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Risktech start-ups struggle to clinch big-bank contracts

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Start-ups are widely reckoned to have a one in 10 chance of survival. For start-ups in the field of risk management, the odds are probably a little worse: the field has all the withering mortality of the ordinary start-up, plus the special hell of being small, agile and captive to the sluggish metabolism of a big bank.

For now, it’s not stopping them. Hoping for a big payoff, this group of disruptors is looking to upend risk management with their products, addressing things from transaction monitoring and trade reporting, to IFRS 9 and model validation.

Read the full article on Risk.net

 

 

Top five trends in collateral management for 2018

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This article was originally published on Securities Finance Monitor.
To download this article, please click here.

Collateral management has broadened far past simple margin processing; collateral now impacts a majority of financial market activity from determining critical capital calculations to impacting customer experience to driving strategic investment decisions. In this article, we identify the top five trends in collateral management for 2018 and highlight important areas to watch going forward.

The holistic theme driving forward collateral management is its central role in financial markets. Collateral has grown so broad as to make even its name confusing: where collateral can refer to a specific asset, the implications of collateral today can reach through reporting, risk, liquidity, pricing, infrastructure and relationship management. The opportunities for collateral professionals have likewise expanded, and non-collateral roles must now have an understanding of collateral to deliver their core obligations to internal and external clients.

We see a common theme running through five areas to watch in collateral management in the coming year: the application of smarter data and intelligence to drive core business objectives. Many firms have digested the basics of collateral optimization and are now ready to incorporate a broader set of parameters and even a new definition of what optimization means. Likewise, technology investments in collateral are starting to tie into broader innovation projects at larger firms; this will unlock new value-added opportunities for both internal and external facing technology applications.

Here are our top five trends for collateral management in 2018:

#5 Technology Investments

The investment cycle in collateral-related technology applications continues to grow at a rapid pace. Collateral management budget discussions are moving from the back office to the top of the house. And partly as a result, the definition of the category is also changing. Collateral management should no longer be seen as strictly the actions of moving margin for specified products, but rather is part of a complex ecosystem of collateral, liquidity, balance sheet management and analytics. The usual, first order investment targets of these budgets are internally focused, including better reporting, inventory management and data aggregation. The second derivative benefit of a more robust data infrastructure focuses on externally facing trading applications, including tools for traders and client intelligence utilities that provide real-time information and pricing for the benefit of all parties. This new category does not yet have a simple name, one could think of it as a “recommendation system” but regardless of name, this has become a major driver of forward-looking bank technology efforts and efficiency drives.

As large financial services firms capture the benefits of their current round of investments, they will increasingly turn towards integrating core innovations in artificial intelligence, Robotics Process Automation and other existing technologies into their collateral-related investments. This will unlock a large new wave of opportunity for how business is conducted and what information can be captured, analyzed, then automated, for a range of client facing, business line, internal management and reporting applications.

#4 Regulatory reporting

Despite being 10 years since the bottom of the great recession, regulatory reporting requirements for banks and asset managers continue to evolve. Largely irrespective of jurisdiction, the core problem facing these firms is aggregating and linking data together for reporting automation. Due to strict timeframes and complex requirements, firms historically relied on a pre-existing mosaic of technology and human resources to satisfy regulatory reporting needs. However, these tactical solutions made scale, efficiency and responsiveness to new rules difficult. The challenge of regulatory reporting is a puzzle that, once solved, appears obvious. But the process of solving the puzzle can create substantial challenges.

Looking at one regulation alone misses the transformative opportunity of strategic data management across the organization. Whether it is SFTR, MiFID II, Recovery & Resolution Planning requirements of SR-14/17 or Qualified Financial Contracts (QFCs), the latest initiative du jour should be a kick off for a broader rethink about data utilization. Wherever a firm starts, the end result must be a robust data infrastructure that can aggregate and link information at the most granular level. At a high level, firms will need to develop the capability to link all positions and trading data with agreements that govern these positions, collateral that is posted on the agreements, any guarantees that may be applied and any other constraints that need to be considered. Additionally, it has to be able to format and produce the needed information on demand. Achieving this goal will take meaningful work but will make organizations not only more efficient but also more future proof.

