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Investment banks: bite the bullet on sustainable IT transformation

Posted: 7 February 2017 | Peter Farley, ‎Senior Strategist, Capital Markets, Misys | No comments yet

With IT spending from investment banks still largely reactionary, now is the time to invest in sustainable, strategic IT transformation…

It might seem incongruous to executives of investment banks that are spending anything from $500 million to $10 billion a year on IT budgets to be told they are doing it all wrong. But that is the message that continues to permeate debate in an industry still beset by mounting costs, rising regulatory burdens and often disparate and complex technology infrastructures.

In fact, many industry experts believe it is time to not only make this commitment, but to build on it. Particularly so, given the opportunities provided by slight improvements in the recent run of banks’ Q4 results and potential ongoing bottom-line benefits as interest margins nudge higher.

It is a message we have been highlighting for some time. But in its latest report on the ‘Top 10 Challenges for Investment Banks 2017’, Accenture also now says banks must “confront the massive realities of an unsustainable cost base, continued […] regulatory demands and […] the challenges (and potential benefits) of digital technologies.”

A more strategic approach

The bare facts remain that something like 75% of most banks’ IT expense is tied up in keeping the business going, while the majority of the balance is committed to the delivery of regulatory and compliance obligations. It doesn’t leave much for those exciting fintech innovations and other initiatives that could make a difference for customers, or improve competitiveness.

More importantly, something like half that 75% is used to deliver post-trade processes, settlement and clearing (and correct costly errors and exceptions that frequently occur in that part of the so-called value chain). Of course most banks are involved in projects aimed at both improving efficiencies and delivering new capabilities to the back office, if only to cut manual interventions.

But the modus operandi is still mostly reactive and tactical, rather than driven by a strategy that links IT transformation to the delivery of wider (and sustainable) new capabilities across the organisation. This is natural, particularly when faced with a combination of tight budgets and a desire by many individuals to maintain the status quo of internal business models and hierarchies.

Disruption doesn’t come easily to those likely to be disrupted. It normally requires active leadership from an organisation’s most senior executives. But recent studies have shown that, in most banks, the vast majority of those at the helm lack the requisite technology knowledge to embrace such a step. In effect this means they are more likely to fear the impact of disruption, than put IT innovation at the heart of future investment strategies.

Nevertheless, it was interesting that in a survey during a recent webinar of ours on collateral management, some 40% of respondents said that post-trade activity was the key focus for improvement. In addition, nearly 50% of them said they will be considering outsourcing or using a utility service provider to support collateral activity over the next two years.

The message was clear, business and IT are steadily acknowledging that there are better ways of doing things, and the back-office area is a prime target to reduce costs and improve efficiencies.

Areas for improvement

These might start with managing collateral better (again mostly prompted by new regulations – this time concerning margins for OTC derivatives), or putting in place better analytics for assessing market risk and allocating capital (also probably prompted by pending FRTB rules), but are widened across the business to become part of a strategic and sustainable programme. In many areas this is now under a RegTech umbrella, where better communication results in the ability to leverage IT spend on mandatory regulatory programmes for wider business benefit.

Of course, a new IT strategy has to start somewhere and should not have to cope with disparate actions initiated at multiple points of operation. There should be a long-term strategic objective that has lower capital and IT operating costs at its core, with the delivery of more effective executive decision-making and compliance with regulatory requirements as key benefits.

It should provide businesses with the opportunity to be flexible enough to make future choices about cloud deployment, outsourcing or utility partnerships, as well as collaborative participation in cross-industry initiatives such as blockchain that will become more commonplace.

In all likelihood, this new environment will be based around the adoption of much more open architecture, a range of ‘as-a-service’ facilities and embedding more sophisticated analytics and data management capabilities that support front-to-back office requirements. Much of our own Fusion Fabric development has this as its core competence.

Along the way there will be the inclusion of a variety of AI resources. A particular area where we are finding traction is the deployment of machine learning algos around trade capture that significantly reduce mistakes and cut the costly manual correction of exceptions. But other areas of application for AI skills are quickly evolving.

Accenture uses three broad and generic headings of ‘Simplification’, ‘Digitisation’ and ‘Innovation’ to encompass 10 specific initiatives where it says investment banks must focus. It emphasises that “the overarching watchword is acceleration” (of these commitments).

‘The bare minimum’

I would argue these are the bare minimum of executive considerations. The industry needs to see radical restructuring of business cultures and technology if there is to be meaningful and sustainable IT transformation. Investment banks cannot perpetuate current business models that continue to deliver negative gaps between returns on equity and the costs of capital. If anything those challenges are going to worsen, as buy-side asset managers both apply more pressure to transaction costs and disintermediate by completing more transactions directly with each other.

Investment banks can no longer afford the routine duplication spending on non-essential IT operations and services. They will have to adopt much more cross-industry collaboration as well as the outsourcing of many more services if they are to survive.

Of course they need to look at costs, but they also need to look at value and how they continue to justify their intermediary role. Managing flows will all be about efficient processing of large volumes at high speed and low cost. Delivering better business value will be much more challenging. Nevertheless, it is a fair bet that a sustainable, open and flexible IT environment that embraces the benefits of collaboration, cloud and platforms will be at the core of those that succeed.

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