In recent years, securities-based lending markets have seen rapid growth. This includes loans backed by holdings of stocks, bonds, and other investments, offered by brokers, banks, and specialized lenders. Margins loans tracked by FINRA now total close to $700 billion, up over 60% in 5 years. The expansion links lending decisions more tightly to asset price levels and market volatility. This raises important questions given that previous financial crises often involve procyclical interactions between credit provision and asset values.
Systemic Risks and Interconnectedness
- Central banks have highlighted the systemic risks if securities lending continues growing at scale. When these credit markets intersect with capital markets, you increase the transmission of stresses across the financial system.
- For example, volatility around the COVID-19 pandemic triggered margin calls, sparking distressed selling in equity markets. As more borrowers sold assets to raise cash, prices dropped further. This eroded other collateral values, prompting additional margin calls and selling pressure—a spiral exacerbating market declines.
Impact on Market Liquidity
- Liquidity conditions also worsened as dealers and market makers pulled back amid uncertainty and higher volatility. Research suggests some security markets came under more strain than during 2008 crisis flash events, requiring Fed intervention to stabilize plunging prices.
- The inherent procyclical dynamics mean securities lending can amplify financial media and asset prices in both directions. While markets since 2020 have seen vigorous rebounds, the risk remains that rapid credit growth could unwind disruptively. The massive stimulus during the pandemic may encourage more speculative risk-taking fueled by borrowing against appreciating portfolios.
Regulatory Considerations
- Regulatory options exist to temper system-wide risks, albeit with complex trade-offs. Stricter collateral rules could limit build-ups of leverage but constrain lending availability in normal times. New reporting on lending activity facilitates monitoring for emerging threats.
- Higher capital buffers for intermediaries bring costs but offer more resilience. Ongoing decentralization and gray-area activities, however, pose oversight challenges.
Conclusion
Overall, securities lending allows greater access to liquidity and market finance—when appropriately monitored. But unmanaged expansion risks the lending channel acting as an accelerator for volatility events, rather than a shock absorber. Getting this stability balance right remains crucial as portfolios become more regularly mobilized via lending markets to generate liquidity and untapped investing power. Monitoring systemic vulnerabilities such as concentrated collateral assets or opaque rehypothecation, therefore, goes hand in hand with market innovation.
Also Read : The Psychology of Borrowing Against Securities