The Debate: managing collateral
20 May 2015 London
Image: Shutterstock
Photo, from left to right: Ted Leveroni of DTCC, Brian Collings of Torstone, Fabrice Tomenko of Clearstream, Clement Phelipeau of SGSS and Joern Tobias of State Street.
DTCC, Torstone, Clearstream, SGSS and State Street give their take on regulatory requirements around OTC derivatives and their opinion on the best collateral management systems.
Regulatory requirements around OTC derivatives, for example, are creating a bigger demand for cash and non-cash collateral, and for collateral management services. In your opinion, are the best collateral management systems built in-house or by third-party vendors, and why?
Ted Leveroni, executive director of strategy and buy-side relations, DTCC: The changes brought on by global derivatives regulations and new capital and liquidity requirements for financial institutions are driving technology development at a pace we have not seen before. As firms become more aware of these changes, including the increase in the demand for collateral and the exponential increase in collateral movements in general, a large number of market participants are realising that their in-house systems are unable to sufficiently keep up. The ability to leverage ideas generated from an external solution provider’s entire client base, not just a single firm’s internal pool of experts, has obvious benefits.
It is important to note that the collateral lifecycle spans multiple parties and counterparties. By leveraging a common global collateral infrastructure that is built on extensive cross-border industry engagement and able to service the needs of a broad range of market participants, firms are able to reduce the operational costs and risks associated with their collateral processes within their firms while, at the same time, complying with increased regulations governing derivatives and capital adequacy. Given that much of the collateral process is based on communication, data delivery and collateral movements between different entities, it makes good sense to leverage standards and adopt solutions as a community, rather than implementing firm-specific solutions.
Brian Collings, CEO, Torstone Technology: As a technology provider that was borne out of a management buy-out of a leading global investment bank, Torstone has experienced first-hand the advantages of building technology solutions in-house. At the time we built our collateral management module in-house, there was not much choice in the market for both cash and non-cash collateral systems and we wanted to replace a vendor system that was inflexible and costly to change.
Nowadays, however, there is more choice in the market, so for most financial institutions there is no competitive advantage to building in-house. The exception is where sophisticated collateral optimisation is required because the assets under management are extremely large. This is why many top-tier banks still look to build in-house. However, for most firms, having a firm-wide view of their collateral is sufficient.
Buying a vendor solution reduces the burden of regulatory compliance, and means firms can avoid having to make the multiple changes required to in-house collateral management systems as additional regulations come into effect. This constant cost of change is effectively spread across multiple clients when buying a vendor solution. Torstone's collateral management module incorporates multiple feeds to consolidate the transaction data and the business processes to generate the collateral calls, as well as in-built knowledge of the regulatory environment.
Clement Phelipeau, product manager, derivatives and collateral management services, Société Générale Securities Services: The buy and sell sides need to clearly view their collateral holdings and outgoing obligations, as well as the overall way the end-to-end process is managed.
There is no absolute best collateral management technology architecture; the fact that it will be the best-fit solution will depend on the firm’s legacy setup, activity and strategy.
Built in-house collateral management systems are very attractive, since they often have the most customised and cutting-edge technology, seamlessly integrated in the legacy setup and retaining both technology and operations expertise in-house. But this flexibility comes with a cost, which can be prohibitive for small firms (or a small budget dedicated to this function) because it implies developing, testing, and constantly updating a system (for regulatory reasons, but not only).
Third-party vendors’ systems could be a better option for firms with tighter budget constraints and because of the fact that it is a ‘plug and play’ solution. Buying a system to a third-party provider will relieve firms from most of the obligations related to the maintenance of the system, ensuring regulatory and market practices compliance. Firms may also benefit from enhancements requested by other clients of the vendor.
It must be kept in mind that buying a system should drain most of the technology expertise (related to the collateral management system) out of a firm while keeping the operations knowledge and will create a heavy reliance on a third-party system provider.”
