The growth of RegTech

Automating regulatory compliance in the investment management industry

Read article and learn about:

  • The possible benefits of RegTech
  • How RegTech improves and automates regulatory compliance
  • The importance of collaboration between RegTech firms and institutional investors
  • How regulators should respond to technological advances

About the author:

John Dwyer, Senior Research Analyst, Capital Markets FinTech, Celent


John Dwyer joined Celent in 2015 to lead the FinTech initiative in London focusing on capital markets disruption. John is an active angel investor, a keynote speaker at Level 39, a mentor to growing companies, and is also ACA qualified.

About Celent

Celent is a research and advisory firm dedicated to helping financial institutions formulate comprehensive business and technology strategies. Celent publishes reports identifying trends and best practices in financial services technology and conducts consulting engagements for financial institutions looking to use technology to enhance existing business processes or launch new business strategies.

Since the global financial crisis, the level of regulatory scrutiny within finance has increased significantly as have the financial penalties for non-compliance. As a result, a growing number of companies are trying to find new solutions to automating regulatory compliance. In this Q&A article, John Dwyer, Senior Analyst at Celent, introduces the growth and impact of RegTech on the investment management industry.

Journal: To set the scene, can you tell us what exactly RegTech is?

John Dwyer: In essence, RegTech (Regulation + Technology) as a concept postulates that any disruption of the finance sector via FinTech will be accompanied by innovation of new financial regulation and ultimately lead to advances in automation. By harnessing technology to improve and optimize a financial institution’s ability to comply with its regulatory requirements and automate the regulatory compliance process as much as possible, RegTech has the potential to bring huge benefits and cost savings to the investment management industry.


Journal: …and how is it different from FinTech?

John Dwyer: In recent years, we have seen the emergence of FinTech, an ecosystem of companies seeking to disrupt the traditional finance sector or, at the very least, create opportunities for collaboration with incumbent financial institutions through their own innovation.

Whilst the precise pattern of innovation and disruption is still emerging, the combination of significant amounts of capital directed towards FinTech; the creation of new technologies such as blockchain; and new business models such as crowdfunding, are all trends coalescing at the same time. FinTech’s impact on traditional finance could be profound, however, one of the big differences between FinTech and disruption within other industries is that finance is heavily regulated – and this is where RegTech firms are seeking to satisfy a possible gap in the market.

Journal: What are some examples of RegTech in action?

John Dwyer: We are still in the early stages of disruption and innovation from FinTech, and the majority of firms have focused on B2C rather than B2B. This explains why media focus has been on new customer-centric solutions within payments or retail banking, as these are easiest to understand and, arguably, represent the low hanging fruit within FinTech. All of these are innovative in their own right, but are not necessarily addressing the severe regulatory issues that financial institutions face.

Journal: Why do you think this is the case?

John Dwyer: There are two parts to it. Firstly, those start-ups seeking to disrupt complex areas within, say, capital markets are likely to do so through a greater degree of collaboration with incumbent financial institutions than has been observed in the more B2C-focused areas of finance. The key drivers for this are that capital markets is a highly complex, regulated area, which is populated by well-capitalized players, and where scale and access to financial capital are key requirements for technology vendors seeking to disrupt.

Secondly, the incumbent financial institutions faced with what seems like ever-greater regulatory scrutiny require tailored solutions to their particular ‘pain points’. Therefore, collaboration by incumbent financial institutions with start-ups through crowd-sharing of their respective challenges is likely to be an observable and important trend.

By harnessing technology to improve and optimize a financial institution’s ability to comply with its regulatory requirements and automate the regulatory compliance process as much as possible, RegTech has the potential to bring huge benefits and cost savings to the investment management industry.

Journal: How are most RegTech firms managing this collaboration?

John Dwyer: I am associated with an accelerator right now at Level 39 at Canary Wharf called the 3D FinTech Challenge, which is seeking to harness this need for collaboration to address regulatory challenges. There are mutually beneficial reasons for both parties to collaborate: the start-ups tend to be very strong on technology, innovation, and experimentation but tend to lack the experience of working in key roles at large financial institutions to provide the insight of the regulatory, product, and operational challenges that the financial sector faces. Currently, we are in the early stages of RegTech but hopefully with accelerator programs such as the one I mention above, and with greater collaboration, we will see specific examples in the near future.

Journal: Why is RegTech relevant for the investment management industry?

