“71% of Borrowings Are RP Sales and Securities Sold”... Mid-Sized and Smaller Brokerages Face a “Double Whammy” from Liquidity Rules [fn Market Watch]

[Financial News] Ahead of tighter liquidity regulations for securities firms next year, the borrowing-liability structure of mid-sized and smaller brokerages has emerged as a source of concern. Sales of repurchase agreements (RPs) and securities sold accounted for 71.2% of the borrowing liabilities of firms with capital of less than KRW 1 trillion, about twice the 37.0% share at comprehensive financial investment businesses.
The new rules are expected to increase the liquidity-management burden on mid-sized and smaller brokerages by more strictly accounting for the risk of cash outflows from collateralized funding transactions.
According to the financial investment industry and Shinhan Investment & Securities on the 12th, borrowing liabilities at securities firms with capital of less than KRW 1 trillion totaled KRW 31.67 trillion.
RP sales totaled KRW 13.16 trillion (41.6%), while securities sold amounted to KRW 9.39 trillion (29.6%), bringing the combined total to KRW 22.55 trillion. By contrast, RP sales and securities sold accounted for 31.0% and 6.0%, respectively, at comprehensive financial investment businesses, for a combined share of just 37.0%. The combined share was also lower at 48.0% among ordinary securities firms with capital of KRW 1 trillion or more. In particular, the share of securities sold at mid-sized and smaller firms was about 4.9 times that at comprehensive financial investment businesses.
RP sales are transactions in which firms use securities to raise funds. If the short-term funding market tightens, it may become difficult to roll over funding as it comes due.
Securities sold are also linked to the obligation to return borrowed securities, so the burden of repurchasing and returning them can increase depending on market conditions. The new rules apply different outflow rates to RP sales and securities-lending transactions according to the type of collateral asset. However, since about 86% of securities sold by mid-sized and smaller firms are government or municipal bonds, the transaction share alone does not establish the level of liquidity risk.
Shinhan Investment & Securities estimated that mid-sized and smaller brokerages rely heavily on collateralized funding and are also likely to have a relatively high share of bonds rated A or below. It analyzed that the credit quality of collateral assets and the maturity structure of funding will determine how liquidity ratios change under the new rules.
The existing liquidity ratios at some securities firms are close to the 100% regulatory threshold that will be applied more broadly next year. As of the end of June this year, their liquidity ratios for maturities of three months or less, calculated under the current formula, stood at 105% each at Bookook Securities and Cape Investment & Securities, 107% at Hanyang Securities, 111% at DS Investment & Securities, 114% at LS Securities and 115% at Daol Investment & Securities. Bookook Securities’ ratio fell 50 percentage points from 155% at the end of last year, while Hanyang Securities’ dropped 31 percentage points from 138%.
Starting next January, the financial authorities plan to extend to all securities firms except foreign branches the requirement to maintain one- and three-month liquidity ratios of at least 100%. Haircuts will be applied to liquid assets, and potential cash outflows from contingent liabilities such as guarantees of debt will be added to current liabilities.
When Korea Ratings applied the new formula to 19 securities firms using figures as of the end of March this year, their one- and three-month liquidity ratios came to 106% and 104%, respectively, each 12 percentage points lower than under the current formula. A key factor was that KRW 19 trillion of the KRW 49 trillion in contingent liabilities was included in current liabilities on a three-month basis. Some mid-sized and smaller firms were estimated to fall below the 100% regulatory threshold.
Kim Sang-in, a researcher at Shinhan Investment & Securities, wrote in a report, “Mid-sized and smaller firms have relatively greater difficulty securing long-term funding because their capacity for external borrowing is limited,” and analyzed, “Even among mid-sized and smaller firms, success in extending funding maturities may vary according to creditworthiness, so close attention to liquidity conditions is likely to remain necessary.”
[email protected] Kim Hyun-jung Reporter