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How Banks are approaching the Revised Pillar III Disclosure Requirements

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How Banks are approaching the Revised Pillar III Disclosure Requirements

Post the Financial Crisis of 2008, Banks Globally witnessed a barrage of Regulations on various topics which aimed at stricter rules for maintaining adequate liquidity and capital to meet its commitments in normal as well as stressed time. As the Regulatory Tsunami has started to abate, the regulatory bodies like BIS (bank for international settlement) have started to come up with a Regulatory agenda which now attempts to streamline and standardize the Risk and Compliance requirements from Banks. To quote a few examples this change can be seen in host of newer regulations like

  • Standardized approach for Credit Risk (SA CR) which increases the risk sensitivity of the existing SA CR framework while reducing a dependence on external ratings
  • Standardized approach on Operational risk (SA OR) which focusses on replacing the earlier 3 approaches with a single risk sensitive approach
  • Revisions to IRB approaches by introduction of floor values for asset classes that are difficult to model
  • Revision of Leverage Ratio (LR) standards which also includes buffer requirements for LR for GSIB’s (Global Systemically important Banks).

While most of the Regulations for management of various risk types are getting enhanced, the Pillar 3 Disclosure requirements are also undergoing an overhaul .It was observed by BCBS that during the financial crisis the existing Pillar 3 framework did not give adequate information to the investors to derive the required insights and conduct a fundamental analysis on the financial health of the Banks in comparison with its peers. Hence the BCBS launched a revised Pillar 3 framework with an objective to improve comparability and consistency of disclosures across Banks which will eventually enable market participants to assess a banks overall capital adequacy and compare it with its peers. Pillar 3 disclosures forms the third pillar of the Basel requirements which aims to ensure market discipline through disclosures in prescribed format, while Pillar1 focusses on Capital adequacy and Pillar 2 looks at the supervisory review process.

So what’s changing with Pillar 3Disclosures?

The BCBS committee released the revised disclosures in Jan 2015 which superseded the requirements published in 2004,so far there have been a couple of consultations or iterations to the Pillar 3 requirements between 2015 to 2018 with the final version released in Dec 2018 . Revised Pillar 3 framework is very data intensive in nature and aims to Integrate and consolidate disclosures across areas under the purview of the guidelines.

Some of the other key changes are mentioned below

  • Establishes Guiding Principles – Provides five guiding principles in terms of Clarity, Comprehensiveness, significance, consistency and comparability .Banks are required to follow these principles which will enable them to achieve a strong foundation in maintaining transparent pillar 3 disclosures which will eventually benefit the Market participants to understand and compare the Banks Business and its Risk
  • Regulatory submissions a mix of Fixed and Flexible format – Complementing the guiding principles defined, the committee has also defined the submission aspects and its structure. The disclosures consists a total of 40 Tables and Templates in Fixed and Flexible format. Banks are mandated to report as per the format detailed out in the guideline document. It also prescribes the frequency for regulatory capital and risk exposures. The below tables gives a high level view of the sections  along with the reporting formats and their frequencies
  • More focus on Qualitative Disclosures – Along with the Quantitative details provided in the above templates and tables Banks are also required to provide qualitative information explaining the significant changes in the reporting period . Additional narratives which the Banks feel may be of interest to Market participants can also be provided and are solely left to banks discretion.
  • Linkages between financial and regulatory exposures – This schedule focusses on enhancing understanding of the linkages between regulatory disclosures and finance data. These are qualitative disclosures which highlights how the amounts reported in financial statements correspond to regulatory risk disclosures
  • Establishes an effective control structure and Internal review process – Banks are expected to establish a formal board approved policy for pillar 3 and also set internal controls to review the information included in the Pillar submissions
Summary of the Sections, Number of Reports and Timelines for Compliance

Summary of the Sections, Number of Reports and Timelines for Compliance

Challenges observed in implementing the Revised Framework

The Revised standards integrate disclosures across areas ,There are close to 75 plus disclosures required with varied frequency and differing formats which will make this a challenging exercise for the Banks to adhere to the prescribed standards .Some of the Key challenges are listed below

  • Disclosing Confidential information – Some of the disclosures require sharing proprietary information with in the disclosure which may be of strategic importance to the banks .For e.g disclosures around internal risk limits will provide a view on the Risk appetite statement of the Bank which determines the overall risk profile ,a topic which banks may not be very comfortable to disclose.
  • Volume of Disclosures – The new standards see a huge increase in the volume of disclosures which will have a resultant effect on Data Procurement, Data Adjustments and Data Reconciliation. Also there need to be adequate controls on the qualitative commentary that needs to be provided with the required disclosures.
  • Governance – Most of the Banks will need to set up a governance structure with adequate internal controls to manage the required data and also attest the data
  • Data Management – Some Banks may not have Authorized Data sources like a Central repository where they can tap in to create disclosures, they may rely of source systems, End user applications and Spreadsheets for their disclosure needs. This creates a significant challenge with aspects around Data Governance, Data quality and Metadata Management.

