Banks today have a number of key objectives if they are to succeed – grow profitably and maximise efficiency, increase market share, meet changing customer needs and remain compliant with regulation. Perhaps compliance alone has the biggest effect on each of these objectives, and new regulations can be particularly disruptive.
The latest banking regulations are designed to serve a range of purposes including preventing fraud, protecting customers and promoting capital adequacy. Compliance may well lead to increased costs, but new technology can mitigate that. The problem of course, is that management may see new technologyas another risk and have concerns about costs. But the reality is that the right technology will cut risk and provide a very attractive return on investment.
Specifically, investments in new technology can:
• Identify areas and processes where improvement is needed
• Redirect resources to support growing business areas
• Introduce new processes to help position the organisation for future growth
• Gain insight into client trends through powerful data analysis
• Adapt to changing client needs to increase competitiveness
• Improve the quality of regulatory compliance
A core banking system (CBS) is the central nervous system of a bank, without which it is near impossible for it to function. Given the risks involved, financial institutions must look carefully at the cost-benefit ratio of changing their existing core banking systems. New product offerings, changes in regulatory scope and evolving client behaviour may mean that legacy systems are no longer fit for purpose and have become a barrier to competitiveness.
Increased banking regulation has led to lower returns and an overall cost increase, as legacy systems struggle to keep up with new and constantly changing requirements. Regulatory risk is not new for wealth managers, but the stakes are much higher than in the past.
As a recent Deloitte report highlights: “The wealth management industry is centred on trust; one “risk event” such as a cyber-attack or a major regulatory fine, can destroy that trust, and in turn, the reputation of the institution. As such, regulatory risk management is not simply a cost of doing business but rather an investment in the reputation and long-term health of the institution.”.
Here, we examine the potential returns for private banks and wealth managers when they change their core systems.
Before selecting a suitable technology partner, analysts should identify the areas within the business where improvements are required. Areas where the company has applied ‘fixes’ and ‘patches’ over the years, to allow business to carry on as usual, can be investigated in depth and efficient technology solutions can be found to address these workarounds and reduce operational risk.
This is especially true where banks are still using outdated and underperforming systems that do not really support their business activities. Legacy systems can prevent the business from moving into the future and increase running costs if, for example, they require the use of multiple third-party systems. With the right operational solution, many of these third-party systems can be phased out, reducing running costs and increasing performance capabilities.
One private bank found that its old and unwieldy CBS was severely hurting its ability to control costs: manual work-arounds and a burgeoning volume of custom applications ran up an additional €100 million in IT spending, according to a McKinsey report .
There is a wide range of technology solutions in the market at the moment, each targeted towards a particular issue, and the organisation should research these to ensure it selects the best possible solution.
While it may seem expensive and disruptive to invest in technology, private banks and wealth managers need to understand the advantages that come with a major overhaul. The introduction of new technology to the core of the bank can have an impact on almost every area of the business. This has the advantage of allowing the organisation to fully explore its current models, processes and product offerings. Without doubt, technological change comes with its fair share of risks and pitfalls, however the disruption can be constructive: it prevents stagnation. It presents opportunities to become more innovative and competitive, and become a market leader.
One example of this is blockchain. Other sectors of the financial services industry are looking to innovate via collaboration between major industry players to develop a new product using blockchain, or distributed ledger technology, to increase global trade among small and medium-sized businesses. While this revolution is not currently aimed at the private banking sector, the impact will potentially provide a platform to create similar collaborations in the wealth space. These kinds of innovation can offer major cost-cutting benefits, as well as driving regulatory reforms due to reduced paperwork and increased transparency.
Unexplored profit areas can be realised with the implementation of a technology change: cost models can be redefined to maximize profit, and new services can be introduced which may not have been possible with legacy systems.
Streamlining back-office operations can have cost-controlling benefits which in turn have a downstream impact, boosting profits and/or attracting prospective investors. Furthermore, customer relationship management (CRM) processes within private banks can be revamped to be more effective. A good CRM tool will be a focal point of technology investment, as it has the ability to log, track and resolve issues while providing feedback on the resolution processes by way of consolidation reports.
