Megan Beukelman, a Director in Treliant’s Capital Markets Regulatory Change Management practice, is a management consulting professional with global experience leading transformation, regulatory reform, cost-out and operating model redesign programs. At Treliant, Megan has partnered with a Global Tier 1 Investment Bank to transform their Global Markets business, leading multiple…
Over the last two years, the pandemic has disrupted progress in banking industry reform, pushing regulatory deadlines and transformative corporate investment down the road.
As we move into 2022, the regulatory outlook for global banking is tighter. We expect the reintroduction of macroprudential policies in some jurisdictions, alongside the finalization of national credit risk rules to implement the Basel Committee on Banking Supervision’s regime for global financial stability.
While risk and regulatory compliance continue to be a primary focus, banks must also pay attention to financial performance and increasing customer and investor expectations as they adopt new technology. Innovation and business-led digital transformation will be essential for sustained growth.
Risk and Regulation
Shifting LIBOR Replacement Efforts to U.S.
The London Interbank Offered Rate’s (LIBOR’s) long road as the world’s most common interest rate benchmark is nearing an end, in the most significant overhaul to markets since the introduction of the euro in 1999.
LIBOR publication has already ceased for Sterling, Swiss franc, Japanese yen, and euro LIBOR settings. It has also ended for the one-week and two-month USD LIBOR settings, but the remaining USD LIBOR settings will continue through June 2023.
During 2022, the focus will be on:
- Increasing the uptake of industry solutions for those yet to convert. Some bank counterparties have yet to take advantage of the benefits of the International Swaps and Derivatives Association’s (ISDA’s) IBOR Fallbacks Protocol;1 doing so will ensure outstanding uncleared LIBOR contracts are converted to the new market standard, the Secured Overnight Financing Rate (SOFR).
- Closely monitoring legislative progress. Much work has already been done in New York and Alabama to ensure the protection of “tough legacy” contracts (those that expire after June 2023 and do not have fallback language specifying an alternative rate).2 Congress is currently working on a similar bill to protect all 50 states.3
- Building SOFR liquidity in the remaining USD LIBOR majority markets. A joint statement issued by U.S. regulators encouraged banks to cease entering into new contracts that use USD LIBOR as a reference rate by the end of 2021.4 In conjunction with SOFR First initiatives, this recommendation is expected to result in a shift to SOFR for the remaining LIBOR-based product activity (e.g., USD LIBOR-based futures activity).
Implementing Risk-Based Trading Requirements
The Fundamental Review of the Trading Book (FRTB) is designed to completely revise the approach to calculating risk-based capital requirements for trading activities, with major implications for large banks’ trading business models. COVID-19 played a part in pushing back the implementation of FRTB regulations, but as the complex regulatory framework reaches the full implementation stage this year, the challenges facing institutions are becoming more apparent.
At the risk of oversimplifying, the FRTB regime has three fundamental takeaways:
- Drawing a clear line in the sand between the banking and trading book activities by imposing additional tools for supervision while also addressing the treatment of credit risk in the trading book.
- Introducing a standardized, risk-sensitive approach to calculating market risk-weighted assets (RWA) while addressing the hedging and portfolio diversification issues in the traditional value-at-risk (VaR) approach.
- Introducing a revised internal model method using a new risk measure (i.e., expected shortfall instead of VaR) with particular emphasis on the modellable risk factors. This enhances the transparency and comparability of RWA and addresses the liquidity issues in trading book positions.
While the global FRTB standards have been finalized by the Basel Committee on Banking Supervision, individual national banking regulators are in the process of finalizing the rules as they apply to their respective jurisdictions. Implementation timelines range from 2023 to 2025 and beyond.
Scrutinizing Banking Risk and Corporate Governance
As high-profile cases against executives in the technology, pharmaceutical, and banking industries shine a spotlight on risk and corporate governance failures, we expect to see an increase in the scrutiny of the policies aimed to reduce risk within financial institutions. Specifically, regulators will address:
- The lack of adequate management oversight and accountability
- Inadequate recognition and assessment of the risk of certain activities
- The absence or failure of crucial control structures and activities
- Inadequate communication of information between levels of management
- Insufficient or ineffective audit programs and monitoring activities
Key trends in this space for 2022 include board quality and composition, sustainability, increased investor and regulatory scrutiny, corporate culture alignment, push for board independence, social-media-centric enterprise risk assessment, rationalizing CEO pay ratio, and political volatility, among others.