How are Banks approaching this?

Since Pillar Three Disclosures have come in iterative mode many impacted Banks and financial institutions have created dedicated Pillar 3 team who look in to ensuring the compliance of the disclosures .The

  • Dedicated Department to handle Pillar 3 disclosures– Most of the Banks earlier used to handle the Pillar 3 disclosures on a standalone basis, the current framework however is driving this in a more integrated manner. This change is warranting a need for a dedicated focus on Pillar 3 disclosures as a result of which many Banks are setting up a separate team to handle and manage all the pillar 3 disclosures.
  • Understanding Cross Program impacts and integrating them to Pillar 3 disclosures Work stream–Integrated Pillar 3 disclosures touch upon a host of areas and Risk types which need to reported to the regulators in specified formats (either fixed or flexible) at varied frequencies, such disclosures require huge amount of data and information which requires the Banks to understand the cross program dependencies and integrate them in to Pillar 3 works stream. For e.g. Reports on Liquidity, Credit Risk, Operational Risk or RWA will require the data to be sourced from the teams that are handling such programs in the format as required by Pillar 3 work stream.
  • Investing in Third Party tools– To streamline the disclosure reporting many banks are mostly investing in Third party tools that have these requirements built in .Most of the leading third party tools come with their own data layers to ingest the information in to the final templates. These data layers can tap in to any type of informational sources within the Bank and transform the same in to the format required as per the Pillar 3 guidelines.
  • Digital intervention to fill in qualitative disclosures – With the Foray of Digital Technologies in Banking ,many Banks have also started looking at AI (Artificial Intelligence) based tools which can create the required commentaries for the qualitative disclosures required by Pillar 3.Such experiments are still in initial stages and many banks are looking at using such tools to reduce manual efforts and optimize their cost of compliance

The revised pillar 3 guidelines have a huge bearing  on the Business Processes, Data management  and the technology infrastructure of the Banks .Most of the Banks have already started investing in creating Strategic solutions to address these requirements as they will be quite frequent in nature and a robust infrastructure will result in better management and timely creation of the disclosures .In many cases Banks are also looking at Digital enablers like AI to help them in creating the qualitative commentary and addressing the volume issues.

About the Author

Ajay Katara

Ajay Katara

Ajay Katara

Ajay Katara is a Domain Consultant with the Risk Management practice of the Banking and Financial Services (BFS) business unit at Tata Consultancy Services (TCS). He currently heads the Solution and Strategy for Enterprise Risk and Compliance Regulations. He has extensive experience of more than 14 years in Consulting & Solution design space cutting across CCAR Consulting, AML, Basel II implementation and credit risk, and has worked with several financial enterprises across geographies. He has significantly contributed to the conceptualization of strategic offerings in the risk management space and has been instrumental in successfully driving various consulting engagements. He has also authored many editorials, details of which can be found in his linked in profile (https://www.linkedin.com/in/ajaykatara/)

Banking

Mastercard Delivers Greater Transparency in Digital Banking Applications

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Mastercard Delivers Greater Transparency in Digital Banking Applications 1
  • Mastercard collaborates with merchants and financial institutions to include logos in digital banking applications
  • Research shows that ~25% of disputes could be prevented with more details

As more businesses turn to digital payments, and the number of connected devices grows, one thing is becoming increasingly clear: consumers are demanding more clarity around what they bought and who they bought it from.

Most everyone has experienced the frustration of trying to decipher confusing and brief purchase descriptions when reviewing online statements. This confusion forces cardholders to contact their banks unnecessarily to dispute unrecognized transactions, adding extra steps for consumers and generating an array of costs for merchants and banks.

