Derivatives Clearing, Prime Services IT Substandard: Study

Terry Flanagan

Information technology in derivatives clearing and prime services is behind the curve.

That’s according to a whitepaper produced by Minium, Promontory and IBM.

The whitepaper outlines some of the key challenges faced by the sector, including the cost of maintaining legacy technology platforms, the regulatory drive to invest in new technology and what new technology will best help firms to adapt to a new digital future.

Firms that provide derivatives clearing and prime services face several important challenges:

•An ever-sharper focus on costs is making traditional information technology (IT) systems and operational processes look expensive and throwing the viability of entire business lines into doubt.
•The ongoing wave of new regulations is pushing businesses to innovate, because adapting existing IT systems is expensive and highly complex.
• There is a significant risk that competitors will establish a lead over firms that are still struggling with legacy infrastructures.

The market for derivatives clearing and prime services has undergone significant structural change. Firms are now facing important challenges, not only from new competition and new regulations, but also from their own legacy systems.

Since the crisis in 2008, there has been a dramatic reduction in the number of firms active in the market and a concentration of business among the largest providers.

Meanwhile, the capital cost of clearing has increased sharply, as has the cost of keeping legacy systems and processes compliant with new regulations. Many firms have shrunk their books of business to cope, but the situation is unstable — for firms and the market as a whole. New strategies, business models, and processes must
be found.

The patchwork of outdated systems most firms use today is not fit for purpose — firms simply will not be able to deliver the right level of return on equity for their clearing and prime-brokerage businesses without a radical reassessment of their technology stacks. What is missing is a system capable of ensuring a ‘single source of truth’ with up-to-date trade information that can be accessed by different functions to ensure alignment of different risk, controls, and financial processes. If that system could also produce a current view of collateral positions, including what has been pledged or recalled, control would be enhanced throughout the business.

With such a system, firms could begin to access newer technologies, such as augmented intelligence, that will enable dynamic recognition of issues and enhance the capabilities of operations teams. For example, if several clients are taking positions in an illiquid mid-cap stock, no individual position might trigger an alert.

Overall, however, the firm could be building an excessive position without realising it. This type of system would enable firms to identify such a position, address regulatory requirements, and manage risk more effectively.
In addition, a system that can ensure a single source of truth would be easier to integrate with surveillance software, which would facilitate regulatory reporting and balance-sheet generation, among other capabilities.

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