IBM is one of the new big players in the regtech space, after it acquired compliance consulting firm Promontory Financial Group in November. Together, the companies are training IBM’s cognitive computing platform Watson to crunch complex legislation and help banks comply with regulatory requirements.
GTR caught up with Marc Andrews, vice-president at IBM’s Watson Financial Services Solutions, for a chat about the potential of new regulatory technologies and why the company decided to devote their attention to regulatory compliance.
GTR: What was the idea behind the acquisition of Promontory and entering the regtech space?
Andrews: When we first went to commercialise Watson, we started in the healthcare space. We worked closely with leading healthcare institutions and basically taught Watson to understand that domain.
We then looked to start expanding these capabilities to other domains. The industry that we felt could benefit the most was financial services. We looked at what areas technology, and more importantly, analytics and cognitive technology, had not been applied in any significant way. We looked for processes and activities that were highly manual intensive, required a lot of human intervention, and where the only way to address increasing requirements was to add people and increase costs. We also tried to identify the areas where organisations may be more open to collaborating towards a shared goal. That’s what drove our decision to focus on regulatory compliance: it’s an area where banks are under pressure to do more, yet it’s not competitively differentiating for them – they do it because they have to, not because it adds value to the bottom line.
GTR: What areas of regtech are you focusing on?
Andrews: We picked four areas. We have already delivered solutions for two of them, we will be delivering solutions for the other two within the next month or two.
The first area is around regulatory change management. Watson reads through the regulations and other regulatory content – commentary, guidance, speeches, legal cases – pre-processes those regulations and identifies the potential obligations of financial services firms. Promontory has been helping us train Watson on the identification and tagging of those obligations, and reviewing and validating the output of the interpretation.
The second area is around surveillance. We initially focused on trader surveillance and incorporating information from multiple places, including not just the trading activities but their electronic communications, email, chat and even voice. In addition, we found that a lot of these same capabilities can be applied to broader types of misconduct like sales malpractice and suitability of products.
The other two areas are around know your customer (KYC) and anti-money laundering (AML). We have been building a solution to streamline customer due diligence and remediation activities, to help banks and other financial institutions to meet their KYC requirements – from ID verification to sanctions, pep screening, adverse news media search, identification of beneficial owners and so on.
As we get into transaction monitoring for anti-money laundering we see that most organisations are struggling in that they generate a lot of false positives through their current transaction monitoring approaches. Most organisations end up filing an SAR (suspicious activity report) for only one to two percent of all the alerts that are generated. That means you have a 98% false positive rate. This is another area where we’ve been leveraging Promontory’s expertise combined with our cognitive capabilities and machine learning to dramatically reduce false positives.
GTR: You have been talking to a lot of banks after launching the product. How far are they when it comes to adopting regtech solutions?
Andrews: There is a lot of variability. We have been talking to everyone from the top tier global financial institutions to tier two and regional banks. At every tier, you see so much variability.
What we are seeing is that there are a couple of banks that are very forward-thinking, starting to apply some of these techniques and capabilities. But even those are more at the experimental pilot stage. There are a lot of banks that are in the thinking stage. And then, frankly, there are some banks that are somewhat far behind, still just trying to catch up and address the specific regulatory rules.
GTR: How can regtech benefit the banks?
Andrews: There are two main areas. The first is that banks are being asked to address increasing regulatory requirements, and they are struggling to effectively interpret and understand what their regulatory requirements are.
The second benefit is to reduce the cost of compliance. Today you have to make a decision of what your risk tolerance is and, based on that, the level of compliance you want to adhere to, which will drive a certain level of cost. If you want to reduce your risk, you need to increase your costs. We are shifting the risk/cost curve, and enabling banks to address increasing compliance requirements and reduce their risks without continuing to grow costs.
GTR: Can regtech help banks reduce compliance staff?
Andrews: It’s more about how the banks can more effectively utilise their staff. Most of these organisations are having to bring on and or contract additional resources to handle these extra loads.
One of the banks I’ve met with said that today, 50% of three compliance analysts’ time is spent just collecting and aggregating information. 25% is spent going through, analysing and making a decision. The rest is spent on documenting what they did, generating the evidence, filing it and completing the reports. These capabilities can dramatically impact both the first and third category, so they can spend more of their time and devote their resources to doing the more in-depth analyst analysis and decision-making.
GTR: Some believe that robots could take over majority of banks’ compliance work. But banks are still increasing their compliance spend and hiring more staff. Is there too much optimism about what these technologies can do?
Andrews: I don’t think it’s optimism about what the technology can do. It’s about understanding the reality and what is acceptable.
A lot of technology and regtech companies are just looking at the technical side. Frankly we started going down that path, but we realised that we needed the deep understanding of the regulatory processes and the regulatory compliance requirements.
As much as you can automate, ultimately, if there is a compliance issue, if they end up with some employee misconduct, if they end up letting through a bad guy, the regulators are not just going to say, “that’s fine, because you had a robot or machine make that decision”. Banks are ultimately going to be held accountable by the regulators and need to ensure they are providing the appropriate level of risk management.
GTR: What is the biggest barrier to adopting regtech solutions?
Andrews: The biggest barrier is banks that are under specific regulatory action and are just inundated with trying to address that particular action. It’s like the cartoon where two cavemen are trying to push a cart full of rocks with square wheels on it. When the guy behind them offers them a round wheel, they say, no thanks we’re too busy. It’s a great analogy. The barrier is just pressure.
GTR: Can regtech change the way regulators work?
Andrews: What’s interesting is that we initially started reaching out and working with the regulators, and part of the initial discussions were around trying to gain their support for applying these innovative technologies. However, as we shared those approaches with them, they started turning back, saying this is something that we could potentially leverage internally.
This goes through everything from enabling consumer protection, better analysis of complaints, better understanding of what suspicious activity they should follow up on, and improving their ability to monitor for insider trading and other activity.
GTR: Finally, can regtech revolutionise compliance?
Andrews: It definitely has the opportunity to drive a dramatic step change in how organisations are addressing regulatory compliance, and to transform regulatory compliance, both within financial services organisations and in the industry as a whole. There’s an opportunity to drive greater stability and security to the financial markets and help combat financial crimes in general.
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