The Financial Services Club's Blog

The Long Now of Finance, Part Three

In the last of three reports on the Long Now of Finance (Part One and  Part Two), the last part of the day focused upon new ways of banking and supporting 10,000 year thinking, with Bernard Lietaer opening the session with a dialogue around using demurrage to encourage this.

Demurrage is a hard thing to grapple with, as it gets into discussions about fiat currencies and usury which are far beyond the ken of a mere blog on banking ... or it is today anyway. If you want to know the ins and outs of all that stuff then go checkout a book like: “The Creature from Jekyll Island : A Second Look at the Federal Reserve” (ooh, that’s fun!), but the gist of the conversation goes something like this.

You plant a tree as an investment in the future.

When is it best to chop down the tree, and what is the tree’s value in a hundred years (remember the story about New College, Oxford from yesterday)?

Let’s say that you have $100 today, and you can invest that $100 in planting a tree which, in one hundred years, will retail at $1,000 based upon today’s pricing. So you now think the tree is worth that to you in a hundred years.

No.

In a hundred years, using interest based analysis of net present value and assuming you get a positive interest rate of 5% per year, then the tree is worth about $7.60 in a hundred years, based upon the deferred costs of your investment.

In other words, you are losing 5% per year by having your money tied up in an illiquid asset because you could have been earning 5% interest on that cash by putting it into other more liquid assets with faster, shorter-term returns.

This means you are punished for investing in long-term assets and incentivised to invest in short-term earning vehicles.

It is the nature of usury, interest and today’s financial market offerings.

But it doesn’t have to be.

According to Bernard, if you use demurrage, you can turn this on its head.

What is demurrage?

Normally, it is talking about a fee related to shipping costs but, in this context, it is the carrying cost of money. Here’s one definitive view from answers.com:

Demurrage is a cost associated with owning or holding currency over a given period of time. It is sometimes referred to as a carrying cost of money. For commodity money such as gold, demurrage is in practice nothing more than the cost of storing and securing the gold.

Now it’s not a well known field or term, but it is focused upon making it worthless to keep your cash in short-term things and incentivises to invest in long-term things by exchanging your cash for something else of value, such as a basket of commodities.

So here’s Bernard’s idea.

You take your money and swap it for a Terra.

Terra is a complementary currency designed for long-term investing, and 100 Terra = 1 barrel of oil + 10 bushels of wheat + 20 kg of copper + 1/10 oz of gold + 1000 carbon emission units and so on.

The fact is that here, you are investing in commodities that have lifelong values, so you lose nothing but gain.

This is why, when we see a ‘flight to safety’, it’s always oil, gold and commodities that fly through the roof in value. Meanwhile, the storage cost of your basket of commodities is passed to the issuer of the Terra currency who pay a demurrage fee.

The result is that you have a currency exchange that is: inflation proof by definition; automatically convertible without new international treaty; and provides a pure medium of exchange and planning currency, rather than a store of value.

Returning to our tree example therefore, the 100-year old tree is now worth $168,903.82 in a hundred years time, rather than $7.60, based upon the payment of a demurrage fee of 5% per annum.

In other words, it works the opposite way to the usury based system and encourages long-term investing.

It is also complementary to the commercial world of investing, and Bernard totally believes in this proposition. I’ve known Bernard for over a decade, and he knows his stuff. After all, he’s worked and invested alongside George Soros and was formerly a Belgium Central Banker who came up with the idea of the euro, or the ECU as it was back then. He knows his stuff.

But ...

... after a decade, his idea still has not got all the buy-in it should have.

This is because people’s behaviours won’t change unless they have to, and because the thing he’s talking about above is darned complex.

That’s why fund manager Edward Bonham Carter said: “if you ask people to think about the world in thirty years, they won’t because it’s not in our nature to do that.”

Professor Sir Roderick Floud cast doubt on Bernard’s contentions too, stating that we over-estimate the extent of market volatility and underestimate the benefits.

The debate raged on, and will do so a long time into the future. The Long Now of the Financial Future that is.

The learning for me is that there is a way to evolve and morph capitalism for the future to protect us from the crashes of the past and to invest in a sustainable, long-term protection for the planet. However, it’s just so complex and difficult that most politicians, regulators, bankers and investors don’t understand it, won’t invest in it, can’t see that far ahead anyway and need a good kicking if anyone wants them to focus upon it, e.g. force them to do it.

I guess that’s why Edward Bonham Carter’s comment that: “there are a lot of clever people out there. The challenge is to get them working on the problems before the dumb people get there”, got the biggest laugh of the session.

For more on Bernard’s projects and thinking, go to www.terratrc.com and www.lietaer.com.

For more on the Long Now, go to www.longnow.org.

For more on Long Finance, go to www.longfinance.net.

There are also a number of excellent white papers available for free download here including: “The Road to Long Finance: A Systems View of the Credit Scrunch”:

In their discussion paper, Michael Mainelli and Bob Giffords have laid out a provocative analysis of the global financial crisis in an attempt to widen the debate. The authors have worked hard to raise some new arguments, dismiss some old ones and change the priorities for others. They point out the dangers of an over-zealous regulatory reaction and of trampling over competition in the name of emergency measures, and they argue that a healthy system must be more diverse. Their key point is the importance of competition in open markets to prevent "too big to fail is too big to regulate", and they encourage more radical investigation of Long Finance.

Tree pictures sourced from funtimeshad.com and dmu.ac.uk

 

The Long Now of Finance, Part Two

Following on from yesterday’s blog about 10,000 year thinking, how does this relate to or work in finance?

The idea is to fund long-term projects.

The sort of massive projects that no-one knows how to fund.

The sort of project that governments shy away from as politicians only have four-year lives and thinking past the next term in office is hard for them.

The sort of thing like building a Pyramid or a Cathedral, something that is long lasting and changes humanity forever.

Who today would think about building such a thing?

Back in the heady Egyptian and religious fervour days of old, building a huge monolithic testimonial for prayer and worship was the thing to do. But then, back then, you were rewarded with something other than finances.

Today, no-one would build such things.

However, there are other things we could, and probably should build, such as flood protection barriers, and the Long Now guys used the example of two countries to illustrate this. One that thinks and funds Long and the other Short.

The Long thinking is in the Netherlands.

The Dutch Government spent €450 million building the Maeslant barrier to protect the reclaimed land across the Coast of the Netherlands.

Rather relying on a boy to stick his finger in the dyke, the Dutch government decided they would fund such a project because, if catastrophe ever struck and the land was flooded, it would pretty much wipe out the most important parts of Holland.

So if you’re Dutch, a €450 million spend on an event that may never happen makes sense ... because if it did, the cost could be, let’s say, €60 billion.

What could cost €60 billion?

The devastation and disaster caused by a major flood of the Dutch coast.

And this is also the cost of the sinking of the major American coastal city, New Orleans, in 2005.

Hurricane Katrina cost the USA over $80 billion.

That’s €60 billion. If the USA had thought long, they would have spent the $1 billion it would have cost to build the flood defences for the southern coastline, and saved themselves $79 billion.

That’s the thing about Long Finance, it thinks long-term.

It recognises that the investment of millions today will save billions tomorrow.

For each euro or dollar spent today, it recognises it will save 100 times that amount tomorrow.

So long-term finance thinks long and invests long to save when the short now happens.

Stewart Brand, author of the Whole Earth Discipline, then expanded on this commentary further by quoting from the classic book by Robert Heinlein: Time for the Stars.

In the book, released in 1956, Heinlein recounts the work of the Long Range Foundation (LRF), a foundation that thinks the way outlined above:

“The charter goes on with a lot of lawyers' fog but the way the directors have interpreted it has been to spend money only on things that no government and no other corporation would touch . . . To make the LRF directors light up with enthusiasm you had to suggest something that cost a billion or more and probably wouldn't show results for ten generations, if ever . . .”

The key to the LRF is that they only invest in things so expensive and so far out that it wouldn’t be investable for a government. However, by adopting this strategy, they have become the most profitable company in the universe, making shedloads of cash thanks to those investments paying off when the inevitable disasters, catastrophes or just plain bets pay off.

Oh yes, there are long bets too. For example:

“Over a ten-year period commencing on January 1, 2008, and ending on December 31, 2017, the S & P 500 will outperform a portfolio of funds of hedge funds, when performance is measured on a basis net of fees, costs and expenses.”  Predictor: Warren Buffett

But that’s an aside.

The bottom line is that Long Finance and Long Banking looks at uninvestable projects, the big ticket items, and takes them on board precisely because they are good for the long-term health and protection of mankind. That’s the nature of the Long Now.

Brian Eno likened it to the story of New College Oxford which, being British, was actually established in 1379 and isn’t new at all.

The College’s Great Hall has this fantastic arched ceiling with oak beams across.

After five hundred years, the beams inevitably were rotting and decaying so badly they needed to be replaced.

So the Dean of the College asked the groundsmen if they knew of anywhere to source some similar beams?

“Oh yes”, the head groundsman said. “Five hundred years ago, when they built the college”, he told the Dean, “the founders planted a forest of oaks of the same wood as the one’s used in the ceiling just over there.”

In other words, they had had the foresight to realise that, at a point in the Long Future, the ceiling beams would need replacing so they planted trees for just such an occasion in the Long Now.

That’s thinking Long, and this is what Long Finance is focusing upon.

I realise all of this sounds a bit tree-hugging or academic, but it's also critically important for those who care about an agenda that focuses upon more the just the right here, right now.

And, just in case you're wondering, yes, the College used the oak trees for their new ceiling and have since planted another small copse of oaks for the next time it may be needed.

A final thought on this tomorrow but, for now, think the Long Now.

The Long Now of Finance

So I finally got to attend a free lunch!

This was the launch of the largest event focused upon using long-term thinking in finance that I’ve ever seen, and sponsored by many organisations including the Financial Services Club.

Around 400 folks gathered to hear the wise words of legendary thinkers and speakers, including my good friends Professor Michael Mainelli of Z/Yen Group and Bernard Lietaer, along with luminaries Brian Eno (yes, he from daze of old Roxy Music), Alexander Rose, Stewart Brand, Professor Sir Roderick Floud and fund manager Edward Bonham Carter.

This was all ably chaired by Faisal Islam from Channel 4 News.

The gathering will be a source of material for quite a while but, to begin with, it’s worth discussing the opening session, a panel discussing: "The Long Now - Long-Term Thinking and Responsibility In The Framework Of The Next 10,000 Years".