#3 Transfer pricing

As firms try to optimize collateral across the enterprise, it is critical that they develop reasonably sophisticated transfer pricing mechanisms to ensure appropriate cost allocations as well as sufficient transparency to promote best incentives in the organization. Many sell-side firms have highly granular models with visibility into secured and unsecured funding, XVA, balance sheet and capital costs. And in varying fashion these firms allocate some or all of these costs internally. But many challenges remain, including: how should all these costs be directly charged to the trader or desk doing the trade; and what is the right balance of allocating actual costs versus incentivizing business behavior that maximally benefits the client franchise overall. As we know, client business profiles change through time as do funding and capital constraints. There may be a conscious decision to do some business that may not make money in support of other areas that are highly profitable. Transfer pricing is evolving from a bespoke, business aligned process to a dynamic, enterprise tool. The effort to enhance transfer pricing business models continues to be refined and expanded.

Firms that embrace the next iteration of transfer pricing will achieve a more scalable, efficient and responsive balance sheet. This will include capturing both secured and unsecured funding costs, plus firm-wide and business specific liquidity and capital costs. Accurately identifying the range of costs can properly incentivize business behaviors beyond simply the cost of an asset in the collateral market. Ultimately, transfer pricing can be a tool to drive strategic balance sheet management objectives across the firm.

Functionally, implementing transfer pricing requires access to substantial data on existing balance sheet costs, inventory management and liquidity costs that firms must consider. Much like collateral optimization, the building block of a robust transfer pricing methodology is data. Accurate information on transfer pricing can then flow back into trading and business decisions to be truly effective.

#2 Collateral control and optimization

Optimization is evolving well beyond an operations driven process of finding opportunity within a business to an enterprise wide approach at pre-trade, trade and post-trade levels. Pre-trade, “what-if” analyses that will inform a trader if a proposed transaction is cost accretive or reducing to the franchise is important, but this requires an analytics tool that can comprehend the impact to the firm’s economic ecosystem. At the point of trade, identifying demands and sources of collateral across the entire enterprise extends to knowing where inventories are across business lines, margin centers, legal entities and regions. It also means understanding the operational nuances and legal constraints governing those demands across global tri-parties, CCPs, derivative margin centers and securities finance requirements.

In a simple example, collateral posted on one day may not be the best to post a week later; if posted collateral becomes scarce in the securities financing market and can be profitably lent out, it may be unwise to provide it as margin. A holistic post-trade analysis, complete with updated repo or securities lending spreads, can tell a trader about missed opportunities, leading to a new form of Transaction Cost Analytics for collateralized trading markets.

#1 Integration of derivatives & securities finance (fixed income and equities)

The need for taking a holistic approach to collateral management has led the industry toward significant business model changes. Collateral is common currency across an enterprise and must be properly allocated to wherever it can be used most efficiently. This means that traditional silos – repo, securities lending, OTC derivatives, exchange traded derivatives, treasury and other areas – need to be integrated. Operations groups that have been doing fundamentally the same thing can no longer be isolated from one another; the cost savings that come from process automation and avoiding operational duplication is too compelling.

On the front-office side, changes needed to impact trading behavior, culture and reporting to name a few are often very difficult to implement over a short period of time. Despite similar flows and economic guidelines, different markets and operation centers, even though all under the same roof, traditionally suffer from asymmetric information. To address this challenge a handful of large sell-side players have combined some aspects of these businesses under the “collateral” banner, sometimes along with custody or other related processing business. Others have developed an enterprise solution to inventory and collateral management. We expect that, more and more, management is seeing the common threads and shared risks involved. The merger of business and operations teams translates into a need for technology that can be leveraged across silos.

The business of collateral management is reshaping every process and silo it touches. While the trends we have identified are not brand new, they all stand out for how far and fast they are advancing in 2018 and beyond. Financial services firms that take advantage of these trends concurrently and plan for a future where collateral is integrated across all areas of the business will improve their competitive positioning going forward. To add a sixth trend: firms that ignore broader thinking about collateral management technology do so at their own peril.

