02 November 2012

Risk.net: Asia Risk Congress - LCR drives expanding regional liquidity swap market

The increasing need by banks for liquid assets to meet the requirements of Basel III is driving a burgeoning liquidity swap market in Asia, according to two insurers from the region.

The liquidity coverage ratio (LCR) is due to be implemented in 2015 according to the timetable outlined by the Basel Committee on Banking Supervision, and will require banks to hold an increasing amount of liquid assets.

According to insurers speaking at the Asia Risk Congress 2012 in Hong Kong, the need to meet the LCR has seen the creation of a liquidity swap market in region, whereby insurers lend out long-dated assets on a collateralised basis to banks for a fee.

Stephan van Vliet, head of investment strategy at ING in Hong Kong, said ING has transacted such swaps in countries across the region including Japan. Chandresh Shah, chief risk officer at Aviva in Singapore, didn't say whether his firm has engaged in this activity but he did point out that insurers have ample liquidity and that the risk of "cash surrenders" – where insurance companies' liquidity would be impaired by paying out on a policy – is relatively low.

The liquidity swap market emerged in the UK following the financial crisis and the UK's Financial Services Authority has issued warnings about the potential risk of this type of collateralised lending between insurers and banks, even intervening to prevent some transactions taking place.

While Hong Kong is one of the jurisdictions where banks face a shortage of liquid assets, van Vliet said further engagement with the regulator is required before such transactions can take off. "With liquidity swaps, an insurer needs to be well measured as these are long-term commitments so from a legal and regulatory perspective you need to be sure that these are allowed. There is a lack of clarity about what the Hong Kong regulator will support but if they were open to engagement on this that would be helpful", van Vliet said.

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