Fabrice Tomenko, senior product manager, Clearstream: The use of securities, but also the general business needs of the firm in question, will require many to adopt more sophisticated collateral management tools and develop expertise to conduct eligibility and reference checks, cheapest to deliver algorithms and settlement processes for instance.
Investing in a collateral management system to manage these more sophisticated but essential functions is one option, but this limits the firm's ability to pick and choose additional functionalities it may need in future. Investing in in-house systems can also be expensive in terms of licence fees, time and necessary resources to implement and integrate the system with other internal procedures such as SWIFT messaging. These costs should not be underestimated, especially as they are added to the normal profit and loss costs.
In comparison, it may be more cost-effective for a market participant to select an outsourced solution to avoid the costs associated with licensing and maintaining the system. Outsourcing generally reduces operating costs over time but also allows a firm to reallocate their manpower to more value-added areas such as dispute resolution and risk management. Firms that opt to outsource collateral management to a service provider will have access to more sophisticated collateral management functionalities such as collateral optimisation algorithms and funding services.
As an international central securities Depository (ICSD), Clearstream is a safe service provider with a proven track record and decades of experience in both collateral management and risk management.
Joern Tobias, head of collateral services for the EMEA and global product management collateral services, State Street: To determine whether to buy or build, firms must first contemplate how the regulations will affect them. Collateral management is a key focus of regulators given the role it played in the crisis of 2008/2009 and a major worry in this space today is a possible collateral shortfall of eligible collateral.
The issue at hand is whether to buy versus build and deciding which option to take rests on several key factors. The first of these is the total cost of ownership for each approach, encompassing both the cost of development for building and license, support and maintenance costs. Also key are the staffing costs, the level of in-house expertise, and the willingness to keep the in-house system updated with new regulation. Finally, firms must take into account the uniqueness of the business model, bearing in mind that buying would put you in a queue with other clients for bespoke enhancements.
There is a third options: buy-side firms could outsource their collateral management operations to a service provider, which frees them up to focus on other areas such as trading strategies and risk management. Outsourcing gives not only the opportunity to leverage existing and scalable infrastructure, but also allows benefiting from the subject matter expertise of the provider. State Street, for its servicing business, decided to go down the route of building as a means to provide greatest flexibility to our clients.
DTCC, Torstone, Clearstream, SGSS and State Street give their take on regulatory requirements around OTC derivatives and their opinion on the best collateral management systems.
Regulatory requirements around OTC derivatives, for example, are creating a bigger demand for cash and non-cash collateral, and for collateral management services. In your opinion, are the best collateral management systems built in-house or by third-party vendors, and why?
Ted Leveroni, executive director of strategy and buy-side relations, DTCC: The changes brought on by global derivatives regulations and new capital and liquidity requirements for financial institutions are driving technology development at a pace we have not seen before. As firms become more aware of these changes, including the increase in the demand for collateral and the exponential increase in collateral movements in general, a large number of market participants are realising that their in-house systems are unable to sufficiently keep up. The ability to leverage ideas generated from an external solution provider’s entire client base, not just a single firm’s internal pool of experts, has obvious benefits.
It is important to note that the collateral lifecycle spans multiple parties and counterparties. By leveraging a common global collateral infrastructure that is built on extensive cross-border industry engagement and able to service the needs of a broad range of market participants, firms are able to reduce the operational costs and risks associated with their collateral processes within their firms while, at the same time, complying with increased regulations governing derivatives and capital adequacy. Given that much of the collateral process is based on communication, data delivery and collateral movements between different entities, it makes good sense to leverage standards and adopt solutions as a community, rather than implementing firm-specific solutions.
Brian Collings, CEO, Torstone Technology: As a technology provider that was borne out of a management buy-out of a leading global investment bank, Torstone has experienced first-hand the advantages of building technology solutions in-house. At the time we built our collateral management module in-house, there was not much choice in the market for both cash and non-cash collateral systems and we wanted to replace a vendor system that was inflexible and costly to change.