What the hell is it all that about, you may ask. 10,000 years? Who the hell cares about 10,000 years?

Well, a lot of folks do and the Long Now is all about thinking for the long-term.

Brian Eno kicked off the session by talking about how the idea came to him, as he is the man everyone pointed to as the creater of the phrase: “the Long Now”.

He said the idea came to him when walking around New York and seeing everyone rushing about, real fast.

New York – like many capital cities of today – is all about fast.

Fast this, fast that.

And everyone is passing through, as they don’t see New York as their home but as their place of work. So they have very short-term thinking or, as Brian referred to it, they think like a "Short Man".

Ask the Short Man what he’s doing, and he’ll tell you his plan for today or this week. That’s as far as the Short Man thinks. There is no life plan, or after life plan. Just the Short Now.

The issue however, as anyone thinking about what planet we will be leaving to our children and grand children and great grandchildren, is that short-term thinking is killing the planet. So how do we think long term: the Long Now?

It’s challenging.

10,000 years from now is 12010 AD (which is why all the material of the Long Now refers to Now years with a 0 precursor; for example, this year is 02010).

10,000 years ago was 7990 BC.

There was no civilisation as such then. We had just converted from cavemen to men in caves and beaches and nomadics. Then, around 5000 BC, we became civilised (which is debatable).

10,000 years is hard to imagine or to see as relevant.

So what did the Long Now guys do to make it seem more relevant?

After all, the aim is to get us to think about what we will be leaving on this planet for the long-term, not just today.

The Long Now guys decided to build a clock that would last for 10,000 years.

A 10,000 year clock!

This would be a physical manifestation of the Long Now to inspire long-term thinking about what we leave on this planet.

The Clock was inspired by Danny Hillis, who had just created the world’s fastest computer back in the early 1990s, and it is a physical manifestation of the longness of time.

A clock that will last for 10,000 years.

The first question is how can you build a clock that will last that long?

And Danny responded by creating five guiding principles:

1. Longevity: with occasional maintenance, the clock should reasonably be expected to display the correct time for the next 10,000 years.
2. Maintainability: the clock should be maintainable with bronze-age technology.
3. Transparency: it should be possible to determine operational principles of the clock by close inspection.
4. Evolvability: it should be possible to improve the clock with time.
5. Scalability: it should be possible to build working models of the clock from table-top to monumental size using the same design.

The five principles can easily apply to anything you want to build for the long term.  

The Long Now team then built a prototype of the Clock in 1999, and are now building a massive underground 10,000 year clock in Nevada.

The clock has a really impressive algorithm which produces a different order for the ringing of the chimes each and every day for the next 10,000 years. That’s over 3.5 million combinations of chimes!

Amazing stuff.

All in all, the Long Now is very impressive. It’s also very academic, very expensive and very, very, very long-term, which raises the question ... so what?

OK, so it’s a big underground long now clock, but what’s it there for?

It’s there to get us to think about and answer long-term questions such as, what will happen to the clock if, in 1000 years, there’s another Dark Age?

It’s to get people to think long-term, which is what many are claiming we should now be doing in banking and finance.

And that was the point of this conference.

How can we think long?

I’ll add more to this entry through the week in bite-size chunks but, for sheer imagination, I like the idea of a 10,000 year clock.

Now, how about an Apple product that stays cool for more than one year?

40 days of the PSD

It's forty days since the introduction of the Payment Services Directive (PSD), so there has been lots of chat about the PSD this week, and how it’s working or not working.

Derogations and interpretations are rife, with the hottest and most contentious issue being the fact that charges are now meant to be shared (SHA in the SWIFT message exchange), except that many banks, institutions and even government administrations are insisting on OUR charging structures, where the sending bank pays all fees.

This issue is even causing ambiguity within a country, where one bank might accept OUR message payments from corporate clients in order to save the client having to re-jig their systems to accommodate, whilst another bank might not.

Even worse is where a bank sends a payment and gets a call from the beneficiary’s bank saying that they will process it as SHA but, if the client objects to the charges, then they will process it as OUR and ask the sending bank to pay the fee plus a potential ‘lifting fee’.

Elsewhere, some banks are taking the payments as SHA but then wrapping charges into other services and fees, so that the client does not realise they are paying or how much.

All of these shenanigans are just mere ‘teething troubles’ of course, as the PSD settles into the markets.

In fact, according to Ruth Wandhöfer, EMEA Head of Payments Strategy and Market Policy for Treasury & Trade Solutions at Citi’s Global Transaction Services and member of the EU Banking Council for the PSD, there are things that are being captured and changed. For example, some German banks were asking for €170 to process an incoming cross-border direct debit payment because their systems are so inefficient. This has been slapped down, with a maximum of €40 being viewed as an acceptable charge (that’s still high if you ask me).

Equally, some Spanish banks were asking for 4% of any transaction as their fee. That’s been slapped down too.

All in all, it is still clear that we have passed the start date for the PSD but the PSD has yet to start.

For example, here’s the state of transposition of the PSD according to the latest EU analysis:

What this shows is that Estonia, Greece, Latvia, Poland, Slovakia, Finland, Cyprus, Lithuania, Italy, Spain, Sweden and Belgium (Belgium!!!), all missed the deadline of 1st November 2009.

This is poor form as that means only 15 of the EU27 made it on time. Only in September, when I last checked the Europa website for the state of play, they had confidently predicted that 26 countries would meet the deadline.

Poor show.

Even worse, those that are making the deadlines are misinterpreting, adding or changing the intent of the text. These changes take one of three forms:

• Derogations
• Gold-plating
• Divergence

In the first instance, there are 23 derogations in the PSD. These are meant to allow each member state the ability to introduce the PSD without having to completely reinvent their payments infrastructures within country.

However, they are also creating major confusion, with the one derogation cited most often being the definitions of what is a microenterprise and how is it treated.

The UK classes microenterprises – small businesses – as consumers, and gives them all the rights and protections, products and services that would be afforded to a consumer in a payments transaction context. France, Spain and Italy, amongst others, use the derogation to classify microenterprises as corporates, and give them the rights and protections and products and services of a corporate client.

By doing this, they can offer and operate a consumer product as a corporate product under the PSD’s definitions, with the most obvious standout being the Italians who claim that the Riba – a direct debit in any other country – is actually a corporate product and therefore not subject to the PSD’s definitions of direct debits.

Gold-plating is also rife, particularly illustrated by the leg-in and leg-out dialogue where some countries are making themselves more attractive for payments processing by including US dollars and other non-EU currencies in their PSD definitions.

Finally, divergence is being created across countries by using definitions in different ways.  For example, Belgium and Slovakia have used derogations to enable their markets to define the payments cycle to be same day, rather than the D+1 (or +3) as dictated by the PSD; meanwhile the UK, by clever interpretation of value dating rules, has managed to get around this completely.

No wonder this is all so confusing.

Anyways, to clarify the confusion, Ruth Wandhöfer presented some interesting insights, and here are a few of her bullet points ...

What is the PSD?

The PSD represents a legal framework for payments within the European Union Single Market, covering the EU 27 as well as Norway, Iceland, Lichtenstein (not Switzerland!).

The PSD is a European Directive, which means that all Member States were required to implement PSD rule into their national legislation, a process called transposition, by the deadline of the 1st November 2009.

The PSD applies to payment transactions in euro and all other Member State currencies within the Single Market, where those are provided by payment service providers located in this Community.

The PSD covers all electronic payment services, while cash to cash transactions and cheques are exempted from the scope.

The PSD does not intend to cover payment services associated with securities asset servicing.

The PSD’s focus is on customer protection (not just consumer protection), covering the relationship between all providers and users of payments services.

With the aim of enhancing competition the PSD creates a new lightly regulated entity called a “Payments Institution”, allowing non-banks to handle payments and join the bankers’ payment schemes and associations.

The PSD also defines conduct of business rules for all payment service providers covering the end to end payer to payee relationship.

The PSD will have a revolutionary impact on the legal framework between banks and their customers setting stringent rules for information disclosure, conduct of business rules and service provision

Harmonised refund rules have been established to support SEPA Direct Debits, while unique identifier primacy ensures for enhanced levels of straight-through-processing.

Central Bank Reporting requirements for Euro transactions across the EEA still constitute a barrier to the free flow of SEPA transactions.

Every credit institution that provides payment services in the EEA will have to comply to PSD’s conduct of business rules.

Short-term issues with the PSD

Banking industry and Commission were strongly in favour of all countries transposing the PSD for 1/11/09 given intra EU/EEA cross-border payments are in scope.

In reality, the following countries are understood to have not been ready for the 1 November 2009 deadline: Estonia, Greece, Latvia, Poland, Slovakia, Finland, Cyprus, Lithuania, Italy, Spain, Sweden and Belgium. Spain and Slovakia joined in early December 09.

Consequent impact in practical terms: clients may experience a brief period of non-uniform treatment where a ‘PSD payment’ is being sent to a country yet to complete its transposition; and hence where ‘old’ legal regime practices could be applied.

An ideal ‘best practice’ would be if banks in late countries could voluntarily adopt key PSD payment processing provision (e.g. full amount principle) between 1/11/09 and transposition completion, but this may not always be possible.

To help minimise uncertainty, the EU banking industry within the PSD Expert Group is looking to establish Best Practice Guidelines designed to establish an approach in the key countries where transposition was delayed to ensure broad principles of the PSD are nevertheless complied with (e.g. the ‘no deduction’ principle).

Full Amount Principle and Charging Options

General rule: no deductions of charges allowed from the full amount where both legs of the payment are in the EEA and the transaction is in Euro or another Member State currency.

EU Commission Services are strongly of the view that charges code SHA is the clear requirement in line with the charge sharing principle in Article A52(2) (excepting in cases where there is a currency exchange) – despite the slightly broader interpretation in a few Member States (who have not ruled out use of OUR option).

The Commission and Banking industry further support a general move to using the ‘SHA’ charge code for all EEA currency payments travelling within the EEA.

The usage of SHA will ensure that the ‘full amount’ of the payment transaction will travel up to the beneficiary bank and a separate fee agreed with the beneficiary client will be charged or deducted (in a transparent way from the full amount).

Generally, the recommended best practice to all beneficiary banks is not to reject an incoming payment just on the grounds that the charge code is possibly ‘inappropriate’ as generally the beneficiary bank will not have all the facts necessary to make such a determination with certainty.

There were lots of other discussions about this during the week, but far too much to blog about every nuance of every chat.

