This blog post was featured on Forbes.com.
While regulation was the overarching theme in financial services (FS) over the last few years, there are now other topics taking center stage.
I’ve focused here on an overview of five areas that every FS professional should know something about to succeed in the new year. I will explore these in more detail in subsequent articles, but first, here is 20,000-foot executive summary of what matters most:
1. Current Expected Credit Loss (CECL): A new accounting method for potential loan losses
The What: Banks have always needed to hold reserves against potential credit losses. Today, those reserves are based on estimates of incurred losses. With CECL, in addition to incurred losses, reserves will also need to be taken based on expected but not yet incurred losses over the life of the loan. Financial Institutions will need to revise their loan loss procedures as well as their projected loss models to account for the changes required by CECL.
The So-What: A substantial change requiring a large effort to implement and impacting earnings:
- Change Management Challenge: Large change program is required to define new allowance process and governance, data, determine modeling approach and tools, etc.
- Capital Hit: Since potential losses are being recognized earlier, the amount of reserves will increase which will require additional capital and serve to lower the retained earnings component of equity
2. LIBOR Replacement: A new benchmark being defined for short-term interest rates
The What: LIBOR, the published rate that has served as a benchmark for short-term interest rates since the 1980s, will be going away. Recent scandals involving the manipulation of LIBOR as well as the lack of sufficient, observable data to set the rate has led the organizations that oversee LIBOR to look for an alternative.
In the U.S., the Fed has tasked the Alternative Reference Rate Committee (ARRC) to be responsible for the transition. The ARRC has proposed a newly created index called the Broad Treasury Financing Rate (BTFR) as the USD LIBOR replacement.
The So-What: Be aware of current and future LIBOR based obligations at your institution.
While the actual change is still a few years away, preparation for the new benchmark will be massive. Loans and floating rate bonds tied to LIBOR will have to be addressed contractually, and deal-specific covenants may require consents from the owners of these securities. International Swaps and Derivatives Association (ISDA) master agreements will also have to be amended or replaced.
3. Data Curation: Get a museum pass to visit your data
The What: Valuable assets in a museum have a curator responsible for cataloging, describing and managing the piece so others will find it useful. FS organizations have realized that data is actually their most valuable asset and also needs to be cataloged, described and managed. Since we can’t put the data behind a glass with a plaque, we must use software tools instead. Software packages such as Alation and Collibra allow for a business user-friendly way to catalog and manage an organization’s data such that the right data can be sourced with high confidence and in a consistent manner throughout the organization.
The So-What: Get on board your organization’s data program as a data steward, data curator, etc. This is not for techies anymore. First-line business users will own the data they create and being the one who has the key will be a good spot to be in.
4. Blockchain: Feel the Ripple effect
The What: Contrary to the hype, blockchain will not solve world hunger. While the bubble around Bitcoin, Ether and other cryptocurrencies are still swelling, there is one blockchain-based service that is actually being used successfully in the FS arena and is not modeled as a disintermediation effort. Enter Ripple — which is being used by major financial institutionsas settlement infrastructure technology — particularly in the areas of payments and foreign exchange.
The So-What: For FS professionals, it would make sense to study Ripple as a model of how banks may work together with blockchain technology and cryptocurrencies and try to develop similar use cases to benefit from blockchain’s momentum.
5. Know Your Customer (KYC) and Robotics: Free the human from the yoke of robotic tasks
The What: If there is one use case screaming for Robotics Process Automation (RPA), it is the KYC process. There are robotic tasks in customer onboarding that we need to rescue humans from doing. (“Type company name into Office of Foreign Assets Control (OFAC) check site. Save results as PDF. Store on share drive. Repeat ad infinitum.”) RPA tools can easily pre-populate KYC fields (like address and date of incorporation) by reading them from documents or websites and OFAC checks can be readily automated using the most basic of RPA functions.
The So-What: If your organization still performs KYC manually, then clamor loudly and firmly for introducing RPA. It is a low-risk and high-reward endeavor, and the humans performing these tasks will thank you for exorcising the robot within them.
Now, you’ve learned enough to impress your colleagues or your boss. In subsequent articles, I will dive a bit deeper and show how you can be the hero who delivers on these areas for your institution in 2018.