As the financial industry goes deep into the second half of 2023, regulatory developments in the sector continue to go on. What can we expect in H2?
According to MAP FinTech senior manager of the compliance support department George Markides, in 2023 the focus is primarily on preparation as regulators globally are gearing towards the launch of updated reporting standards.
This, Markides claims, follows the extensive work carried out by the International Organisation of Securities Commissions and the Committee on Payments and Market Infrastructures on Critical OTC derivatives data elements.
He added, “Following the aftermath of the Great Recession, the G20 agreed on a framework to bring these opaque instruments into the fore by forcing market participants to report derivatives to specialised Trade Repositories. However, there was no high-level agreement on common derivative data that must be reported and as such, there was deviation between the various reporting jurisdictions.”
Back in late 2018, the IOSCO-CPMI published its first harmonisation paper on those data elements. Based on the paper, regulatory bodies from Australia, the EU, the UK and Singapore overhauled their reporting rules to meet the new standards in late 2022/early 2023. The new reporting requirements are set to come into effect in 2024.
Crypto assets are also expected to see increased scrutiny in H2. Earlier this year, the US House of Representatives introduced the Financial Innovation and Technology for the 21st Century Act to regulate crypto asset providers. In the EU, the Markets in Crypto Assets Regulation came into force in June 2023.
Erik Becker – product director of Regnology – likewise to Markides, underlined that the latter part of 2023 and beyond is poised to bring about significant regulatory changes that will have a ‘profound impact’ on risk management, reporting, and oversight within the financial sector.
He said, “In the fast-paced financial realm, reliable and timely information is vital for effective risk management. Regulators are pushing for improved data governance and reporting practices, emphasizing accountability and resource allocation to address data challenges.
“Robust data integrity programs, structured change management, and standardized data practices are crucial for decision-making and regulatory adherence. The increase in supervisory findings at (large) banks proceeds with particular attention in 2023. Banks are urged to intensify their efforts and enhance their capabilities in this domain promptly.”
In a flurry of other areas, Becker said that capital planning uncertainty is anticipated to persist throughout the year, driven by the emergence of new risks such as the impacts of inflation and rising interest rates
He said, “This dynamic calls for innovative risk management strategies. To safeguard against potential losses, banking agencies will implement a combination of policy, oversight, and stress testing measures. Stress tests will be refined to encompass dynamic scenarios that capture evolving risks.”
Elsewhere, amid the post-pandemic landscape and amidst fluctuating interest rates, regulatory bodies are heightening their focus on examining interest rate risk and liquidity management. “In this context, financial institutions are expected to offer robust risk scenarios and dynamic liquidity models that are built upon reliable data,” said Becker.
Upcoming climate stress tests in 2024 are also an area of focus for Becker. He said that these tests build upon the results of 2023, which have revealed areas of inadequate quality. In digital assets, the sector faces ‘heightened regulation’ said Becker, balancing innovation and investor protection also. “Cryptocurrency exchanges will come under regulations like traditional financial institutions over time. Valuing assets like Bitcoin, driven by sentiment, remains challenging. The BCBS framework for prudential treatment of crypto assets and the EU’s MiCA framework are notable (first) steps in regulating this sector,” he said.
He concluded, “The financial sector needs to proactively adjust to evolving regulations during the latter part of 2023 and beyond. Prioritizing data practices, optimizing risk strategies, and elevating compliance endeavours are essential for institutions to thrive in this swiftly evolving environment. It is imperative to harmonize dynamic frameworks and regulatory decisions with innovation.”
In the opinion of Joe Schifano, global head of regulatory affairs at Eventus, this year, regulators will keep examining whether firms have proper compliance systems for their risks, adequate resources to monitor for market manipulation, and updated procedures and risk controls.
Alongside this, regulators worldwide are enhancing their own trade surveillance tech and are closely monitoring new or innovative products that might come with heightened market risk.
In the UK, the FCA published a letter to CEOs in August that emphasizes the importance of MiFID RTS 6 requirements for risk monitoring of algorithmic trading controls. Schifano expects more firms in the coming months to really make sure their algo monitoring is state-of-the-art.
He explained, “In the US, the industry is certainly waiting to see what the SEC will do next with its ambitious market structure proposals now that the comment period has closed. Those proposed rules, which the SEC unveiled late in 2022, would have wide-ranging implications, including some for trade surveillance, which is why Eventus is watching this closely.”
He also mentioned, “Finally, digital asset regulations are dynamic and we expect to see more details emerge this year. Europe is working on MiCA’s technical implementation. The SFC in Hong Kong this year issued regulatory proposals for licensed virtual asset trading platforms and received industry input.
