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FOR FINANCIAL SERVICE PROVIDERS, MANAGING VENDOR AND THIRD-PARTY RISKS IS CRITICAL

By Rich Cooper, Director of Global Accounts, Fusion Risk Management

 

Regulators Will Hold Firms Responsible; Good News is Technology Is Here to Help

 

Everyone knows there are inherent risks in markets. Investors know and accept the risk that their investments may lose value. For the financial services companies that facilitate and stand behind the trades of ordinary investors, there are risks largely unseen by the public that must be reckoned with on a constant basis.

 

Financial Service (FS) providers (banks, brokers, asset managers, etc.) must work with a variety of vendors and third parties to be competitive in attracting investors as well as keeping their clients’ business. They range from back-office and IT outsourcing vendors to third-party trade-clearing, settlement and money-transfer providers. The economic services provided by the finance industry encompass a broad range of businesses that manage money, including credit unionsbankscredit-card companies, insurance companies, accountancy companies, consumer-finance companies, stock brokeragesinvestment funds, individual managers and some government-sponsored enterprises. Many of these relationships are intricate and multi-layered with risks imbedded in every layer. A vendor or third party providing direct services to you as an FS provider may also have several relationships with others that could put your direct relationship at risk.

 

Just this month (December 2019), the Bank of England (the Bank), Prudential Regulation Authority (PRA) and Financial Conduct Authority (FCA) published proposed new expectations to strengthen operational resilience in the financial services sector. This is major next step in evaluating “operational resilience” in the Financial Sector (in the UK defined as UK banks, building societies and investment firms (banks); and the Society of Lloyd’s and its managing agents (insurers) collectively called “Firms” and  also Financial Market Infrastructure collectively called “FMI’s”). It likely will become policy in the UK in 2021, The European Union and Singapore by 2022 and possibly the U.S. soon as well.

 

The Federal Financial Institutions Examination Council (FFIEC) in the US came out with new guidance as well this month. The guidance notes: “Business Continuity Management (BCM) is the process for management to oversee and implement resilience, continuity, and response capabilities to safeguard employees, customers, and products and services. Disruptions such as cyber events, natural disasters, or man-made events can interrupt an entity’s operations and can have a broader impact on the financial sector. Resilience incorporates proactive measures to mitigate disruptive events and evaluate an entity’s recovery capabilities. An entity’s BCM program should align with its strategic goals and objectives. Management should consider an entity’s role within and impact on the overall financial services sector when it develops a BCM program.”

 

Two areas that present the most significant risk management and compliance challenges to FS providers are:

  1. Financial Market Infrastructures (FMI). These are critically important institutions responsible for providing clearing, settlement and recording of monetary and other financial transactions. A payment system is a set of instruments, procedures and rules for the transfer of funds between or among participants. An example is the SWIFT network for global banking and payments. In the US, the Federal Reserve Board supervises most market infrastructures.

 

  1. Outsourced Technology Services. FS providers that rely on third parties to provide operational services need those vendors to have sufficient resources and recovery capabilities in the event of a disruption. The FFIEC, which has a handbookfor business continuity management (BCM) planning, warns that: “Financial institutions should recognize that using such providers does not relieve the financial institution of its responsibility to ensure that outsourced activities are conducted in a safe and sound manner.”

 

The primary concern of regulators is the “systemic risk” that individual vendors and third parties present to the overall health of the financial/economic eco-system. Recall the snowball effects that the failures of several large broker-dealers and investment banks had in precipitating the great financial crisis of 2008. Regulators are also concerned that the FMIs, if not properly managed, can result in significant violations of consumer laws and regulations and expose an institution to supervisory enforcement action, as well as financial, legal and reputational risks.

 

This is the most important point to remember – as an FS provider, you OWN THE RISKS.

