Image credit: Kari Geha Photography

Regtech Companies Solve Complex Regulation Processes in Financial Industry

The manual paper-based processes that constitute much of regulatory compliance should be automated by a modern tool, namely Regtech.
By Linda Au | EnvZone Staff
on February 02, 2020 | 8 min read
Image credit: Kari Geha Photography

The demand for regulatory technology (Regtech) in the fintech sector is so popular. Regtech is predicted to be a nearly $120 billion industry by 2020 based on fact. To clarify this forecast, let's take a look at the key Regtech trends for the present and future and ways that it impacts the financial service industry.

What Is RegTech?

Regulatory technology, Regtech for short, is the management of regulatory processes within the financial industry through technology. Supervision, report, and compliance are the main functions of Regtech.

RegTech includes a group of companies that use cloud computing technology through software-as-a-service (SaaS) to help businesses abide by regulations effectively and less expensively.

Understanding RegTech

Regtech is also a community of tech companies resolving challenges arising from a technology-driven economy via automation. Digitalization has increased data breaches, cyber hacks, money laundering, and other illegal activities.

Regtech utilizes big data and machine-learning technology to reduce risk to a company’s compliance department by providing data on activities that a traditional compliance team cannot be privy to due to the increase of underground marketplaces online.

Regtech tools supervise monitor transactions that take place online in real-time to determine issues or irregularities in the digital payment sphere. If there is any fraudulent activity taking place, outliers will be relayed to the financial institution to analyze and determine. In order to minimize the risks and costs associated with lost funds and data breaches, institutions should determine potential threats to financial security early.

Regtech companies cooperate with financial institutions and regulatory bodies that use cloud computing and big data to share information.

On the other hand, banks may find complexity, expensiveness, and waste of time to comb through when receiving huge amounts of data.

A regtech firm will connect to information from a bank and data from previous regulatory failures to predict potential risk areas that the bank should pay attention to. Regtech firms save the bank time and money by make the necessary analytics tools for these banks to successfully abide by the regulatory body. The bank also has an effective tool to comply with rules set out by financial authorities.

Characteristics of RegTech

Agility, speed, integration, and analytics are popular characteristics of Regtech.

Regtech can not only quickly separate and organize cluttered and intertwined data sets through extract and transfer load technologies but also generate reports quickly. It can also be used for integration purposes to get solutions running in the shortest time possible. Finally, in order to mine big data sets and different purposes, Redtech used analytics tools.

The Roles of Regtech

The cost of compliance continues to rise for financial firms. Some estimates pin the cost of governance, risk, and compliance at 15-20 percent of the total cost of running the business at financial firms. That’s nearly one-fifth of an entire firm’s budget just to stay in business and avoid fines from regulators.

These are problems that Regtech will resolve. It offers firms technology to reduce costs associated with compliance and the ability to run compliance operations more efficiently. Regtech helps organizations maximize time value-added projects instead of time-consuming assignments. It is called onerous process rationalization.

Besides, Regtech allows removing man-made risk easily and automate compliance without the human element. Instead, human expertise is free to be better utilized in interpreting data rather than collecting it.

With better data mapping techniques, Regtech compiles nonstandardized data to create a single view of the risks inherent within organizations as well as produce the information regulators seek. In fact, Regtech made compliance less complex and freeing up more capital to be spent on other more productive usages.

Regtech not only helps firms mine a great deal of data to provide the right information to regulators quickly but also helps reduce the amount of data they need to hold overall. All the information required for regulatory compliance often overlaps. The information about trade or customer may potentially be used to meet a lot of regulations. Condensing this information and creating ease of accessibility will help bring great efficiency gains that will be very necessary given the ballooning amount of regulations globally.

According to a report by Institute of International Finance:

Except that Loopholes in the financial regulatory framework have been closed, compliance costs of financial institutions have been also increased significantly when the ambitious regulatory reform agenda implemented after the financial crisis.

Regtech usage not only contributes to the increase of profit and efficiency of financial institutions but also improves compliance with financial regulations in an uncertain macroeconomic and financial environment.

Trends of Regtech in 2019

In 2019, RegTech has crossed the line. Companies moved past pilots, got out of the innovation stage and began operationalizing benefits in a production environment. “RegTech is no longer just for early adopters. We’re starting to see the actual, tangible benefit these technologies can provide.” Brian Clark, Ascent Founder and CEO.

