A regulatory minefield
18 Mar 2020
Navigating regulation has been a top priority for many of those in financial institutions. Find out why firms continue to feel the pressure to stay ahead of the game in 2020
Image: Shutterstock
Navigating the regulatory minefield has been challenging for many participants in the financial services industry. Since the financial crisis of 2007 and 2008, regulators have been paving the way for an industry that will be more transparent - with no skeletons lurking in the closet.
The European Market Infrastructure Regulation (EMIR), the first and second Markets in Financial Instruments Directive (MiFID I and MiFID II), and the upcoming Securities Financing Transactions Regulation (SFTR), are just some of the new regulations that have been introduced over the past few years, with SFTR set to go live in April this year.
SFTR will require banks and investment firms to report their securities finance transactions to a registered trade repository for the first time. And while SFTR has good intentions and objectives, there are 155 fields that need to be filled in for data reporting, which could pose a challenge.
In addition to SFTR, the uncleared margin rules (UMR) is another regulation that is set to be implemented this year, with the Settlement Discipline Regime (SDR) – the final phase under the Central Securities Depositories Regulation (CSDR) – and the Shareholder Rights Directive (SRD II), expected to come into force in February next year.
So with stringent regulations in place for the next 12 months, the pressure is on for the industry to make sure they are compliant as failing to do so could potentially lead to crippling fines. The main hurdles that are associated with regulation tend to be around data. The technology needed to extract the data for regulations such as SFTR come at a cost, but it would be impossible to comply without enhanced, heavyweight technology.
However, data can enable firms to have better insights into their business performances, it can also encourage opportunities in revenue for software vendors, for example.
For the year ahead, industry experts from Fenergo, Torstone Technology, DTCC, and Cappitech discuss the regulatory environment by highlighting where we can expect to bump into the biggest challenges and opportunities, as well as the trends we can expect to see in this space.
Under pressure
The pressure is on to be compliant with upcoming technologies, but as Fenergo’s Laura Glynn, director, global regulatory compliance, points out, some regulations for the year ahead will be more impactful than others.
Discussing SFTR, SDR under CSDR and SRD2, Brian Collings, CEO of Torstone Technology, explains that reaching compliance for these regulations is creating “a significant burden on sell-side participants, especially because many of the implementation details remain unresolved or industry standards and processes are not ready”.
According to Collings, there is pressure from trade bodies to delay the go-live dates, with the SDR implementation deadline already pushed back to February 2021. He says: “Ultimately there is a risk that the cost of compliance will push smaller participants out of the market, thereby reducing competition.”
Meanwhile, Glynn outlines that the EU fifth Anti-Money Laundering Directive amends and enhances provisions contained within the Fourth Anti-Money Laundering Directive, as well as introducing new requirements.
“Implementation challenges remain as many countries have yet to transpose the legislation and there has been little published in the way of sectoral guidance, overall. We’re unlikely to see many companies meet the deadline soon, which could force the EU to ramp up the pressure on member states to issue specific guidance”, Glynn said.
Adding to the pressure, Tim Keady, head of DTCC Solutions, notes that against this backdrop, market participants are also preparing for the Libor transition and Brexit adjustments.
Keady explains: “All of these regulations will impact the operating models of buy-side firms and introduce new costs as well as regulatory reporting requirements. For example, UMR’s phases 5 and 6, which take effect in 2020 and 2021, respectively, will predominantly impact funds and institutional investors, requiring some companies to acquire new skills and competencies in order to undertake functions which they’ve never performed before.”
The UMR initial margin (IM) requirements seek to establish international standards for non-centrally cleared derivatives. Asset managers, pension funds and insurance companies are scheduled to come in-scope of UMR based on their volume thresholds either with phase 5 on 1 September 2020 or phase 6 on 1 September 2021.
Some further observations that Ronen Kertis, CEO of Cappitech, has made are that many firms are not fully complying with monitoring best execution requirements as they should be and also face far-reaching challenges such as reconciliation.
The pressure that firms will face for the year ahead will be focused on the emphasis on improving data quality for reported data. Kertis also indicates that the governance framework and controls to improve the feedback loop and processes to rectify errors could also be a challenge for the year ahead.
