Esma Debates Financial Innovation

Shanny Basar

Verena Ross, executive director, European Securities and Markets Authority said the way the regulator tracks innovation is a challenge and needs to be principles based.

The European Securities and Markets Authority held its second Financial Innovation Day on 16 December 2015 and posted details on its website yesterday.

Ross said in her closing speech: “The financial markets across our 28 member states differ from one another in terms of breadth, depth, volume and sophistication of market participants. In turn, the innovation framework we employ must be a principles based one, needing to remain flexible as the underlying markets are dynamic.”

Adrian Blundell-Wignall, special advisor to the Secretary-General of the OECD on financial markets and director in the Directorate for Financial and Enterprise Affairs, said in his keynote speech that the cost of new regulation for six large systemically important banks since 2007 has been $35.5bn.

“These costs are high, and as such act in favour of established firms, putting smaller competitors at a disadvantage or prevent new companies to enter the market,” added Blundell-Wignall. “But new technologies have allowed some nimble competitors to enter the market, and some did so by benefitting from market inefficiencies that established banks have been unwilling or unable to explore.”

Blundell-Wignall praised the Innovation Hub established by UK’s Financial Conduct Authority. “Perhaps some type of “regulatory sandbox” model, may be a good way to go,” he added.

The UK regulator launched Project Innovate and the Innovation Hub in 2014 to provide direct support to firms trying to launch new products into the market which may benefit consumers and to be the centre of the FCA’s innovation policy. Last November Christopher Woolard, director of strategy & competition at FCA, said in a statement that the project had helped approximately 177 firms and the regulatory sandbox provides a safe space for firms to enter the market and experiment with new ideas

“We’ve also had a lot of engagement with people in a very different way for the regulator to do it,” added Woolard. “So we’ve been holding a whole series of roundtables, workshops, events where we reach out and actually share problems with people and try and really gather experience both here in the UK, but also experiences that people have had internationally. One example of the engagement work that we’ve done is the events we held around robo-advice.”

Yannick Brunner, chief compliance officer of WealthKernel, said in a statement: “My experience with the Innovation Hub has been a very positive one, for three main reasons: one has been the direct support we have been receiving to help navigate the quite complex regulatory landscape. The second has been big cost savings from allowing us to forego costly consultants and the last one has been really giving all co-founders a nudge at getting directly involved with the compliance angle.”

Esma’s Financial Innovation Day included four panels discussing crowdfunding; corporate bonds and whether innovation can reduce the liquidity gap in these markets; blockchain or distributed ledger technology and leveraged loan funds.

On corporate bonds, Ross said there are an increasing number of new trading initiatives trying to bring together investment banks, fund managers and investors as markets have become less liquid.

“While some initiatives, like ‘all-to-all’ trading platforms focus on reducing the role of the middleman, i.e., the bank, others, like Honeycomb, aim at improving pre-trade information,” added Ross. “Yet, more time and scrutiny might be needed before they can effectively be considered as a replacement to the traditional request for quote trading model.”

Honeycomb is part of Algomi, the network for matching bond buyers and sellers. Algomi was launched in 2012 to build a social network for the corporate bond market by building internal networks for banks to connect together staff who could help transact less liquid corporate bonds. The firm has since added asset managers to its Honeycomb network so they can easily and quickly find the best bank to execute large trades.

Another hot topic was blockchain or distributed ledger technology. “The DLT certainly is THE innovation of the moment. The Bank of England recently called it the ‘first attempt at an Internet of finance’,” said Ross.

Esma is collecting feedback from market participant on blockchain development.

“We believe that the [DLT] technology may well help with streamlining post-trading services, reducing costs and increasing security and transparency in the financial system,” added Ross. “Yet, for this to happen, a number of challenges, including around privacy and governance issues, will need to be addressed. The transition to the new system may also prove complex and resource intensive.”

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