 

So, what can you do to mitigate your risks?  As best practice, you should:

  • Mark all of your vendor and third-party relationships from end-to-end. As an example, in payments and settlements, you vitally need to understand who your third parties are, where they are and what risks they may present. You need to plan on how you can mitigate those risks to the greatest extent possible.
  • Make sure everyone in your organization who is responsible for these risks is informed – including C-suites and boards. The FFIEC handbook emphasizes that “the responsibility for properly overseeing outsourced relationships lies with the financial institution’s board of directors and senior management.”
  • FS providers should do a deep dive into their current systems, their limitations and their liabilities. Many firms still have legacy systems with risks assessments built into spreadsheets or printed documents. State-of-the-art BCM systems allow for information inputs from across the organization with advanced technologies employed in risk assessments.
  • Some firms keep their databases in silos (i.e.: equity trading department; mutual fund department) where one silo can be unaware of the risks of the other, putting the entire firm in jeopardy. A holistic system that covers the enterprise and allows prompt reporting to the board level is not a luxury. It is a must for today’s FS providers.
  • Your system must be stress-tested constantly and vigilantly. Game-playing scenarios are helpful in identifying “what if’s?” as well as planning work-arounds for potential disruptions.
  • Identifying “acceptable risks” is important as well. A one-hour outage may not be desirable, but it may be acceptable and not have any regulatory ramifications for your firm. But a 72-hour outage would be vastly different, as access to cash reserves and insurance may be limited or non-existent and your legal liabilities could be piling up.

 

If you think this is complex, you are right. Operational disruptions to the products and services that firms and FMIs provide have the potential to cause harm to consumers and market participants, threaten the viability of firms and FMIs and cause instability in the financial system.  There are new regulations on the way to mitigate this risk to the economy and managing 3rd (and fourth) parties is a key area of discussion.

 

The infrastructure of financial institutions and FS providers is much like a tapestry whose resilience depends on the strength of the weave. But don’t be deterred by the complexity. The good news: there are technology-empowered platforms that can help you manage your vendor and third-party risks.

 

An effective outsourced business continuity management program will provide the framework to successfully manage your vendor and third-party risks now. It will employ up-to-date technology; will break down silos, and will identify, measure, monitor and mitigate the risks that otherwise may keep you up at night.

 

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GALA TECHNOLOGY SELECTS NUAPAY TO ENABLE OPEN BANKING PAYMENTS

Nuapay, powered by Sentenial, today announces it has been chosen by Gala Technology, a payment security solution specialist, to provide Open Banking payments to its partner network and direct merchants across multiple sectors including retail, hospitality, and financial services.

Gala Technology’s multi-award winning SOTpay ‘Pay-by-link’ solution simplifies PCI DSS requirements and protects merchants against the ever-growing risk of fraud by ensuring that the transactions are authenticated, shifting liability and often lowering acquiring processing costs. SOTpay’s integration with Nuapay’s Open Banking platform now enables them to process non-card payments.

Nuapay’s FCA-licenced Open Banking payments service enables Gala Technology’s partners and merchants to accept payments via any sales channel of choice, including telephone, web chat, SMS and social media. It can do this without requesting sensitive card data, which ensures SCA compliance and eliminates fraudulent chargebacks.

“The capabilities of Open Banking have become more apparent in 2020 as merchants have been forced to explore alternative contactless, mobile and ecom-friendly payment methods that can be accessed quickly and are lower in processing costs, due to a need to respond to change brought by Covid-19.” shares Nick Raper, Head of UK at Nuapay. “We’re thrilled to be working with Gala Technology, as we  have a shared drive to eradicate payment fraud. This partnership will help to increase widespread adoption of live bank transfer payments as SOTPay gives us an exceptional opportunity to demonstrate Open Banking payments’ usability and benefits to new audiences.”

Nuapay is one of the only PISPs which offers a fully inclusive open banking payment initiation, webhook notification and payment account solution; which quickens checkouts, speed-up access to cash flow, reduces processing costs, and enables full reconciliation and batch settlements of transactions. Gala Technology’s customers now have access to new payment innovation and will be able to perform refunds or make instant payouts.

 

Steven Jones, Commercial Director at Gala Technology, said: “We chose to work with Nuapay as their complete Account-2-Account payments capabilities and high customer service levels are unparalleled. Looking forward, Nuapay’s presence within the UK and Europe will greatly help us reach new clients and will extend our service offerings to existing clients too. Nuapay’s Open Banking payments solutions help us to provide a better service; in turn, the time, money and resources our customers save will enable them to focus on growing their businesses in a more profitable way.”