Nowadays, however, there is more choice in the market, so for most financial institutions there is no competitive advantage to building in-house. The exception is where sophisticated collateral optimisation is required because the assets under management are extremely large. This is why many top-tier banks still look to build in-house. However, for most firms, having a firm-wide view of their collateral is sufficient.
Buying a vendor solution reduces the burden of regulatory compliance, and means firms can avoid having to make the multiple changes required to in-house collateral management systems as additional regulations come into effect. This constant cost of change is effectively spread across multiple clients when buying a vendor solution. Torstone's collateral management module incorporates multiple feeds to consolidate the transaction data and the business processes to generate the collateral calls, as well as in-built knowledge of the regulatory environment.
Clement Phelipeau, product manager, derivatives and collateral management services, Société Générale Securities Services: The buy and sell sides need to clearly view their collateral holdings and outgoing obligations, as well as the overall way the end-to-end process is managed.
There is no absolute best collateral management technology architecture; the fact that it will be the best-fit solution will depend on the firm’s legacy setup, activity and strategy.
Built in-house collateral management systems are very attractive, since they often have the most customised and cutting-edge technology, seamlessly integrated in the legacy setup and retaining both technology and operations expertise in-house. But this flexibility comes with a cost, which can be prohibitive for small firms (or a small budget dedicated to this function) because it implies developing, testing, and constantly updating a system (for regulatory reasons, but not only).
Third-party vendors’ systems could be a better option for firms with tighter budget constraints and because of the fact that it is a ‘plug and play’ solution. Buying a system to a third-party provider will relieve firms from most of the obligations related to the maintenance of the system, ensuring regulatory and market practices compliance. Firms may also benefit from enhancements requested by other clients of the vendor.
It must be kept in mind that buying a system should drain most of the technology expertise (related to the collateral management system) out of a firm while keeping the operations knowledge and will create a heavy reliance on a third-party system provider.”
Fabrice Tomenko, senior product manager, Clearstream: The use of securities, but also the general business needs of the firm in question, will require many to adopt more sophisticated collateral management tools and develop expertise to conduct eligibility and reference checks, cheapest to deliver algorithms and settlement processes for instance.
Investing in a collateral management system to manage these more sophisticated but essential functions is one option, but this limits the firm's ability to pick and choose additional functionalities it may need in future. Investing in in-house systems can also be expensive in terms of licence fees, time and necessary resources to implement and integrate the system with other internal procedures such as SWIFT messaging. These costs should not be underestimated, especially as they are added to the normal profit and loss costs.
In comparison, it may be more cost-effective for a market participant to select an outsourced solution to avoid the costs associated with licensing and maintaining the system. Outsourcing generally reduces operating costs over time but also allows a firm to reallocate their manpower to more value-added areas such as dispute resolution and risk management. Firms that opt to outsource collateral management to a service provider will have access to more sophisticated collateral management functionalities such as collateral optimisation algorithms and funding services.
As an international central securities Depository (ICSD), Clearstream is a safe service provider with a proven track record and decades of experience in both collateral management and risk management.
Joern Tobias, head of collateral services for the EMEA and global product management collateral services, State Street: To determine whether to buy or build, firms must first contemplate how the regulations will affect them. Collateral management is a key focus of regulators given the role it played in the crisis of 2008/2009 and a major worry in this space today is a possible collateral shortfall of eligible collateral.
The issue at hand is whether to buy versus build and deciding which option to take rests on several key factors. The first of these is the total cost of ownership for each approach, encompassing both the cost of development for building and license, support and maintenance costs. Also key are the staffing costs, the level of in-house expertise, and the willingness to keep the in-house system updated with new regulation. Finally, firms must take into account the uniqueness of the business model, bearing in mind that buying would put you in a queue with other clients for bespoke enhancements.
There is a third options: buy-side firms could outsource their collateral management operations to a service provider, which frees them up to focus on other areas such as trading strategies and risk management. Outsourcing gives not only the opportunity to leverage existing and scalable infrastructure, but also allows benefiting from the subject matter expertise of the provider. State Street, for its servicing business, decided to go down the route of building as a means to provide greatest flexibility to our clients.
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