A new age of regulatory scrutiny

ComplianceFunds Europe talks to Confluence about the regulatory burden facing Europe’s funds and administrators amid new rules for money market funds. Confluence is a global leader in investment data management automation for regulatory, financial and investor reporting.

It may be over a decade since the global financial crisis, but its effects are still being felt within Europe’s fund industry as regulators work to ensure markets are robust and ready to face any future shocks.

This fallout has taken the form of continuously growing and changing compliance requirements, requiring an extraordinary level of attention and commitment from fund administrators to meet them fully and efficiently. This is complicated in Europe where there are numerous regulatory agencies, each with its own jurisdictional needs.

Seeking greater transparency for problematic instruments like derivatives and private funds has formed the general approach taken by global regulators. In Europe this has been addressed via the Alternative Investment Fund Managers Directive (AIFMD) and, more recently, through Markets in Financial Instruments Directive (MiFID) II, both of which have created significant work for fund administrators in relation to how data is captured, stored and reported.

The two directives have stabilised somewhat and many market participants now have a good understanding of what the regulators require, but according to Confluence senior product manager, Jason Neiss, firms are still working towards a more efficient compliance process. “The sheer volume of regulatory requirements has forced organisations to say, ‘we can’t keep doing what we used to do’,” he tells Funds Europe.

“In the past, new regulations came out relatively infrequently, so firms would develop specific macros and other rudimentary tools to deal with the new requirements. Now firms have realised it is all about data and the need to produce an output faster and more efficiently. This is where Confluence’s platform comes in — it has been designed and built to keep up with regulatory change. We maintain our tools to ensure that data is reliably transformed into the form and structure required by the various regulators and in a virtually straight-through manner,” says Confluence vice president of global market strategy, Gary Casagrande.

“Instead of producing point-to-point solutions as new regulations are introduced, we have built our Unity NXT® Regulatory Reporting platform to ensure a range of solutions are available on one platform, and for various regulatory requirements to be met through one business process,” he adds.

The European Securities and Markets Authority’s (ESMA) Money Market Funds Regulation (MMFR) directive is a new regulatory requirement which aims to create a unified reporting framework for these funds across the European Union (EU). Its implementation also brings the EU closer to the US requirements, where MMFs are already under a holding-level reporting regime in SEC Form N-MFP.

MMFs are generally considered to be one of the safest investment vehicles with good levels of liquidity and low levels of risk. However, during the financial crisis even these instruments came under pressure due to the high volume of redemption requests. Following this, ESMA wanted to increase transparency, which it hopes will eliminate a similar scenario in the event of additional market stress.

“While ESMA having access to this data would not necessarily have prevented a financial crisis, at the very least it would have given regulators greater visibility over the various holdings of market participants and the ability to better identify the areas under the greatest stress,” says Casagrande.

“I believe the three main objectives with ESMA’s MMFR directive are to - use the data to better inform its policy formation; use the data in its totality to anticipate a future financial crisis and where there may be correlations between different asset classes; and finally to use the data to identify the most problematic asset classes,” added Casagrande.

For fund administrators and their clients, the directive is anticipated to present a considerable data challenge, especially for those asset managers and funds that have not previously fallen under the regulators’ requirements.

“Some firms have never had to classify these asset types before, let alone report the holdings, so they have to be organised,” says Neiss. “Firms also need to be ready in time to meet the reporting deadline in Q1 2020, so it really should be on their radar.”

It is ultimately about designing a process, says Neiss. “Firms have to identify the source of the data and the ways to extract, validate and integrate that data before they can produce the output that regulators require.”

Firms should also look at their existing regulatory reporting processes and see what can be replicated rather than starting from scratch, according to Neiss. “Ideally, firms should be in a position whereby preparing for one regulation and automating that process forms the main bulk of work for subsequent regulations, which was the vision behind our building Unity NXT Regulatory Reporting,” Neiss said.

Neiss says that ESMA has acted based on industry feedback and has tried to harmonise the MMFR requirements with the existing AIFMD Annex IV reporting requirements. “While not exact matches, the two regimes are similar enough that firms can really benefit from automation especially when working with a technology vendor like Confluence,” Neiss adds.

Despite this, some firms are still using macros, spreadsheets and other inefficient and error-prone manual processes. Neiss says it is a mistake to believe that you can switch immediately to automated technology without first addressing the management of the underlying data. “You can’t automate a brittle process and expect a robust solution. If you automate, it is more cost-effective, but you should also consider your internal tools alongside vendor solutions like ours while developing a data strategy.”

Finding a way to use all the data involved in the regulatory reporting process to address other business needs is another objective for firms investigating how to improve their compliance strategies. Neiss says there are some “encouraging trends” that indicate European asset managers and servicers are now looking to use their own regulatory data for front-office purposes and to better inform investment decisions.

Against the backdrop of an ever-changing compliance environment, Neiss says it’s extremely important that firms work with their vendors to get the data right first; this will help prepare for anticipated – and unanticipated – regulations as they come online. While it has been more than ten years since the global financial crisis, regulatory change remains the order of the day.

As such, whether firms’ next reporting challenges are stress testing for MMFs, revisions to AIFMD, or other global regulatory obligations in Asia or Australia, the need for quality data, systems and processes is only increasing. Sourcing and identifying data are key to quickly and accurately complying with constantly evolving and complex regimes that are designed to keep the global financial system protected.

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