Nuapay’s PISP processor has a single connection to all major banks in the UK and a growing number of connections across Europe, ensuring that Gala Technology’s clients’ payments will be supported, no matter where their customers bank.

 

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THE EMBEDDED BENEFITS IN ESEF DIGITAL FINANCIAL REPORTING

The inclusion of a simple link delivers serious gains in transparency, trust and real time verifiability for the whole financial ecosystem. It’s another digital feather in the LEI’s hat, explains Stephan Wolf, CEO, Global LEI Foundation.

 

In a battle for significance, no other public facing business document can match the annual financial report. It is the document that a public corporation must, by law, publish to describe its operations and financial condition, and to chronicle its activities over the past twelve months. Shareholders, investors and the wider financial ecosystem make innumerable strategic and operational decisions based on its contents.

In today’s digital age, then, it is little surprise that the European Securities and Markets Authority (ESMA) has mandated that annual financial reports published from the start of 2020 follow a consistent digital configuration, known as the European Single Electronic Format (ESEF) and, in them, embed their Legal Entity Identifier (LEI).

Stephan Wolf

On first glance, the ESEF format appears to be designed to drive financial report production into a convenient paperless form factor. While this is both true and highly commendable, an ocean of additional potential is revealed by ESMA’s insistence that corporations embed their LEI. This mandate will heighten transparency, enhance trust, and provide instant and non-repudiable verification that the organisation filing the report is, indeed, who they claim to be. These far-reaching benefits are all enabled by the report linking to the filing entity’s verified LEI reference data held within the Global LEI Index.

The simple process of embedding an organization’s LEI  – or, indeed, that of its affiliates, subsidiaries and parent companies – within an ESEF financial report means that regulators, investors, traders and other financial stakeholders, can consolidate and verify information on the filing entity faster and more conveniently than ever before.

LEI reference data includes business card information on an entity, including name and registered address, together with relationship data which confirms if the entity owns, or is owned by, other entities. This increased transparency relative to an entity’s ownership structure means that relationship networks between LEIs can be quickly and automatically established, since the LEIs of the filing entity, its affiliates, subsidiaries and parent companies are all provided in the new machine-readable ESEF format. Usefully, because the reference data is reverified annually by GLEIF accredited LEI issuers, it is always accurate and up-to-date. The net result is a substantially more useful document for end users, which is also verifiably trustworthy, authentic and integral.

ESMA has published the Global LEI Foundation’s 2019 annual report on its website to provide a best practice example of a report published in the ESEF format, which other preparers can reference. The report is published in human and machine-readable Inline XBRL and HTML formats, with LEIs embedded within both the annual report and the digital certificates of the report’s signing executive officers. The combination of these two features provides something completely unprecedented: instantly available, digitally verifiable credentials that confirm both the authenticity of document and the key individuals responsible for its content.1

Beyond the single report, the LEI embedding process creates broader opportunities for the financial ecosystem. Aggregating information on companies from multiple sources is dramatically simplified, making the job of comparing standardized financial information both faster and easier. This can be accomplished either manually, by ‘clicking through’ to view the LEI reference data, or via an automated process, saving yet more time and eliminating the risk of human error. In time, this level of facility will lead to the automated creation of online databases that use the linked LEIs to collate key data assets, to the benefit of, frankly, any person or organization that has interest, globally.

The mandatory embedding of LEIs in financial reports is just one demonstration of this technology’s transformative potential. In broader terms, not only is the LEI shoring up the digital financial ecosystem, it is helping to stabilize the evolution of the world’s digital economy. It is no exaggeration to say that the LEI, together with the Global LEI System, solves the problem of trust for legal entities worldwide. It is the only open, commercially neutral, standardized and regulatory endorsed system capable of establishing digitized trust between all legal entitles, everywhere. It was conceived and designed as a public good, and can be deployed without charge in a wide – and growing – variety of digital use-cases. Put simply, the more it is utilized, the more good it will do.

 

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