Suffice to say, my own bottom line is that this ain’t working.

Roll on the PSD II.

 

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Who's afraid of Tesco Bank?

Just back from Athens at a conference on retail banking with the star attraction being yours truly ... well, I thought I was the star attraction until the post-lunch heavyweight speaker Sir Terry Leahy, Chief Executive of Tesco, turned up ...

I remember hearing Tim Mason, Tesco's Marketing Director, back in 1997 talking about internet deliveries and their vision for the future. That was the year Tesco became bigger than Sainsbury which, when you think about it, is quite remarkable.

For example, Terry became CEO in 1992.

Back then, Marks & Spencer was Britain’s biggest and best retailer and Sainsbury were the country’s largest food retailer.

Back in November 1992, their market capitalisation was around twice that of Tesco’s, with each valued at around £9 billion compared with Tesco’s measly £4.5 billion.

At the time, the Times had a view that: “if you want quality shop at Sainsbury, if you want price shop at the discounter. Tesco is stuck in the middle so who needs to shop there?”

Well something happened, and the answer is Sir Terry and his team.

Today, Tesco’s market capitalisation is a phenomenal £33 billion, compared with Sainsbury and Marks & Spencer who are worth less today - around £6 billion each – than they were in 1992.

As Sir Terry said, “this is regarded as the greatest transformation in British business”.

He then went on to state his ten lessons for management which I’ve put as the next entry in the blog.

One lesson he left out is a key one that Tim Mason shared a decade ago: for every strategic initiative, know what your next move will be.

Most firms run strategies that say, “let’s get from A to B”.

Tim taught me a lesson back in 1997 which is that, like a chess player, plan a strategy that assumes you will get from A to B and calculate what reaction that move will create amongst your competitors.

Then plan moves B to C, C to D and, if you can, D to E and beyond.

That’s how Tesco crushed Sainsbury and M&S.

Anyways, after Sir Terry gave his general thoughts and position, what was far more interesting was the panel debate with various Greek banks (we are in Athens) debating the customer-centric model of banking.

A few choice comments from the bankers included:

“Banks are not customer-centric, they are human-centric.”

“I don’t believe we have a crisis of trust with our customers, we have a crisis of insecurity. Banks and their customers are insecure and uncertain about the future.”

“Any strategy that has pricing of the product at its core will fail.”

“As the cost of risk is our greatest cost, this has become one of the most important factors in our pricing mix.”

“If the law forces us to price our customers based upon risk, then a large group of customers will be forced to leave the banking system.”

Sir Terry was allowed to interject on three occasions and, each time, his words fascinated me because it gives a great insight into how Tesco Bank is thinking.

Here’s what he said:

“In our move from retailing products to bank retailing, it amazes me that the current incumbents reward the new customer rather than the existing one. That encourages promiscuity and commoditisation. If you can reward the existing customer more than the new one, by learning more about them, then you can price your products better. For example, our Clubcard (their major loyalty program) data allows us to price our products 15% more accurately than the Royal Bank of Scotland for any particular risk type by customer segment. This means we can be the best at risk-adjusted pricing.”

Wow! I always thought that Tesco would get to the stage where they would know if you purchased whisky and cigarettes regularly at the checkout, then they would price their financial products accordingly ... and there you go, Sir Terry has pretty much made it clear that they will do just that.

Here’s his next interjection comment:

“It must be frustrating for those banks that have performed well before and during this crisis to be lumped in with the ones that anger the public. It’s frustrating but you have to live with it, as this crisis is all about leverage and the mispricing of risk. I don’t think that this needs more regulations to resolve the issues – we have enough regulations as it is – but it does require a return to traditional banking methods and practices. And that is what we are doing. We are focusing on the existing customer base – in our case, that is the Clubcard base – and offering them targeted products that meet their needs and are priced appropriately. The fact that we know the customers well means that we can then focus on the supply chain, and that means quick approvals and fast delivery of products and services. Equally, by going back and pricing things effectively, it means there will be more profitability because we are right pricing.”

As I listened to this, I’m not only thinking that Sir Terry understands banking, but also that he has a clear insight into how to differentiate. Finally, he pipes up with:

“On being too big to fail? That question has been asked of Tesco many times, but our customers buy more from Tesco because we are trusted by them. The more we are trusted, the more they buy; and the more they buy, the more loyal they become. The bottom line therefore has to be: closer relationships, more realistic pricing, more thoughtful and helpful approaches to customers and better use of data. Those four factors will improve the state of banking overall.”

Ye Gods my banking friends. With these simple words, along with Terry’s Ten Commandments for Effective Management which follows, means that banks should be a little nervous about Tesco’s entry into banking.

But nervous is not a strong enough word. Banks should be scared.

This is because, after his speech, I got some one-to-one time with Sir Terry whist waiting for our flights – he also flies on regular airlines, not private jets – and so I asked him how they could price so effectively.

He stated that they use their Clubcard data to see what customers are buying through the checkouts and use this to look at, for example, car insurance quotations. This is why they are 15% more accurate than Direct Line or Churchill, the insurance divisions of Royal Bank of Scotland. It is because they know how healthy or unhealthy the customer’s lifestyle appears.

So yes, I guess Tesco will be pricing financial products based around whether you buy lots of alcohol or medications through their tills.

I wondered how he had chosen Benny Higgins as the new CEO of Tesco Personal Finance, as they might have considered a retailer to run banking rather than a banker. Sir Terry stated that they have plenty of retail experience, but Benny was their main anchorman at Royal Bank of Scotland through the years of their partnership – he was head of RBS Retail Banking from 1997 to 2005 – and so his appointment made perfect sense.

And I double-checked their interest in opening new branches, such as buying up Northern Rock’s assets when they come to market. His answer was a categorical, we don’t need any branches. He would rather focus upon customers and it is quite clear that they will use their in-store reach, Clubcard information and client knowledge to really differentiate the Tesco financial services from those of rivals, with a clear focus upon data mining to add a little twist.

This last little twist however is a key one.

For example, the data mining system built into the Clubcard database comes from a firm called Dunn Humby.

Dunn Humby built this capability from scratch for Tesco and it is so effective that it means Tesco can produce a personalised magazine for every Clubcard holder every quarter. The magazine knows what you like based upon what you buy and then targets products specifically to your purchasing and lifestyle preferences. Potentially therefore, every single magazine of the millions sent out every quarter is totally different, unique and individual.

This is why Tesco have such great loyalty and following from their customers.

Now I know several banks who have tried to use the Dunn Humby system for their loyalty programmes and targeted marketing efforts ... and most have failed because banks have too much disparate data, spread across too many silo-based systems to be able to bring it all together effectively into a single data warehouse and mine it.

You may think I’m kidding but, by way of example, I worked with a bank in 1989 to re-engineer their mortgage process. We gave up because it was too difficult: “too many disparate systems across too many silos” was the response from the Executive.

I bumped into the Board Member of the bank in question two decades later and asked if they had ever tackled that mortgage process. “No”, he said. “Still too many different products across too many different systems and divisions”.

Oh dear.

With Tesco’s highly targeted, razor focused approach, banks in Britain (to begin with) should be afraid.

Be very afraid.

No decision is the worst kind

I’ve attended quite a few conferences in the past month and was reflecting on the different themes they explored.

The four that stand out most clearly are: risk management, regulatory reform, operational efficiency and innovation.

Contemplating what each of these mean in practice makes you realise how difficult a job banks have on their hands in their day-to-day management and long-term strategy.

Specifically, in conversation with one banker yesterday, it is clear that many of these pressures and stresses on the business are stretching management and morale to breaking point.

For example, how can you expand your business portfolio when capital adequacy needs to be raised?

How can you improve your loan book when no-one wants loans anymore, particularly your bad ones?

How can you innovate when all focus has to go into keeping the lights on?

How can you determine your forward strategy when you have no idea what the policymakers will do next?

The result is that tough decisions have to be made.

For some, this will be a transformational moment, where radical actions can be taken and sacred cows can be slaughtered. For the stressed out banks, this is particularly going to be the case.

For others, it will be business as usual, with ongoing change programs ongoing and strategic investments considered and made where appropriate.

For a few however, this could be so difficult to manage through the turbulent business cycle that it leaves them like a rabbit in the headlights, waiting to be run over.

It is this last category that concerns, but should not concern too much.

These will be the failures that get subsumed by federal authorities or competitors, as we have seen in the USA with the 99th bank failure of the year over the last weekend.

All in all, it does make this the hardest moment in memory for a bank to make the right choices.

Dealing with risk management, regulatory reform, operational efficiency and innovation are challenging enough. Dealing with them in a business cycle where no-one knows whether it is an L-shaped, V-shaped, W-shaped, U-shaped, or LVWU-shaped downturn makes each decision a decision-squared in its effect and impact.

But making no decision is the worst decision that could possibly be made of all..

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One large, connected server farm

Like most good conferences, the Deutsche Bourse Open Day had sponsors.

These sponsors are generally partners with the exchange however, working with them to deliver technology solutions.

The four highlighted partners were Colt, Corvil, Equinix and Orc.

Each of them had a moment in the spotlight as sponsor, to present their solution and talk about what they were up to, so I sat in that stream through the day to get a feel of the latest and greatest in trading technologies.

And it was interesting.

As mentioned already, the main topic was speed. The speed of connectivity via proximity hosting solutions and co-location. Colt focused upon the former (see blog a couple of days ago for their pitch) and Equinix on the latter, and both were detailing how this improves a broker’s speeds and feeds.

In Colt’s case, we are looking at speeds of sub-400 milliseconds for a round the world trip for a trade instruction. In Equinix’s, the focal point is having everything sitting in one data centre for high speed connectivity.

They enthral the listener with stories of Chicago to Frankfurt communications in 50 milliseconds, or data centres that offer 1.2 million square feet of server capability. The latter came from Equinix who apparently have 43 data centres in 10 countries, with 1.2 million square feet of server capacity in the USA.

1.2 million square feet of co-location space.

1.2 million square feet.

That's over 20 football fields worth of compute power.

And that's just in the US of A, as they boast a further 10 football fields worth (600,000 square feet) in Asia and Europe.

That’s racks upon racks upon grids upon grids upon boards upon motherboards of compute capacity.

Just unbelievable.

It’s also where I get this idea of a future being one where all the exchanges, market makers and broker-dealers of the world just co-locate themselves in a few massive data centres around the world connected by low latency dark fibre.

