Conviction to reduce loan trade settlement time grows

The LSTA Operations conference in New York on May 3rd brought together several hundred professionals from the syndicated loan market. This year's theme was Operations Standardization & Innovation Today and Tomorrow and presenters and panelists were united like never before about the need to use existing technology to make the loan market more efficient, and, more specifically, reduce the time it takes to settle trades.

Bram Smith, executive director of the LSTA, likened speeding up the trade settlement process to President Kennedy's promise to put an American on the moon. The comparison is timely and apt. Despite being behind the Russians, who were first to launch a satellite and a man into orbit, Kennedy knew that a bold vision could be achieved. Today, the loan market is in a similar spot. We are "losing" a race with T+ and the average time it takes to settle trades has been hovering around 19 days (or slower) for years. Bram noted that the Apollo 11 capsule had less computing power than your iPhone. It was not processing power that got us there. It was willpower. It will be the same in loans. We have an abundance of technology. What we need is the will.

The good news is that some firms are already leading the way. It was noted at the conference that some banks are settling 40 percent of their trades within T+7. Our data show a similar trend among firms making a commitment to improve their performance.

The key themes from the conference were:

The T+ issue has caught up with the syndicated loan market.

Virtually all speakers at the conference stressed the need to reduce trade settlement time and this heightened focus is driven by regulatory pressures rooted in settlement liquidity. Liquidity risk management rules proposed for mutual funds prevent funds from holding more than 15% illiquid assets defined as anything that takes longer than seven days to convert to cash. That's clearly problematic for loan mutual funds.

Fortunately, new rules from the LSTA governing delayed compensation are poised to increase the urgency with which trades settle. The rules shift delayed compensation from a no fault model to a rules based model that require trade parties to specify when they will settle. With delayed comp implemented, the LSTA and the industry can focus on reducing other structural sources friction, including KYC, upstream delays and white lists.

It was noted at the conference that years ago the OTC derivatives markets overcame similar complexity and dramatically improved operations related to trade confirmation, suggesting again that where there is a will there is a way.

Insiders are bullish on the loan market.

We view loans as an exciting and non commoditized market. From a trading perspective, the market is plenty liquid and volume remains near record levels. Panelists emphasized that demand is high and the market is attracting more and more assets. It was estimated that more than $10 billion in new institutional assets have flowed into loan funds in the last three months. Furthermore, conference speakers expect CLOs to be able to manage risk retention rules, meaning that this importance source of demand will remain a fixture of the loan market. Markit's iBoxx Leveraged Loan indexes show loan investors have enjoyed four percent returns since January. Of course, with lower T+, even more demand would enter the market.

We have the technology to improve performance.

Panels on integration, reconciliation and blockchain demonstrated the depth of technology in the market and what's on the horizon. While they understand that the goal of financial technology is to improve accuracy and efficiency during the trade lifecycle, firms acknowledged the challenge of measuring ROI. With a high degree of automation and systems integration already available to the market, cost should not be a significant barrier to improving efficiency. Taking that next step might be easier than people think and combining better front-to-back office integration with achieving single digit T+ will result in very significant payoffs for the industry.

Of course, blockchain is a big topic and the conference explored how that technology could help the loan market. Our view is that blockchain is a long tail game and over time it will help loans and other markets address operational risk, improve balance sheet utilization and ultimately change the risk profile of complex financial products and promote market liquidity.

These are exciting times for the loan market. Not only are we poised to benefit from solid fundamentals and growing demand, but we are working together like never before to improve the market and in doing so attract even more participants.

S&P Global provides industry-leading data, software and technology platforms and managed services to tackle some of the most difficult challenges in financial markets. We help our customers better understand complicated markets, reduce risk, operate more efficiently and comply with financial regulation.

This article was published by S&P Global Market Intelligence and not by S&P Global Ratings, which is a separately managed division of S&P Global.