A new initiative from Mastercard and managed by Ethoca, the company’s collaborative fraud and dispute resolution technology, aims to eliminate this confusion and improve the customer experience. All merchants are encouraged to visit www.logo.ethoca.com and upload their logos for inclusion in online banking and payment apps. The merchant logos will be linked to corresponding transactions, adding clear visual cues to help cardholders quickly identify legitimate purchases. Participating merchants are provided an opportunity to simultaneously extend their brand presence as well as eliminate expensive and time-consuming chargebacks. This program is also available to all financial institutions.

Mastercard Delivers Greater Transparency in Digital Banking Applications 2

A recent Ethoca-commissioned Aite Group study of the US market revealed that 96% of consumers want more details that help them easily recognize purchases, and nearly 25% of all transaction disputes could be avoided by delivering these details – including logos. It’s estimated that global chargeback volume will reach 615 million by 2021, fueled in large part by frustrated consumers turning to the dispute process unintentionally.

“With greater digital dependency, having real-time purchase details is critical for consumers, merchants and card issuers alike,” said Johan Gerber, executive vice president, Cyber and Security Products at Mastercard. “We continue to collaborate with industry partners to bring clarity and simplicity before, during, and after transactions. By enriching transaction details, merchants can alleviate friendly fraud, reduce chargebacks and improve the customer experience.”

This endeavour is part of comprehensive efforts to deliver the most efficient, safe, and simple payment experience from the minute a consumer begins browsing to once they’ve made the purchase. This includes Click to Pay, Mastercard’s one-click checkout experience, to the integration of biometrics to secure both digital and physical transactions, and Ethoca’s full suite of consumer digital experience solutions.

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Banking

AML and the FINCEN files: Do banks have the tools to do enough?

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AML and the FINCEN files: Do banks have the tools to do enough? 3

By Gudmundur Kristjansson, CEO of Lucinity and former compliance technology officer

Says AML systems are outdated and compliance teams need better controls and oversight

The FinCEN files have shown that it’s time for a change in AML. We must take a completely new approach in order to catch up with the speed of innovation in financial crime.

Despite what you’ll read in news headlines, we can’t lay all of the blame for anti-money laundering failures at the doors of the banks. The majority of compliance teams are doing what they can, and what they are being asked to do.

Historically, AML has, in large part been a box-checking exercise. Banks have weaved through mountains of false alerts, investigated cases, sent SARs, and then got on with business as usual. In some jurisdictions, banks can‘t even interfere with customers under investigation, in fear of jeopardizing cases.

But the sentiment towards banks’ responsibility in AML is changing. They are increasingly looking at AML as a corporate social responsibility issue and even a competitive advantage. Banks are looking to protect their brands from the horrors of an AML scandal, and as such are taking a more proactive approach.

They are also throwing a lot of money at the problem. Deutsche Bank claims to have invested close to $1 billion in improved AML procedures and increased its anti-financial crime teams to over 1,500 people. Most big-brand banks have a similar story to tell.

With reputation on the line, better AML controls can become good business.

So where does the problem lie?

From the thousands of SARs discovered in the FinCEN files, lack of customer oversight is evident. Banks need to establish a method of knowing their customers through their actions across the organization and beyond the organizational walls. By doing so, banks can better understand AML and compliance risk, which gives them the necessary tools to bar customers from doing business or limiting their activity.

While banks are striving to better enforce regulations by pouring money and resources into CDD and transaction monitoring, forming this type of intelligent customer overview might be the real solution. Proper Customer Due Diligence and customer risk monitoring can only be achieved by continuously tracking customer behaviour and transactional networks. With the latest developments in Artificial Intelligence – that is now possible.

But, the reality for compliance teams is they are hindered by outdated technology in their risk assessment and transaction monitoring systems and because of this, banks are fighting a steep, uphill battle against serious organised crime.

In 2019, the Bank of England issued a statement that claimed: “existing (money laundering) risks may be amplified if governance controls do not keep pace with current advancements in technological innovation.”

I know from my time working as a senior compliance technology officer that many traditional AML systems are inefficient, slow and labour intensive, and often lead to inaccurate outcomes. In fact, most of the systems pre-date the iPhone, so they are using last-generation technology and techniques to detect criminal activity.

In short, legacy AML systems are not fit-for-purpose. Legacy vendors built them for the box-checking world of the past, and they are focused on one suspicious transaction at a time – rather than looking at ‘bad actors’ in the financial system, and patterns in their behaviour.