Just unbelievable.

Meanwhile Corvil talked about the idea of low latency being all well and good but, when you have hand-offs between the trader, the exchange and the price feeds, it all falls apart.

Their game is all about managing latency between the links and put up a nice little formula of how to calculate latency:

Latency = PD + SD + QD

• PD being the Propagation Delay of speeds and feeds and distance;
• SD being the Serialisation Delay of message sizes and bandwidth; and
• QD being the Queuing Delay of message arrivals and scheduling

All and each of these factors has an impact, and even with co-location and proximity hosting, you still get delays in the system between each point end-to-end.

I particularly liked this picture of real-life trading environments (double click to enlarge):

which shows how 1 microsecond can make such a difference.

In a microsecond you can make or break a trade execution.

In a microsecond you can win the arbitrage game or lose it.

In a microsecond, you can get the spread, buck the market and secure the deal.

And in the time it’s taken you to read this, about 100 million deals have been secured.

Blink and you’ll miss them.

Oh yes, why write about some of the firms out there supplying the markets?

Because I found it interesting that Deutsche Bourse had selected these firms as partners and sponsors.

I wonder who the other exchanges would put on stage?

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The future vision for trading

At the Deutsche Bourse Open Day for IT, I chaired a panel comprising senior figures from Eurex, the International Securities Exchange and IBM.

The focus of the panel was the future of trading technologies, and was a wide ranging discussion covering everything from dark pools to high frequency trading (HFT).

Questions were abounding, such as:

Question:

Is HFT good or bad for liquidity as it gives large players an unfair advantage over small to mid size players and allows market abuses such as flash orders and front running?

Answer:

As long as everyone has equal access to the markets, then it is no issue. The fact that some traders cannot afford the technologies to deal in flash orders is not an unequal market perspective; it’s just that some are better at doing this and can afford the systems to do it. There is no barrier to entry however.

(BTW, I totally disagree with that view)

Question:

At these speeds, is it technically impossible to do compliance? For example, Barclays Capital are just one illustration of the markets becoming more difficult to manage when they are fined for not even being able to get the timing right on a trade execution.

Answer:

Yes, this is more difficult but time stamping trades is an essential core competence of any trading house. The issue lies with low latency and how a broker deals with order flow. If you cannot time stamp effectively when an order is received, filled and executed throughout the trade flow then you are not delivering on that core competence.

This happened recently with TD Securities who were accused of front running trades, and yet how do you prove you weren’t front running when everything takes place in a microsecond? TD Securities fought off a recent investigation to prove they were not front running by being able to demonstrate timings through their order flow, and so yes, keeping time is a basic requirement today.

Question:

What about the whole aspect of the changing regulatory regime with the new rules being developed by the G20, the de Larosiere report, the confirmation that there will be a MiFID II, etc. In fact, MiFID II, according to a speech by Charlie McCreevy in Dublin recently*, will incorporate OTC Derivatives in its next iteration. What does all of this mean for trade execution and technologies?

Answer:

The markets are ready for more regulation although it is interesting that most regulation creates unintended consequences. For example, the law of intended consequences is demonstrated by MiFID where the aim of the regulation was to have more transparency and openness and what did we get? More opaqueness, price fragmentation and a growing off-exchange trading environment using technology to create dark pools. This is the key to the technology used in the trading environment- to create arbitrage, risk and profitability for the client.

Meanwhile, everything will move towards real-time reporting. For example, Eurex is already able to provide real-time clearing at trade execution.  Firms will move towards this model for real-time trade reporting and real-time risk and liquidity management.

Question:

What about Social media & Twitter? Don’t these tools support insider trading? Do we end up with all traders being searched for personal communication devices before they enter the trade floor?

Answer:

No, you don’t need to go to that extent. Facebook and Twitter are electronic communication tools however, so they need to be brought under the controls and disciplines of compliance regulations or be blocked and, if a trader is found in contravention of such in-house policies, then it’s a disciplinary dressing down and possibly termination of employment. But you can do things about these areas. For example, research into this area (download report) clearly shows that the US regulatory rules apply just as much to tweets as they do to email. And there are tools you can implement to monitor such activities and store and forward such information, which is the right approach to take.

Question:

How do you see the development of Cloud Computing in the trading markets?

Answer:

In the US, we have seven major exchanges and I can see the world developing into one where those seven exchanges all place their servers in a massive server farm, co-located with market makers and brokers, so that the systems can deal in real-time. That’s where we are almost at today and certainly will be moving in that direction more and more over time.

The answers above were my own take on the discussions by the way, and not quotes from the panellists, but you get the idea of the flow.

We finished with a vision of the future of trading which I will sum up as being a world where each continent has a massive data centre of co-located servers representing the main trading venues of each economy.

The European data centres will naturally locate in London, Paris and Frankfurt; America’s will be in New York, Chicago and possibly San Francisco; Latin America’s in San Paolo and Buenos Aires; Asia’s in Mumbai, Tokyo, Shanghai, Hong Kong and Australia; and Africa and the Middle East will be based in Johannesburg and Dubai (or Bahrain or Qatar dependent upon how the region’s financial centres compete for dominance).

Fourteen massive data centres with mirroring and backup for each other.

Effectively a massive cloud of trade execution.

And yes, that’s where we move towards – a secure global cloud computing environment, all linked by dark fibre between fourteen massive data centres.

The data centres house the world’s exchanges and their broker dealers.

They can transact in microseconds within exchange and, thanks to terabit lines, can send a trade execution around the world in under a millisecond.

Lightning dealings in order flows through smart order systems that allow billions of offers and bids to be matched in a millisecond.

All of this liquidity flow being watched under a traffic light system of liquidity risk and market monitoring, such that market abuses are visualised and captured during the trade flow in real-time.

The G20 agreements on co-located data centre environments dealt with that one after the financial crisis of 2013, when the dark fibre smart order routers allowed Goldman Sachs to front run ...

Aw shucks, now I’m just getting cynical again aren’t I?

* In his speech to the EU Public Affairs Ireland Conference on 18th September 2009, Charlie McCreevy, European Commissioner for Internal Market and Services, stated:

“There appears to have been a significant migration of share trading transactions from the more regulated MIFID venues to the unregulated over the counter broker dealer venues where substantial unregulated dark pools of liquidity have built up. This gives rise to questions as to whether there are unfair commercial advantages for the operators of these venues and whether the trend undermines price discovery, market integrity and efficiency for the market as a whole. The MIFID review will address this issue.”

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Lessons in innovation and tips for tomorrow

During the Infosys conference this week, the hosts constantly asked the audience to vote on a variety of questions about innovation.

The organisers did say that they had wondered whether innovation was the right subject to focus upon this year, considering that for some it would be the last thing on their minds, but then they realised that banks could only survive by innovating.

Hence, the reason for making this the focus and, with about 100 or so banks from across the globe, what were their answers?

I’ll tell you.

Question: What are you doing to increase innovation?

53.9% Making innovation a top strategic priority
38.2% Implementing flexible technology infrastructures

Question: Which of these is your preferred method of driving innovation?

52.6% Leveraging new channels
38.2% Redesigning business processes
9.2%   Launching new products

Question: What is the biggest barrier to innovation in your bank?

40%    Risk aversion
37.1% Management focus
12.9% Dearth of ideas
10%    The absence of an innovation department

Question: When it comes to innovation in new products, what is most important?

60% Personalisation
17% Product packaging and bundling
16% Technology features
7%   Pricing

Question: Which factors count the most when delivering the customer experience?

58.1% Staff
23.3% Process design
18.6% Technology

And what does all of this tell us?

First, that innovation is still important. If you are growing you need to innovate to maintain position; if you are shrinking you need to innovate to stop the decline. As another friend of mine recently put it, “we can shrink ourselves into oblivion or grow ourselves out of this mess”.

Innovation is just as important if you are in the bad times as the good, if not more so.

But what is innovation?

As I stated in another recent post, it’s all about create compelling business models that either destroy the existing model or creates a new one. Innovation either steals existing markets or creates new ones. Innovation must be compelling however, or it is wasted.

This was another key learning and question: when is it right to invest in an innovative new idea versus sit on the fence and wait to follow.

Innovators, by their very nature, are there to get shot down first because they are out on their own, usually acting as first mover, and disrupting the status quo.

Folks who shake the existing structure are not appreciated.

Don’t move my cheese.

Leave me be.

This is why the innovators will always be frowned upon and shouted down ... until their compelling new model takes off and then everyone wants a slice of the action.

The thing is, if you sit on the fence for too long and the innovators’’ idea is compelling enough, then the incumbents will fail because by the time they see the train has left the station, it’s too late to get on.

So the basic point is this: a bank has to be continually innovating so that they understand the parameters of any new market, technology, product, service, capability, feature, function ...

A bank has to build their business design and strategy for these innovations and be ready to roll them out as soon as a rollout makes sense.

And when does the roll out make sense?

As soon as a profitable business can be created, as soon as a compelling market can be secured, or as soon as a competitor is gaining a market by delivering such a program of business.

And what are the keys for future innovation?

Here are a few ideas that came from the bank CEO’s I talked with this week.

The next wave of bank innovation will be based upon:

• More accurately profiling the needs of customers by channel and the experience the customer expects, wants or needs in that channel;

• Banks focus upon helping customers move money today but, tomorrow, will focus on how to intermediate trade between individuals and businesses;

• Future banks will focus upon the relationship between their dealings and society in order to be socially useful;

• The future customer will have the ability to create their own bank based upon their own needs (in other words, widget / gadget / wiki – based banking, allowing me to create my own personal financial space);

• Banks will provide 24*7 availability with micro personalisation;

• My future identity will integrate my financial identity with my citizen’s identity in a digital form, so that I have one pure identity to trade electronically or direct; and

• Do not assume that the mobile youth are the only generation who want to deal with you through technology ... in today’s world, we will all deal through technology.

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The branch-based banking model is dead (UPDATE)

Here’s a summary of the presentation I gave at the conference this week.

The headline is that the traditional model of banking is dead, long live the new bank model.

The dead model is the one where 80% of costs of retailing are in stores (branches).

Branch based banking is dead.

Branches are not dead ... just the concept of branch-based banking per se.

UPDATE: the critical point here (which some are missing - see comments) is that branches are not dead.  You still need some for sales and relationships.  But about a tenth of the number that most banks have today as the majority are just administration or transaction outlets that can be automated.

