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Book Description

Another flight, another paper. but this is a really interesting one!

Leveraging the Leverage Ratio — Basel III, Leverage and the Hedge Fund-Prime Broker Relationship through 2014 and Beyond.

This is a paper from J.P. Morgan. You must read it.

The financial services industry has reached an inflection point of important structural change with significant implications for prime brokers and hedge funds alike.

This change has not been introduced in isolation: in an effort to avoid the possibility of a repeat of the financial crisis of 2008, global regulators and lawmakers have embarked on the most substantial regulatory overhaul of the financial industry since the Great Depression.

The regulatory drive has focused on reducing systemic risk in the banking industry, in particular centering on a more rigorous approach to asset and liability management and a meaningful reduction in leverage.

These changes, which are still running their course, have already contributed to a dramatic strengthening of bank balance sheets globally.

At the same time, the financial industry as a whole has yet to feel the full impact of these regulatory changes as final rules and the related impacts of implementation are still evolving in many cases.

Without question, these regulatory measures have, and will continue to have, a significant impact on banks and force changes in the way trading and prime brokerage desks are operated.

Although these measures impact the banking community directly, their repercussions will be felt throughout the network of market and counterparty relationships which make up the global financial system.

Hedge funds need to consider these critical drivers of change affecting their prime brokers in order to better understand how to adapt to the evolving business environment.

This paper seeks to provide an overview of the key drivers of change, explore their potential impact on bank behavior and pose questions for hedge fund managers to consider as they evaluate their prime broker relationships going forward.

The BCBS sought to address perceived weaknesses in the market in three ways which will drive changes in the prime brokerage funding model:

1. Increasing bank capitalization — Increasing capital requirements will force banks to carefully consider how much and to which businesses and clients they allocate capital.

2. Reducing bank liquidity risk — The new liquidity metrics, Liquidity Coverage Ratio (LCR) and Net Stable Funding Ratio (NSFR), will increase the duration of prime brokers financing, which will reduce rollover risk but will increase cost.

3. Constraining bank leverage — The proposed leverage ratio will also serve to reduce available balance sheet and off-balance sheet commitments for client business. The increasing scarcity of balance sheet will likely increase its cost.

It should be noted that these reforms may not be implemented consistently by the individual national regulators some intend to adopt additional requirements over and above to gold plate the Basel III measures.

This may lead to a further distortion of the competitive environment as the playing field may not be level for all providers

Another flight, another paper. but this is a really interesting one!

Leveraging the Leverage Ratio — Basel III, Leverage and the Hedge Fund-Prime Broker Relationship through 2014 and Beyond.

This is a paper from J.P. Morgan. You must read it.

The financial services industry has reached an inflection point of important structural change with significant implications for prime brokers and hedge funds alike.

This change has not been introduced in isolation: in an effort to avoid the possibility of a repeat of the financial crisis of 2008, global regulators and lawmakers have embarked on the most substantial regulatory overhaul of the financial industry since the Great Depression.

The regulatory drive has focused on reducing systemic risk in the banking industry, in particular centering on a more rigorous approach to asset and liability management and a meaningful reduction in leverage.

These changes, which are still running their course, have already contributed to a dramatic strengthening of bank balance sheets globally.

At the same time, the financial industry as a whole has yet to feel the full impact of these regulatory changes as final rules and the related impacts of implementation are still evolving in many cases.

Without question, these regulatory measures have, and will continue to have, a significant impact on banks and force changes in the way trading and prime brokerage desks are operated.

Although these measures impact the banking community directly, their repercussions will be felt throughout the network of market and counterparty relationships which make up the global financial system.

Hedge funds need to consider these critical drivers of change affecting their prime brokers in order to better understand how to adapt to the evolving business environment.

This paper seeks to provide an overview of the key drivers of change, explore their potential impact on bank behavior and pose questions for hedge fund managers to consider as they evaluate their prime broker relationships going forward.

The BCBS sought to address perceived weaknesses in the market in three ways which will drive changes in the prime brokerage funding model:

1. Increasing bank capitalization — Increasing capital requirements will force banks to carefully consider how much and to which businesses and clients they allocate capital.

2. Reducing bank liquidity risk — The new liquidity metrics, Liquidity Coverage Ratio (LCR) and Net Stable Funding Ratio (NSFR), will increase the duration of prime brokers financing, which will reduce rollover risk but will increase cost.

3. Constraining bank leverage — The proposed leverage ratio will also serve to reduce available balance sheet and off-balance sheet commitments for client business. The increasing scarcity of balance sheet will likely increase its cost.

It should be noted that these reforms may not be implemented consistently by the individual national regulators some intend to adopt additional requirements over and above to gold plate the Basel III measures.

This may lead to a further distortion of the competitive environment as the playing field may not be level for all providers