The European repo market has some way to go to reach the same level of maturity as in the US, but recent developments could help break current volume stagnation, according to research from consultancy Celent.
While in the US market, corporates have traditionally raised money on the capital markets, a feature which helped the repo market there reach a peak of US$4 trillion in 2008, European businesses have tended to prefer bank finance in the form of loans, limiting the development of the repo market.
In particular, the dealer-to-client market is significantly underdeveloped, with the buy-side and corporates reluctant to trade in repos, though Celent believes recent initiatives could increase the use of repos in Europe.
“Today the European triparty repo market is nascent. Amongst recent initiatives, Agency Cash Management launched in 2012 by MTS and Newedge has signed an agreement with Euroclear’s Collateral Highway to ensure straight-through processing and to help cash givers and receivers mitigate counterparty risk by easily collateralising credit exposures with diversified pools of securities on a segregated basis,” a Celent report on repo market structure said.
It also highlighted deals between central counterparty (CCP) Clearstream and money market platform 360T to create a liquidity hub for triparty repo, and moves by Italian central securities depository Monte Titoli to develop a triparty repo service as evidence that the demand for repos in Europe is on the up.
Regulatory developments are a key driver of this change. The European market infrastructure regulation (EMIR) is expected to increase the need of collateral for CCPs, which will result in greater demand for repos for collateral transformation, Celent said.
Improved transparency on pricing stemming from MiFID II is also likely to increase the attractiveness of entering the capital markets for non-banks, adding to demand. Harmonised settlement through TARGET2-Securities is also likely to ease some frustrations many firms have with the flow of collateral throughout Europe, caused by the variety of different settlement regimes currently in place, and further increase demand from firms that have previously been put off by the complexity of European capital market structure.
Improved knowledge of the use of collateral among the buy-side is also likely to help spur change, Celent believes. Both the buy-side and corporates are becoming more aware of collateral optimisation as a result of EMIR and this is expected to lead to improved knowledge of instruments that can facilitate their efficient use of collateral, including triparty repo.
European legislators have recently announced measures to increase oversight and transparency in the repo market. In new rules designed to curb proprietary trading activity by banks, dubbed the EU's Volcker Rule, the European Commission said repo market activity would fall under curbs to shadow banking activity, intended to ensure banks did not attempt to hide prop trading within less regulated subsidiaries.