It is an old age issue in asset management industry, that not all positions consist of security. They are cash positions or cash-like positions, e.g. settled and unsettled cash balances, FX forward/swap positions, IRS positions, and transaction proceeds. One of the solutions is to securitise these positions into instruments.
So we’ll have instruments called USD Settled Cash, EUR Unsettled Cash, Buy USD Sell GBP 01/04/15, and Pay 3% GBP Receive LIBOR3m+1% JPY. And here is where the issue lies, outlined in the next 3 paragraphs. When does the cash become settled? It depends on when the settlement message from the broker is processed. Do we create a separate instrument for Repo cash? (Repurchase Agreement). Do we create a separate instrument for collateral cash? (margin requirements).
FX forward has 2 legs. In the above example, the Buy USD date is today/spot (say 26th March 2015) and the Sell GBP date is future/forward (1st April 2015). Do we create 2 instruments, one for each leg, or 1 instrument?
IRS (Interest Rate Swap) can be float-for-fix or float-for-float. It can be the same currency or different currency. To close out the exposure (but not the accounting values), an IRS usually have a contra. If in the IRS we pay fix, in the contra we pay float. So how do we securitise this? Do we create the contra as a separate instrument? An IRS has 2 legs (usually a fix leg and a float leg, but could be both float) – do we create separate instruments for each legs? Do we create a separate instrument for each of the rates? Do we create a separate instrument for each of the fixing dates?
Attributes of cash-like instruments
What is the country of risk of “USD Settled Cash” instrument? United States of course. What is its country of domicile? N/A. What is its currency? It’s obvious, USD. What’s the issuer? Also obvious, US Government.
Now try for Pay 3% GBP Receive LIBOR3m+1% JPY. What is the country of risk? Umm… UK? Japan? Well, the risk is on the fixed leg, so the country of risk is UK. What is the issuer? Hmm…. blank? What is the currency?
The most common attributes of an instrument are: country, currency, issuer, asset class/type, asset subclass/subtype, sector/industry/subsector, rating, (effective) maturity date, maturity bucket, coupon frequency. All these need to be populated. Oh and ID fields, e.g. Ticker, Sedol, ISIN, Cusip; most of which will be blank for cash or FX lines. Description however, is crucial. It is used for looking up to determine if that instrument already exists or not. So it is very important to have a consistency, e.g. “USD Settled Cash” or “USD Cash Balance”? “EUR Unsettled Cash” or “EUR Cash (Unsettled)”? “GBP Collateral Cash” or “Collateral Cash GBP”?
Analytics for cash-like instruments
Analytics are measures which are dependent on price, time to maturity, and interest rates. The most common analytics for fixed income are yield to maturity, current yield, modified duration, spread, spread duration, option adjusted spread, z-spread, convexity, gamma. Some of these will be zero for cash, but some of them have values (like yield for example).
These analytics will need to be calculated if we combine several positions into one instrument. Some of them are not simple additive, e.g. they need to be weighted with % contribution when summing up. Some of them doesn’t work with weighted sum.
The other solution: by not securitising them
The other option is not securitising cash and FX positions, and they become positions without instruments. If we take this route will need to store all security attributes in the holding table.