Loans sitting on bank balance sheets to be used as collateral.

Post-trade services for loans are being built through partnerships between service providers and central securities depositories, with the service providers contributing valuation and settlement, and the CSDs providing collateral management.

The rationale behind the partnerships is to enable bank loans to be used as collateral for interbank transactions, and to speed processing of syndicated loans.

Markit and Euroclear Bank have signed a memorandum of understanding to jointly create operational infrastructure to support the use of loans as collateral in financing transactions.

In Europe, most loans are held on banks’ books. The ability to use loans as collateral gives banks more funding flexibility helps them meet capital requirements and helps them optimize their balance sheets.

Euroclear Bank’s LoanReach and triparty collateral management services, together with Markit’s loan products, will expand the pools of collateral available by including a new asset class.

“To respond to market trends and prepare for regulatory changes, treasurers are looking for new sources of funding / liquidity,” Stéphanie Heng, manager of marketing and communications at Euroclear, told Markets Media. “Mobilizing a new asset class (i.e. loans) in collateral structures increases funding flexibility.”

The Markit-Euroclear service is in the planning stages and will draw functionality from both Markit and Euroclear– it will not be a standalone entity.

“In the collateral service, Markit will provide daily valuations of the loan assets so that Euroclear’s triparty collateral management system can be expanded to include loans,” Joe Widner, managing director and global head of loan processing and portfolio management at Markit, told Markets Media.

The collateral service will involve the integration of Euroclear Bank’s delivery-versus-payment (DVP) settlement services with Markit ClearPar and Markit Clear, Markit’s electronic platforms for loan trade settlement.

ClearPar is the leading electronic platform for loan trade settlement, the company said.

Markit Clear is a new set of loan trade settlement technologies that will fully automate loan trade settlement.

“DVP is not yet a reality in the European loan market, but working together Markit and Euroclear will deliver a solution that transfers cash at the same time a loan asset changes hands,” said Widner.

In parallel, Markit and Euroclear Bank intend to collaborate on introducing a series of other services to enhance transparency, automation and trade settlement for the European syndicated loan market.

In general, the loan market is a paper-based market and ripe for automation.

“Markit’s loan trade settlement and loan messaging technologies aim to make loan markets more automated and efficient,” said Widner. “We also aim to speed loan trade settlement [currently T+19 in North America and longer in Europe] via technology and in the process reduce settlement risk.”

Earlier this year, Depository Trust & Clearing Corp. (DTCC) and Clearstream launched a co-branding and product integration deal for bilateral and syndicated loans.

Clearstream will co-brand DTCC’s Loan/SERV Reconciliation Service and begin to offer it in 2012. It will also develop bilateral loan services, built on DTCC’s existing Loan/SERV platform and integrated with Clearstream’s collateral management platform.

DTCC’s Loan/SERV enables agent banks and lenders to reconcile — on a daily basis — loans at all levels, from commitment and transaction level down to the individual contracts and fees, with all of the relevant transaction detail positions.