Legal speak: Securities lending and repo 101

Hello, and welcome to another Global Peer Financing Association Peer Connections podcast. I'm Debbie Caruso, the Associate General Counsel of the Investments Legal Team at Healthcare of Ontario Pension Plan, otherwise known as HOOP, and I will be your podcast host. I'm excited to host today's podcast because we will be chatting about a subject that my team and I are very familiar with at HOOP, which is how securities lending and repo documents work when dealing with various counterparties. More importantly, I'm excited to have our guest speaker, Lisa Mantello, discuss how these documents are structured and how different buy-side entities may approach these types of securities financing transactions from a documentation standpoint. Lisa is a partner in the Financial Services Group at the law firm Osler Hoskin & Harcourt LLP in Toronto, and she specializes in cross-border financing transactions, structured finance, and derivatives. Lisa is very familiar with the global documentation for securities lending and repo transactions and is also counsel to ISDA, ISLA, and ICMA, responsible for preparing and updating the Canadian legal opinions that cover the enforceability and netting provisions in these securities financing documents that we're going to talk about today. So we're very lucky to have her join us for this podcast. Osler is also a member of the GPFA and assisted with the formation of the association. Welcome, Lisa. Thanks very much for joining us. Oh, thank you very much for having me. So Lisa, why don't you start off by telling us about the basic framework of the legal agreements under which securities lending and repo transactions are executed? Sure. Thanks, Debbie. I think for background, I think it would be helpful to discuss the basic differences between repurchase transactions or commonly referred to as repos and security lending transactions. I know in the market, people often speak of them interchangeably, but they are really two different types of transactions. So a repo involves the sale of a security or a different type of asset by a seller to buy an equivalent asset back from the purchaser at a specified date. In a repo, the seller of the security will raise money on the sale and the buyer will receive a return on the security, which is based on the difference in price between the price it originally bought the security for and then sold it back to the seller. So repos are typically documented under one of two types agreement. The first is the Global Master Repurchase Agreement, or commonly called the GMRA, or the Master Repurchase Agreement, the MRA. The GMRA is governed by English law, so it's typically used in Europe and in Canada, also used in the U.S., but the MRA is governed by New York law, so it is typically used in the U.S. I find that much more common that Americans will use the MRA as it's governed by American law. Both the GMRA and the MRA are pre-printed forms of a master agreement. And what that means is that it is a standard document in both cases, and then there is an annex to each of them in which your specific terms with your counterparty can be negotiated. So this is for more of a bespoke situation where you're facing a counterparty, you agree to the standard terms in either the GMRA or the MRA, and then you negotiate specifically what you need for your counterparty. So most of the legal terms would be in the GMRA or MRA, and then the specific economic terms would be documented under a separate confirmation for each transaction. So for a repo, that would be things like the repo rate, the number of securities, or the repurchase date. Now turning to securities lending or stock loan transactions, which are also used interchangeably in terms of name. In a securities lending trade, securities are transferred from one party who's the lender to another party who is the borrower for a fee. Then the borrower is obligated to return equivalent securities on demand or at the end of an agreed-upon term. The borrower will then pay a lending fee for using the security and will provide collateral against the obligation to deliver the securities. So similar to repos, securities lending transactions are documented under pre-printed forms. There are also two types of forms, the Global Master Securities Lending Agreement, the GIMS law, which is governed by English law, or the Master Securities Lending Agreement, the MSLA, which is governed by New York law. And similar to the GMRA or the MRA, the English law version is used in Europe and often in Canada, and the MSLA is often used in the US. And similar to the GMRA, the legal terms are found in the GIMS law and the economic terms are found in confirmations. Thanks, Lisa. So you mentioned that the trades are actually documented under separate confirmations for repos and securities lending. Are those also in writing? It really will vary from institution to institution. What I see mostly in the market is that this is not in writing. This will be either by email or by way of Bloomberg Terminal, and it won't be an actual legal document. But I do know institutions have differing regulations and requirements. So sometimes it will be, but most often it is not. So it sounds like there are industry standard documents that a majority of the market uses, with some potential differences depending on the institution and also depending on what people negotiate in the annex to each of these agreements. Can you tell us if there are any differences in documentation if a buy-side entity uses an agent to conduct its trades as opposed to bilaterally trading with its counterparty? Yes, absolutely. So agency lending is really very common in the market. I would say a large percentage of entities that engage in securities lending and repo transactions are using an agent lender. And what this means is that there's an agent lender who's an intermediary, who's typically either custodian bank, will enter into the securities lending or repurchase transaction on behalf of a buy side entity or a beneficial owner who wants to lend or borrow the securities. So this custodian bank or other type of intermediary will act as an agent. And then there will be a pre-approved list of counterparties that that agent will trade with on behalf of its customers who are typically beneficial owners. And then the custodian bank will charge a fee for entering into these types of transactions. What I found is that this is typically done because the agent lender can benefit from economies of scale because they are facing so many different counterparties in the market. There would be standard form documents. So if you do have a custodian bank that you're using as an agent, that custodian bank will have standard foreign GIMS laws or GMRAs. So you really are trading on the basis of what's already been negotiated. And I find that people often use agent lenders as well because there's the technology that they can provide in terms of collateral management or other operations. Okay, thanks for explaining that. I think that'll be important for our listeners to hear. So can you tell us if engaging in peer-to-peer transactions would differ in any way from the securities financing transactions with traditional bank or broker-dealer counterparties from a legal standpoint? So in other words, do the GPFA members need to do anything different in terms of their securities lending and repo in order to trade with other GPFA members? No, not at all. I think from a legal perspective, in a peer-to-peer transaction, this would be very similar to trading with a dealer bank directly, and that you could definitely