Why are regulators looking so closely at unofficial communication channels right now?
There is a clear regulatory need under Mifid, MAR and Dodd Frank to capture every single client communication that leads to a transaction or is intended to lead to a transaction. The definition is purposefully broad because they want to understand what was said to induce that client to trade and then potentially what was said afterwards. Essentially, determining whether there was any sort of commitments or promises made, etc. From an internal governance perspective, it’s also incredibly important because post-Libor and other market manipulation scandals, you’ve got a lot of internal conversations between salespeople, trader to trader, where – in layman’s terms, they’re basically saying – ‘I’ll do this for you, if you do that for me’. That needs to be captured because that’s not permitted and not allowed.
When we think about these third-party messaging apps, it’s the same reason as to why best execution now exists under regulations such as MAR: because for the fairness of markets and for all investors, you don’t want one marketplace and then a bunch of shadow marketplaces. The price you see on the official marketplace is not actually the price, because there’s this dark pool and a shadow execution platform. The same is true of communications. You want to make sure that you’re capturing everything that was said, not only for regulatory reasons but also for price discrepancy, allowing traders to have references to what was agreed beforehand.
So, there are three reasons. One is, it’s clearly a regulatory requirement because regulation is there to protect investors. Secondly, it enables fair, transparent markets and ensures that there’s no shadow platforms. Finally, its good practice to have good records.
How will this clampdown continue? Do you expect regulators to hand out more fines?
Absolutely. The US is very good at this, often taking a ‘spoiled child’ approach. There’s only so long that you can overlook bad behaviour until you have to take corrective parental action. US regulators were the first one to do so, and they ‘smack’ the hardest, in that parental analogy. They came in with heavy fines and other global regulators will follow suit. Going back to the spoilt child analogy, banks will also behave in reaction to this like spoiled children. Which is why they won’t go, ‘Hang on a minute I’ve been fined. Yes, I did something wrong and I’m going to change my behaviour’. What they will do is, begrudgingly pay the fine and then years later, actually do something about it. It’s not like the market gets fined and then the market immediately tries to do something about it or get technology providers to come in and help with the problem. There’s always a lag and a period of time where banks go through a bit of self-evaluation before they adopt technology to solve their problem.
Instead of banning unofficial communication channels, what would your solution be?
I hate the idea of prohibition. I like the idea of enablement and innovation. As a former trader, why wouldn’t I want to have access to as many channels as possible? Who knows if there’s a client that wants to use WeChat? It’s important to note that it’s not the banks that dictate this, it’s the clients that dictate. If I’m sat at Morgan Stanley and the only channel of communication available to me is my trading turret, Bloomberg, and potentially a video calling Polycom that has Webex on that nobody uses – those are my 3 channels. Now picture how much of the market I don’t have access to and bear in mind that trading is hyper-competitive. Imagine if one of my competitors at another bank has a mobile device, WhatsApp, WeChat, Telegram, Signal and is allowed to use Zoom and Teams – they have client access across a wide range of channels and I’ve only got client access across three. The trader with the most connections will have the deepest client relationships and they’re going to be open for business.
The idea of prohibiting and restricting is just so archaic in 2023, especially in a world in which we do everything on our mobile device. If you think about our consumer life, we download any app we want because you’ve got one friend that likes to talk on Snapchat, you’ve got another group that has a WhatsApp, you’ve got Telegram, etc. Why is our professional life not the same? It’s totally illogical and therefore the logical, rational way to look at this is to give traders and salespeople access to as many apps as they want. Ensuring, of course, that they’re compliant and those messaging apps are recorded. That has to be the version of the future that we subscribe to.
How can smaller firms safeguard themselves from these sorts of fines?
These sorts of fines are always proportionate, right? However, the irony is that the smaller firms are actually much better and much quicker at adopting the technology because they can actually get out their own way. They’re not wading through a treacle of systems. A lot of these larger banks have acquired lots of other banks over the years, and so their systems are all over the place, their data’s all over the place, and the decision making is glacial. Even if they wanted to, it would take probably months or years until they could. Whereas the smaller firms are a lot more nimble and quicker, with less bureaucracy and are much more digital forward. A lot of smaller firms have done a great job of getting ahead of this. It also creates another dynamic which is, those smaller firms are going to be more competitive than the big banks. For as long as the big banks don’t do the things that we’re talking about, which is enable communication, all that’s going to happen is they will make themselves less competitive.
How can banks adapt their risk policies to cater for the modern ways of doing business?
How can they adapt their risk policies? Just join the 21st century. It’s not difficult. Go down onto the trading floor and every decision in a bank is a risk return decision. What is the return relative to the risk, and am I prepared to take that risk? The simple risk – removing for one moment the regulatory compliance risk, which is obviously a big one – not enabling WhatsApp, Teams, Zoom, etc, is that you will become increasingly less competitive for every day that you don’t do that. Whilst you may not feel the return drag or pain today, you will tomorrow. There’s a sort of present value versus future value trade. If you don’t do this today, you’re really going to impact the bank’s returns tomorrow. I think that’s the way that they need to start looking at it.