With increasing regulatory requirements, many expect institutions to double regulatory spending in their attempts to remain compliant. Amid universal focus on satisfying regulators, according to COOs speaking at the Rimes II Client Conference, the industry needs to move opportunity cost up the agenda.
In this era of regulatory rollout, the cost of compliance is a ubiquitous topic of discussion within the finance industry. With a Duff & Phelps survey predicting that financial institutions’ regulatory spending could more than double in the next five years, the compliance costs conversation is unlikely to quieten down anytime soon. However, according to two COOs, there is one cost that the industry could benefit from discussing more: opportunity cost.
“We all know there’s a cost of implementation and a cost of running [compliance solutions]. But one of the costs that is hardly ever called out is the opportunity cost. We are deflecting a lot of resources—IT and operational resources—on to delivering regulatory change, and that is at the cost of actually investing that time within the business,” said Lee Toms, global head of investment operations for Legal & General Investment Management (LGIM), at the Rimes II Client Conference held in London in May.
“Fundamentally, what we find as an in‑house organization is that the people you’re asking to do the regulatory change are the same people you would have trying to help and grow and diversify the business,” Toms said, adding that this results in a “real resource cost constraint” as well as the opportunity cost.
Mike Tumilty, director of operations for Aberdeen Standard Investments, concurred. “The opportunity cost is really difficult, when you have a limited number of subject matter experts,” he said, adding that all firms face those limitations. “To use those subject matter experts three or four times over—which is effectively what we are trying to do—to get into running these growth initiatives, integration initiatives and regulatory initiatives, is where the negative aspect is, on the people side.”
Stumbling Blocks to Compliance
Toms said, with “regulatory changes coming along thick and fast,” in addition to an evolving industry and client expectations, compliance is tricky for asset managers.
He said client demands are increasing, “but on the backdrop of that, there’s pressure around fees and doing more for less, and then as an organization we’re trying to keep up with the technological advancements that are taking place. So you’re trying to service a growing, diversifying business as well as actually trying to change the business.”
Ewan Scott, head of sales, EMEA and APAC for Rimes, also participated in the panel, adding that Rimes’ approach is to help firms remove some of the regulatory pressure so they can focus on growth.
“One of the themes is how firms manage that balance between managing things like existing process and regulatory changes while still trying to get involved in some of the growth initiatives that are out there as well,” Scott said. “Our perspective is talking about how we can take away some of the pains and what areas [firms] could potentially outsource, in terms of data and regulation in particular, to allow those firms to then focus on the areas that will let them grow their business.”
Tumilty has a positive outlook overall, however, and said the regulations create opportunities for the industry.
“I don’t think it’s all downside. Some of the regulations that have been introduced are absolutely essential post‑global financial crisis to give regulators and monetary authorities visibility into things that were previously less transparent. But I do think there’s an opportunity to standardize, harmonize and be consistent. And I think that extends to service providers and how they work together,” he said.
For Tumilty’s team, there is the additional challenge of integrating Aberdeen and Standard Life, following a merger in March 2017. He said the two organizations had very different approaches to transaction reporting; the integration has increased compliance costs in the short term as a result of operating on separate platforms, but they will generate operational efficiency out of the regulatory projects by moving to a single investment platform.
“The more you have your operating model in place, working well and efficiently, then you can minimize to an extent the ongoing running costs. But, ultimately, if you’ve got a fragmented operating model and you’ve been subject to multiple takeovers, mergers and acquisitions, trying to apply new regulations on top of that is really hard work and very expensive. So, for me, the cost has definitely gone up, but it’s not all bad because there are opportunities to try and standardize and harmonize throughout that process,” Tumilty said.
Good data management may be the key, the panellists agreed, with Scott reporting: “We’ve definitely seen data taken far more seriously in buy‑side firms over the last 10 years or so. This is one area where the word ‘strategy’ isn’t overused. It is definitely a strategic goal of most firms to manage that data correctly because they know that enables the rest of their business, so it’s something they take very seriously.”
Toms said LGIM has been running a data program for approximately five years with a centralized, dedicated data team. Data is integral to every core program being built out across the organization while these programs build out LGIM’s data capability.
“Pretty much every project that takes place, every new instrument that we use, every new client we take on, will feed back into data in one way or another. The way data is being built up is a real enabler for an organization,” he said. “We haven’t really touched on outsourcing but, to be perfectly honest, in terms of making a company more agile in partnering with new financial technology‑type companies, having the ability to outsource—whether modular or wholesale—having strong data components and a really strong launch pad and landing pad, is actually key to driving business forward.”
Tumilty said “the data strategy is absolutely integral” to devise a clear, operational strategy post‑merger. Once a strategy is in place, he said, it enables firms to decide what they want to keep in‑house and what they want to outsource.
“We spent tens of millions in the last four or five years, effectively building out our data infrastructure given the criticality of that to our investment decision-making processes. As a consequence of bringing together our new firms, we are embarking on a clear outsource strategy for things like performance measurement, which historically has tended to be in house, and it’s just a re‑plumbing of data,” he said.
Tumilty added that Aberdeen Standard Investments looked at data end‑to‑end, including what extends to outsourced providers: “It can’t stop at the boundary wall of the organization. The key thing is to bring all of that into a single place to verify it and then to pump it around the organization. Without that, it can be a bit like spaghetti junction.”
Once that process is in place, he said his goal is to have “a single, clear, cohesive data strategy, single middle‑office provider and then to transport that data into a single investment platform. From that will flow a lot of the well-publicized synergies that ultimately we expect to get, in terms of the merger.” He added that, even if the merger wasn’t a factor, that approach allows him to demonstrate “year on year the cost of operations,” following the hefty investment in data strategy, and that Aberdeen Standard Investments is subsequently seeing costs decrease.
“That drives absolutely everything. It’s not easy to get to, it will cost you a lot of money, and you have to go to the board and you’ve got to justify the business case, and they’ll look at you like you’re kind of crazy,” Tumilty said. “But, once you’ve done it, I think from every pound, dollar or euro that is invested by our clients, more of it will drop to the bottom line than it would without a data strategy.”