ISDA conducted a series of interviews with buy- and sell-side firms to understand the drivers of a growing use of non-cash assets as variation margin (VM) for non-cleared over-the-counter (OTC) derivatives and the barriers that remain to expanding the use of non-cash collateral. The firms interviewed span asset managers, pension schemes and global dealers across North America, the UK and Europe, and reflect a wide range of operating models, from fully in-house collateral programs to those outsourced to a custodian or collateral agent.

A clear consensus emerges from these conversations: the use of securities collateral for VM requirements is already widespread and is expected to grow. Firms are motivated less by the operational convenience of cash than by a desire to keep cash invested, to avoid reliance on the repo market and to maintain a diverse pool of pledgeable assets – not just for OTC derivatives but for all collateral requirements, such as securities lending and repo activity. Active managers view every dollar of cash pledged as a dollar uninvested. Pension schemes, mindful of the liquidity stress experiences of the past, such as the March 2020 ‘dash for cash’ and the UK 2022 liability-driven investment episode, value the ability to pledge a broad range of securities rather than being forced to sell assets during a falling market. On the sell side, dealers increasingly regard the acceptance of non-cash collateral as a cost of doing business, driven by client demand, and some dealers are eager to expand their use of non-cash VM when allowed by regulation. While there are pricing and capital implications to consider, firms identified operational issues as the key obstacle to a broadening of eligible collateral.

The operational frictions that accompany expanded eligibility are concentrated in a relatively small number of areas. They arise not in the movement of collateral itself, which participants generally regard as manageable, but in the surrounding processes. Many of these processes remain manual, are replicated firm by firm and depend on the quality of counterparties’ staff and systems.

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