As the world moves away from LIBOR,
there are meaningful changes coming to the financial industry. Here are the biggest data challenges you need to solve before the 2021 deadline.
This article was originally published on the Delphix website here June 09, 2020
For 40 years, the London Interbank Offered Rate (LIBOR) has been used as the key lending benchmark that indicates short-term borrowing costs between banks. Many in the financial world refer to it as the “world’s most important number” as there are nearly $400 trillion in financial contracts that reference LIBOR.
For the banking industry, this is a massive undertaking, and companies must prepare their data for this change well in advance of the phase out date of December 31, 2021. There will be costly changes coming to internal risk management models and IT systems.
Unlike other industries, financial firms operate in a very complex environment where they need to perform thousands of compliance checks as well as meet dozens or more regulatory requirements. Yet they have been slow to adopt digital strategies. A 2019 report from Accenture studied the largest retail and commercial banks worldwide and found that, while digital maturity means high market valuations and better return on capital for banks, only 12% are fully committed to digital transformation.
As COVID-19 begins to stretch out over many months and uncertainty continues to loom around the global markets, those in the banking industry will need to accelerate their digital transformation strategies to prepare for this much-anticipated transition and position themselves for future growth and opportunity. Here are two key questions financial leaders must ask as they prepare to make this transition:
Are You Using a Data Platform That Combines Data Compliance With On-Demand Data Delivery?
With data playing a central role in today’s core business applications, the move away from LIBOR reinforces a need for data agility that many financial institutions have already been working toward. To start, there’s increasing pressure to digitize and analyze LIBOR-based contracts currently active to assess whether renegotiation or amendments are necessary.
With this transition, there will be a tremendous need for rigorous software development and testing to make adjustments based on the way things like interest accrual, risk, value products, and transactions are calculated.
“One of the reasons why regulators are moving from a slow to a rolling boil is a recognition that there is not only a sheer volume problem but that affected contracts are dispersed widely across an organization,” Mark Chorazak, who served as lead regulatory counsel on some of the largest bank mergers in the wake of the financial crisis, tells American Banker. “There's a recognition that an organized transition is going to take a lot of time.”
Financial institutions need the ability to deliver data as rapidly as they can deploy and test code as too many businesses today base their initiatives on software pipelines that insufficiently address the data layer in the development lifecycle. Financial leaders should consider investing in a data platform that integrates compliance with fast data delivery to accelerate software projects that can reduce wait time and speed up application releases.
Do You Have the Right Data to Support Modeling and Analysis?
LIBOR has prompted a slow but steady move to a variety of new risk-free rates (RFR), including SOFR (the median of rates that market participants pay to borrow cash on an overnight basis, using the US Treasury as collateral).
This transition presents favorable circumstances for financial companies to gain competitive advantage, and AI and ML are going to be key to unlocking those opportunities. For example, if you are accustomed to using SOFR, but realize a certain product is better suited to SONIA (Sterling Overnight Interest Rate Average), you want to move quickly to manage opportunity and risk.
But in order to leverage AI training or do your own quantitative analysis, data teams need access to high-quality, secure data so they can stay nimble and effectively collaborate because AI is only as good as the data you feed it. With AI, organizations can also easily analyze and automate which of their thousands of contracts need to be transitioned away from LIBOR.
A Data Foundation That Will Last
While this transition is still more than a year away, it’s an opportunity for banks to innovate for the future. Moving toward new standards will secure the ability to respond to volatile markets, and in order to take full advantage, financial firms need a solid data foundation and strategy.
Even if the change is delayed slightly because of coronavirus, the move away from LIBOR is inevitable—as the real-time testing phase has already begun. Preparing systems for this shift with fast, secure data is critical for businesses to stay nimble and competitive in an industry threatened by a growing number of nimble fintech startups and further prove that every company is a data company.