in a prime brokerage business, covering the areas where prime brokers are most likely to get into trouble. We encourage the community to contribute to or debate this list. Anonymous contributions may be emailed .

Dont finance what you dont trade

. If you dont have price discovery or cant orchestrate a liquidation of the collateral, dont make the loan.

. The ability to value collateral should be a core competency of any prime broker or repo desk, while expertise in credit extension (unsecured lending) is not. Be aware of the boundary between secured and unsecured risk, as lower margin buffers increase credit exposure in extreme (multi-sigma) market events. If you dont have possession (custody) of the asset, dont finance it.

. Diversification of collateral is a significant risk mitigator.

ccept everything as collateral, but dont necessarily lend against it

. Cover your tail risk with a lien on anything you can get, but dont add to the problem by lending against less liquid positions.

. The liquidity assumptions used to determine margins may be insufficient when like-minded hedge funds simultaneously become sellers of the stock. This goes beyond positions in custody, but those held by other prime brokers as well. Ownership representations are reasonably required.

. Maintain consistent pricing and contractual terms when borrowing securities or entering into swaps, repos, margin loans, or OTC option combinations with customers.

. If non-cash collateral is offered, convert it to cash (via repo), apply only the cash value against the requirement, and charge for the cost of the conversion. Cash debits and credits are the best way to manage margin/collateral requirements across multiple products and legal entities.

Treat clients that do not permit cross-default or cross-collateralization among accounts as if they were as many distinct clients

. If you cant net or offset client obligations, dont give margin relief for diversification.

unless you understand credit risk (again, most prime brokers do not) and charge accordingly. When intermediating derivatives operations, do not inadvertently insulate customers from the credit of their chosen counterparties.

Raise cash from collateral, not corporate Treasury

Strive to be self-funding, raising cash lent to customers from securities pledged by customers. Practice agency lending (from cash raised from customer collateral) over principal lending (from unsecured sources of cash, like commercial paper).

unless you understand what it means, want to do it, and get paid properly for it. Only the largest banks with substantial cash positions under the most dire circumstances may be in a position to offer unconditional term funding commitments. Does any broker-dealer qualify?

Have robust controls for high-frequency direct market access

, including gateways to enforce trading limits.

Tagged withbroker-dealercollateral managementcredit intermediationderivativesequity financemargin lendingnon-market riskprime brokeragerisk management

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