Revisiting the Importance of Inventory Management in Collateral and Liquidity

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This article was originally published on Securities Finance Monitor.
To download this article, please click here.

In this article in Securities Finance Monitor, Transcend’s CEO Bimal Kadikar discusses the opportunities for more effective liquidity and collateral management – and the potential benefits to the bottom line. A solid starting point is inventory management whereby firms can match collateral to needs, improve front-to-back office communications and increase operational efficiency and compliance.

Inventory management is a cornerstone of securities finance, funding and collateral management, but often gets little attention until it is too late. This should not be the case, as inventory management is the first thing that buy-side and sell-side firms should pay attention to when getting serious about collateral and liquidity management. Inventory management is the foundation on which efficient businesses are built, including putting context around a firm’s positions.

Theoretically, it should be possible to aggregate data easily, then buy or build technology to run reports and connect to counterparties later on. After all, there many vendors with algorithms and reports that help a user select the right collateral to deliver. Likewise, there are many ways to connect to the market, between point to point connectivity, FTP, SWIFT and cloud intranets. However, this plan does not always work out well in practice. The development of mono-line systems and use cases means that unless inventory and trade data is harmonized across the enterprise first, reports and counterparty connectivity largely falls short of expectations.

The common challenge that vendors and clients face is how comprehensive and normalized is the information being collected. A collateral management system with only 50% of a firm’s available position and inventory data is less than 50% effective at its objective: successfully delivering the right collateral at the right time or incentivizing the right business behavior to reduce costs, including better risk management.

The natural response to this situation is to collect all pockets of inventory into one pool so traders and allocators of collateral can pull information on all activity and holdings from a single source. This is the point where most firms pause. For example, do they know where all their inventory information is held and in what form across products and geographies? Are all the pricing sources across inventory consistent, or did they grow up independently because of divisions or acquisitions? Do collateral managers know the details behind vast amounts of security line items, CUSIPs and ISINs to make smart decisions? The inventory management organization process can be the start of a reasonably large project.

Why invest strategically?

It often takes an external stimulus to get serious about strategic inventory management; recent mandates for effective liquidity and collateral management are good examples. But it can’t just sound good on paper: the benefits need to be impactful to the bottom line. As a result, it is often helpful to conduct a cost-benefit analysis that shows what is at stake. As a one-time exercise, this can demonstrate the payback on inventory management. We have seen this in practice across multiple firms that initially looked at collateral management technology for reports and straight-through processing, then came to find that the more inventory was available in the system that significant returns could be generated. These returns can more than pay for the cost of an inventory management and optimized collateral technology system combined.

Regulators across the globe have increased their scrutiny on collateral management as well. As part of the Recovery & Resolution Planning and/or Reg YY collateral management requirements, firms have to prove enterprise level collateral and liquidity management capabilities. Very few firms can claim compliance to these requirements in an automated way and will require significant changes in the overall platform. This could be a great opportunity for firms to invest in enterprise level real-time inventory management capabilities that will help them comply with regulatory pressures but also provide significant business and operational benefits for the firm.

Tracking monetary value to collateral utilization

Proper inventory management requires the ability to efficiently utilize collateral by knowing what positions are available at any given time along with having rich context around each position (see Exhibit 1). The context includes for how long will a position be available; who is the owner; is the position owned by the firm or a client; can it be rehypothecated; and where can it be pledged at the lowest haircut. This enrichment process is largely still not conducted by every firm. More often, a lack of understanding the value of collateral results in the asset owner simply losing out with no benefit to anyone else, and a net loss to the market as assets are tied up for the duration of a trade.

Exhibit 1: Generating results from robust inventory management

 

 

 

 

 

 

 

 

 

 

Source: Transcend Street Solutions

A robust view of collateral also means that front to back office communications become more precise and efficient, especially across global firms with different pools of assets. A successful inventory management process can reduce operational duplications, as one operations team can now see and manage one aggregated set of information about the firm’s holdings. More information on inventory means that front office traders can have a real-time window into what collateral is available to trade or post. This is a central tenet of the collateral trading business and serves to augment a trader’s opportunities in the marketplace.