For those who read the blog regularly , you’ll know what I mean but, just in case, the point is that 8 out of 10 branches were opened as administration centres to service the transaction needs of communities. Those needs are now being self-serviced so what are those transaction centres there for?

In particular, as 95% of customer contact is now being delivered remotely through technology channels, including corporate customers, this should mean that at least 80% of the cost goes into the staffing, processes and technology used in those channels.

In other words, 80% of the old bank operational costs for retailing were in branches. Today, it should be in technology channels.

But there’s more to it than that.

It’s about relationship and connections.

People get technology today not because it’s gadgets but because it is connecting their lives to the lives of countless friends and strangers.

This is why Facebook can go from nothing to a place with the population of the United States in under four years, and why Twitter can go from off-the-radar to on-everyone’s-radar in just under a year.

Last year, no-one mentioned Twitter.

Today, it’s an integral part of the show.

But it’s only integral because it helps people manage, share and organise their lives and loves.

And that’s what banks have to do if they are to reconnect. They must connect people to their money and finances in a simple and easy way.

The presentation draws on all the materials you can find in our directory of social finance, and is themed around the human connections that make up our lives.

This is why each point ends with human faces, as that’s what it’s all about, and empty branches, as that’s what it’s all about.

The Bank Model Is Dead (download)

View more documents from Chris Skinner.

By way of a little more explanation of the flow.

To start with, today’s kids see the computer and its operating system as a history lesson.

They don’t care how technology works, just as I don’t care how electricity works.

I just like what it can do, and that’s how kids see technology.

They also see banks as a history lesson.

Their grandparents went into branches, their parents used ATMs and they just think of money and banking as being like Mint, an internet service that organises their finances for them.

What’s a bank branch for therefore?

Equally, everyone keeps referring to the Facebook and Twitter generation, or the twitfaced generation as some might call them.

Who are the twitfaced generation?

They’re not the under 25’s.

They’re not the under 35’s.

They are the over 35’s.

Most Facebook and Twitter users are average age of 40.

So when we talk about social networks, we are not talking about the next generation of customers. We are talking about the current generation.

If anything, the new generation of customers should be called “the Mob”, as they are all about being mobile connected youth (the Mobile Youth website is brilliant if you want more on that).

So what we’re really saying is that you need to completely rethink the bank around social technologies and rethink the branch network by closing most of it down and reinvesting that saving into social finance.

If you don’t, you’re dead.

Give it less than a decade, and you’re dead.

I’m serious.

Mainstream media fought this battle ... and lost.

That’s why television and newspapers are shutting down by the bucket load as today’s media is created by me on YouTube and Typepad.

So stop fighting the lost bank cause of the branch network.

Rethink it.

Keep the branches you need for sales, and shut the rest down.

Replace them with ATMs.

Equally, start thinking about new ideas such as microtransactions.

A billion iPhone app downloads in nine months.

Charge 50 cents a download and you’ve generated $500 million.

That’s the future.

It’s the grains of sand that will build the future.

And some banks get this stuff.

eBank and Jibun Bank in Japan; Wells Fargo and Bank of America in the USA; BBVA, Caja Navarro and a few others in Europe; but these are few and far between.

By way of example, I’m still waiting for my bank to start a blog or anything ... instead I just have a locked out website with activation codes that don’t work (long story).

In summary, the bank of the future will connect with me intimately via my mobile lifestyle 24*7. They will not only be proactive, but predictive of my needs and will provide me with a connection not just to a payment or to my money, but to my financial lifestyle.

That’s what MINT is doing today and BBVA has delivered too, but it requires bravery to go down this route.

Being brave by shutting down transaction centres, opening hi-touch 21st century sales centres and pushing the rest down a common technology platform that supports access via mobile, laptop, music player, television, car ... any internet-enable device basically.

And this changes your business model as the old model would involve massive investment in the business case to launch new technology platforms.

Today, technology is free and disposable.

So get on with it.

Retail bankers of the world, unite.

Shut down the branches and bite the bullet.

Stop fighting the old fight and start focusing on the future.

Otherwise you’re just dead meat, and who are we all going to sell to then?

The mobile phone companies?

p.s. as mentioned, all the case studies supporting this can be found at our directory of social finance

What is innovation in banking?

I spent all day yesterday with a group of bankers in Portugal.

Why?

Well, it is the annual Infosys customer conference and they were kind enough to invite me over to give a keynote, which I will post here shortly.

It was also run under Chatham House rules ... so here’s who said what.

Actually, I can’t do that ... but what I can do is share with you something that intrigued me.

The theme of the whole day yesterday was innovation in banking.

Now many of you will know that I don’t believe there is much innovation in banking and, where there is any innovation in banking, it is driven by people who believe they can make a buck.

Unfortunately, thanks to the innovations of CDOs, SIVs, MBAs, etc, it can also lose a buck or two ($10 trillion + to be exact), but hey-ho let’s not go there.

During the conference I noted a whole list of observations and comments however on innovation.

These came from bank CEOs representing small, mid and large scale banks from USA, Asia, Middle East, Latin America, Africa and Europe.

In other words, pretty much global coverage.

Here are the notes I made:

The financial crisis was caused by “creative destruction through unregulated innovation”.

“We need to return to good old-fashioned banking.”

“Banking is ‘boring’ ... let’s bring the fun back into banking.” (doesn’t this contradict what was just said by the other speaker?)

“If your house is burning down you won’t be thinking about remodelling the kitchen”, e.g. innovation ain’t where it’s at when you’re going bankrupt.

“The next ten years will be very different to the last ten. The last ten saw leaps and bounds in financial markets innovation with little relationship or reference to the social impact of such innovations. The next ten will see innovation with a social conscience.”

Not sure about that comment as I don’t think the cutting-edge of investment banking has a social conscience.  After all, it is survival of the richest and any social conscience would stop the innovation in investment banking that creates arbitrage. However, it does resonate strongly with the words of Stephen Green, Chairman of HSBC, from his speech on September 8th about Good Value in Banking:

“Capitalism generally, and banking specifically, needs to reaffirm its commitment to contributing to social and economic development.”

In fact between these comments and those of Lord Turner of the FSA, who wants to make banks ‘socially useful’, I think the social and sustainable aspects of finance will become critical.

This was echoed by one panellists' comment that he sees the future being a blend of traditional capitalism, focused upon using Islamic banking ideals with an Asian leadership.

In other words, the greed of Western banking Anglo-Saxon business models will be tempered by the non-usury Islamic principles, with China’s banks leading the way.

Mmmm ... so where does the Continental European banking model fit?

"Is it innovate or die, or innovate and die.”

Yea, come on. That’s just an excuse to say why you don’t innovate.

“Regulators are ganging up globally to regulate.”

Oooohhh. Dem regs are in da hood.

Of course the regulators are ganging up globally. That’s the point of the G20 isn’t it?

The issue however was elaborated on...

“Regulatory reform is serious and we have no idea how it will pan out. That’s frightening.”

There’s the rub and it echoes my feelings from SIBOS (the big bank tradeshow) a couple of weeks ago. Banks have no idea how regulated they are going to be. In an industry that has been heavily regulated for decades, the concern right now is how the next decade’s regulations are developed.

Bottom-line: if you aren’t fit for rapid compliance with new regulatory requirements, then get out of this financial kitchen and go and do something else.

Agility is going to be key.

“The key driver of innovation is technology.”

Really?

This is a common view and assumption.

Technology is seen as being the innovative drive because technology is always changing and adapting but, to be honest, the innovative driver is customers isn’t it?

If customers and customer needs change, then that’s the innovative drive, not technology.

Now technology may trigger customer’s needs to change but so can markets. For example, right now, the #1 need for customers is to have someone to talk to and trust in a bank. That’s nothing to do with technology, although the technology can help, but far more to do with having good staff supported by good technology.

“Is it possible to innovate in a highly regulated market?”

Yea, and we don’t innovate because we don’t need to ... because no-one can come in and compete with us ... because they can’t get a banking licence. Nah-nah-neh-nah-nah.

Whoops. Am I sinking into childish baiting again?

Now it got interesting as one banker recounted a recent tale of a new product launch.

The regulator said that the bank could not launch this product without explaining it.

This is the ‘ten-year old test’ in action.

If you can’t explain it to a ten-year old, then don’t do it.

The regulator said they wanted to meet the bank’s CEO and Chief Risk Officer to discuss the product and the bank pitched in with a presentation and discussion of their idea.

The meeting lasted for four hours apparently and the bank’s CEO and CRO covered all the bases.

But the regulator’s position was not one of saying you cannot innovate or launch new products, but one of saying that you must convince us as regulators that your new product will not bust the bank. Show us the upside and the downside, the opportunity and the risks ...

... after four hours, the bank decided to postpone the product launch and said that this showed how the regulators are there as partners, not as threats to the banking system. The regulator showed the bank the pitfalls of their product and, through this dialogue, the bank has launched a far more robust product.

Interesting.

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The Finanser's SIBOS highlights (piccies)

It seems strange when you've looked forward to something to be looking back already, but here we are at the end of another SIBOS jamboree.

Here's a few personal highlights from SIBOS 2009:

 

And now, of course, we can all look forward to SIBOS 2010 in Amsterdam!

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The balance of power shifts to Asia

So, another SIBOS comes to a close and another year of financial markets ups and downs draws to an end. And what a year it has been.

In Vienna 2008, SIBOS was a shock zone. In Hong Kong 2009, it has been more of a worry zone. What I mean by that is that most of the dialogue here has been around regulation and the concerns about future regulation.

This kind of goes to the heart of SIBOS, which is where is the theme?

Each year the show has a theme and a heartbeat, sometimes not even the one that SWIFT expected. For example, last year the theme was shock as Lehmans, Washington Mutual, Merrill Lynch, HBOS and others disappeared each day. The year before the theme was corporates and what do they really want. This year, the theme has been more concerned with worry, and specifically the worries of the banking community around further regulatory pressures.

It is clear that the financial markets will be exposed to further regulation. The only question is: ‘how much?’

The answer to that is less clear right now, although talking with some delegates the view is that the future is brighter if you view regulation as an opportunity to create the future, and lobby the regulatory authorities to draft meaningful and appropriate regulations, rather than waiting for them to be released and thinking of them as a threat.

This means get involved and under the skin of regulatory drives, don’t ignore them.

I’m sure that next year’s SIBOS will delve down deeper into these areas but, this year, regulatory concerns were a core focus of the show.

What else is new?

