Industry Gears Up for Automation of Stock Loan Recalls

by Helen Cunningham

Here's another calendar entry for the industry: Sept. 30, 2007, is the securities lending community's target date for automating the transmission of stock loan recall messages. Although there is no regulatory mandate to meet this deadline, the firms that borrow and lend stocks have been working together, and with DTCC, to bring everyone on board to dispense with the existing paper-intensive process.

The service that delivers this capability, SMART/Track for Stock Loan Recalls, is up and running, and in the coming months, firms will be taking the necessary steps to prepare for the transition.

"We're finally coming out of the dark ages," said Irving Klubeck, managing director, Pershing LLC and president of the Securities Industry Financial Markets Association's (SIFMA) Securities Lending Division. "Having an automated, auditable system for managing recalls will strengthen our ability to meet regulatory requirements and expedite the entire recall process, which translates into reduced financial exposure and lower costs."

This industry initiative, which calls for the voluntary adoption of "automated recall management systems" (ARMS), is co-chaired by SIFMA's Securities Lending Division and the Risk Management Association (RMA).

Why now?
A stock loan recall message is notification from a bank or broker/dealer that has lent securities to another firm that it is recalling the loan because it needs the position.

Although the Securities and Exchange Commission (SEC) requires firms to send notices of stock loan recalls, it has not mandated how those notices are sent. As a result, the industry has been making due with timeworn methods. "The last big change in this business was back in the late 1970s, when we moved from delivering recalls by hand to using faxes," noted Klubeck. "Since then, the technology that has automated so many other industry segments has passed us by."

The Depository Trust Company (DTC), a DTCC subsidiary, launched SMART/Track in May 2003 as a communications hub to handle a broad range of communications, including those for stock loan recalls. But industry uptake for stock loan recall automation was minimal.

"It's a solution that requires an 'everybody-into-the-pool' approach," explained Klubeck. "Broker/dealers were concerned that if they were the first to be automated, their higher level of efficiency could put them at the top of the lenders' lists for recalls, so there was a natural resistance to becoming an early adopter of SMART/Track."

Now, however, the securities lending community has joined forces to push for the voluntary elimination of manual processing in 2007. The change of heart is driven in part by heightened regulatory scrutiny of securities lending practices over the past several years, including Reg SHO, a set of rules adopted by the SEC in 2005 to address problems associated with failures to deliver.

"The current process is fraught with difficulties that delay the recall process, and this creates both regulatory and market risk," said Klubeck. "Automation via SMART/Track will help us better meet regulatory requirements for the timing of recalls and also provide proof of delivery. What's more, the ability to turn around recalls more quickly will reduce costs, errors and market exposure, so it will make the entire process more reliable." 

Getting there
To meet the September deadline, a working group established by the RMA and SIFMA's Securities Lending Division to focus on the use of ARMS has planned three formal testing events beginning this June. The RMA and SIFMA will coordinate the testing, announcing details for the timetable and procedures. To participate, firms need to contact DTCC's Participant Interface Planning group to establish connectivity to SMART/Track. (Call 888.382.2721, option 1, then option 3.)

"We pushed our target date to Sept. 30 to ensure everybody has sufficient time to be ready," said Klubeck.
Customers have various options for connecting to the service. They can transmit the messages directly through DTCC, via their own systems or through a third-party vendor platform. Depending on the method of connectivity, some programming work may be required for firms to go live with the service.

Testing the water
So, when it comes to automating stock loan recalls, is everybody ready to jump into the pool? "Let's say everybody's at the edge of the pool," said Klubeck. "Testing over the summer will be the key." @

[To participate in testing and establish connectivity to SMART/Track for Stock Loan Recalls, contact DTCC's Participant Interface Planning group at 888.382.2721, option 1, then option 3. For more information about the service, contact Margaret Koontz, DTCC director, Clearance and Settlement Product Management, at mkoontz@dtcc.com or 212.855.5695 or Ashik Ramkalawon, DTCC manager, Clearance and Settlement Product Development, at aramkalawon@dtcc.com or 212.855.3558.]