March 19, 2019
Sophisticated risk metrics are no longer the sole preserve of top-tier banks. Thanks to an innovative new style of service model, organizations of all sizes can now support highly complex calculations without breaking the budget. With the right risk capabilities, resources and architecture, are you ready to compete on another level?
The Spread of Sophistication
For regulatory compliance and competitive advantage, it has never been more important to get risk right – by making the right calculations, at the right time, as cost-effectively as possible.
The adoption of new risk measures may be driven by regulation, such as the bilateral initial margin rules or requirements to report credit valuation adjustment (CVA) on P&L, or a desire to optimize pricing and profitability, as with valuation adjustments (XVAs) more broadly.
Either way, the banking industry is finding sophisticated risk calculations increasingly hard to resist.
Complex risk metrics are, of course, nothing new for the world’s biggest financial institutions, but their use is spreading through the tiers. Over the past decade, many tier two banks have increased the sophistication of their calculations in line with larger competitors – and now, the pressure is on the remaining tier two and tier three banks to do the same.
Take initial margin: With the final wave of margin reform regulation taking effect in 2020, all but the smallest financial institutions will soon need to join their peers in posting bilateral initial margin for non-cleared over-the-counter (OTC) derivatives. To avoid the punitive schedule-based approach to calculating margin, that will mean implementing the complex, risk-sensitive ISDA Standardized Initial Margin Methodology (SIMM).
Similarly, CVA is now demanded by accounting regulations globally to be reported as a P&L adjustment. Having a more accurate measure of CVA is being demanded by many auditors and should in most cases reduce the impairment. And while further XVA measures aren’t mandatory, failure to adopt them could mean consistently paying more for derivatives than more sophisticated competitor banks.
To handle these intricate quantitative calculations, and set margins or prices in the same sophisticated way as tier one institutions, you also need access to the right calculation systems and resources.
The question is: Can you afford them?
The Cost Conundrum
Costs remain a top concern for banks – and quantitative skills cost dearly. As a result, tier two and tier three banks may have either a small, extremely stretched team of quants or none at all, which makes it challenging to maintain the likes of XVA and ISDA SIMM calculations. Even larger banks are finding the costs of quants increasingly prohibitive.
But while the quantitative function can be one of the most expensive functions for a bank, the calculation of some of these quantitative metrics has been progressively commoditized. What was once the specialist domain of tier one organizations is now well understood and can be carried out on an industrial scale. Technology has changed the conversation – it’s no longer about who can perform the most complicated calculations, but who can perform sophisticated enough metrics most cost-effectively. Further, maintaining these calculations internally is expensive as it requires expensive quantitative resources who are difficult to hire and retain.
Simultaneously, banks are becoming more open to new ways of reducing costs, with outsourcing in particular providing increased opportunities for commoditization. Borrowing from other industries, banks are assessing whether previously bespoke functions which are not a great differentiator should be kept strictly in-house.
The Risk as a Service Solution
Through a Risk as a Service (RaaS) solution, a leading risk technology provider like FIS can industrialize quantitative calculations on a new level. By running non-differentiating calculation processes for many banks, we can achieve unprecedented economies of scale and perform complex calculations with optimal efficiency.
While making quantitative expertise affordable for a much broader market, the RaaS model brings a high degree of certainty to the delivery of complex calculations – trusted and used by many other FIS clients before.
With 20 years’ experience in the field, FIS’ Cross-asset Trading and Risk (CATR) group shares its expertise among banks not only of all sizes, but also around the world. Through a combination of onshore, offshore and nearshore resources, we provide highly effective, truly global outsourcing services for ISDA SIMM and XVA calculations, as well as data management for XVA measures. By taking the quantitative heavy lifting away and centralizing the support and management of these calculations, FIS can save you the staffing costs involved in maintaining large quantitative teams.
And critically, we also support a comprehensive range of newly commoditized calculations, from SIMM and CVA to SA-CCR to even KVA – delivering all the metrics you need to both minimize risk and optimize your entire portfolio.
The Ideal Architecture
As well as cutting costs, today’s banks are keen to streamline and better integrate their systems. With this operational priority in mind, FIS ensures that its RaaS solution can slot neatly into an organization’s target operating model – by making its offerings available as microservices.
Accessed through well-defined APIs, microservices both integrate easily with a wider componentized architecture and operate effectively as independent services. Such a service architecture allows the individual components to be independently upgraded, tested and swapped in without disrupting the wider architecture. So, basically, you can buy whatever RaaS solution you need from FIS and link it together with other services sitting on top of a bank-owned data layer or data warehouse.
Hosted as they are in the cloud, our microservices offer the elastic scalability that banks need to manage continual fluctuations in workload, without buying – or wasting – new infrastructure. Payment by subscription, rather than as a one-off capital investment, further increases the flexibility of the RaaS model – and gives you access to ongoing support, faster response to issues and continuous system upgrades.
Step Up Your Risk Calculations with the Right Partner
Risk measures may be more sophisticated than ever but, for banks in all tiers, the solution is now refreshingly simple.
From the running of servers up to the computation of results, the RaaS model can take care of all the commoditized, non-differentiating layers of the calculation process, presenting the results in a well-defined, cost-effective package for effective decision-making and steering the bank.
By outsourcing the quantitative heavy lifting to a technology partner, you will not only raise the sophistication of your risk calculations but also lower the costs and operational overhead. And that helps get risk right in every way possible.