well as other regulatory changes down the road.
Our primary focus of late has been with onboarding a new client and outlining parameters for another client that plans to join the programme in the first half of 2022. Fidelity invests billions of dollars annually in its technology enterprise-wide, leveraging scale to develop new capabilities and enhancements to meet clients’ unique needs.
