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Regulation in the capital markets: helping or hindering innovation in securities services?

Regulation in the capital markets: helping or hindering innovation in securities services?

5 December 2019 | 4 min read

In the second of a three-part series exploring the key takeaways from the securities stream at Sibos 2019, panellists recognise that regulation can inspire innovation.

Regulators have a difficult job. They must reconcile the accumulation of past regulation with a stream of technology-led innovations. “They’re trying to regulate using a series of backwards-looking tools to look into the future,” said Michael Bodson, CEO of the Depository Trust and Clearing Corporation (DTCC). While finding the right balance is not easy, it’s certainly essential.   

Striking the perfect balance

Javier Hernani Burzako, CEO at Bolsas y Mercados Espanoles (BME), thought European regulators had got the balance wrong. The re-licensing of central securities depositories (CSDs) under the Central Securities Depositories Regulation (CSDR) was a “tremendous burden in terms of bureaucracy” and the European Distribution of Debt Instruments (EDDI) “not at all needed.”

Bodson, on the other hand, thought the Securities and Exchange Commission (SEC) had got it right in its handling of the Initial Coin Offering (ICO) boom, by insisting issuers follow securities market rules: “I thought the SEC, rather than over-reacting, kind of came out and said, `Well, if it walks like a stock and quacks like a stock, it's a stock. Right?’”

Vic Arulchandran, COO of digital asset issuance platform Nivaura, thought regulators in France, Germany and the United Kingdom also got it right. “They're understanding how new business models run by existing incumbents or new technology companies could leverage that technology and how that would fit into their overall ecosystem,” he said.


Phil Brown, CEO of Clearstream Holding, went further, arguing that regulation is the “parent of innovation.” TARGET2-Securities (T2S), for example, had encouraged CSDs to develop new services. Likewise, CSDR had encouraged investment in artificial intelligence (AI) to sift data that can help firms predict which trades are likely to fail, reducing the costs of financial penalties or buy-ins.

The second version of the Markets in Financial Instruments Directive (MIFID II) had equally far-reaching effects. By mandating cost transparency, it encouraged fund distributors to switch from commissions to ad valorem fees, and fund managers to offer cheaper products. By unbundling research and execution, MiFID II also led to a concentration of business with fewer brokers.

“I think something similar is happening within our industry and so that will and does focus the mind in terms of what the overall strategy is and how we're going to meet our ongoing clients’ demands,” explained Ann Doherty, a managing director in securities services at J.P. Morgan.

Turning regulatory challenges into opportunities

Similarly, regulatory scrutiny of the risks of outsourcing had encouraged fund managers to seek easier ways of changing providers. “We'll look to make our model cleaner and simpler and provider-agnostic, so we can choose the best provider that gives us the best service at the best price for any service that we need,” explained Martin Cook, EMEA head of technology and operations at BlackRock. “We're not embedded with someone just because we're so connected to them for historical reasons.”

Changing providers easily requires standardisation, and regulatory challenges can breed the necessary spirit of collaboration. CSDR, for example, is encouraging European CSDs, custodians, brokers, asset managers and technology vendors to co-operate in managing the flows of information created by the risk of financial penalties and buy-ins.

Ryan Cuthbertson, head of product in securities services at Standard Chartered Bank, warned that unless the industry collaborated on crypto assets, divergence of regulatory regimes would become difficult to manage.

This issue is already evident in environmental, social and corporate governance standards (ESG). “Different countries have different types of restrictions in order to go in and market yourself as a sustainable or an ESG fund,” said Hilde Jensen, head of fundamental equities at Nordea. “Now these restrictions are very much, in my view, arbitrary.”

Michael Bodson said the solution lies in working with regulators and ultimately turning their guidance into an advantage.

 We spend a lot of time talking to the SEC, Fed and other regulators in the US as well as globally about what we see happening in DLT, what we see happening in AI and other new technologies, to take them along in the journey. You have to recognise that they will play a role.

Michael Bodson, CEO, Depository Trust and Clearing Corporation (DTCC)