OK, liquidity risk has been at the fore. Liquidity risk is unsurprisingly up there as a big issue because that’s what’s top of mind since and thanks to the collapse of Lehman Brothers last year.

Back office post-trade clearing and settlement has become 'sexy'.

Innovation has been a source of dialogue, although not as much as perhaps in previous years.

And new technologies have been a stimulant, particularly things like Twitter. For example, last year no-one had probably heard of Twitter at SIBOS and yet this year it’s been integral to the Show, as demonstrated by this panel on the exhibition floor hosted by SWIFT with Twitter streaming as part of the core presentation of the show (note Twitter stream at the bottom of this panel):

Meanwhile, the over-riding theme of this year's SIBOS has been Asia.  That’s not that unusual, as we are in Hong Kong and it is SIBOS Asia.

Lazaro Campos, CEO of SWIFT made it clear how important Asia has become when he outlined the final attendance numbers for SIBOS 2009. Apparently, there were 5,740 people attending this year of which 2,300 came from Asia which is a new record. 2,600 were from Europe, reflecting SWIFT’s strong European focus and domain, and the 840 remainder from the Americas, Africa and Middle East.

Certainly half the audience arriving from around Asia is a coup, but it also reflects a stronger drive from Asia to shape the future of banking.

For example, I had one conversation with the Chairman of a major European bank group who believes that the power base is shifting.

For the past century, the power base was firmly in the West and American banks led the way. For the next century, he believes that the power base has moved to the East and Chinese banks will lead the way.

Chinese banks have a new found confidence and, post the crisis, they have a new found capability.

Capital strength and liquidity are in abundance with the Chinese banks, unlike those in the West, but there is more to it than this. Specifically, China’s banks recognise the issues and opportunities in this crisis because they have been through it before.

A decade ago, Asia had its own financial crisis.

Back then, the West and the Americas in particular, took a view that Asia was a backwater with poor standards and knowledge.

The result is that the West had a bit of a superiority complex whilst the East had an inferiority issue.

This is what has turned around.

Today, the Eastern banks and China in particular recognise that they have the ability to dominate the next century of commerce.

This was the focus of the plenary panel on Tuesday and I agree with Dominic Barton of McKinsey who stated that "if you don't have footprint in Asia in the next few years, you will become irrelevant".

A few years ago, that statement would have been laughed at.  Today, we just nod in agreement.

Tomorrow's banks will therefore be exploding from an Asian base.

Be there or be irrelevant.

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Guy Kawasaki: don't believe the bozos

The final keynote here in Hong Kong was from Guy Kawasaki, founding partner of garage technology ventures, co-founder alltop.com, original visionary partner of Steve Jobs at Apple and all round good Guy. Here’s a summary of his speech:

When I was first at Apple, we had two divisions – Apple II and the new, yet to be released, Macintosh division where I worked.

That’s why, when we talked about P&L, the Apple II guys used to joke that we were the L in P&L as the Mac hadn’t been released yet but was taking all their profit to develop it.

So Apple II had a joke about the Mac group.

How many Mac division employees does it take to screw in a light bulb?

One. He just holds up the light bulb and expects the universe to revolve around him to screw it in though.

We also had the Apple joke about Microsoft which went: How many Microsoft employees does it take to screw in a light bulb?

None ... because Bill Gates has declared darkness as the new standard.

But enough about that, I’m here to talk about innovation and there are ten lessons I have learned about innovation and how it happens.

The first is that innovation occurs when it is rooted in something that has great meaning.

It wants to change the world.

When Apple started, the aim was to use the computer to make the world a better place.

Google started with the aim to make it easier for the planet to find stuff.

Here’s an example of what I mean about how this works ...

A women is measured by the things she cannot control.

She is measured by the way her body curves or doesn’t curve.

By where she is flat or straight or round.

She is measured by 36-24-36, by age, dress size and inches.

By her measurements.

If a women is to be measured, let her be measured by the things she can control.

By who she is and who she is trying to become because, as every women knows, measurements are only statistics and statistics lie.

(Unsurprisingly this got a huge applause)

Second, innovation needs a mantra.

How many of you work for firms with mission statements?

(the majority of the audience)

OK, these are all the firms who are not using Macintoshes.

Mission statements are made by managers who can’t lead or communicate.

They are drafted in two day offsite meetings where, on the first day, you form cross-functional teams and fall backwards into the arms of your colleagues to learn to love and communicate with people you can’t stand.

Second day you’re in a small room with a facilitator and you come up with your statement.

Here’s one from Wendy’s Burger Chain:

The mission of Wendy’s is to deliver superior quality products and service for our customers and communities through leadership, innovation and partnerships.

Wow!

That inspires me to eat a burger? Not!

You need a mantra. A simple three word inspiration. Here’s some ideas:

Wendy’s: “healthy fast food”
Nike: “authentic athletic performance”
Fedex: “peace of mind”

As you make meaning, wrap your meaning around three words and make that a mantra for the business.

Step 3 is to jump to the next curve.

Innovation doesn’t occur when you make things a bit better – it occurs when you make it ten times better. For example, to get ice we originally were cutting big chunks of ice out of the snow with saws and then hauling that back.

Innovation ideas would have been based on an extra horse being unique to haul ice.

Ice 2.0 was creating an ice firm to produce ice and an ice factory which freezes and delivers ice to houses.

Ice 3.0 was creating a fridge which delivers a personalised ice factory

Each of these is the curveball similar to moving from telegraph to telephone or from daisy wheel printer to laser printer to inkjet.

Next, roll the dice.

Dice is an acronym of the four qualities of great products.

D is for deep functionality
I is for intelligence in the product
C is for completeness (you won’t need anything more) and
E is for elegance

Five: don’t worry, be crappy

At the start of any great revolution, if you’ve jumped the curve, you will have issues: bugs, problems and shortcomings. Take that as a given.

In 1984, the initial Mac had 128k which we thought was an ocean of memory. It had 400k floppy drives whilst the biggest disk available was 5mb. It came with no software, colour, displays, Ethernet, etc.

It was a piece of crap, but a revolutionary piece of crap.

And if we had waited for the right chips, etc we never would have launched.
Now I’m not telling you to create crappy products, but I’m saying that if you have a revolutionary idea that is ready then get it out there, even if it has some crappy bits in it.

Then, let 100 flowers blossom.

You think you know how people will use your products but it gets out there and 100 other uses appear.

You find the wrong people are buying your products in large quantities.

If that happens, take the money. Then find out who is using the product and why, and then give them more reasons to buy more.

Don’t try to fix your product for the people you thought would use it and aren’t. Ignore those people and focus on the ones who are buying it.

For example, we thought we had a product with spreadsheets and number crunching in there, but none of us foresaw that the Mac would be used for desktop publishing (DTP).

DTP and Aldus Pagemaker saved Apple.

It was a gift from god.

That’s what made us. Not spreadsheet and others.

This leads to my next point, which is that you need to polarize people.

Some people will love your product and some will hate it.

Some love apple, some hate.

Great products polarize people.

Next: churn, baby, churn

Ship version 1 and then 1.1, 1.2, 1.5, 2.0 etc.

Keep upgrading and improving

It’s the hardest thing to do as you’re so tired to have shipped your revolution, your first service, but you have to keep doing this to keep the revolution going.

Revolution is not an event, it’s a process.

On to value.

You need to have hugely different value and uniqueness.

These are mutually inclusive and you need both as one doesn’t cut it.

And a final rule of innovation: don’t let the bozos grind you down.

The most dangerous bozo is the one who dresses in black, drives nice cars, wears designer labels and is rich and famous.

You think they are rich and famous so they must be smart but, in fact, they are rich and famous due to luck, not because they are smart.

These are dangerous bozos and you need to think of bozos as like the flu and innoculate yourself to bozosity.

What I mean by this is that I can’t tell you if someone says ‘you’ll fail’ that you won’t succeed, but I can tell you that if you listen to the person who says ‘you’ll fail’ and you believe them, then you’ll never succeed.

Ignore the bozos and believe in yourself.

Is there any innovation here? Nope

After the innotribe stuff, it was off to a panel debate about “payments innovation”.

This session was described as follows:

“The crisis has put the emphasis back on traditional banking and sources of revenue, with payments coming to the fore again. Yet payments are also seen as a commoditised, legacy business where scale is everything. Into this business come a series of new market demands which might change this such as same day retail payments, e-payments, mobile payments, contactless cards and real-time finality. How will these new opportunities develop and will they be profitable new forms of business? Can banks afford to develop new channels individually or will they need to co-operate further? Will non-bank players use technology to challenge banks for their new payments service business?”

Bearing in mind that innotribe was all about innovation, it is obvious why this session was of interest to me.

This session was chaired by Robert Heisterborg, Global Head of Payments and Cash Management at ING, with a panel comprising:

• Rajesh Mehta, Managing Director, Head of Treasury and Trade Solutions, EMEA Global Transaction Services, Citi ;
• David Sear, Divisional Managing Director, Travelex Global Business Payments ;
• Marcus Treacher, Head of electronic banking and e-Commerce, Global Transaction Banking, HSBC; and
• Russ Waterhouse, Executive Vice President of Products and Development, The Clearing House.

Here's a summary of how it went:

Robert Heisterborg:

Who’s driving innovation?

Rajesh Mehta:

The innovation drivers I can see include:

• the miniaturisation of payments - especially as there’s more P2P taking place;
• government’s needs, especially in current economic climate;
• banks seeing payments as a product rather than looking at payments as a business in its own right, which is what non-banks do;
• regulatory change; and
• risk management.

Citi in particular is focusing upon prepaid cards and mobile as key new innovation areas.

Marcus Treacher:

Often the idea of the innovator is not the way it works in reality. My favourite example is the ATM which was introduced as an automated teller in branches and it failed. In desperation, the developers decided to try the machine outside the branch and it took off. That was an accident, but one that created success.

Russ Waterhouse:

As a market infrastructure we’re the last place people would normally look for innovation, but we have to do this because it is required, expected and needed amongst our clients and community. The challenge to do this is that many of us benefit from the inconsistencies in the markets, and we have to rethink our business models if we are to take advantage of creating innovation through more consistency.

David Sear:

When we refer to payments innovation, the only example normally mentioned is PayPal and I’m a little tired of hearing about PayPal. They’ve been around over ten years now, so get over it. PayPal have a billion dollars of revenue in Europe alone so their innovation has happened, they have achieved change and they’re here to stay.

