When Standard Bank span off a sizable chunk of its London-based global markets business a little over two years ago, many saw it as a sign of the bank's desire to become a leaner, growth-orientated, emerging markets dealer – with its focus squarely on Africa. Today, that looks a good call. The bank's local presence will soon expand to cover 19 countries and earnings per share jumped by a quarter during the first half of last year.
Standard Bank has become the go-to liquidity provider for sub-Saharan African central banks looking to manage dollar reserves, building on the reputation it gained from landmark trades in recent years, such as a $260 million cross-currency swap with one central bank that completed in 2014. That was followed by a six-month $100 million foreign exchange swap with the same central bank in mid-2015, along with several others representing a combined notional of $300 million at slightly longer tenors, and a series of short-dated swaps with another central bank to the tune of $50 million.
Stephen Barnes, head of client solutions, global markets, at Standard Bank in Johannesburg, says the bank has an edge over its competition due to its long-standing presence in many local jurisdictions, coupled with access to increasingly deep and liquid capital markets at home.
"If you've got a local presence on the ground, you've got a huge advantage. You are typically a lot more connected to the regulators, have a better understanding of the legal framework, and you can assess the depth of liquidity in the local markets. That means we can at times get comfortable taking on an exposure where others cannot. When you're starting up in a new jurisdiction, there's a certain amount of risk. But if you have local knowledge to fall back on, it becomes much easier to take the plunge," says Barnes.
The bank also remains a favoured counterparty among South African corporates for big-ticket deals that come with complex structuring headaches; in September last year, it executed a further tranche of a 2.6 billion rand ($157 million) derivatives financing deal with a prominent state-owned entity, which involved monetising dead assets on the firm's balance sheet.
If you've got a local presence on the ground, you've got a huge advantage. You are typically a lot more connected to the regulators, have a better understanding of the legal framework, and you can assess the depth of liquidity in the local markets
Stephen Barnes, Standard Bank
Expansion in many jurisdictions in the region – the bank is currently awaiting the arrival of its onshore banking licence in the Cote d'Ivoire, for example – comes with myriad risks, from the chaos that can follow a regime change to the various documentation risks in markets where standard derivatives contracts may not be enforceable. The disparate regulatory and legal environments across the countries Standard Bank operates in are, therefore, a major risk management consideration on every deal, says Barnes.
The bank generally favours three structures when looking to get dollars in-country: a forex swap; a cross-currency repo; or a simple forex forward. Local market idiosyncrasies sometimes oblige the bank to structure some trades as contracts-for-difference, though mechanistically, the underlying trades are cross-currency swaps or forwards. Even where structuring challenges are less complex, however, the bank still has to factor in country-specific legal risks, especially around the provision of collateral, says Barnes.
"We prefer to have security against our cross-currency deals, whether the client is facing the South African balance sheet or one of our local entities, which are not always 100% held. That in itself introduces complexity in markets where there are restrictions around foreign ownership of local assets to be held as collateral, and liquidating them in the event that we need to. Where possible and commercial we will always look to mitigate risk, including country risk, inherent in our transactions," says Barnes.
In one such cross-currency trade for a West African central bank last year, Standard Bank was prohibited from owning the local government bonds the counterparty wanted to use as collateral, forcing it to come up with a creative solution. The bank's local entity faced off with the central bank, with the bonds held in a local custody account with a pledge in Standard Bank's favour – giving it the power to liquidate them and return cash to its parent if needed, and thus the ability to ensure security without ever owning the bonds.
The bank has built a healthy business in parcelling out chunks of such trades to institutional investors back home, often in the format of credit-linked notes, offering small chunks of exposure to the risk the bank has taken on via its dollar deals. Where it can't syndicate the risk, the bank sometimes seeks bespoke insurance on a trade from niche providers, that will offer credit risk mitigation coverage for certain markets, says Barnes.
Standard Bank still faces a disconnect between the growing sophistication in its home market when it comes to hedging credit valuation adjustment (CVA) exposures versus the picture in most other African markets – a function of the lack of a liquid local market in which to hedge CVA exposures outside South Africa – but the picture is improving, says Barnes.
"We have an active CVA management desk running in our South African operations, where we have good access to hedges. But in continental Africa, it's very difficult to do that. We hold the provision but we don't actively manage the risk – that would be impossible. For every trade, we calculate a CVA provision, which we update throughout the life of the trade, but the frequency depends on the jurisdiction. Historically, some of those updates would have been quarterly – now they're monthly or sometimes daily. For some of the more sophisticated jurisdictions, we're looking at moving to active management and trying to get to that point on bigger trades in particular," says Barnes.
The bank has also been recognising debit valuation adjustments on cross-currency trades with South African and international counterparties for several years, Barnes says – in part, to stay competitive with international banks that were using it to price trades more keenly, taking advantage of the funding benefit dealers can recognise from the own-credit risk component of the trade when facing uncollateralised counterparties.