Collateral management is still handled in a largely manual way, often with parties trading data in spreadsheets.

Global regulations have made this challenging for many clients, according to Sam Edwards, State Street’s APAC Head of Collateral.

“A lot of the conversations we have with clients are first, ‘Let’s give you guaranteed confidence in being compliant with the new regulations,’” Edwards told Bank Automation News. “Compliance is the first thing and that’s what we want to make sure we offer our clients, that surety.”

State Street built its Collateral+ platform to address challenges faced by collateral management clients, and it continues to build out that solution.

Last month, the $3.9 trillion bank, with $43.3 trillion in assets under custody and/or administration, announced that Collateral+ now integrates with a margin manager service to provide automated dispute management for initial margin agreements and electronic margin call messaging across multiple products.

The integration is with Acadia’s Initial Margin Exposure Manager and Margin Manager services, and the new offering helps companies address the unclear margin rules compliance issues for buy-side investors, Edwards told BAN.

A global business challenge

Collateral management became a global issue for financial institutions after the 2008 financial crisis. In 2009, the G20 countries committed to two major reforms: One called for standardized derivatives to be cleared at central counterparties and the second required that non-standardized derivatives unsuitable for central clearing would be subject to initial margin (IM) and variation margin (VM) requirements.

IM is the percentage of the security’s purchase price that must be covered by cash or collateral when using a margin account to buy shares. The variation margin is an additional and changing payment that members must make based on price changes of the futures’ contract.

One governance requirement that came out of the G20 global reform rules are the uncleared margin rule (UMR) regulations. The UMR apply to margins on uncleared over the counter (U-OTC) transactions.

UMR regulations are being implemented in phases, with the final phase six coming in September 2022.

The Collateral+ solution appeals to companies like hedge funds that need to be compliant with URM in managing those margins, Edwards said.

The second value State Street hopes to offer clients is optimization on those trades, he added. Prime brokers are a huge “optimizer in that space,” Edwards said, in addition to banks that hold significant inventory in repo and lending solutions, and collateral transformation services.

Inside the technology solution

Collateral+ uses the standard initial margin model (SIMM) to calculate the exposure in a margin. That number is then plugged into Acadia’s initial margin exposure manager, which effectively serves as a matching engine to match the buyer against the seller’s risk. This is where disagreement can enter the picture.

“If there’s disagreements, then the Acadia system enables you to look into the various components of what’s created that calculation,” Edwards told BAN. “So it’d be your trade reconciliation, your sensitivities around your derivative portfolio, and the way that they’ve been built and calculated, and so that’s where they enable the differences between the underlying calculation.”

The OTC derivative margin aspect of collateral management is a relatively a new process, Edwards said. Before an automated system such as Collateral+ and Acadia — which he said has become “market utility in the space” — each side would exchange data, often in a spreadsheet, in order to work out where the disagreement was and then come to a resolution.

“Obviously that was slow and painful, and not scalable. That’s the real driver here,” Edwards said. “We’ve certainly got thousands of firms who are going to be having to deal with this across thousands of agreements.”

Speeding up that process is key, he added.

In addition to Acadia, Collateral+ uses Cassini software — which Edwards said is an expert in margin optimization space — as its optimization engine. On the triparty side, the bank has built its own optimization engine for post trade, he added.

“If you’re going to go and do this yourself as a buy-side firm that now has UMR obligations, you’d have to go and do four or five different connections and relationships and integrations into your own platform,” Edwards said. “What we provide really is one platform for all of those collateral requirements.”

The new platform allows State Street to address its operational workflow and automation, he said. It also supports real-time delivery of data to the clients.

Expanding into collateral management

Collateral+ also allows State Street to expand its service offerings in four key aspects of the collateral world:

1. State Street Triparty. This supports both sell- and buy-side firms, allowing buy-side firms to optimize collateral usage and efficiency when posting margin while still complying with UMR regulations. It also supports sell-side clients posting and receiving UMR collateral using assets held in custody with State Street.
2. Allocation services and operations workflow. “As number of firms now have to face up to the fact that they’ve got to post collateral for the margin requirements, they have to use their own inventory better,” Edwards told BAN. The platform provides automation and workflow support for that process.
3. Analytics and optimization, which provides support for artificial intelligence (AI) to help use assets and liabilities to optimize inventory hold, and “what your obligations are, across multiple products across multiple business units, even across multiple entities,” Edwards explained.
4. Access into funding solutions. State Street has a strong business into FICC-sponsored repo, a transaction in which a dealer sponsors non-dealer counterparties onto Fixed Income Clearing Corporation’s (FICC) cleared repo platform.

State Street has also been building out support for peer-to-peer repo, trading between buy-side counterparties such as asset managers, asset owners, insurers, corporates, real estate investment trusts and sovereign wealth funds.

In October, State Street announced it had performed its first peer-to-peer repo transaction, which was executed between a large asset owner and non-traditional investment manager.

“State Street’s Peer-to-Peer repo program seeks to facilitate overnight and term repo trading between buy-side counterparties and seeks to drive scale and flexibility in peer repo markets and beyond, by broadening buy-side access to liquidity and secured investment opportunities,” a bank spokesperson told BAN. “The program is underpinned by a legal framework that enables each program participant to act either as repo buyer and/or seller under a program master repurchase agreement that sets out the terms.”

State Street’s goal is to make this complicated financial and technical problem easier, Edwards said.

“That’s where we’re looking for technology to solve some of those historical challenges and to put the power back into the client’s hand and in a good UI to enable them to do a lot of that connecting of lender, borrower relationships, or new collateral schedules or to make that all as automated as possible,” Edwards added. “Obviously, from our perspective, it also has the benefits of streamlining our own sort of operations.”

What’s next for Collateral+

State Street plans to expand into optimizing buy-side services.

“There’s certainly a lot more demand, as we’re seeing the trends of the challenges of [the] sell-side over the last 20 years, extending into the buy-side and the need for greater automation, efficiency, optimization,” Edwards said.

The “triparty game” is well-established with significant players, he noted, but ready for disruption.

“One of the benefits we have coming from a new platform is doing it on new technology,” Edwards said. “On that side, prime brokers are a huge optimizer in that space, and you also have any bank that holds significant inventory is going to be looking at repo solutions, lending solutions, collateral transformation services.”