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Collateral management is the method of granting, verifying, and giving advice on collateral transactions. The primary goal of collateral management is to lessen the risk involved in unsecured financial dealings. In these dealings, assets or properties are put up as collateral in order to secure a loan. If the debtor defaults on repayment of the credit, the collateral is then seized by the credit issuer.
The practice of putting up collateral in exchange for a loan has long been a part of the lending process, whether between individuals, individuals and businesses, or businesses and other businesses. With more and more people and institutions seeking credit, as well as the advent of newer forms of technology, the scope of collateral management has grown. Increased risks in the field of finance have inspired greater and greater responsibility on the part of borrowers, and it is the job of the collateral management agency to make sure this risk is as low as possible for the parties involved.
On a basic level, collateral management can be used to administer collateral transactions for either individual consumers or businesses. A collateral management agency will hold a record of all collateral currently being supervised, descriptions of the collateral, and the various categories into which each item falls. The agency will manage all margin finance calls and returns, supervise the substitution of collateral, and administer the client's securities transfers. Collateral management can expediently identify changes to collateral as they relate to the terms of the borrower's agreement with the creditor.
In securing credit with collateral, collateral management has many different functions. One of these functions is credit enhancement, in which a borrower is able to receive more affordable borrowing rates. Aspects of portfolio risk and risk management are also included in many collateral management situations. A balance sheet technique is another commonly utilized facet of collateral management; this technique is used to maximize a bank's resources, ensure asset liability coverage rules are honored, and seek out further capital from lending excess assets.
There are several sub-categories that fall under the term "collateral management." Collateral arbitrage, collateral outsourcing, tri-party repurchase agreements, and credit risk assessment are just a few of the functions addressed in collateral management. In the case of a tri-party repurchase agreement, for example, a custodian bank serves as a tri-party agent, a middleman between the repo buyer and repo seller. Collateral management ensures that all three parties involved in the transaction are aware of the financial risks and are now able to avoid the paperwork and complicated bureaucracy of other kinds of repossessions.