Recently, thePeople’s Bank of China issued Announcement [2006] No.15 on launching securities lending business in the national inter-bank bond market. Securities lending refers to the lending of securities with a quantity of the borrower’s securities as collateral, under the agreement that the loaned securities arereturned and the collateral passed back to the borrower on a future date. Atpresent, securities lending has become an important instrument widely used ininternational bond markets.
With the rapid development of inter-bank bond markets, the introduction of securities lending business is highly significant. First, it facilitates market liquidity.Securities lending allows temporarily illiquid securities to be loaned to other investors. As a result, more securities are available for transaction and settlement in the market, the turnover of securities is accelerated, and market liquidity is therefore increased. Second, it reduces settlement failures and contributes to market stability. As securities lending enables investors todeliver on borrowed securities, probability of settlement failures and settlement risks are greatly reduced. The efficiency of the securities settlement system is improved and contributes to the stability of the entire market.Third, it provides investors with a new instrument for investment and riskmanagement, and enhances the market effectiveness. Securities lending allows investors to sell securities they do not own and buy them back at maturity.This shorting mechanism provides investors with a new way of making profit and avoiding risk, and offers a new channel of generating additional returns for buy-and-hold investors without changing their portfolio. Securities lending can be used to support more complex investment strategies and stimulate a variety of transaction demands. This helps restrain market volatility and promote market effectiveness. Fourth, it improves the capabilities of market makers. The introduction of securities lending will significantly reduce the position that securities market makers hold to ensure delivery, mitigate the risk of such positions, and enhances their market making capability.
Securities lending currently offered is mainly limited to transactions conducted directly between participants in the inter-bank bond market. In the future, the People’s Bank of China will continue to encourage institution and product innovation in line with the overall development plan of the bond market, and further promote a rapid, healthy and sustainable development of the bond market.