As part of that evolution out of the innovation stage, RegTech ventures not only found but also connected with market demand. And with those that didn’t apply it, the first handful of failures appeared. Finally, this will be good for financial institutions as it will make it easier to identify which companies are truly creating value.

Regulators went on the record about RegTech through asking firms what they’re going to do to leverage RegTech. This is not only an interesting question for the RegTech industry but also exciting for financial institutions. When regulators catch technology as a viable solution, it should help give Risk and Compliance teams a path forward through the growing and increasingly dangerous regulatory maze.

Pressures to comply only increased that was reflected in more enforcement actions with higher regulatory fines and put more pressure on Risk and Compliance teams. The FCA booted 2019 by levying its largest personal fine ever and ended up filing 160 enforcement actions before the year was over. In addition, the SEC published a whopping 2,754 enforcement actions this year alone, including 95 against public companies that is the highest number in the last 10 years.

The marketplace became more global that makes regulations and privacy legislation more global too. Namely, companies operating in international markets will have more rules and regulations that make them comply.

Expected Regtech Trend Forecast in 2020

“Can you prove to me this thing actually works?”. This will be an important question of financial institutions that RegTech ventures must lock down operationalizing and scale in order to answer. Moving out of the innovation phase that will be key to help them do it.

In the first 3 quarters of 2019 alone, investment in the RegTech space grew by 103%. This sign may indicate that there is more investment which will be of the middle-stage, thoughtful kind. Investors are seeking companies that are demonstrating product fit by acquiring more customers. This will be a tell-tale sign for financial institutions to evaluate potential solutions.

As RegTech separates further from FinTech and truly becomes its industry, it is just a burgeoning ecosystem. In order to create a supportive ecosystem, financial institutions should take notice of things like consultancies which can help them evaluate and implement RegTech solutions as well as the tech such as open APIs allowing them to plug new solutions into existing systems.

Regtech Support for Financial Firms to Comply with Several New Regulations

Markets in Financial Instruments Directive II (MiFID II)

In 2007, MiFID was applied in the UK and is currently being revised to improve the functions of financial markets in light of the financial crisis and as well as further protect investors. From January 2018, the revised legislation (MiFID II) will be applied to extend the transparency regime for equity instruments in the original directive. It expresses a basic change for financial markets across multiple areas that not only requires a major implementation effort but also a reassessment of business models.

Business models and processes for market operators will be changed by this updated directive drastically. Although it was built by European regulators its global impact can affect anyone being in business with European customers and firms. In addition, firms must offer exhaustive detail to regulators around their efforts made regarding transparency and how they fulfill execution orders.

There are more 500 pages of technical standards that firms must abide by when the directive goes into effect are daunting. However, cooperate with companies that have either the technology or expertise in this area can help make this a much more manageable task. Capabilities include real-time analytics, sophisticated alerting and increased automation that will help firms avoid being buried under a mountain of paperwork.

Fundamental Review of the Trading Book (FRTB)

This provision of the Basel Committee on Banking Supervision relates to capital requirements for large, internationally active financial firms.

It looks like an update to the Basel III capital requirements and some are already calling it “Basel IV”. The higher capital requirements and a stricter separation of the trading book and the banking book are remarkable changes being introduced by this new provision. This measure is intended to reduce the possibility of arbitrage between the two books and to ensure a more consistent application across banks. It is necessary for banks using either standardized or internal models to review their portfolios to identify whether existing classifications of instruments and desks such as a trading book, banking book are still applicable, or a revision of desk structure is required.

Financial institutions need to access more data and stronger data analytics to satisfy these new risk managements and reporting requirements. According to an analysis from PricewaterhouseCoopers (PwC), by mean of a regulator-approved standardized approach, keeping off the trend of each institution using an internal model, the FRTB is promoting banks to calculate their capital requirements. This will impose new reporting requirements such as monitoring market risk on an intraday basis and measuring market risk capital at the end of the previous day.

PwC declared that:

“Banks that continue to use internal models face even stricter requirements, as they have to report risk capital under both the standardized and internal model-based approach. These banks will also have to report their key modeling assumptions to regulators in order to facilitate a better understanding of the variations between standardized and internal model-based results.”

In January 2019, the Basel Committee is calling for the application of the FRTB that makes financial institutions have little time to perform the technology and necessary strong possibility of analytics to maintain compliance.

