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Synthetic prime brokerage: Difference between revisions
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{{a|PB| | {{a|PB|[[File:Synthetic equity swap.jpg|450px|thumb|center|[[A twisty spy technique]], yesterday.]]}} | ||
[[File:Synthetic equity swap.jpg|450px|thumb|center|[[A twisty spy technique]], yesterday.]] | ''Also called [[synthetic equity swap]]s, [[contracts for difference]]<ref>This has been apt to confuse people; be warned.</ref> or [[high-delta equity derivative]]s.'' Cryptic crossword fans — JC has become addicted over lockdown — may also be thrilled to know how good “[[synthetic equity swap]]” is for generating anagrams. ''A twisty spy technique'', for example. Or ''witty, peachy inquests''. If you wanted to know ''why typist quit seance'', or have ever been dismayed by ''quite whiny typecasts'', this may be your inner [[equity derivative]] [[structurer]] banging on your cranium and trying to get out. | ||
}}''Also called [[synthetic equity swap]]s, [[contracts for difference]]<ref>This has been apt to confuse people; be warned.</ref> or [[high-delta equity derivative]]s.'' | |||
Why are all these things called “[[synthetic prime brokerage]]”, then? Well, because economically this is ''physical'' [[prime brokerage]] — that is, [[Brokerage|equity brokerage]] done on [[margin lending|margin]] only done with ''[[swaps]]'' on [[shares]], and not ''actual'' [[shares]]. The client never actually owns the [[share]]: instead, his [[swap dealer]] buys it, and passes on the economic return under an [[equity derivative]]. | Why are all these things called “[[synthetic prime brokerage]]”, then? Well, because economically this is ''physical'' [[prime brokerage]] — that is, [[Brokerage|equity brokerage]] done on [[margin lending|margin]] only done with ''[[swaps]]'' on [[shares]], and not ''actual'' [[shares]]. The client never actually owns the [[share]]: instead, his [[swap dealer]] buys it, and passes on the economic return under an [[equity derivative]]. | ||
You may like our longer-form essay — it’s a contrarian piece, be warned — ''“[[synthetic prime brokerage and the risk of tax recharacterisation]]”''. | You may like our longer-form essay — it’s a contrarian piece, be warned — ''“[[synthetic prime brokerage and the risk of tax recharacterisation]]”''. | ||
Anyway. | Anyway. | ||
===Why ''synthetic'' and not ''physical''?=== | ===Why ''synthetic'' and not ''physical''?=== | ||
*'''Going [[long]]''': instead of buying shares on [[margin]] and asking your [[prime broker]] to hold them for you, you just trade a [[total return swap]] with your [[prime broker]] where the [[PB]] pays the return of the share price and you pay a [[floating rate]]. The [[PB]] will (cough, in all probability) buy the physical {{eqderivprov|shares}} and hold them in its own inventory as a [[delta-one]] hedge. But it will do this across its whole book, not client-by-client, much less position-by-position, and it will finance those shares in the market to offset its funding costs, so you shouldn’t imagine your prime broker keeps a little bucket with your name on it containing all the shares it has bought to hedge your swaps<ref>This might, at first, seem a bit upsetting, but once you talk to your tax accountant you will feel much better. This really is as much for your own good as for your [[prime broker]]’s.</ref>. You will be exposed to the price of the assets, but do not control or own the {{tag|prime broker}}’s hedge. This can sometimes lead to disappointment when it comes to voting and [[corporate action]]s, but it’s all for the best. | *'''Going [[long]]''': instead of buying shares on [[margin]] and asking your [[prime broker]] to hold them for you, you just trade a [[total return swap]] with your [[prime broker]] where the [[PB]] pays the return of the share price and you pay a [[floating rate]]. The [[PB]] will (cough, in all probability) buy the physical {{eqderivprov|shares}} and hold them in its own inventory as a [[delta-one]] hedge. But it will do this across its whole book, not client-by-client, much less position-by-position, and it will finance those shares in the market to offset its funding costs, so you shouldn’t imagine your prime broker keeps a little bucket with your name on it containing all the shares it has bought to hedge your swaps<ref>This might, at first, seem a bit upsetting, but once you talk to your tax accountant you will feel much better. This really is as much for your own good as for your [[prime broker]]’s.</ref>. You will be exposed to the price of the assets, but do not control or own the {{tag|prime broker}}’s hedge. This can sometimes lead to disappointment when it comes to voting and [[corporate action]]s, but it’s all for the best. | ||