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Why banks can’t see the forest for trees when it comes to money laundering

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Why banks can’t see the forest for trees when it comes to money laundering

Karim Rajwani, Global AML Advisor at Quantexa

2017 saw several of the UK’s top tier banks accused of inadvertently facilitating the laundering of enormous sums of money thought to be linked to crime rings and corrupt officials. Much of the media furore surrounding the scandals criticized the UK for being a target for international criminals looking to turn the profits of crime into ostensibly legitimate assets, on account of what authorities claim are it’s largely inefficient Anti-Money Laundering procedures.

Paradoxically, it is often the failings of the very systems that have been put in place to monitor for suspicious activity that are facilitating this illicit activity without detection. The systems that are in place in many top-tier UK banks were instated somewhat hastily as a response to increasing regulatory pressures and, as such, are not fit for purpose.

These AML systems analyse transactions according to pre-established rules that dictate what is and is not considered to be suspicious activity. The problem is that the analytics are basic entry-level methods of anomaly detection that are not tailored to the monitoring that they are doing. This means that they are extremely prone to triggering false positives and herein lies the essence of the problem.

The ineffectiveness of these systems is inadvertently facilitating illicit financial flows for two main reasons. Firstly, the elementary nature of the systems means that criminals are able to systematically test the parameters of the rules on which they are based and tailor illicit activity accordingly. Once a criminal organisation has established certain variables that are likely to get flagged by the system– like transaction size or certain geographical region – they are able to plan a laundering strategy that avoids triggering any sort of alert.

Secondly, and perhaps more importantly, inadequate development means that these systems make inaccurate connections between various activities which are misinterpreted as suspicious. This subsequently triggers an alert which is found to be false more than 90% of the time. Alerts often occur at transaction level and without any relevant contextual information which means investigating each one is costly in terms of both time and resources. This is further exacerbated by the fact that regulatory expectations require that every alert be investigated fully. Essentially, analysts are completely overloaded by alerts that they are legally obliged to investigate, despite the fact that the vast majority of them were erroneously produced.

The functionality of the AML systems that are contributing to these problems can be easily improved. Several top tier banks in the UK are using technologies known as contextual monitoring to replace the legacy systems they know to have been inefficient and ineffective. This process involves the application of sophisticated analytics to large data sets, contextualising each transaction within a network of related activity and thus, making it far easier to identify suspicious activity.

However, the issue of regulation is one that cannot be solved as simply. In light of several high-profile scandals that have emerged over the past decade, AML regulations are unsurprisingly strict. AML teams within banks must be careful because they otherwise risk personal liability and reputational damage. This means that analysts are inclined to file defensively, in case they are at risk of being found to have ever inadvertently incorrectly closed a case that was later found to be associated with illicit activity. This sort of defensive filing further worsens the problem by inundating internal teams as well as external Financial Intelligence Units and law enforcement encouraging a greater likelihood that genuinely illicit activities will go undetected.

Institutions additionally face the problem of having clients with multiple Suspicious Activity Reports (SARs). Continuing to do business could be seen as facilitating illicit activity, and further defensive filings (i.e. where are no reasonable ground to suspect money laundering) are not protected by the safe harbour provisions in the same way that true SARs are.Interestingly, financial institutions tend to find very high-risk activity more effectively using various data mining and analytic techniques and by using historical internal and external data.Technological advancements have started to emerge which can transform the way we look for suspicious activity meaning the quantity of alerts is smaller and the quality of alerts is higher.

AML experts at banks, regulators at policy level and investigators on the ground all share a common goal in allowing the UK to take full control of its banks and the activity that goes on within them. There does, however, exist a discrepancy between the way that all three parties approach this as a target. In order for any sort of genuine change to be made, there needs to be a more cohesive and mutual understanding amongst all involved parties in how they can work together to address this growing issue.

Banking

A quarter of banking customers noted an improvement in customer service over lockdown, research shows

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A quarter of banking customers noted an improvement in customer service over lockdown, research shows 1

SAS research reveals that banks offered an improved customer experience during lockdown

A quarter (27%) of banking customers noted an improvement in their customer experience over lockdown, according to research conducted by SAS, the leader in analytics.

This represents some good news for banks in an extremely challenging time, with 59% of customers also saying they’d pay more to buy or use products and services from any company that provided them with a good customer experience over lockdown.

The improvement in customer experience also coincides with a rise in the number of digital customers. Since the pandemic started, the number of banking customers using a digital service or app has grown by 11%, adding to an existing 58% who were already digital customers. Over half (53%) of new users plan to continue using these digital services permanently moving forward.

Brian Holden, Director, Financial Services at SAS UK & Ireland, said:

“It’s notable that in times of need customers value being able to communicate with their bank and place an even higher value on good customer service. A rise in the number of digital customers means banks can now reach a wider audience online, leveraging AI and analytics to offer a more personalised experience.

“There is work to be done, though. Even greater personalisation is needed if banks are to win over the 12% of customers who felt banking services deteriorated over lockdown. And this personalisation will need to get right down to a segment of one to properly reflect the unique circumstances some individuals now find themselves in due to the pandemic.”

While the number of digital users grew over lockdown, there is still a quarter (24%) of the banking customer base that have chosen not to make the switch to digital services.