Also bubbling in the pressure pot, is the looming threat of fines if a firm fails to comply. A recent report conducted by the software company Fenergo found that global financial institutions have tallied up fines of as much as $36 billion since the financial crisis.
Marc Murphy, CEO of Fenergo, highlighted that the rise in financial crime and increasing regulation is creating a ‘tough battleground’ for financial institutions trying to stay on top of a multitude of regulatory rules across different jurisdictions.
According to the survey, 2019 brought an additional $10 billion in fines for non-compliance with anti-money laundering, know your customer and sanctions regulations, and financial institutions were fined a further $82.7 million for data privacy and MiFID II violations.
In terms of the fines for errors and mistakes, the regulatory oversight and scrutiny by the regulator are expected to increase given that MiFiD is now two years old. Kertis warns: “While none of those who received feedback from regulators on the transaction reporting have been fined for the errors, leniency is unlikely to continue indefinitely and firms should not rely on the relaxed approach from authorities so far.”
A new way to navigate
Like most things in life, preparation is key, and by being an early adopter of regulation technology, people will be in better shape to reap the rewards from regulation.
Enhanced next-generation technology is a crucial part of being compliant. Cappitech’s Kertis explains that by employing next-generation technology, compliance managers can also start to use their regulatory reporting to gain business insights and make data-driven decisions. Indeed, there are lots of shiny new technology solutions out there but allocating it takes up lots of time and resources.
DTCC’s Jennifer Peve, managing director of business innovation, believes that the optimal approach is to look at the challenge and the business case, and then determine how best to address it.
“At times this may be best achieved through new technology, while in other instances optimising existing processes or using current technology may be the ideal solution,” Peve says.
Once the technology is in place to help you comply with regulation, opportunities will become more apparent. Torstone Technology’s Collings outlines that for software vendors, the opportunities are “always going to be that regulation requires technology changes and the more agile the development organisation, the better prepared the broker/bank. With any new regulation, there are always clear revenue opportunities”.
For sell-side, Collings sees that the opportunities will generally be that the larger players have the advantage over their smaller/local competitors of economies of scale.
Meanwhile, smaller participants need to be nimble and be able to vary their offering to capture gaps in the marketplace or exploit opportunities with new legislation, according to Collings.
Discussing the impact for both the middle- and back-office functions for buy and sell-side firms, Keady says he is hearing from clients that in order to prepare for their implementation, they’re analysing current inefficiencies and adopting a best practice approach.
“For example, because SDR requires timely settlement, the industry will need to analyse the cause of failed trades and then address those weaknesses by creating greater automation in the middle and back office. This best practice approach to post-trade processing will not only help with compliance to SDR, but it will also reduce operational risk, increase operational efficiency and better position firms to comply with future regulations,” Keady says.
Cappitech’s Kertis adds that compliance managers who have the right technical solutions can capitalise on their trading data required for compliance in order to gain unique insights into their business performance.
In this way, Kertis explains, compliance officers and other decision makers can move from a tactical to a strategic approach that drives value directly back into the business.
Keeping eyes on the prize
Although regulations such as MiFID have been in place for over two years now, there’s no time to take the foot off the gas or breathe a sigh of relief. Keady from DTCC notes that the slew of forthcoming regulations is requiring the buy-side to evolve their operating models as they contend with new costs and regulatory reporting requirements.
Glynn predicts that in 2020, we can expect to see continued geopolitical uncertainty, fee pressures, increasing regulatory scrutiny and market disruption.
Collings expects to see more consolidation and investment in technology for 2020. He muses: “Technology is becoming the differentiating factor. People move between organisations much faster than technology, and technology is a much longer-term play for institutional memory.”
Meanwhile, Kertis summarises that the main industry trends for 2020 will be: outsourcing regulatory reporting, a focus on data quality, delegated reporting, and reconciliation.
On delegated reporting, Kertis comments that it has “always been an issue for the market. As a solution, delegating brokers are not big proponents of it due to the additional effort and liability it places on them, and the regulators don’t like it either. Even those firms that have their reporting delegated on their behalf by their brokers, have come to realise that it is not a sustainable and robust solution”.
Also on the horizon for 2020, Kertis says: “The relatively low compliance to best execution monitoring is a real concern as is the fact that firms are not yet gaining additional benefits from the public RTS 27/28 best execution. The regulators have made it clear that this is central to ensuring best practice in trading execution on behalf of clients, and ultimately individuals’ savings and pensions. We already see a few EU regulators approaching their member firms with a request for more details or auditing their best execution monitoring practices.”
