This blog post is the third and final entry in our series on the five major areas of Regulatory Technology (RegTech) tools as determined by FINRA: surveillance and monitoring, customer identification and anti-money laundering (AML) compliance, regulatory intelligence, reporting and risk management, and investor risk assessment. If you missed our previous entries on how the financial services industry is using RegTech tools to keep up with their regulatory compliance requirements, they can be found at “RegTech: Surveillance and Monitoring” and “RegTech: Customer Identification and AML Compliance”. Our final entry will address the areas of regulatory intelligence, reporting and risk management, and investor risk assessment.
“Regulatory intelligence” refers to the areas of compliance that focus on the gathering, monitoring, identification, and interpretation of data with reference to changes to applicable rules and regulations, frequently across multiple jurisdictions, in order to appropriately maintain and update a firm’s compliance operations.
Market participants have been exploring ways in which to utilize RegTech tools in an attempt to automate even just portions of what is otherwise an extremely manual and time-consuming process, under which firms review for and track relevant regulatory changes and then determine and implement appropriate changes to their compliance programs. Given the unprecedented volume of regulatory change and complexity in the financial services industry and the significant resources most firms currently devote to this area (both financially and numbers of associated persons involved), the use of RegTech tools to help streamline this process is understandably desirable.
Typically, RegTech tools assisting with regulatory intelligence provide a catalog of regulatory requirements in a user-friendly manner. This catalog is then updated on a real-time basis with timely reminders of forthcoming changes and new enforcement actions, alerting firms to review applicable supervision and compliance operations. However, vendors operating in this space have begun to move beyond this basic application, using natural language processing and machine learning to read and interpret new and existing regulatory requirements, then offer a gap analysis to firms to help identify potential deficiencies within an organization’s compliance program.
Additionally, some RegTech tools seek to embed compliance functions into the normal operations of a firm by providing a platform through which it is necessary to review for compliance with applicable regulations before even taking an action. For example, in the context of derivatives trading, RegTech solutions are being offered to enable firms and their traders to ensure that their trades are compliant with applicable rules and regulations (such as those related to clearing and reporting) before the trades can be executed.
Some regulators are also looking into adopting RegTech tools to aid in the dissemination of regulatory intelligence. For example, the UK Financial Conduct Authority (FCA) and the Bank of England (BoE) have launched an initiative to make their rulebooks “machine readable,” meaning that they can be easily processed and interpreted by machines and incorporated into firms’ regulatory intelligence systems.
Reporting and Risk Management
RegTech solutions in the space of reporting and risk management include leveraging technology to develop tools to facilitate or automate processes involved in risk-data aggregation, risk-metrics creation and monitoring (for enterprise risk management as well as operational risk management), and regulatory reporting. For example, to assist with risk-data aggregation or regulatory reporting, a RegTech tool may be used to gather and analyze information on capital and liquidity for use in internal models or to report to regulators.
Investor Risk Assessment
In order to provide appropriate investment advice to clients, firms must seek information from their clients and apply reasonable policies and procedures to determine the investor’s risk appetite and tolerance (subject to any periodic updates and/or refinements). The development of RegTech tools to assist with investor risk assessment is a small but growing space within RegTech.
Investor Risk Assessment RegTech tools seek to combine technological innovations such as data aggregation and machine learning with behavioral sciences to determine an investor’s risk appetite and tolerance in a more scientific manner than existing methods for ascertaining the same. For example, some RegTech tools assess an investor’s risk appetite and tolerance based on the investor’s performance in “games” designed to provide insights into the investor’s reactions to changes in market conditions and portfolio performance. This information can be used in conjunction with an investor’s stated preferences to create a more holistic picture of an investor and his or her desires. Additionally, some RegTech tools monitor investor portfolios in changing market conditions then produce recommendations to better align the portfolio with the investor’s risk profile and objectives.
For more on the five major areas of RegTech tools identified by FINRA, please see FINRA’s report on “Technology Based Innovations for Regulatory Compliance (“RegTech”) in the Securities Industry”.
For more on MasterSupervision, our automated compliance management system that streamlines the process of compliance for broker-dealers and investment advisers, please visit mastersupervision.com (or just click on the “Technology Services” link at the top of the page).