The last decade has brought unprecedented disruption to financial firms. New technology, regulations and market changes – not to mention the pandemic – have all turned ‘business as usual’ on its head. That brings some opportunities, but it also creates some real and serious risks.
In this trilogy of blog posts, we’ll look at the risks facing investment and asset managers and banks in terms of their trading operations, and what they can do to manage them better.
We’ll focus on the processing pipeline from trading all the way back to settlement, looking at a wide range of risk areas.
If you’re a Chief Technical Officer, Chief Operating Officer or Chief Investment Officer in a financial firm, you should find plenty to interest you in these three posts.
In this first post, we’ll consider what risks are facing your organisation right now.
The six main types of risk
The risks facing financial firms fall into five main types. Let’s look at them in turn.
- Economic risks relate to financial impacts, whether from outside influences or internal factors. They include missing out on new business or market share (perhaps due to outdated tech), price variations, trading fines or unexpected change in STP basis.
- Legal risks relate to new and existing service agreements with investors. They arise in areas such as restrictive fallback provisions, outdated templates or delays in preparing agreements due to a lack of consensus.
- Technical risks are about making sure systems can deliver the performance stakeholders expect.
- Operational risks arise from resource contention and drivers for change. They relate to giving ops the resources it needs, making time for system updates, ensuring models are fully tested and supporting products adequately.
- Reputational risks arise when the firm can’t respond quickly enough to new regulatory deadlines or client demands, or when counterparties don’t recognise or accept regulatory changes.
Where can risks occur?
Here are the main areas where risks can occur, in our experience.
- Technology stability. The shift to remote working has opened up a whole new set of potential vulnerabilities for financial firms, from accidental blackouts to deliberate attacks. For example, high trading volatility during March 2020 led to failure, outages and delays at a number of critical market participants and software vendors across FX and derivatives.
- Information security. The abrupt change in operations during the pandemic opened up an opportunity for cyber criminals, and more than 6 in 10 firms have suffered a ransomware attack within the last year. Few firms were prepared.
- Operational resilience. In 2018, the FCA urged firms to make critical business processes more robust. While leaders initially questioned the need for this, the pandemic has underscored the need for much greater resilience, and most firms now see it as a priority.
- Technology transition. The pandemic has exposed the inadequacy of many firms’ risk infrastructures. Getting by with a bunch of spreadsheets and problem statements is no longer enough; instead, firms need a true transformation roadmap.
- Geopolitical. The pandemic has widened the gap between emerging and industrialised nations and worsened social fragmentation. Growing social inequality could lead to nationalism, creating conditions for open conflict.
- Data aggregation. Getting more data from more sources means more risks.
- Consolidation. Mergers between competitors bring concentration risks, as the range of service options narrows.
- Regulation. Changes following Brexit, such as the LIBOR decommissioning and transition to risk-free rates, have soaked up a great deal of resource.
- Black swans. Following the collapse of Archegos Capital, regulators are likely to act to improve firms’ risk management and trade reporting.
- Failure to transform. Firms who don’t invest in cutting costs and boosting efficiency will be overtaken by those who do.
That’s how we see the main types of risk, and the areas where they can arise. In the second of these three posts, we’ll look at how you can identify and assess the risks facing your organisation.
To learn about this topic in more detail, download our free whitepaper: A Risk Based Approach to Transforming Your Trading Operating Model.