Australia: Securities Lending Contracts Mean What They Say

Last Updated: 15 May 2008
Article by Geoff Hoffman

And that - according to the Federal Court - is that the lender of securities loses all title and interest in the securities.

Accordingly, the borrower of securities is free to dispose of the securities to third parties - and, if the borrower is insolvent, the lender cannot demand the return of the securities from those third parties.

This decision, handed down this morning in Melbourne, confirms that the standard form securities lending contract used in Australia (and around the world) can continue to be employed by institutions and the market in general.


There is much litigation about Opes Prime and its securities lending contracts. Generally speaking, the litigation has concentrated on the questions:

  • did the securities lending contracts transfer absolute ownership from the client to Opes Prime?
  • did Opes Prime mislead clients into thinking that the clients retained ownership of the securities?

In this case, Finkelstein J was concerned with only the first question: the legal effect of the securities lending contracts (without reference to any representations or other correspondence between Opes Prime and its clients).

The securities lending contract used by Opes Prime (based on industry standards) had a number of features, including:

  • the client transferred a parcel of securities in A Ltd to Opes Prime;
  • Opes Prime provided cash (called `collateral') to the client (initially less than the value of the securities, thus giving Opes Prime a margin);
  • if the client repaid the cash, Opes Prime promised to transfer an equivalent number of A Ltd securities to the client.

On receiving securities from clients, Opes Prime on-transferred them to third parties such as ANZ . When Opes Prime collapsed, the client was left with a contractual promise enforceable against a company in administration. An Opes Prime client who wanted improve its position by repaying the cash 'collateral' and getting back its securities, therefore, had to try to get the securities from ANZ.

But ANZ had legally acquired ownership of the securities from Opes Prime. To overcome this problem, the Opes Prime client in this case argued that it had equitable rights to the securities and that those rights took precedence over ANZ's subsequent legal ownership of them.

There was no dispute that the client had transferred ownership of the securities to Opes Prime. However, the client argued that this was a mortgage, rather than a straight-out sale. Under a traditional legal mortgage, the borrower of money transfers legal title to the security to the lender, but the borrower retains an "equity of redemption" - a legal right to have the securities transferred back once the loan is repaid. The client argued that it had an equity of redemption in relation to the shares it had transferred to Opes Prime, and that that equity of redemption took precedence over ANZ's entitlement to the securities.

This argument would have had significant implications for the securities-lending industry in Australia and overseas. That was because Opes Prime used contractual clauses that were standard in the industry. If it turned out that those clauses didn't transfer absolute ownership, it would cause considerable legal uncertainty concerning many transactions used by securities-lending market participants.

The decision

Justice Finkelstein ruled that there was no equity of redemption. He said that arguments that the securities lending agreement was a mortgage were "simply unsustainable". He acknowledged that the economic effect of a securities lending agreement is similar to a mortgage; however, legally they were quite different.

He also dismissed an argument that the agreement created a charge over the securities.

His Honour paid particular attention to the fact that the Opes Prime contract was largely similar to that used in commercial securities lending transactions around the world. Industry users of the contract have always proceeded on the basis that the contract passes unfettered title to securities (ie it does precisely what it says). He rejected the client's argument that the contract should be given a different effect if it was being used by a retail investor:

"I do not accept that a share lending agreement (indeed any agreement) can have a meaning that is dependent upon (and changes with) the subjective motivations for which it is entered into."

The implications

Earlier this week, the NSW Court of Appeal, in another piece of Opes Prime litigation, gave some indications that it didn't think that a securities lending agreement is a mortgage. The current weight of judicial opinion, therefore, appears to be against the idea. Nevertheless, given the fact that securities lending litigation is taking place around the country, it is not impossible that the issue will arise in other courts.

It is therefore impossible to say that Justice Finkelstein's decision is the last word on the subject. Nevertheless, the odds would not suggest that a different conclusion is very likely.

Looking more widely, it is unclear what effect this decision will have on the future course of Opes Prime litigation. The fact that clients cannot claim the return of "their" securities based on the terms of the contract itself does not mean that they may not succeed with a claim based on the representations and other correspondence between Opes and its clients.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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