Now, as a consumer, I may not want PayPal because I find it difficult to use. It’s clunky and doesn’t provide me with the security I want. For example, a recent US survey by Nielsen found that 81% of consumers would prefer a P2P payment instrument provided by their bank. So we have to do a little better particularly as there is a trillion dollars of ecommerce out there each year, and 20% of that is cross-border.

Prepaid cards are becoming a mainstream in the payments landscape, and that’s another key innovation we are tracking.

Equally, I’ve heard lots of people talking about convergence this week and I’d like to see that. In particular, I would like to see the end of the back street money transfer agent. Bank2Bank and Card2Card services, such as Visa money transfer cards, should mean that AML will go away into a different place.

Robert Heisterborg then asked the audience: “We have been here for a week, is there enough innovation at SIBOS?” and over 80% of the audience said ‘No’. Where were all of you when the innotribe sessions were running all week????

We then started looking forwards to the future of payments.

Rajesh Mehta:

The future landscape for payments will fall into three camps:

• Large global players with the advantage of scale;
• Niche specialist players with a vertical focused advantage, e.g. payment practitioners for the health industry or the pensions industry; and
• Hybrids who are capable of innovating themselves but acquire capability, distribution and technologies from partners who do this better than we do

Robert Heisterborg then referenced an ING trial in m-payments in Romania that found the average transaction value of a mobile payment to be €2.44. Therefore, is mobile the cash killer?

David Sear:

A decade ago we talked about micropayments killing cash on the internet and it hasn’t happened. For example, Google has announced a micropayment service for content recently but these sorts of developments are all about ‘if we build it, they will come’. It’s not what consumers want though. Consumers don’t want to pay for content and Google’s announcement of micropayments for content will therefore not necessarily work.

Rajesh Mehta:

How can you say that David when, in Africa you have four times the number of mobile telephones than bank accounts? How come you don’t think m-pay will happen?

David Sear:

Because consumers are asking for other forms of payment that are more traditional, such as prepaid cards in Africa rather than mobile.

Rajesh Mehta:

What will drive the mobile is banking the unbanked rather than the payment itself. However, once banked, then mobile payments will come.

The audience were then invited to ask questions and the first was about the fact that Nokia have 1.3 billion telephones out there and relations with all the carriers. The fact that they’ve partnered with Obopay should be seen as a threat should it not?

Rajesh Mehta:

No, as they are working with the banks on this. We’ve created a financial cloud at Citi for example, as a super settlement mechanism for the kind of needs of Nokia. It’s a settlement and clearing role and there’s always going to be collaboration with a bank on these things, so the question is really about the last mile. The last mile is all about who wants the connection for something as ubiquitous as a toothbrush, which is what the mobile is these days. For this, do I need to own the last mile? Do I need to compete with others there? Or do I enable that capability and collaborate? There’s always room for collaboration.

All in all, it was an interesting discussion but the fact that the panel talked mainly about prepaid and mobile, but no real discussion of SEPA innovations around einvoicing or contactless payments was an oversight, so I asked about contactless.

Of course, the panel said that it was not purposefully missed off the list, and that this is going to be embraced.

My take on this: for ING, Citi and HSBC, contactless technology is still off the radar or it would have been referred to more strongly. Would have been interesting to see Octopus or Barclaycard or Visa PayWave or others, as thee form factor of contactless mobile or contactless watches (forget cards) is far more innovative as a consumer payment service than a mobile payment using SMS or something (which is where most banks focus first).

Net:net, and being honest, there was no real discussion of innovations here but the panel talked more about stuff that has been bubbling away for years in the form of prepaid cards and mobile payments. Even if they had talked about SEPA einvoicing and contactless, it’s not really innovatory.

What would be truly innovatory would have been to discuss the next generation of payments using wireless technologies to pay without any physical devices involved.

Now, that is revolutionary and I’ve got a whole nine yards on that innovation.

Anyone wanna hear it?

SWIFT innovations: a 'trust score' (update)

So, the innotribe session has just come to a close.  I'll post more about the ideas proposed for SWIFT to invest in later, but here's our team's idea.

First, what is innotribe?

It's a stream at SIBOS focused upon finding innovations in finance for the future comprising SWIFT and banks, corporates and anyone else who's interested.

At the start of the week, we created three teams who would look at cloud computing, wikinomics and social crowdsourcing to see if we could find an idea for SWIFT to invest in for the future.

SWIFT gave me the job of managing the group focused upon social crowdsourcing - Facebook, Twitter and all that stuff - along with Tim Collins, Head of Experiential Marketing at Wells Fargo.  Through a self selection process, we were joined by:

• Patrick Nachtergaele (SWIFT)
• Linda Haddad (Bank of America)
• Amr Soliman (e.Vision)
• Thomas H Wiles (Standard Chartered)
• Nicholas Moch (SEB)
• Michael Gialis (Sun Microsystems)
• I. Vijaya Kumar (Andhra Bank)
• Dr Brad Pagnell (APCA)

to come up with our proposal for venture capital to expand a crowdsourcing idea.

We all had good ideas, although they are hard to pitch in under ten minutes.  But that's what we had to do today.

So, here's our pitch.

People don't trust each other.

Banks don't like risk.

Could banks use crowds to analyse risks through social media and networks?

If they could, then could the bank community create a 'trust score' that adds multi-dimensional analysis of corporates and individuals by aggregating all the financial and social data out there into something that makes sense?

We think we could and that SWIFT could provide the trusted and secure aggregator of trust scores which are then exchanged to secure transactions between individuals and corporations across borders.

Why is this important?

Because financial information is too stark and lacks completeness of the profile of what someone behaves like and whether they can be truly trusted to trade with:

• Is there a risk of being involved in moral hazard?
• What are the attitudes to risk and finance of the person or firm being invested in?
• If a firm has no record in this constituency, are there other proofs that could be provided?
• If a firm is trying to do something brand new, is there anything that could increase confidence with those individuals/firms

In this sense, just as you vet employees with social media by checking their profiles, in future we will check customer and client profiles for risk.

The aim therefore of our crowdsourcing group is to create a 'trust passport' that has a variety of critical applications:

• For P2P transactions where the history of one party is too poor to create trust; incurrent climate, there is no proof of dependability

• In cross-border transactions where the old way would be to provide a letter of credit but many firms do not understand such letters, particularly small firms and microenterprises working in a globalised world where they need to provide commerce with no track record in a new country of operation

• In governmental and bank transactions where governments and banks want proof of track record when no track record (financially) is available, e.g. trying to get hold of a visa

This passport and trust score would become critical for not only banked individuals and firms, but also for those who are unbanked or who have no credit history as it offers an ability to use this understanding in other environments where a 'credit history' is missing, such as mobile and gaming where you (a) can pick up behavioural details of transacting in these environments as well as (b) offering a transaction support service by enabling 'trust' in these non-financial environments.

As a result, banks could pickup a lot more business of what would previously have been unbankable due to the richness of this risk information.

The business model is based on a charge per access which may be a charge to:

• A user who wants to prove their credentials (e.g. an individual or firm that is expanding)
• A provider who wants to check a user's credentials (e.g. an auto or mobile carrier)
• A marketing organisation who want to market to a specific demographic and get a charge per clickthrough for having their banner on the trust passport check

Why should SWIFT pull this together?

Well SWIFT would become a gargantuan spider bot bringing together all this data and analysing the chatter of crowds to securely manage and distribute the trust scores and who else is better positioned to be the aggregator, manager and distributor of trust scores?

What's in it for SWIFT?

A new business model that extends SWIFT into non-bank territories, e.g. managing a trusted passport on behalf of the banking community and their customers and offering this as a pay per download/usage/software as a service.

What's in it for the user?

The user can now immediately secure trust with strangers to do business.  For example, the small business in India that wants to trade with the multinational corporation based in the States; the landlord who wants to ensure the prospective tenant is decent and trustworthy; the microcredit farmer who now wants a bank account; the migrant worker who is a new country and needs financial services ... anyone in fact who has no way to prove their standing.

And just like eBay buyer and seller ratings, the more you work on your trust score, the easier it becomes to do business.

There's lots more to this idea, but there's the bare bones.

We presented this to a 'buyers panel' who will choose one idea to go forward with SWIFT's backing to take it to a developed idea (bear in mind that this is the result of just three 1-hour discussions).

The buyer's panel (or it a judging panel?) comprised:

• Lazaro Campos, CEO, SWIFT
• Ignace Combes, Deputy CEO, Euroclear and member of the SWIFT Board
• Guy Kawasaki, Founding Partner and entrepreneur-in-residence, Garage Technology Ventures
• Gottfried Leibbrandt, Head of Markets, SWIFT
• Kosta Peric, Head of Innovation, SWIFT
• Javier Santamaria, Assistant General Manager, Banco Santander Spain and member of the SWIFT Board
• Paul Simpson, Managing Director and Global Head, Treasury and Trade Solutions, Citi

The winner will be announced in this afternoon's plenary and I'm interested to see what happens, especially as I have a £20 bet with Nick Davies of the Cloud Computing team that our idea will win.

Obviously the Hong Kong Jockey Club's experience has really gotten me in the mood for gambling.

UPDATE: I just gave Nick HK$240 (£20) as he won!

His team's idea was very similar to above, but is based on SWIFT managing a secure vault based upon the Deathbook concept I blogged about a while ago. 

No hard feelings ... and pigs fly as well ;-0

Horses, horses, horses

Many, many years ago I worked for a company called Wang Computers. 

Wang were a really innovative firm that dominated the space of office technologies until they got their strategy wrong and went out of business ... long story.

Short story ... when I worked there, my job was marketing imaging systems.  Basically, scanners for taking paper into digital form.

The main reference study for this technology was the Royal Hong Kong Jockey Club, who used the technology to store information about their members.

From 1988 to 1992, the Royal Hong Kong Jockey Club was all we talked about ... and I always wondered what the place was like.

Last night, I finally found out.

It's an amazing place.

For example, if you know Hong Kong, dedicating a massive downtown area to a horse club is something else as there's no land available in Hong Kong which is why everything is towers, towers, towers.

The real estate owned by the Jockey Club alone would be worth around US$100 billion.

Anyways, although the 'Royal' has been dropped since Hong Kong moved out of British control to Chinese management in 1997, it still has a very regal structure and ambience.

  

And betting of course on which horse will win the race ...

I did bet a bit and lost big time until the last race.

Last race, my horse came in at 17-1 and made up for all my losses.