Enhanced optimization opportunities

As firms create central collateral funding desks, reliable inventory management enables the efficient allocation of collateral for proper matching of sources and uses.  This means matching the right asset with the right liability.  Doing so could mean real savings to both capital and liquidity. But having the best model is only as good as one’s ability to see the full collateral picture.  A robust inventory management platform should improve only the visibility into the quantity of collateral held across an organization. It should also improve the confidence and ability of the organization to take actions based on that improved transparency. This better information will incentive trading behavior to maximize financial efficiencies comprehensively across balance sheet, funding and liquidity. Conversely, a collateral shortfall or poor data means that a funding trader is more likely to look outside the firm to access supply, likely resulting in increased balance sheet costs and capital usage.

In a real-world example of how collateral optimization works best with effective inventory management, a collateral manager may want or need to post G7 government bonds as collateral. Presuming five different collateral pools, there are multiple scenarios that can occur:

  1. With visibility into one collateral pools:
    1. The manager would have a limited inventory to source, resulting in few options and the potential need to look outside the firm.
    2. The manager may need to use cash, which would remove the firm’s investment options in other business areas.
    3. The manager could elect to repo in government bonds or borrow in a securities loan to post as collateral. Depending on the scarcity of the government bonds, they could either be paid to lend cash or be obligated to pay to borrow.
  2. With visibility into all five collateral pools:
    1. The manager could evaluate the cost of collateral pre-trade at an affiliate and borrow that collateral in exchange for a known fee that can be priced into a transaction in advance.
      1. This pre-trade analysis can become part of the daily operational trading activities of the firm.
    2. The manager and a collateral operations teams have a better opportunity to allocate cheapest to deliver collateral across all pledge requirements. Avoiding the need to go outside firm helps minimizes balance sheet and RWA costs.

Real-time operational efficiencies

Aggregating collateral yields operational benefits that may be difficult to quantify up front but that result in long-term benefits to the firm. A visibility into position breaks and errors in real time means faster response times to fails. In an era where repeated and unresolved fails have a direct financial impact, faster resolution of fails means money saved in the form of reduced operational RWA, better customer satisfaction, a reduced number of delivery instructions and a faster escalation when greater risks are identified.

Inventory management provides a framework to address typically buried settlement and operations risk. The ability to see and think through potential pitfalls that may have been hidden as a result of lack of inventory clarity gives both the front and back office more precise decision-making capabilities. This allows for root cause analysis of breaks and errors, ideally leading to a virtual elimination of the most frequent causes of fails.

The result of improved operational efficiency means lower collateral turnover and the costs this entails. Our clients also report an improved experience for clients and counterparties in the collateralized trading process. Greater operational efficiencies have a direct and positive outcome of the trading process.

A wider benefit to the firm

Inventory management projects can often be a starting point to greater benefits for a financial services firm. I have already mentioned operational and pricing benefits, but these are just the start. Once an inventory consolidation project is underway, firms may find duplicate vendors and functional roles that can be reorganized as cost savings measures. They may also find that additional trading and portfolio management opportunities appear as a result of better information flows. Inventory management can be difficult to consider, especially for complex institutions, but the financial, operational and risk management benefits are nearly always worth the effort.

Optimizing Your Collateral Resiliency and Recovery

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This article was originally published in Securities Lending Times.

Balancing collateral optimization and regulatory compliance front to back through “Holistic Collateral Architecture”

July 28, 2017 

Collateral Business Transformation

Financial institutions today are increasingly evaluating how best to manage their collateral needs in the face of dual challenges – how to adapt their business and operational structures to become more efficient and how to respond to and comply with ongoing demands around changing regulatory requirements. These issues resemble a seemingly difficult task, like transferring passengers from one train to another, while both trains are in motion. Firms that approach front office transformation challenges, decoupled from regulatory and compliance challenge, will miss opportunities to solve larger systemic issues in a strategic and integrated fashion. We strongly believe that Technology strategy and architecture can play a critical role as firms evolve to meet these challenges.This article looks at how businesses can strategically address their collateral and liquidity management operations and regulatory needs by adopting a more holistic integration approach that takes into account their organizational complexity, unique business requirements and their compliance mandates. Firms that get this strategy right will establish a competitive advantage and maximize limited budgets by significantly enhancing their front office capabilities, while also meeting regulatory requirements.

