By John Mayr
This September marks the fifth anniversary of the collapse of Lehman Brothers. Half a decade later the asset management industry is still adapting to the events of that autumn, which represented a turning point in the industry’s approach to risk management.
One of the issues the bankruptcy highlighted was the disparity between different firms’ capability to ascertain their counterparty exposure to the failed bank. Some took days or even weeks to complete this process, which amid severe market volatility and demands for information from panicked investors, was plainly insufficient.
As the financial crisis unfolded, this paucity of timely, accurate data about every part of an investment manager’s risk exposure has come to represent a more significant problem for a number of reasons. Despite its importance, accessing it quickly and easily is still not straightforward for many firms. This is because recording trading information and position keeping have historically been fragmented processes within investment managers, with front, middle and back offices often operating separate systems. To complicate matters further, some functions are handled by outsourced providers which generally feed in data in nonstandardised formats.
This process has usually been underpinned by what is today referred to as a Trading Book of Record (TBOR) and a separate Accounting Book of Record (ABOR). TBOR, as suggested by the name, holds information on front office trading activities, recorded as they happen and building on start of day positions uploaded from the ABOR each morning. Overnight, the ABOR takes the end of day TBOR and supplements it with further data from those other disparate systems – data on corporate actions, collateral movements, derivatives resets and so on.
So, throughout the day the TBOR and ABOR are out of sync: neither offers a full and comprehensive view of positions nor, consequently, risk exposure.
What is required is not a TBOR or ABOR, but an Investment Book of Record (IBOR). IBOR integrates multiple sources of data to provide an automated, timely, comprehensive overview. It incorporates both trading and non-trading information that nevertheless affects investment positions, combining the functions of both the TBOR and ABOR. It synchronises data from the front, middle and back office, including from outsourced providers (if they can provide it intra-day), to present a single version of the truth. As trading and other events evolve intra-day, the IBOR gives investment managers a significantly fuller picture of their positions and a much better understanding of risk.
The Lehman Brothers collapse marked a tipping point from which the IBOR became an essential tool for robust risk management – and not just for purposes of assessing counterparty exposure, but as a result of the wholesale shift in nearly every aspect of the investment environment. Ongoing market volatility, for example, means it’s imperative for investment managers to possess an up-to-the minute picture of their positions and forecasts to make well-informed decisions.
In addition, new financial market regulations, such as Dodd-Frank, MIFID, EMIR and Solvency II, demand increased reporting to both clients and relevant authorities. It is simply too resource intensive and time consuming to have to pull this information from several different sources with no guarantee of accuracy or completeness. Central counterparty clearing (CCP) for derivatives, for example, has introduced much more demanding requirements for collateral management, which alter asset managers’ cash and securities positions, current and forecasted, intra-day. An IBOR will reflect these.
In general terms, there is an overall shift in regulation towards implementing a full and timely overview of risk. Rather than attempting to comply with each individual piece of regulation with a separate solution, implementing an integrated approach to risk management will give investment managers greater oversight helping to pre-empt regulatory requirements in this area. The IBOR is the most efficient solution, not only to comply with this regulatory impetus, but for asset managers to meet the challenges of the “new normal.”
John Mayr is in marketing and partner development at SimCorp.
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