Assessing the Risk in the Corporate Actions Process
Corporate actions processing remains an expensive, risky and inefficient back office operation. And while many firms already know this and industry bodies have attempted to gain consensus on a way forward, the pace of change has, at times, been glacial.
Firms have seen ever increasing operational costs and risk where volume sensitive and rigid processes have been asked to cope with growing event volumes. This growth has been driven in part by an increasing number of private individuals making investments, primarily through new internet services.
So when asked to write about assessing the risk in the corporate actions processes there are two real villains of the piece – the continued widespread use of manual processes and the ongoing lack of clearly defined standards. Transferring the paper-laden corporate actions cycle to an STP-driven, standardised set of processes has been the operational nirvana for many years. So much so that in writing this piece I have a strong sense of déjà vu, again.
With risks including misinterpreting events, late announcements, missed instructions and missing data, there is the possibility of significant losses at a time when cost and risk are under even greater scrutiny.
The high level of manual intervention in corporate actions continues to be an issue. For example, with elections on corporate actions, many markets are still required to fill out paper certificates which go with the electronic election instruction, creating unnecessary risk through the need for manual intervention. Further, many of the tax aspects, withholding tax in particular, are entirely manual processes as local tax authorities cannot yet process certification electronically.
Searching for a standard
So how can firms overcome these issues? Unfortunately many of the underlying problems that create risk within event processing lie outside the walls of many institutions. Nowhere is that more pertinent than corporate actions processing.
As has always been the case any standard needs to be applied across various messaging models in order to attain anything close to an STP process in order to reduce risk.
The Securities Market Practice Group (SMPG) has done some great work during the past year on message standards – taking the lead in demonstrating the dramatic improvements that can come from adopting message standards in Corporate Actions processing.
However, there is still a lack of overall co-operation that is holding back further processing efficiency improvements. There is widespread use of non-SWIFT messaging so while major participants may have high levels of message standardisation, there will always be manual breaks or the re-keying of data required where counterparties are still paper based, or utilise proprietary links.
The biggest single challenge is the quality and consistency of corporate action event data. Custodian and data vendor adoption of ISO15022 is proceeding, albeit slowly, but until event data is provided from source in a consistent fashion, and delivered to the market likewise, firms will struggle to realise the full benefit of automation.
The SMPG and ISITC release of the Equivalency Matrix to support harmonisation of Option Type associated with different event types has definitely helped to move automation forward. The publication of Option Types is a central element of ISO15022 messaging and in the past has been a barrier to automation. With a better understanding of expected Option Types for each event type is providing greater standardisation when generating notifications and helping to reduce risk.
With the introduction of the ISO15022 standard, firms can now benchmark their use of standards against each other. The work done by SWIFT's Market Data Provider User Group (MDPUG) to promote data vendor usage of 15022 is also a big step forward in this regard. However take up of ISO15022 hasn’t been as wide as is needed to fully take advantage of the standard.
We also have ISO20022 on the horizon. The work around Proxy voting and shareholder meetings is a step forward but so far the market reaction suggests it lacks a compelling reason to move from the previous standard.
Where to find the budget in today’s market
With new regulations that must be adhered too, corporate actions is often viewed as a huge challenge offering less strategic benefits than processing new instruments, or changes being forced on firms due to regulatory compliance. Consequently automation projects have been put on the backburner in favour of other projects driven by a mandated ‘go live’ date.
As a result, corporate actions automation has tended to be reactive – it’s only when something has gone seriously wrong, causing an operational loss or customer service issue that a project has been given priority.
Clearly in a time of closely managed budgets any project of this type where there’s a significant investment of time and money requires justification and the need to see a return on investment. Further, institutions must change both the systems they use and the processes around them.
Simply buying an off-the-shelf solution won’t deliver the panacea they require – it will help reduce cost and risk but the full benefits of automation won’t be realised unless the technology is used correctly.
When using the right technology to manage the right elements, it removes labour intensive operations and enables processes to be analysed, risks identified and new processes and safeguards put in place. As a result, corporate actions processing moves from an operationally intensive activity, to the management of workflow. All activities and process flows become managed and measured to mitigate risk.
To overcome reticence around budgets, firms need not take a ‘big bang’ approach to automation projects. The requirement is often to provide automation for voluntary or decision event types. It is quite possible and practical to implement a new solution to support voluntary event types and at a later date migrate income processing to the new solution.
Alternatively some firms wish to implement components of the total process for all events, for example to process ISO15022 messages for both mandatory and voluntary events. Or a data cleansing solution can be implemented to improve event data quality and subsequently provide an information service to downstream systems for all event types.
However, there is a much bigger cost and risk implication by simply not doing anything. Firms already face a large operational overhead associated with manual processes and as volumes continue to increase so does the operational risk.
When processing bottlenecks have occurred one option was to simply throw more people at it. Long-term that is unsustainable and in light of the current budgetary pressures, it is no longer an option, making the need to automate wherever possible paramount.
Automate where possible to reduce risk
With firms having more than enough on their plate, perhaps the answer lies in the creation and adoption of utilities as muted by a number of banks, the ECB and others to reduce risk. The support of disparate reference data solutions represents a high cost and high risk for data integrity. All processing solutions, including corporate actions require access to reference data in order to support event processing and data validation.
But within such a complex and disparate processing area there will always be the events that you cannot automate. For example, anything requiring an election or other form of decision instantly drops you out of the STP process. In order to reduce risk today, the key is in identifying where the current manual processes can be automated and focusing on those elements.
Longer term, the continued drive towards standards than can facilitate automation will be the most effective way to mitigate the risks in corporate actions processing. However it’s clear we’re still a long way from any sort of agreed industry standard.
With the financial crisis putting a halt to the usual approach of throwing people at a problem, firms are taking a more strategic view, not of just the next month, quarter or year but the next five years. There also seems to be a more collaborative attitude emerging, as seen with the SWIFT and DTCC announcement that can help push automation forward. In