John Dwyer: This is relevant for financial regulation because there are ever increasing quantities of data being produced by financial institutions that financial regulators also want access to. Much of this data is structured, but increasingly it also includes unstructured data. Currently, financial institutions have many different data systems internally and compiling data on a timely basis for regulators is already a challenge. As data volumes continue to grow exponentially, the regulatory challenge that goes with it will also increases.

Harnessing data in a reliable, timely, and efficient manner to demonstrate regulatory compliance will be a core part of RegTech and thus has direct relevance to financial regulation. At the same time there are other observable changes, for instance, new business models have emerged such as blockchain technology that have the potential to accelerate links between different parts of finance. There is a changing landscape of regulated institutions within finance as incumbents have pulled back from certain businesses and jurisdictions due to cost pressures, and firms from non-traditional sectors are entering finance as the line between finance and technology begins to blur.

We may begin to see the creation of ‘financial hybrids’ meaning companies that may sit outside the traditional definitions of broker-dealer, custodian, etc. Therefore, as much as finance is changing and evolving, the regulation of finance will also need to evolve to remain relevant to this new ecosystem of financial institutions.

Currently, we are in the early stages of RegTech but hopefully with accelerator programs … and with greater collaboration, we will see specific examples in the near future.

Journal: How will RegTech impact financial institutions, and are some companies already using it/showing interest?

John Dwyer: RegTech means that financial institutions will have a reliable means of delivering data and analytics to financial regulators in a more efficient manner. This should make compliance with financial regulation less cumbersome and more automated whilst also freeing up capital and resources to pursue top-line objectives such as growing assets and revenue.

Journal: Why is automation of regulatory compliance so vital?

John Dwyer: When we speak to our financial clients regarding regulation, many feel that deadlines are very strict and compliance requirements are often onerous – to the extent that their response tends to be tactical rather than strategic.

They are doing everything possible to meet the next deadline or regulatory requirement so that they don’t face regulatory censure. However, the lack of strategic cohesion around their response often increases the complexity of the IT architecture internally and thus brings more operational risk.

The right solution, in my mind, inevitably means leveraging technology to automate the regulatory process by incorporating regulatory requirements into technology protocols, thus eliminating human error, and automating the process as much as possible to reduce cost. Automation is a by-product of using technology but is also critical to managing our financial system which is increasingly connected via low latency processes, algorithms, peer-to-peer technology, and so on.

Journal: You say financial regulation is “voluminous, complex, and interconnected” – how can technology make sense of it?

John Dwyer: In very simple terms, gone are the days when a compliance officer pulls out his lever arch file of documents to determine the right compliance judgment. Technology can provide assistance in terms of managing the interconnectedness of rules to assist compliance. Human judgment and oversight will remain critical as it is important not to cede all responsibility to a set of computers. However, as finance becomes increasingly about data and analytics then we have to ask ourselves whether technology is being appropriately harnessed to deliver solutions. I can tell you that the level of fluency delivered by many internal operating systems at major financial institutions is astonishingly low. Getting the right technology in place can assist greatly, and most financial institutions acknowledge this.

Journal: What is dynamic regulation? And what is the future of financial regulation?

John Dwyer: The current approach to regulation is rules-based and thus tends to be inadequate because it aggregates historic data with little analytical overlay. There is also a time lag between a period end, the accumulation of the data by the institution, provision to the regulator, and their assessment of it. Hence, the process is long and backward-looking. If regulation is to remain efficient and effective then it needs to transition towards something far more dynamic which reflects the disruption that is happening within FinTech. This means it needs to become highly data acquisitive, use real-time information, incorporate algorithms, and analytics.

There should also be an in-built review process to continually assess whether the data and analytics being provided remain relevant to the regulatory oversight process. Thus, this acts as a self-correcting mechanism seeking to constantly update the regulatory process to remain relevant, hence dynamic regulation.

Journal: What does RegTech mean for regulators? How will they respond?

John Dwyer: So far we have spent most of the conversation talking about the financial institutions and the start-ups seeking to disrupt or innovate within finance regulation, but there is of course another constituency which is critical to all of this, the regulator. They will need to evolve also as they will need to become far more technology-savvy as the suite of technology they use for regulation will inevitably rise over time.

In order to respond to this challenge, regulators will need greater education around technology which may leverage academia in a way that Silicon Valley has shown works. It will also mean greater dialogue with the financial institutions that they are regulating in order to keep up with technology innovation. The future of financial regulation will benefit from all of this as it will incorporate real-time data, automation of data collection, compliance criteria built into protocols, standardization of data, and active two-way dialogue to assess adequacy of the regulatory process.