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Cross-cutting issues
57
Source: Data Explorer 2011Q4 Review
In many cases, the utilisation rate has dropped from pre-crisis levels, but there is considerable
heterogeneity among EU Member States in terms of the magnitude of the
decline in utilisation
rate (Table 13).
Table 13: Utilisation rates 2007 to 2011Q4
2007
2008
2009
2010 Q4
2011 Q4
Denmark Equity
17.89
na
na
8.47
9.19
Denmark
Government
Bonds
27.57
na
na
30.79
26.7
Finland Equity
16.59
na
na
10.51
13.69
Finland
Government
Bonds
46.15
na
na
25.34
29.18
France Equity
25.18
24.1
24.16
29.03
11.54
France
Government
Bonds
53.05
44.86
31.77
29.88
30.76
Germany Equity
18.94
20.7
18.39
9.96
10.05
Germany
Government
Bonds
57.73
46.11
33.41
39.98
42.64
Italy Equity
22.33
16.39
13.47
8.37
13.36
Italy
Government
Bonds
41.44
34.16
20.23
12.83
6.39
Netherlands
Equity
13.31
14.68
14.41
7.53
8.57
Netherlands
Government
Bonds
62.81
53.08
7.27
29.57
32.32
Spain Equity
30.04
23.22
21.02
18.7
17.62
Spain
Government
Bonds
55.56
41.57
31.42
15.07
10.48
Sweden Equity
12.38
na
na
8.71
11.23
Sweden
Government
Bonds
28.94
na
na
27.3
23.7
UK Equity
7.19
8.66
7.91
4.86
4.27
UK Government
Bonds
62.78
63.94
55.4
40.66
40.93
Source: Data Explorer various Quarterly and Annual Reviews
Proprietary data provided by Data Explorer
to London Economics shows that, overall, the weighted
average securities lending fee of the total value of assets on loan expressed in basis points for
European equities stood at slightly less than 100 basis points at the end of 2011 and shows no
clear trend over the period 2007 – 2011. In contrast, the weighted average securities lending fee
of the total value of assets on loan expressed in basis points for European government bonds is
much lower, slightly more than 10 basis points at the end of 2011. Moreover, the data shows a
small upward trend from about 5 basis points in 2007.
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58
5.4
Fire sales
In the context of the present study, fire sales are defined as the forced sale of
financial securities
at a dislocated price.
Fire sales are forced in the sense that sellers, namely banks and NBFIs, are liquidity constrained
and cannot pay creditors without selling securities. During the financial crisis, banks and NBFIs
were liquidity constrained for a variety of reasons. The commercial paper and repo markets
collapsed. These markets were therefore no longer available to fund the likes of dealer banks
(Adrian and Shin, 2010; Gorton and Metrick, 2010). Hedge funds were subject to investor
redemptions and withdrawal of prime broker funding and were thus also liquidating their holdings.
Banks, insurance undertakings and pension funds also had to improve the quality of
their assets
for regulatory purposes, forcing them out of previously safe but now risky securities.
Prices are dislocated because many banks and NBFIs are liquidity constrained at the same time.
During the financial crisis, this occurred due to the common shocks to these institutions outlined
above. Therefore, many similar institutions are engaged in fire sales. Non-specialist institutions,
who have less expertise with the financial
securities in question, are left to buy at valuations much
lower than banks and NBFIs, implying that prices are dislocated - market prices diverge from their
fundamental values (Shleifer and Vishny, 1992).
The link between fire sales and financial instability is that a depletion in security values resulting
from the fire sale of one institution has a knock-on effect on other institutions holding similar
securities. That is, these securities lose value, leading other institutions into fire sales that brings
about a downward spiral of security values and the net worth of institutions.
Several mechanisms have been identified for fire sales that materialised over the course of the
financial crisis. Firstly, hedge fund arbitrage strategies, by exploiting mispricing, tend to have a
stabilising effect on prices. However, hedge funds pursuing profitable arbitrage strategies may
temporarily suffer losses that lead investors to withdraw these funds (as investors cannot verify
the strategies as profitable). If this effect occurs on a large enough scale, then further mispricing
will
be realised, and hedge funds may be subject to losses that generate financial stability (Shleifer
and Vishny, 1997).
Secondly, first-round price declines resulting from fire sales of financial securities to non-specialists
may lead to second-round price declines, as prices of securities deviate from fundamental values
when in the hand of non-specialists (Kiyotaki and Moore, 1997).
Thirdly, price falls resulting from fire sales may be associated to declining collateral values. This
brings about forced deleveraging of banks and NBFIs that causes further deviations of prices from
fundamental values (Gromb and Vayanos, 2002).
And fourthly, price falls resulting from fire sales may come about through two aspects of time-
varying margins. One aspect involves declining collateral values, as a result of
fire sales,
precipitating de-leveraging and further fire sales, as described in Gromb and Vayanos (2002).
Another aspect involves shocks to collateral resulting from fire sales creating uncertainty among
borrowers and creditors as to the value of collateral, which tends to result in creditors requesting
larger haircuts that brings about further fire sales.
