03.18.2016
By Rob Daly Editor-at-Large

Global Netting Requires Global Hedging

03.18.2016 By Rob Daly Editor-at-Large

Although more institutional investors benefit from netting their collateral obligations, many have not updated their hedging strategies to reflect their firm’s global approach to collateral.

The standard risk-neutral valuation approach to pricing derivatives is changing slightly as an increasing number of firms start to include consideration of their collateral-management strategies into their hedging decisions, according to James Gavin, senior derivatives analyst at FINCAD.

“We’re seeing this driven by both the regulators, as well as firms appreciating that collateral actually helps the overall over-the-counter market,” he said.

James Gavin, FINCAD

James Gavin, FINCAD

Risk officers now consider that they need to start placing more strategic global hedges and not just simple desk-level hedges, according to Gavin

However, the desks themselves have not received the message, he said citing a larger unnamed hedge fund that has offices in the US, London, and Europe as a prime example.

This particular hedge fund raises its money in the US to fund its London and European operations, since it cannot raise money locally in those markets, he explained. Instead, it uses foreign-exchange derivatives to fund those operations.

“The fund needs to incorporate FX basis from the collateral management strategy into its desk-level derivatives evaluation. This is something people ignored in the past but that’s now becoming an issue,” he explained. “If you just look in the actual silos themselves, there’s an issue whereby they’re not considering the organization as a whole when trying to put on the cross-currency hedges.”

It likely will take hedge funds more than a year before they actually reach this greater holistic view of global risk, Gavin predicted. “However, some hedge funds have identified it as the next problem that they need to solve.”

Related articles

  1. Richard Turner of Insight Investment sees more automation and more transparency around cost and outcomes.

  2. The suite enables GAM to seamlessly manage market risk exposure and liquidity and investment risk.

  3. Asset manager anticipates an SEC decision on converting its fund to a spot bitcoin ETF by early July.

  4. Fidelity continues to hire thousands to support cryptocurrency.

  5. Tradeweb Draws Buy Side in Europe

    Net sales registered net outflows of €3bn, compared to €42bn in March 2022.