The European Market Infrastructure Regulation (EMIR), the first and second Markets in Financial Instruments Directive (MiFID I and MiFID II), and the upcoming Securities Financing Transactions Regulation (SFTR), are just some of the new regulations that have been introduced over the past few years, with SFTR set to go live in April this year.
SFTR will require banks and investment firms to report their securities finance transactions to a registered trade repository for the first time. And while SFTR has good intentions and objectives, there are 155 fields that need to be filled in for data reporting, which could pose a challenge.
In addition to SFTR, the uncleared margin rules (UMR) is another regulation that is set to be implemented this year, with the Settlement Discipline Regime (SDR) – the final phase under the Central Securities Depositories Regulation (CSDR) – and the Shareholder Rights Directive (SRD II), expected to come into force in February next year.
So with stringent regulations in place for the next 12 months, the pressure is on for the industry to make sure they are compliant as failing to do so could potentially lead to crippling fines. The main hurdles that are associated with regulation tend to be around data. The technology needed to extract the data for regulations such as SFTR come at a cost, but it would be impossible to comply without enhanced, heavyweight technology.
However, data can enable firms to have better insights into their business performances, it can also encourage opportunities in revenue for software vendors, for example.
For the year ahead, industry experts from Fenergo, Torstone Technology, DTCC, and Cappitech discuss the regulatory environment by highlighting where we can expect to bump into the biggest challenges and opportunities, as well as the trends we can expect to see in this space.
Under pressure
The pressure is on to be compliant with upcoming technologies, but as Fenergo’s Laura Glynn, director, global regulatory compliance, points out, some regulations for the year ahead will be more impactful than others.
Discussing SFTR, SDR under CSDR and SRD2, Brian Collings, CEO of Torstone Technology, explains that reaching compliance for these regulations is creating “a significant burden on sell-side participants, especially because many of the implementation details remain unresolved or industry standards and processes are not ready”.
According to Collings, there is pressure from trade bodies to delay the go-live dates, with the SDR implementation deadline already pushed back to February 2021. He says: “Ultimately there is a risk that the cost of compliance will push smaller participants out of the market, thereby reducing competition.”
Meanwhile, Glynn outlines that the EU fifth Anti-Money Laundering Directive amends and enhances provisions contained within the Fourth Anti-Money Laundering Directive, as well as introducing new requirements.
“Implementation challenges remain as many countries have yet to transpose the legislation and there has been little published in the way of sectoral guidance, overall. We’re unlikely to see many companies meet the deadline soon, which could force the EU to ramp up the pressure on member states to issue specific guidance”, Glynn said.
Adding to the pressure, Tim Keady, head of DTCC Solutions, notes that against this backdrop, market participants are also preparing for the Libor transition and Brexit adjustments.
Keady explains: “All of these regulations will impact the operating models of buy-side firms and introduce new costs as well as regulatory reporting requirements. For example, UMR’s phases 5 and 6, which take effect in 2020 and 2021, respectively, will predominantly impact funds and institutional investors, requiring some companies to acquire new skills and competencies in order to undertake functions which they’ve never performed before.”
The UMR initial margin (IM) requirements seek to establish international standards for non-centrally cleared derivatives. Asset managers, pension funds and insurance companies are scheduled to come in-scope of UMR based on their volume thresholds either with phase 5 on 1 September 2020 or phase 6 on 1 September 2021.
Some further observations that Ronen Kertis, CEO of Cappitech, has made are that many firms are not fully complying with monitoring best execution requirements as they should be and also face far-reaching challenges such as reconciliation.
The pressure that firms will face for the year ahead will be focused on the emphasis on improving data quality for reported data. Kertis also indicates that the governance framework and controls to improve the feedback loop and processes to rectify errors could also be a challenge for the year ahead.
Also bubbling in the pressure pot, is the looming threat of fines if a firm fails to comply. A recent report conducted by the software company Fenergo found that global financial institutions have tallied up fines of as much as $36 billion since the financial crisis.