Overhauling a firm’s CBS requires knowledge of all the data held in the legacy system. During the project lifecycle, it is the responsibility of the business to ensure that it is accurately migrating over client and company data from the legacy to the new system. The migration process can include data cleansing, which requires relationship managers to provide missing client information.
From a strategic point of view, accurate data collection and storage drives sharper business intelligence to better cater for clients, as well as creating new product or service offerings. With such a deep pool of information, banks and other financial services providers are able to appropriately target clients based on their portfolio habits.
In some cases, a technology overhaul enables a bank to mitigate its regulatory risks. Under the UK’s Client Assets Sourcebook (CASS) regulation, for example, banks must be aware of their responsibilities towards any client money which they have access to. This means there is a need for thorough awareness of each and every operation that takes place, be it in payments processing, trade processing or dividend processing, in order to segregate the funds accordingly. Technological change can facilitate this by allowing comprehensive investigation of the service provider’s operations.
To support the CASS regulation, new processes and possibly departments need to be introduced to handle the calculation, segregation and movement of client money through third-party custodians. Such processes will have a cross-functional impact on automated internal and external payments, trading processes and funds monitoring. It will result in far greater transparency and awareness across the institution, which can highlight potential risk areas not previously seen as a concern. This change can also have an impact on the third-party systems used by the bank, which must also be CASS-compliant according to UK regulator the Financial Conduct Authority (FCA).
With the changing market landscape, there are often new inclusions or exclusions in the scope of regulation. As a result of this fluidity, it is necessary for a bank to stay on top of changes at all times. Robust technology makes it easier to flag relevant in-scope or out-of-scope data. This is especially important from a MiFID II perspective: without data transparency, it is impossible for organisations to know if their services are being used for fraudulent purposes.
This was the case for a large multinational player, which recently received a £163 million fine from the FCA for serious anti-money laundering controls failings . Reasons for the breach cited by the FCA included: inadequate customer due diligence; lack of responsibility for know-your-customer (KYC) obligations; issues with customer and country risk-rating methodologies; deficient anti money-laundering (AML) policies and procedures, and inadequate AML IT infrastructure. With the proper systems in place, the majority of these breaches could have been avoided using intelligent AML checks backed by proper KYC processes.
Data cleansing is one way in which technology investment can improve regulatory compliance, because it reduces issues arising from missing investor information. In addition to clean data, the business must also ensure that it has the appropriate AML checks in place, and this can be aided by having appropriate KYC processes. Accurate KYC information is essential for US Foreign Account Tax Compliance Act (FATCA) reporting, which requires identification of US vs. non-US investors with US holdings, in order to facilitate the tax collection and penalty process.
New regulatory reporting requirements could be introduced in the future, following the example of the worldwide Common Reporting Standards (CRS). This regulation, introduced in 2014, is based on FATCA, and calls on jurisdictions to obtain information from their financial institutions and automatically exchange that information with other jurisdictions on an annual basis. As a result, financial institutions are realising they need to reorganise or enhance their systems in order to handle this requirement. They need to ensure they have the necessary information to support the new CRS regulation, introduce the appropriate documentation and ensure due diligence to meet reporting deadlines. An excellent CRM tool can be used as a support mechanism to achieve this goal.
We conclude that it is necessary for banks to carry out an in-depth review of their technology solution at least once every five years, to ensure they are still using the best systems for their business needs. This timeframe is suggested because, within such a period, new regulatory requirements, new client businesses and new technology solutions are highly likely to have emerged. Regular reviews allow banks to ensure they are still competitive within their industry, attractive to investors and compliant with regulation.
As the analysis above shows, we believe there is a good case for investing in a technology overhaul. With the right system, partnership and support, it is possible to mitigate the costs and risks that may arise, resulting in benefits that far outweigh the costs. The results will help to build an organisation that operates with a view to the future, is a leader in its field and has a firm grasp of its regulatory responsibilities.