GFF: Sovereign risk rising as liquidity falls 26 January 2017Luxembourg Reporter: Drew Nicol
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Regulatory-driven demand for high-quality collateral is creating new risk exposures for repo market participants, according to Michael Manna of Barclays.
Speaking at the Deutsche Börse Global Funding and Financing Summit, Manna highlighted the plethora of established and upcoming regulatory demands to collateralise trades and collect margin, combined with rock-bottom interest rates making cash significantly less attractive, has caused a rush to high-quality liquid assets such as government bonds.
As a result, the exposure of both banks and other financial institutions operating in the so-called shadow banking market to sovereign risk has never been higher or more directly connected.
Manna noted that this creates some "interesting questions" around how the market might fair during future periods of volatility.
In an environment where historic financial safe havens, such as the UK, can lose their high-safety ratings overnight due to political events, this is a legitimate concern.
At the same time, concerned industry figures are flagging the risk of pushing hard-pressed EU repo desks into the arms of wealthy sovereign wealth funds in the Middle East, Africa and the Nordics, which, in turn, are reliant on the unstable foundations of oil prices.
Multiple EU-based conference delegates echoed this concern over the disintegration of market liquidity and admitted to feeling the squeeze on liquidity in the repo space coming from regulation and the European Central Bank's dovish monetary policy.
Additionally, the strict definitions of suitable collateral handed down in new regulatory frameworks was cited as yet another stress factor.
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