Marc Murphy, CEO of Fenergo, highlighted that the rise in financial crime and increasing regulation is creating a ‘tough battleground’ for financial institutions trying to stay on top of a multitude of regulatory rules across different jurisdictions.
According to the survey, 2019 brought an additional $10 billion in fines for non-compliance with anti-money laundering, know your customer and sanctions regulations, and financial institutions were fined a further $82.7 million for data privacy and MiFID II violations.
In terms of the fines for errors and mistakes, the regulatory oversight and scrutiny by the regulator are expected to increase given that MiFiD is now two years old. Kertis warns: “While none of those who received feedback from regulators on the transaction reporting have been fined for the errors, leniency is unlikely to continue indefinitely and firms should not rely on the relaxed approach from authorities so far.”
A new way to navigate
Like most things in life, preparation is key, and by being an early adopter of regulation technology, people will be in better shape to reap the rewards from regulation.
Enhanced next-generation technology is a crucial part of being compliant. Cappitech’s Kertis explains that by employing next-generation technology, compliance managers can also start to use their regulatory reporting to gain business insights and make data-driven decisions. Indeed, there are lots of shiny new technology solutions out there but allocating it takes up lots of time and resources.
DTCC’s Jennifer Peve, managing director of business innovation, believes that the optimal approach is to look at the challenge and the business case, and then determine how best to address it.
“At times this may be best achieved through new technology, while in other instances optimising existing processes or using current technology may be the ideal solution,” Peve says.
Once the technology is in place to help you comply with regulation, opportunities will become more apparent. Torstone Technology’s Collings outlines that for software vendors, the opportunities are “always going to be that regulation requires technology changes and the more agile the development organisation, the better prepared the broker/bank. With any new regulation, there are always clear revenue opportunities”.
For sell-side, Collings sees that the opportunities will generally be that the larger players have the advantage over their smaller/local competitors of economies of scale.
Meanwhile, smaller participants need to be nimble and be able to vary their offering to capture gaps in the marketplace or exploit opportunities with new legislation, according to Collings.
Discussing the impact for both the middle- and back-office functions for buy and sell-side firms, Keady says he is hearing from clients that in order to prepare for their implementation, they’re analysing current inefficiencies and adopting a best practice approach.
“For example, because SDR requires timely settlement, the industry will need to analyse the cause of failed trades and then address those weaknesses by creating greater automation in the middle and back office. This best practice approach to post-trade processing will not only help with compliance to SDR, but it will also reduce operational risk, increase operational efficiency and better position firms to comply with future regulations,” Keady says.
Cappitech’s Kertis adds that compliance managers who have the right technical solutions can capitalise on their trading data required for compliance in order to gain unique insights into their business performance.
In this way, Kertis explains, compliance officers and other decision makers can move from a tactical to a strategic approach that drives value directly back into the business.
Keeping eyes on the prize
Although regulations such as MiFID have been in place for over two years now, there’s no time to take the foot off the gas or breathe a sigh of relief. Keady from DTCC notes that the slew of forthcoming regulations is requiring the buy-side to evolve their operating models as they contend with new costs and regulatory reporting requirements.
Glynn predicts that in 2020, we can expect to see continued geopolitical uncertainty, fee pressures, increasing regulatory scrutiny and market disruption.
Collings expects to see more consolidation and investment in technology for 2020. He muses: “Technology is becoming the differentiating factor. People move between organisations much faster than technology, and technology is a much longer-term play for institutional memory.”
Meanwhile, Kertis summarises that the main industry trends for 2020 will be: outsourcing regulatory reporting, a focus on data quality, delegated reporting, and reconciliation.
On delegated reporting, Kertis comments that it has “always been an issue for the market. As a solution, delegating brokers are not big proponents of it due to the additional effort and liability it places on them, and the regulators don’t like it either. Even those firms that have their reporting delegated on their behalf by their brokers, have come to realise that it is not a sustainable and robust solution”.
Also on the horizon for 2020, Kertis says: “The relatively low compliance to best execution monitoring is a real concern as is the fact that firms are not yet gaining additional benefits from the public RTS 27/28 best execution. The regulators have made it clear that this is central to ensuring best practice in trading execution on behalf of clients, and ultimately individuals’ savings and pensions. We already see a few EU regulators approaching their member firms with a request for more details or auditing their best execution monitoring practices.”
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