The biggest problem with an ever-changing regulatory environment, and how you can fix it

The winds of change blow constantly in the world of compliance. Keeping ahead of them allows banks, broker-dealers and wealth managers to deliver services in a compliant way ahead of competitors. Leading the charge with new products and managing the risks they create puts sell-side firms in front of new opportunities with customers and sets them apart from their rivals.

However, managing change is difficult when the firms use a rigid technology system that limits activity levels, automation, range of products, processing power and volume of activity.

Helpfully there are areas in which regulators have developed common principles with which to engage capital markets firms. The Basel Committee provides a standardised approach to capital rules. The 2009 G20 Pittsburgh meeting set the standards for the use of derivatives trading in major markets. The setting of international benchmarks for activity allows businesses to operate with a fairly continuous set of processes and practices across different geographies and products.

Nevertheless, capital markets are challenged by the constantly changing opportunities that are presented by investing and capital raising.

Institutional interest in cryptocurrencies such as bitcoin are a good example. When corporates with very high valuations such as Tesla began investing in and using cryptocurrencies, banks need to act in order to support their own client services. However, these instruments have a patchwork of regulatory frameworks to work across creating a potential compliance headache for financial services firms.

Even in more mature markets, such as US blue chip equities, the attention of regulators can be drawn in as recently when retail investment triggered huge spikes in otherwise falling stock prices. In the US, market supervisors are imposing enhanced disclosure and electronic trading rules upon investment grade corporate bond markets.

Sitting in between these new and well-established markets are a huge number of different instruments and asset classes that are at varying stages of maturity with different investor bases and jurisdictions.

Clearly, service providers who wish to support capital raising and secondary market trading in each of these markets, along with cash management, custody and securities services, must negotiate multiple frameworks of rules which could potentially challenge their compliance.

That requires an adaptable compliance and risk system underpinning the middle and back office; the biggest problem that banks face is replacing existing systems with a more flexible alternative.

Rigid equals fragile
There are few similarities between the investment bank operations of 1980 and 2021. The capital requirements used to shore up the bank’s operations, the level of data available and the market structure that the traders engage with are all dramatically different in every asset class. Talking of asset classes, the derivatives of cash products which are traded are more complex and sophisticated than any instruments traded 41 years ago.

The only thing that might be familiar is the risk management platform sitting in the back office. Surprisingly, old back office technology has endured the swathe of regulatory changes that have occurred over those four decades.

Some firms have endured the losses that financial crises have laid upon them without addressing this fundamental problem. Consolidation of banks has also multiplied the number of out-of-date platforms that are used – and therefore must be integrated – to form a single coherent risk picture for both regulatory reporting and for risk management.

Barriers to fixing this problem have included the operational risks of replacing an inherent piece of multiple processes, the costs of change, and the performance advantages necessary to justifying the investment. However, replacing systems does not require a wholesale change today.

The use of componentised technology architectures allows individual functions to be added, and then built out in order to allow slow replacement of technology without any loss of performance. That way ‘changing the bank’ is achieved while still ‘running the bank’.

The loss of opportunity by being beaten to new business far outweigh the operational costs of changing the underlying technology, making the need for change a commercial imperative.

In addition, the advantages that a new back office can deliver in service quality today are massive.

Firstly, the risk checks and balances imposed by regulators for trading complex instruments can be handled in real time by a system built on today’s technology. Handling collateral and risk calculations allows capital to be put to work more efficiently, ensuring more trading opportunities can be handled with more accurate pricing for clients.

Secondly, the rules in multiple jurisdictions can be handled within a single componentised platform, significantly reducing the costs and risks to support product and business lines.

Thirdly, and most importantly, as regulations change in any part of the universe in which a bank operates having a componentised system allows it to be adapted without changing the entire platform.

Consequently the bank can be ever-changing in tune with the regulatory environment and keeping ahead of client demand, based on a strategic investment today.

About Torstone Technology
Torstone Technology, a leading SaaS platform for post-trade securities and derivatives processing. We simplify the complexities of post-trade, by connecting global financial industry expertise with post-trade technology innovation. Combining many decades of investment banking expertise with in-depth global financial market and technology industry knowledge, we offer agile, secure, scalable, and cost-effective solutions. Torstone’s Cloud-based, award-winning Inferno technology enables global financial firms to reduce costs, achieve greater operational efficiency, drive revenue growth and minimise risk.

We are a fast-growing company headquartered in London, with offices in New York, Toronto, Hong Kong, Singapore, and Tokyo.