Managing Business Transformations and Regulatory Challenges Simultaneously

Global regulations such as Dodd-Frank, Basel, MIFID and EMIR are demanding significant changes to securities finance and derivatives businesses which are primary drivers of collateral flow. An organization’s overall portfolio mix dictates the cost of doing business, and having an integrated view of the complete liquidity situation is critical and can’t be done in isolation. These regulatory and economic forces are driving firms to integrate their collateral businesses that traditionally operated as silos.

At the same time, new global regulations are mandating that firms implement specific capabilities and requirements that are often quite broad, impacting many aspects of collateral and liquidity management capabilities. Consequently, these requirements are quite onerous to accomplish especially because they need to be implemented at an enterprise level.

What is Required for Front Office Optimization?

Typically, financial business units were structured and incentivized to take a highly localized approach to addressing the collateral requirements for their specific business lines. This historical constraint was driven by a need for domain expertise and reinforced by budgeting protocols and performance expectations that were more closely aligned with local returns on capital, revenue and income. In the current environment, making decisions within a single function misses the opportunity to achieve broader benefits to drive valuable optimization across an enterprise. The outlying boxes in the diagram below illustrate the standard, localized organizations that exist in most firms today, where individual business units make collateral decisions without consideration of their sister business’ needs.

Firms that move beyond the silo approach and evaluate and prioritize collateral and liquidity requirements in a more integrated fashion across all their collateral management processes are better positioned to ensure the optimal allocation of capital and costs, realize efficiency gains and enhanced profitability. Some organizations are doing this by establishing collateral optimization units that have a mandate to implement technology and organizational changes across multiple businesses on a front-to-back basis. Potential areas that organizations are evaluating include maximizing stress liquidity, streamlining operational processing, reducing the balance sheet by retaining high-quality HQLA and improving the firm’s funding profile by reducing liquidity buffers against bad trades for non-LCR compliant transactions.

What is Required for Regulatory Compliance?

While many front office businesses typically focus on creating optimal technology architecture to improve financial return metrics, there are specific regulatory-focused technology enhancements that additionally need to be implemented. In most cases, these regulatory requirements are implemented by compliance and/or operations areas potentially away from the front office functions. This is a big challenge as these requirements are at the firm level and most firms don’t have a coordinated collateral architecture in the front. In particular, Recovery and Resolution Planning (RRP) requirements, Qualified Financial Contracts (QFC) specifications, Secured Financing Transaction Reporting (SFTR) are few examples that have pressing requirements and deadlines in the near future.

These regulations are creating significant demands on large institutions’ business and technology architecture:

  • Track and report on firm and counterparty collateral by jurisdiction (RRP – SR 14-1)
  • Track sources and uses of collateral at a security level across legal entities (RRP – 2017 guidance)
  • Conduct scenario-planning to simulate market stresses, such as a ratings downgrade or other environmental changes, that estimate impact on collateral and liquidity position in stress scenarios on a periodic basis (RRP – SR 14-1 and 2017 guidance)
  • Deliver daily information on their collateral and liquidity positions. Specific QFC (Qualified Financial Contract) reports will cover position-level, counterparty-level exposures, legal agreements and detailed collateral information. (QFC Specifications)
  • Report on all Securities Financing transactions (SFTR – Europe)

To fully meet these compliance deadlines within the next 12 to 24 months, most firms do not have the luxury of adopting a strategic approach to re-engineer their business and technology architecture and have been forced to take tactical steps to ensure compliance.  However, it is likely that achieving compliance in a short timeframe will create huge business and operational overhead costs, as one-off solutions may not be tightly integrated and may require additional manual work and reconciliations over time. The ongoing need for changes to front office business processes will have an impact on compliance solutions – potentially causing firms to significantly increase the operational overhead of supporting these businesses.

This can lead to a rather unfortunate outcome, in that costs for collateral businesses can significantly increase, despite working hard to drive cost & capital efficiencies.