use GIMS law or JMRA, so typical industry documentation. So peer-to-peer basically means that you're facing the counterparty directly, and the counterparty would typically be another beneficial owner rather than a dealer bank, and definitely not an agent lender. So that really is the only difference. So I don't think there's anything to be concerned about from a legal perspective. Thanks, Lisa. I think that's going to be very helpful to prospective GPFA members and for any new members who haven't yet started trading with other GPFA members. I know at Hoop we have agreements with both our bilateral agreements with our counterparties that are GPFA members, and we also deal with agents who represent GPFA members. So if members are essentially continuing to work with what are considered industry standard securities financing documents or slight variations to the industry standard. Can you tell us how those securities financing documents have evolved over the years and how they stay current? Absolutely. So there have been various versions of both the GIMS law and the GMRA. The most recent version of the GMRA is from 2011 and the most recent version of the GIMS law is from 2018. So the industry associations that you mentioned, ICMA and ISLA, are responsible for producing these documents and they are on top of legal developments at all times. So there are yearly AGMs that both of those organizations put on with members of the community and the industry that come out to discuss legal issues. So I do think that there is constant improvement to these documents, and that's why they've become really the standard in the market. Okay, thanks for that. And I think that that is one of the key benefits of being a GPFA member is that the members can exchange information about what's happening in the market amongst one another. So one final question that I think everybody will be interested in hearing the answer to is, is there any general advice that you would offer the current GPFA members or any prospective members regarding what they should be thinking about in terms of their legal documents if they want to begin trading securities lending a repo with another GPFA member? Sure, absolutely. I think the first thing to think about is to familiarize yourself with the standard form industry documents. I do think it's always easier if you do use what the industry is using. So right now, you know, that would be the GIMS or the GMRA. So my first suggestion would be look at those documents and read them, make sure you understand them. Then in terms of what to negotiate in the documents, I think one area really to focus on would be what the events of defaults are. Are they appropriate for the type of counterparty that you are facing? Are they appropriate for the type of jurisdiction, what jurisdiction the counterparty is in? So for example, in Canada, many corporate entities or many other types of entities that you might be facing might undergo a corporate plan of arrangement as an insolvency proceeding. And that's not covered in the standard documentation, meaning if there was a corporate plan of arrangement that doesn't trigger an insolvency proceeding. So that's something that we would suggest making sure that the events of default are appropriate for the type of counterparty and what jurisdiction your counterparty is in. So that's the first area would be events of default. The second area that I find that there is a lot of negotiation on is what is the definition of market value and where are you going to get the determination? What's the pricing source of what the market value of the securities are? So this is important for purposes of the equivalent securities as well as for posting collateral. And what I mean by what the pricing source is, is are you going to use Bloomberg or are you going to give one party discretion to determine what the value is. So this is something that's often negotiated. The next thing to think about is what is the eligible collateral going to be for margining purposes? Is it only going to be cash? Is it going to be T-bills? Is it going to be equities? If it is equities, what types of equities from what jurisdiction do they need to be rated? Those types of things. And then the last thing I would mention from a legal perspective, which I also see being heavily negotiated, is the set-off clause. So what this means is what types of obligations under which documents can be set off against the obligations that are owing under your securities lending document, the GIMSLA, or the GIMRA, the repo document. And this can really cover a bunch of different types of situations. For example, should it be trades of any kind? So if you have obligations even under an ISDA with a counterparty, can those be set off under the obligations that are owing under the GIMSLA or GIMRA? Or is it any obligation under any document at all? So this can become very complicated depending on the counterparty in the relationship. Okay, thanks for that. And do you find that there are differences in what you've just mentioned between the GIMSLA and GIMRA, for example, versus the MRA and the MSLA? Are they fairly similar? I do think it's fairly similar. Where I find set off can be very different really has to do with what types of entities are asking for the set off and what are the particular policies. We act for bias identities all the time. And I can tell you that there are varying degrees of how much set off they're comfortable with. Some bias identities are comfortable with set off on everything because they think that that's efficient. And they think that that will serve them well, if there was ever an insolvency, others are not so comfortable with that. So I do think it varies. But definitely, this is something to focus on and something to think about. And is there anything else that the GPFA members should be thinking about in terms of trading with other GPFA members for example operational risks or anything else? I do think operations is something to think about and the reason I say that is we've negotiated many of these documents for counterparties and operations does come into play meaning what you're agreeing to in the legal documents can your back office actually deliver on this when we say that margin needs to be delivered by 10 a.m the next business day or the same day can your operations actually do that so I do think it's helpful to get your operations team involved and take a look at the documents and make sure that they can deliver what you're agreeing to. That's great. Thanks very much, Lisa. It sounds like you really do know these documents and these types of trades well. Thanks so much for your input and for joining me for this podcast. My pleasure. Thanks very much. I hope we didn't bore our audience too much talking about legal agreements because not everybody has a passion for legal agreements like you and I do. That's very true. Maybe they will after listening to this podcast. Let's hope so. Thank you to our listeners for joining another episode of Peer Connections by the Global Peer Financing Association. We hope that you have a better understanding of the legal framework for securities lending and repo as it relates to our GPFA members. If you have any other suggestions or topics that you would be interested in hearing about, please reach out to GPFA via its website www.globalpeerfinancingassociation.org or visit the GPFA's LinkedIn page. And to stay up to date on GPFA Peer Connection, so you can subscribe wherever you listen to your podcasts. Thank you for listening, and thank you again, Lisa, for joining me. Of course, thank you very much for having me.