As launderers constantly evolve their techniques to circumvent rule-based or simple statistical detection, the AML systems market has not kept up. There is a dire need for innovation.

Unless systems are updated, banks can continue to file suspicious activity reports (SAR), but if bad actors can conduct their business ‘as usual’ and shuffle money around the globe to hide its malicious origin, the effectiveness of a SAR is significantly diminished.

What’s the solution?

I believe we need to rethink our entire approach to AML. We need to empower compliance departments with better controls and oversight, and move away from outdated, traditionally rule-based systems and towards a modern, AI-enabled, behavioural approach.

While the bad guys have learnt how to evade rule-based systems, they find it extremely difficult to get around AI algorithms that search for anomalies in behaviour. The advancement of AI algorithms, especially in the field of deep learning, provide an opportunity for banks to detect more complex and evasive money laundering networks.

So the answer is to establish continuous automated risk monitoring and implement a workflow system that provides money laundering risk scores for customers.

The latest AI software could kickstart a new age of customer AML risk-based overview. Instead of relying on static and self-reported KYC data, AI systems can analyse behaviour over a period of time and compare it with peer-groups and past actions. It provides compliance teams with a continuous risk-rating of their customers, actor insights and summaries to facilitate efficient and thorough investigations, and an organizational-wide overview.

Recent advancements in AI have not only made the above possible, but also practical. Our latest Human AI models contextualize and explain the appropriate data, making it easier for banks to spot sophisticated crime.

By looking at AML not simply as a box-ticking exercise, but as a competitive advantage that can increase customers’ trust in their financial institutions, banks have a lot to gain. Moving towards behaviour-based AML systems is a move towards making money good.

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Banking

Local authorities and business networks play a key role in small business success, and must be protected during COVID rebuild

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Local authorities and business networks play a key role in small business success, and must be protected during COVID rebuild 4
  • 23% of UK’s top performing businesses have been supported by local enterprise partnerships and growth hubs
  • Similarly, 30% of Britain’s strongest businesses have obtained external finance in the last 3 years
  • New findings come as part of an independent, holistic study into small business success, commissioned by Allica Bank to support British businesses

A new study, commissioned by business bank, Allica Bank, shows that a high level of engagement and interaction with external institutions and resources, is central to SMEs’ prospects of success.

The study analysed data from over 1,000 companies and ranked their success on a scale that evaluated factors including productivity, growth, consistency and outlook. To measure SMEs’ external engagement, survey respondents were asked whether or not they had engaged with local enterprise partnerships, growth hubs, or external financial advisers, as well as whether they had obtained credit or sought re-financing advice, in the last three years.

The benefit to small businesses in making the most of external resources are clear to see, with a quarter (23%) of the UK’s top performing SMEs – those in the top tenth percentile – actively engaging their local enterprise partnership or growth hub in the last three years. This compares to just 16% of all other small businesses. With such a clear benefit to businesses, these external networks must not only be protected but prioritised by any Government plans to rebuild the economy post-COVID.

Similarly, of the top performing SMEs in the country, 30% have obtained external credit in the past three years, compared to less than a quarter (24%) of all other businesses. This figure drops even further for the weakest performing businesses – those in the ninetieth percentile – where just 12% of businesses have obtained external financial support in recent years.

Chris Weller, Chief Commercial Officer, Allica Bank, said:

“At Allica Bank we understand that no two businesses are the same. We also know that no-one knows a business as well as its owners and managers. But they can’t be expected to be experts on everything.

“In the UK there is a wealth of external advice and support for small businesses and we urge each and every business out there to tap in to the external resources around them. Third-parties, such as business clubs, chambers of commerce, local enterprise partnerships and trade bodies, can be invaluable sources of advice and further resources. And although they have excelled in their given field, business owners may still lack knowledge in many other areas of running and growing a business. Therefore, engaging with third parties can give business owners the kinds of insight – and fresh perspectives – they need to succeed.

“As the economy and the country comes to terms with the impact of the COVID-19 pandemic, it is important these vital SME resources are protected and given the funding they need to continue providing invaluable insight and support to small businesses up and down the country.”

Allica Bank’s SME Guide to Success identified six ‘rules to success’ that were more likely to be displayed by top-performing SMEs compared to their counterparts. The full report contains a wealth of additional data and insight into each of these topics.

As part of its mission to empower small businesses, Allica Bank is making the findings freely available and running a series of free online workshops with relevant partner organisations for businesses to attend.

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