“MAS in Singapore and VARA in Dubai are just two more examples of regulators diving into the details of crypto regulation. Meanwhile, high-profile court cases in the US are progressing and institutional players are watching them closely.”
Going into H2, head of financial crime policy at Fenergo Rory Doyle said that US beneficial ownership information reporting requirements taking effect on January 1 next year will compel a number of key stakeholders such as limited liability firms and some corporations who conduct operations in the US to disclose details concerning their beneficial owners to the Financial Crimes Enforcement Network.
Doyle explained, “Additionally, these regulations aim to align the definition of a beneficial owner across both the Customer Due Diligence (CDD) and Beneficial Ownership Rules. Consequently, financial institutions may be required to modify their onboarding procedures to incorporate these changes.”
There is also work being conducted in this area in the EU. Doyle stated that the EU is currently considering revising the benchmark for recognising beneficial ownership across its member states.
He said, “If this initiative succeeds, the definition of beneficial ownership will encompass possessing 15% or more of shares, voting rights, or any form of direct or indirect ownership stake, or possessing 5% or more of shares in entities within the extractive sector or companies susceptible to elevated risks of money laundering or terrorist financing. This potential alteration carries significant ramifications for the process of client onboarding and assessment within financial establishments across Europe.”
ESG and digital
A particularly well-known hot-button topic within the financial industry right now is ESG. While more eyes on the industry can mean an increased likelihood of new regulations, this could have been tempered by the global economic slowdown.
Karim Rajwani, chief product officer at Sigma Ratings, said, “The global economic slowdown and U.S. backlash have slowed some aspects of the ESG movement, but certain ESG topics continue to grow in importance for companies and stakeholders.
“Regulatory change complexity remains a priority for organizations. ESG regulations, especially in the EU and the UK are significant, with the International Sustainability Standards Board (ISSB) delaying disclosure standards to align with European Sustainability Reporting Standards (ESRS).”
Rajwani also remarked that proposed global assurance and disclosure frameworks are currently in progress, with European supervisory bodies submitting draft regulatory standards for sustainability disclosures related to new EU securitisation rules.
He added, “ESG regulations are forthcoming in Canada, the UK, the Netherlands, India, Hong Kong, and elsewhere, covering various aspects such as corporate reporting, due diligence, and disclosure.”
Another key ESG-related regulation getting attention is CSRD. Donal Lawlor, head of sales at RegTech firm ViClarity, explained, “Firms must now adopt a double-materiality assessment approach whereby in addition to the requirement to identify and quantify sustainability-related risks and opportunities (outward-in), organisations will also now be required to disclose the social and environmental impacts associated with their activities (inward-out), including their supply chains.
“Operational resilience remains a focus as the use of third parties comes under continued regulatory scrutiny. Regulators are now expecting firms to fully understand their organisation’s processing activities, the related systems and the risks associated. The enhancement of consumer protection and consumer duty is also a key area for regulators, who are focused on how firms are balancing their own commercial interests with the outcomes for their customers, especially those with vulnerabilities.”
Andrew Hedley, a partner at RegTech firm Novatus Global, also underlined that ESG remains a ‘regulatory priority’, with both new and maturing green finance regulations such as the SFDR and SDR as well as global standards such as S2 and IFRS S1.
This, Hedley remarks, means that financial firms there will be an increased focus on their disclosures and the need to ensure that they have identified their material ESG risk exposures and that there is no greenwashing within their practices.
Digital is also an area of particular interest for Hedley. He explained, “For any firm with a digital presence, which is virtually every financial services firm, the Digital Operational Resilience Act will have an impact.
“It represents renewed focus from the European Regulators on ensuring the stability and security of the EU financial sector. It mandates financial institutions and their critical ICT service providers to enhance their preparedness for cyber threats and operational disruptions, embedding digital resilience across all operations. Firms must be compliant by 17 January 2025 – meaning with less than 18 months to achieve this, action needs to be taken now to prepare.”
Increased AI regulation
Another key area of regulatory focus in the financial industry is the growing space of artificial intelligence.
Allison Lagosh, director of compliance at Saifr, believes that the regulation of AI will be be an area of increased focus for H2 2023. She said, “As firms increase their use and dependence on AI, the regulator’s protection of the investor against the potential abuse of this new technology also increases.
“An example is the SEC’s recently proposed rules and amendments to address certain conflicts of interest associated with the use of predictive data analytics in investor interactions. Asset Managers and firms that use AI in this consumer facing capacity will have an opportunity to address their concerns and comment for impending regulation. More regulations will likely follow to address investor and compliance concerns with AI risks,” she concluded.
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