On 5 October 2023, the Prudential Regulation Authority (PRA) published a letter from Nathanael Benjamin and David Bailey, addressed to Chief Risk Officers of banks operating in the UK following the PRA’s review of fixed income financing businesses.

The letter shares insights from the PRA’s thematic review of regulated firms’ liquid fixed income financing businesses, which focused on the financing of developed market sovereigns and liquid credit fixed income instruments.

Findings highlighted in the letter include the following:

  • The review found several shortcomings in firms’ counterparty risk management processes and margining arrangements that should be remediated.
  • While firms have made progress in strengthening their counterparty risk management controls for hedge fund clients within their prime brokerage businesses, more focus is needed on other business lines where leverage is provided to clients through secured or synthetic financing facilities.
  • The PRA emphasises the importance of its expectation that firms extend enhanced credit due diligence principles, client disclosure standards and counterparty risk management controls, beyond those that have been introduced for hedge fund clients in equity financing, to all client types in all secured financing and other relevant trading businesses.
  • Firms must ensure that operational processes and margining platforms are sufficiently robust and scalable to cope with extended periods of heightened market volatility which lead to exceptional margin payment flows and securities settlements that mitigate these counterparty risks.

The letter concludes by noting that CROs should share this letter with their Board Risk Committee and carry out a benchmarking exercise against the PRA’s observations. Such analysis should be shared with the firm’s supervision team along with any remediation plans in this area by 8 December 2023. Those remediation plans should be fully scoped, with agreed timelines that address any weaknesses on a timely and systematic basis. The PRA will follow up on individual firms’ responses through its normal supervisory channels.