Data and Digital Transformation
Data Moving to the Cloud
The cloud is rapidly becoming ubiquitous, for data storage, data processing, and application hosting. Cloud data done well offers unparalleled scalability while maintaining fine-grained controls over access, jurisdictional restrictions, security, and privacy—all while having data cataloged in a manner that enables innovation, accelerates development, and serves up user-ready data for analytics, machine learning, and artificial intelligence.
2022 will see a continued maturation of cloud data platforms toward that target state, including automated integration with on-premises permissioning, metadata, and cataloging tools, in line with the Cloud Data Management Capabilities (CDMC) Framework launched in late 2021 by the EDM Council of banks, technology companies, and other members. Getting cloud platforms integrated tightly with such tools will help the best companies scale and innovate, potentially sharing aspects of their data safely with clients and other third parties, allowing them to out-compete others who haven’t embraced the cloud’s potential.
Regulation in a Digital World
As we come toward the later stages of the post-financial crisis push for regulatory change, coupled with the drive to cloud-based operating models, we see regulators turning their focus on digital transformation. Investor protection is paramount for regulators, balanced by the need to support, or at least not constrain, the growth enabled by digital innovation. In 2022, we expect the Basel Committee on Banking Supervision (BCBS), the Committee on Payments and Market Infrastructures (CPMI), and the International Organization of Securities Commissions (IOSCO) to extend digitally-focused regulations.
Regulation of central bank digital currency (CBDC) and stablecoin is proceeding in many jurisdictions. The European Securities and Markets Authority (ESMA) guidelines on outsourcing to cloud providers come into force from the end of 2022. With the “Digital Europe” initiative, the European Union put forward a wide-ranging proposal for digital regulation, including the DLT Market Infrastructure Regulation (for digital ledger technologies such as blockchain), the Digital Operational Resilience Act (DORA), and the Markets in Crypto-assets Regulation (MiCA). These regulations will add further complexity as banks innovate.
The Role of Data and Technology in ESG
How to effectively treat environmental, social, and governance (ESG) issues is shaping up to be one of the most significant agendas of our time. Major commitments are being made in company boardrooms, but the ESG mandate is challenging for many companies to embrace. ESG is already playing a large role in driving banks to adjust their risk management processes. They will need a constant source of data and insights into climate change, ESG ratings for corporate clients, client plans, and their responses to ESG. This will lead to large-scale technology, process, and data management changes. We anticipate discussions around data and technology for ESG will rapidly become more frequent, specific, and strategic moving forward.
The Evolution of Banking-as-a-Service (BaaS) Offerings
Banks continue to strive for better efficiency, more robust processes, better control, better regulatory compliance, the ability to leverage innovative technology solutions, migrate to the cloud, gain better insights and analysis based on internal and external data, and move towards BaaS offerings.
As BaaS becomes more mainstream, with banking organizations such as BBVA, HSBC, and Starling Bank moving into this space, and now Goldman Sachs and Citi partnering with Stripe to provide offerings, organizations will need to seriously consider their business strategy to remain competitive.
The ongoing opportunities offered as banks continue to leverage the power and opportunities of the cloud will continue to evolve for many years to come. No bank can ignore this.
The Hybrid Operating Model
Finally, as we move into 2022 and learn to live with COVID-19, we anticipate that organizations will begin to fully embrace a hybrid working model for their staff. Although many organizations can operate effectively in a work-from-home environment, the hybrid model will need further adjustments to maintain productivity as banks balance in-office and home-based work. Meetings and collaboration, in general, will become more complex. We see a need for organizations to move to a more formal operating model, with stronger work protocols and technology-based approaches driving the need for enhanced digitization.
2022 will be a pivotal year in the global financial services industry. With the complexities of regulatory change and the modernization of the banking system, it’s easy to lose ground to your competitors and face scrutiny from the regulators, investors, and clients. It’s easy to fall behind, particularly in the face of the pandemic and the shortage of subject matter experts who can guide organizations through the labyrinth of change. We’re here to help.
1 “ISDA 2020 IBOR Fallbacks Protocol,” https://www.isda.org/protocol/isda-2020-ibor-fallbacks-protocol/adhering-parties
2 “FAQs Regarding New York State LIBOR Legislation,” https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2021/ARRC-NYS-Libor-legislation-faq.pdf
3 “HR 4616: Adjustable Interest Rate (LIBOR) Act of 2021,” https://www.congress.gov/bill/117th-congress/house-bill/4616?r=7&s=1
4 “Statement on LIBOR Transition,” https://www.federalreserve.gov/newsevents/pressreleases/files/bcreg20201130a1.pdf