That's pretty much how business seems to go these days, as in you hold your breath hoping your bets will come good and they usually do at the last minute. 

All in all, a good night out.

Now, which horse shall I bet on in the payments race?

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Innovation, the future and horses

After that panel session it’s literally been rush, rush, rush.

Rushed off to join a panel that I was presenting, chaired by Matteo Rizzi of SWIFT.

The panel consisted of a role play discussing the six themes I’ve blogged about in the build up to SIBOS with Mary Knox of Gartner and Richard Jaggard of HSBC playing the cynics and myself and Tim Collins of Wells Fargo playing the role of the optimists.

It was a good knockabout and resulted in this lovely little visual (click to enlarge):

Anyways, I don’t need to say too much more about that, as you can read the background which gives you my views on this.

Then it was back into our penultimate innotribe session.

Here's us being blasted out of the water by the venture capitalists:

I always knew capitalism was the problem!

Anways, the whole innotribe thing culminates tomorrow in a presentation to Lazaro Campos and some of the SWIFT Board Members to see if our idea gets the money, or whether they go with the Cloud Computing or Mashups teams.

Baa, boo, hiss to them. We’re gonna win this, especially as our idea is the only one based on business rather than technology, and it's socialist rather than capitalist.

Oh no!

Nothing that's social is going to meet with approval from a banker is it?

We shall see and I will tell all tomorrow.

After innotribe, it was off to the IBM booth where I presented the results of our PSD research and, just to be clear, the results are not negative.

The negativity is directed at the PSD.

SEPA, according to the respondents (the majority of whom are banks), is that banks are doing the job. It’s the policymakers transposing and drafting the PSD who are not.

This could get interesting, especially as I spoke with the European Commission last night who are interested in the research.

Ah well, must forget all about that for the moment as I’m off to the Hong Kong Jockey Club for dinner. Interestingly, I liken the PSD and SEPA to a horse race. Right now, all the horses are running in different directions. From 1st November, they’ll be running in the same direction, just at different levels of speed. Hopefully, they’re racing on the flat and not facing jumps or anything, as that would really mess up the process.

And the finish line?

Dependent upon your view, the finish line for SEPA is anything from three years away to sometime after 2018.

Boy, that’s a long race ...

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Regulate for what's needed, not politics

Just went to another great plenary session discussing whether transaction banking will be the engine for the next phase of sustainable growth and moderated by Karen Cone of TowerGroup. The panel consisted of the heads of global transaction banking from some of the largest banks:

• Werner Steinmuller of Deutsche Bank
• Andrew Long from HSBC
• Catherine Bessant with Bank of America
• Francesco Vanni d’Archirafi at Citi

Here’s my loose highlights of what was said and please note that these are not directly quotes but an interpretation which began with each panellist providing a view on the current regulatory environment ...

Andrew Long:

I went to the European Union to find a continent covered by regulations and thought that was bad. The recently retired chairman of our bank, Sir John Bond, said on his retirement that he joined an industry with zero regulators and there are now over 300 when he retired, and that was bad. The result is that the costs and confusion created by regulations outweigh the aims and the benefits.

Werner Steinmuller:

Regulators are always following what is happening and should be more forward looking, instead of always trying to mop up after an accident. I want to see the regulator, at least on the EU side, more coordinated. For example, we have European initiatives but no European regulator, and this would help if we had more harmonisation rather than country-to-country approaches. For example the PSD has country to country views and the cover payments initiative has no global coordination. The result is a lot of money involved in implementation.

Francesco Vanni d’Archirafi:

Just to switch the lights on we have to constantly upgrade our platform to serve our clients. Therefore business as usual, particularly with earnings pressure, will push the industry to continue to collaborate. I use scale providers when we don’t have the scale in our business and that is what others will need to do.

Andrew Long:

Regulators tend to introduce these rules and think we make so much money that it doesn’t matter, but they forget there are a lot of smaller banks that also have to comply. The costs for them are too great. This means there should be industry created platforms to support compliance with shared costs for all, rather than all the costs being applied to each institution.

Catherine Bessant:

When I think about the risks that are in the system, it is not that they are unknown to us but that they are different to those of the past: the average size of risk, the speed at which things move and how decisions are made, the costs and volumes involved. There are a lot of challenges there. The nature of counterparty identification and counterparty risk is a critical factor. Also, the places we take risk are not necessarily the places where we get paid. Daylight overdrafts for example, and the exponential risks involved there. We are not necessarily adept at educating our clients on the risks that we are taking and sometimes we are not adept at doing that internally. We have to work different ways as a result, in order to get value out of the system. This is why the notion around cooperation and leveraging scale and partnership within the industry makes sense.

Andrew Long:

We are all paid to take risks and if we didn’t, we wouldn’t be in business. In the securities space are massive risks hidden away. We are now talking about how we manage risk on an individual and systemic basis. There are significant intraday risks in there and we need consider these and price them accordingly.

Francesco Vanni d’Archirafi:

Everything we do is focused upon releasing working capital for our clients. The more you can squeeze cash from working capital, the more efficient our clients can be. This means we need to give visibility and transparency for our clients and allow them to manage risk on their balance sheet and transaction flows based upon that visibility and transparency to give them more control.

Catherine Bessant:

We, as bankers, have a duty to our clients to provide a window into the marketplace because we understand the functioning of the marketplace. We have a track on global trade flows and trade movements and, as capable as we are, we must step up our accountability to this so that our clients know as much as we do about those flows.

Andrew Long:

We will have to do more in responding to regulators and making sure our internal controls are in place. That means more costs as this is not just the risks we are aware of historically, but now legal risks and fiduciary risks and more. We’ll need to spend a lot of time on the legal documentation in the securities business for example.

Werner Steinmuller:

Compared to other areas in banking, we work much more together in transaction services, where our biggest competitors may also be our biggest clients. Without working together, payments would not work. For example, without SWIFT, we couldn’t do what we do. This is why, during the crisis, you didn’t hear about issues in the infrastructure and how the systems work or any failure in payments or settlement. BAFT is also following our interests and we are talking about how we can standardise the processes more and work together more. Sharing information on fraud protection for example, and also in the area of having a common voice to the regulator.

Francesco Vanni d’Archirafi:

We work together more because forcing people to stay with you because it’s difficult to unplug is the model of the past. This is why most banks will consider using shared services outsourcing from a competitor’s transaction services structure in the future for this reason.

Catherine Bessant

We’ve spent a lot of time working out where is the moment of separation where we need to compete and where is the moment to leverage where the scale and operation of working together can achieve more than competing. We have a joint venture with Wells Fargo in this space called Pariter** for example. The reaction to this announcement has been evidence of what an unnatural act this collaborative competition is. There were very negative reactions from some, including the Federal Reserve, about how that impacts the traditional ways we have done business. We have a lot of structures trying to craft cooperation now though, and the crisis has brought us to a moment where we have realised how we can work better together.

Francesco Vanni d’Archirafi:

The market forces us to do this, not just the regulators.

Andrew Long:

We are also seeing global changes in trade trends – the north-south trade flow is declining but the south-south emerging markets dealings are growing. There are huge opportunities here in Asia and once we work out how to leverage those opportunities through the right products in the right systems, we will be far more competitive as I’m sure my competitors are thinking today. If you introduce new products priced appropriately and have a good balance sheet, then you can grow your business by leveraging your strengths ... but you must know what those strengths are.

Catherine Bessant:

The value we get paid for the business that we do has not just reduced in the last two years, but in the last ten. There’s a painful truth about the economics of our business.

Andrew Long:

The regulators now recognise how systemically important our service is in trade flow and commerce globally, and are now asking: if we are so systemically important are we too big to fail? The answer to that is to ensure capital is covered and therefore this is why capital flow and analysis has been a key.

Werner Steinmuller:

Also, if a provider should fail, there should be no issue in moving their service to another. That’s the basis of open connectivity today. On another note thought, in Europe, I have two messages for the regulator on SEPA.

First, come up with an end-date

Second, harmonisation. If you have one SEPA Direct Debit, but each country with a different implementation then you don’t have a single direct debit for Europe, and this is crucial for SEPA. If we are not strict on harmonisation then the total SEPA introduction is at risk.

Note: this is what Weiner said in the research note on PSD and SEPA we released last week

Francesco Vanni d’Archirafi:

I agree and we also need to ensure the end-date is not too far out. A date please and the sooner the better in our view.

Werner Steinmuller:

2012 would be ideal, but 2013 is realistic.

Andrew Long:

I disagree. We don’t have an end-date it’s because there’s no client demand. So my message would be make SEPA and the PSD more relevant and get the markets – corporates and citizens and countries – to see it as necessary. They see it as driven by politicians however, and not as relevant.

Francesco Vanni d’Archirafi:

If we look at the European securities space, MiFID and T2S are creating major headaches for many of us around the table, and these programs have irrevocably squeezed profit pools from the trading environment. I think that’s good for Europe though as we have new business models and efficiencies delivered as a result. This is what SEPA should achieve in the future – more efficiencies through new business models.

Andrew Long:

I don’t disagree that we need efficient infrastructure but I take the view that rather than making the rules and then forcing the market to follow we should understand what the market needs and then make the rules.

** Wells Fargo and Bank of America have announced the formation of a joint venture to operate a single, combined automated clearinghouse (ACH) platform for both companies and their clients. The new entity, called Pariter Solutions LLC, will be the country's largest processor of ACH payments.

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Awake and asleep

Tuesday felt like seven days in one and so it is no wonder that I find myself awake when I should be asleep and asleep when I should be awake ... or is that just the time zone or the drink, one asks?

So now it's Wednesday and day three of SIBOS.  A few more meets before plenaries and innotribe, so another jam-packed fun day.

Last night was good though. 

A wonderful cocktail reception on the 25th floor of the Prince's Building overlooking the harbour. 

On a balmy summer's evening, this would be excellent. 

On a tempestuous typhoon-fuelled Autumn night, it was just wet. 

That didn't stop the company and the conversation from being good though, and it was.

I had various intriguing chats and the best had to be with one of the bankers who was telling me that there's quite a few corporates at SIBOS this year** and the conversation is different.

Two years ago, the conversation would have been the banker asking the corporate to show their balance sheet, credit history and audit and accounting details before the corporate could do business with the bank.  This year, it's the other way round.

Lovely ...

**according to Joy MacKnight at GT News, the two-day corporate forum at SIBOS has attracted 490 participants, 122 of which are corporates, with 183 vendors and 185 financial institutions.

*

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