A BETTER APPROACH – HOLISTIC ARCHITECTURE

Firms that choose to tackle these operational and regulatory challenges head-on and invest to create and establish an integrated collateral architecture across business lines will have a significant competitive advantage. In a dynamic marketplace where business needs and regulatory requirements are constantly evolving, a component-based architecture can be an effective approach. This allows seemingly complex processes to be managed through careful consideration of the distinct business and technology architecture elements of each stakeholder to achieve the appropriate balance for their strategy in an effective manner.

Key Components of Holistic Collateral Architecture

Here are some important drivers to consider in your planning:

  • Real-time inventory management capabilities across business lines that can be leveraged by both the front and back-office. This is a critical component of the strategic architecture, with the key requirement of knowing firm, counterparty and client collateral by jurisdiction.
  • QFC trades repository that is integrated across all Secured Financing Transactions as well as derivatives trades that can be linked with positions, margin calls and collateral postings.
  • Harmonized collateral schedules / legal agreements repository across ISDA, CSAs, (G)MRAs, (G)MSLAs, triparty, etc.
  • Enabling collateral traceability across legal entities with the ability to produce sources and uses of collateral will ensure regulatory compliance, as well as the ability to implement appropriate transfer pricing rules to drive business incentives in the right places.
  • Utilizing optimization algorithms with targeted analytics can maximize a variety of different business opportunities and most importantly recommend actions through seamless operational straight through processing.

This transition can be difficult for firms as it will need to cut across business and functional silos and it can have significant people and organizational hurdles along with technology challenges. One key point is that these changes don’t need to happen all at the same time and firms can prioritize the approach in a phased manner in line with their pain points and priorities as long as leadership is behind the vision of the holistic architecture. Many firms have started this journey and those who can make demonstrable progress in this evolution will have a significant competitive advantage in the new era.

How Transcend can help…

We have leveraged decades of Wall Street experience to develop strategic collateral and liquidity solutions for the largest, most sophisticated banks and financial institutions. Recognizing the unique requirements and opportunities financial organizations have to optimize liquidity and collateral across business units, we have developed solutions that address the need for Collateral Optimization, Agreements Insights, a Margin Dashboard, Real-Time Inventory and Position Management and Liquidity Analytics. Separately or in combination, these tools will help your firm take a more strategic approach to optimizing the best assets across your entire portfolio and businesses to maximize your profitability.

To discuss your firm’s requirements, contact us.

References:

  • January 2013: Basel III: The Liquidity Coverage Ratio and liquidity risk monitoring tools
  • October 2013: Basel Committee on Banking Supervision Working Paper No. 24 – Liquidity stress testing: a survey of theory, empirics and current industry and supervisory practices
  • January 24, 2014: Federal Reserve Bank (FRB) released Supervision and Regulation letter (SR letter 14-1) entitled “Heightened Supervisory Expectations for Certain Bank Holding Companies,” and Attachment Principles and Practices for Recovery and Resolution Preparedness
  • SR letter 12-1 entitled “Consolidated Supervision Framework for Large Financial Institutions”
  • SR 14-1: Additional Guidance from Federal Deposit Insurance Corporation, Board of Governors of the Federal Reserve System entitled “Guidance for 2017 §165(d) Annual Resolution Plan Submissions by Domestic Covered Companies that Submitted Resolution Plans in July 2015”

Collateral and Liquidity Data Management: the next big challenge for financial institutions

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This article was originally published on Securities Finance Monitor.
The problem is well known: financial institutions have data all over the place. Small institutions tend to face straight-forward challenges, while large ones must identify not only where data are hidden but how can it be aggregated without disrupting other processes. Thankfully, new advances in collateral and liquidity technology are ready to make solutions cost-effective and relatively painless to implement.

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Transcend Street Solutions Adds Jon Beyman to Board of Advisors

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NEW YORK, NY  November 05, 2015

Transcend Street Solutions announced today that Jon Beyman has joined the firm’s Board of Advisors. Jon will help the team in business and product development strategies along with building industry alliances for the recently launched CoSMOS product.

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