Meanwhile, failure to offer a consistently satisfactory customer experience could prove costly for banks, with a third (33%) of customers claiming that they would ditch a company after just one poor experience. This number jumps to 90% for between one and five poor examples of customer service, so this just underlines how much retail banks can win or lose in these difficult times.

For more insight into how other industries across EMEA performed during lockdown, download the full report: Experience 2030: Has COVID-19 created a new kind of customer? 

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Banking

Swedish Bank Stress Tests in Line with Recent Rating Actions

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Swedish Bank Stress Tests in Line with Recent Rating Actions 2

The Swedish Financial Supervisory Authority’s (FSA) latest stress test results show major Swedish banks’ robust ability to absorb credit losses. The results support Fitch Ratings’ view that short-term risks have abated in recent months, and are in line with Fitch’s assessment of major Swedish banks’ capitalisation at ‘aa-‘, which was a factor when Fitch removed the ratings of Handelsbanken, Nordea (not covered by the FSA’s stress test) and SEB from Rating Watch Negative in September.

The FSA estimated about SEK130 billion of credit losses over 2020-2022 for the three largest banks (Swedbank, Handelsbanken and SEB) under its stress test. This represents about 220bp of their loans, or about 70bp annually. However, the banks’ pre-impairment profitability in the stress test could absorb credit losses of up to about 110bp of loans annually. Fitch’s baseline expectation is for credit losses below 20bp of loans in 2020 and 8bp-12bp in 2021.

Capital remained strong under the stress test. The average common equity Tier 1 (CET1) ratio fell by only 2.8pp (1.9pp if banks did not pay dividends) from 17.6% at end-June 2020. The capital decline was not driven by credit losses, which could be absorbed by pre-impairment profitability, but by risk-weighted asset inflation.

The three banks’ 3Q20 results showed that capital has been resilient despite the coronavirus crisis. The banks had a CET1 capital surplus over regulatory minimums, including buffers, of almost SEK100 billion (excluding about SEK33 billion earmarked for dividends). SEB had a CET1 ratio of 19.4% at end-September, Handelsbanken’s was 17.8% and Swedbank’s 16.8%.

The SEK130 billion credit losses under the latest stress test are lower than under the FSA’s spring 2020 stress test (SEK145 billion), which also covered a shorter period of two years. However, they are still larger than the actual losses incurred by the three banks during the 2008-2010 crisis. This is despite tightened underwriting standards by the three banks in recent years, including, in the case of SEB and Swedbank, in the Baltics, the source of most of their loan impairment charges in the previous crisis.

In its baseline economic forecasts, the FSA assumes a harsher shock to Sweden’s GDP in 2020 and 2021 (-6.9% and 1%, respectively) than Fitch’s baseline (-4% and 3.4%), although it assumes a similar recovery by end-2022. It also assumes real estate price corrections, which appears particularly conservative in light of a 11% housing property price increase over January to November 2020.

The ratings of Handelsbanken (AA), Nordea (AA-) and SEB (AA-) are on Negative Outlook due to medium-term risks to our baseline scenario. The rating of Swedbank (A+) is on Stable Outlook, reflecting significant headroom at the current rating level following a one-notch downgrade in April due to shortcomings in anti-money laundering risk controls.

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Banking

Future success for banks will be driven by balancing physical and digital services

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Future success for banks will be driven by balancing physical and digital services 3

Digital acceleration due to COVID-19 has not eliminated the need for bank branches

Faster service (23%), smaller queues (26%) and longer opening hours (31%) are among customers’ biggest asks of their bank branch, new research from Diebold Nixdorf today reveals. But with 41% consumers saying they would be comfortable to engage with all banking services via an app, it is vital that banks respond to the full spectrum of customer needs – balancing and evolving their offerings on multiple fronts.

A third (35%) of customers say they will always want access to physical, in-branch banking services in some capacity and one in ten (10%) consumers will never bank predominantly online in the future. This demonstrates that there remains an important role for the services a branch provides. This role, however, continues to shift away from purely transactional banking:

  • A quarter (26%) value face-to-face advice when it comes to their banking needs

  • One in five (18%) seek advice on different products

  • 17% want to speak to the staff or other customers.

Matt Phillips, Diebold Nixdorf vice president, head of financial services UK & Ireland, said: “The majority of banks have spent the last decade focusing on their digital strategies and investing in improving – or establishing – their online customer experience. However, the data shows that there is still an essential role for physical branches. Banks now increasingly face the challenge of continuing to provide customers with access to a range of physical and as well as digital services, giving them the flexibility to choose the best service for them at any given moment in time.”

When looking beyond the impact of COVID-19, planned branch visits by customers are expected to rebound to 28%, following a dip to 11% during lockdown. And when asked about the new services they’d like to see inside their bank, sixteen percent of respondents said more self-service machines would improve their in-branch experience.

Matt Phillips continues: “In a world that is fast evolving and where the future is digital, there’s no doubt that high street banks must, and are, responding to the needs of highly digital customers. But not every customer requirement is digital. There is still a strong need for physical bank branches and the interaction and services they offer, and striking this balance between physical and digital is where the industry must come together to provide solutions. For example, building a strong, leave-behind strategy is something we’re seeing across the board when banks have to close branches, ensuring customers have access to self-service machines to complete all their transactional needs.”

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