EU General Data Protection Regulation (GDPR)

In May 2019, the GDPR is a regulation aimed at safeguarding the storage and transfer of client data. It is designed to harmonize data privacy laws across Europe, protect citizens’ data privacy and reshape the way organizations across the region approach data privacy.

To abide by the regulation, companies must be able to access a single, universal view of data sources that consolidate existing data tools to get a general view of data. Furthermore, in order to keep track of data and apply the appropriate rules when it refers to client personal data and data sets, firms must rely on automation. Companies aren’t utilizing technology to do this that will surely be at a disadvantage in complying with the GDPR.

Packaged Retail and Insurance-based Investment Products (PRIIPs) Regulation

The PRIIPs regulation is another that has arisen from the consequence of the financial crisis aimed at protecting retail investors. Its goal is helping retail investors compare products, thereby going up in customer value and compelling firms to consider how a distilled uniform product description will impact how their products fare.

Among other things, financial firms will need to satisfy the technical requirements for producing Key Information documents, short and standardized documents communicating all relevant information about a PRIIP to retail clients.

Top 5 Regtech Companies That Are Disrupting the Financial Industry in A Good Way

#1. Chainalysis

Regtech Companies Solve Complex Regulation Processes In Financial Industry-Body Image 1
Image Credit: Chainalysis

This company utilizes blockchain to prevent money laundering, fraud and compliance violations in the cryptocurrency sector. The ledger-backed software helps financial institutions and crypto trading sites with Know Your Customer (KYC) and fraud prevention. The company has partnered with a myriad of digital payment companies, such as Nets to help banks validate Bitcoin transactions and abide by federal regulations. Furthermore, Chainalysis also cooperate with larger financial institutions and governments to warn about and cope with criminal activity.

#2. Complyadvantage

Regtech Companies Solve Complex Regulation Processes In Financial Industry-Body Image 2
Image Credit: Complyadvantage

ComplyAdvantage is an AI-driven risk management database for companies that can potentially be hurt by financial crime. The company’s proprietary Anti-Money Laundering (AML) data feed creates profiles, automates customer supervision with KYC, due diligence tools and screens payments in real-time. There are more than 350 companies in money-transferring industries that are using the ComplyAdvantage platform to pay, trade stock even gamble. The company’s AML database can analyze five million new articles over 200 countries and update 30,000 KYC profiles within the 24 hours. ComplyAdvantage was named to the CB Insights’ 2018 Fintech 250 list.

#3. Ascent Regtech

Regtech Companies Solve Complex Regulation Processes In Financial Industry-Body Image 3
Image Credit: Ascent Regtech

Ascent’s platform is built around “channels” that are derived from individual regulatory bodies. The company's platform uses AI to look for and hold all applicable rules and regulations that affect a company in real-time. Therefore, in order to quickly discover documents and regulations that help remain financial compliance, Ascent's users can utilize their personalized platform. Recently, Ascent recently raised $6M in Series A funding to develop its team and build out its AI Regtech platform.

#4. Forter

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Image Credit: Forter

Forter’s Decision-as-a-Service technology is a personalized and automated decision-maker for the retail and financial industries. In less than one second, the automated 'Decisioning' system can keep track of trends and flag fraudulent spending. Payments are processed by Forter's technology and marked as approved or flagged for fraud in order to give businesses a more holistic view of their revenues. Forter’s Decision-as-a-Service technology was used to automate fraud monitoring processes by Nordstrom, Priceline, Mattress Firm and Delivery.com.

#5. Hummingbird

Regtech Companies Solve Complex Regulation Processes In Financial Industry-Body Image 5
Image Credit: Hummingbird

Hummingbird is an anti-money-laundering platform that is used by banks as well as fintech, lending, and credit companies. This software automates workflows, creates graphics. In order to catch financial criminals’ sooner and on a wider scale, AML crime fighters used the software to manage ongoing investigations. Hummingbird raised $3 million to expand its machine learning processes to help AML investigators keep up with widespread financial crime.

Conclusion

You have just read the information that explains why Regtech was one of the hottest topics for compliance and risk officers in the recent past. Regtech will continue to develop as financial firms make the effort to stay compliant with new and existing regulations. With this trend gaining momentum, it’s necessary to understand how Regtech will affect your business now and in the future. Whether its impact is good or bad, we would like to your cases in the comments below.

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