In normal times, lending through securities financing transactions, even when backed by less-liquid instruments, appears low-risk because of the fact that the transactions are usually short-term, over-collateralized, and exempt from the automatic stay in insolvency proceedings. But during times of stress, lenders may become unwilling to lend against a wide range of assets, including very high-quality securities, forcing liquidity-strained institutions to rapidly liquidate positions.
The rapid constriction of large amounts of short-term wholesale funding and associated asset liquidations in times of stress in the financial markets can result in large fire sale externalities, direct and indirect contagion to other financial firms, and disruptions to financial stability. A dynamic of this type engulfed the financial system in 2008.