US General Attorney and SAP Banking.

Dear,

An interesting point, when we look at the transition to the new Financial System, it is the role played by the US General Attorney office. As Mr. Eric Holder made very clear some months ago, we've moved in six years, from a Financial System in which some corporates were too big to fail, to a new model in which no banks are too big to jail.

http://www.theguardian.com/world/2014/may/05/eric-holder-banks-criminal-investigation-jail

Since the starting of the Financial Crisis in 2008, Wall Street has been fined with more than 100 billion dollars.

http://www.foxbusiness.com/economy-policy/2014/06/13/huge-wall-street-fines-raise-calls-for-more-transparency-1287760936/

Bank of America, Wells Fargo, JP Morgan, BNP Paribas, Citigroup, Goldman Sachs and Morgan Stanley have received severe fines, impacting their results and reputation.

This week, we read in the media, that the New York Federal Reserve send last December, a letter to the executives of Deutsche Bank, accusing some of its US arms of releasing low quality, inaccurate and unreliable financial reports, and supporting its processes with inadequate auditing and oversight and weak technology.

http://www.reuters.com/article/2014/07/22/us-deutsche-bank-usregulators-idUSKBN0FR2BU20140722

What’s going on here?

Was everything perfect before, or the regulator has just discovered how to audit a Bank’s processes?

Not really, this is just a sign of the Systemic Change; for the last 30 years, the financial system has been deregulated and oriented to grow in volume, without looking at the capital consumed in the process. The objective was growth, no matter the resources, including solvency (main Financial System resource), consumed in the process.

http://en.wikipedia.org/wiki/Financial_deregulation#Finance

But today, global debt and natural resources scarcity are limiting global growth, making the Financial System severely under-capitalized.

We’re in a highly leveraged, fractional reserve, Financial System; which multiplies growth when growth is robust, but becomes insolvent with limited growth rates.

In the new scenario, we need a technology oriented to control; and new paradigms like Risk Adjusted Performance Management become the drivers.

Organizations, and particularly banks, objective cant't be selling and growing, but offering the best financial performance, weighted by risk (or what’s the same, capital consumption).

Regulators fines, which are going to be more frequent in the oncoming years, will be one of the incentives used, for “convincing” bank’s executives that they must align with the systemic change.

SAP Banking has the answer in terms of technology to the requirements of the new paradigm; it has been built with the objective of capital control and efficient management of resources, particularly with the Integrated Financial and Risk Architecture of Bank Analyzer.

But implementing SAP Banking is not an easy task; SAP Banking has a holistic data model, which makes it challenging to integrate with the current obsolete and over-simplified, Financial Information Systems.

Anyway, what’s the alternative for a bank’s executive; suffering fine after fine, till he aligns with the new paradigm?

Remember this; from now on, no Bank is too big to jail.

Looking forward to read your opinions.

K. Regards,
Ferran.

Basel IV and SAP Bank Analyzer.

Dear.
No, the title is not a mistake.

If you look at the dates of publication of the three first international solvency agreements, you will see that Basel I was published on 1988 and enforced by law on 1992. Basel II agreement was published on 2004 and Basel III on 2011.
Following that progression, we should have a new international solvency agreement for banks very soon.

But beyond that, there're a number of signals that make me think that Basel 4 is closer than expected.

Several countries, including the US and the Eurozone are implementing higher capital requirements for banks than Basel 3 requirements.

There’s a growing feeling amongst regulators against giving bank’s risk executives liberty for implementing Internal Rating methods for calculating the bank’s Risk Weighted Assets, and consequently the regulatory capital, advocating for more simple, easier to audit models.

A new simple, leverage ratio, it is been implemented for compensating the difficulties on auditing the bank’s internal models.

In general, the tendency is increasing the capital requirements of banks and disclosure capabilities of their risk management information systems. This is just a consequence of the systemic crisis; remember that natural resources scarcity and global debt are limiting global economic growth.

Limited growth means scarce capital; in a fractional reserve banking system (like today’s), lack of capital produces financial instability. As a consequence regulators increase the bank’s capital requirements for recognizing the critical value of this growth generating resource.

I understand that some of you don’t share my opinion; for those of you who think that the new regulation is just a temporary fashion, let me remind you that some authorized voices, like Eugene Fama, 2013 Nobel Prize in Economics, is advocating for capital requirements for banks which should be around 40 or 50% of the bank’s assets; 4 times what currently Basel 3 agreement requires.

http://baselinescenario.com/2010/06/02/eugene-fama-too-big-to-fail-perverts-activities-and-incentives/

This scenario, which represents a threat for the old banking model, is a great opportunity for those who understand the driver of the new model.

If efficient capital management is the priority in the new model, capital optimization must be at the center of the bank’s strategic decisions.

Capital optimization requires first, an integrated vision of all capital consumption activities of a bank, offering an accurate measure of the capital consumed in each of them. In a second step it requires optimizing the capital consumed in every activity, and prioritizing those activities which offer a better return weighted by consumed capital.

Capital consumption is embedded in every banking activity; from maintaining dynamically the free-line of a revolving loan, to measuring accurately the probability of default of a counterpart, and taking pre-emptive actions before the default event happens.

An integrated vision of all the capital consuming activities of the bank requires an integrated information system, and the most holistic integrated information system for banks is SAP.

SAP does not have a capital optimizer yet, but it has the Bank Analyzer system which is capable of collecting, storing and managing the capital consumed in every banking activity.

The Integrated Financial and Risk Architecture of Bank Analyzer offers those capabilities and I’m explaining them to my customers in my daily work; and in these internet activities for the last 6 years.

In my opinion, it’s a matter of time that SAP sees the opportunity and develops a capital optimizer on top of the Integrated Financial and Risk Architecture, the systemic change is bringing the requirement and developing a market eager to implement it.

Looking forward to read your opinions.
K. Regards,
Ferran.

Profit Centre Accounting, Business Segments Accounting and SAP Bank Analyzer.

Dear,
I’ve worked as SAP consultant for 18 years, in many areas like Finance, Controlling, Transactional and Analytical Banking, Data-warehousing, etc.; and one of the first lessons I learned is that SAP is about integrated processes that must be modelled from an End to End perspective.

There’re many ways of modelling a process, but there’s always an optimal modelization, and finding it requires looking at all its implications from an End to End perspective.

Some time ago, I was requested by a customer to make a proposal for covering IFRS-8 reporting regulatory requirements.
http://www.ifrs.org/IFRSs/Documents/IFRS8en.pdf

Simplifying, IFRS-8 main requirement for a corporate is disclosing financial information about their operating segments, products and services, the geographical areas in which they operate, and their major customers. Typically, an operating (or business) segment must involve around 10% of the company income, assets, etc.

We have two functional elements in SAP (including Bank Analyzer) that potentially support the IFRS-8 financial regulatory reporting requirements.

The first option is the profit centre; SAP Bank Analyzer and SAP Enterprise Core Components, support the complete disclosure of the accounting position of a Profit Centre (Balance Sheet and Profit/Losses). This makes Profit Centre Accounting a suitable candidate for building IFRS-8 reporting requirements.

On the other hand, SAP also offers another functional element for covering IFRS-8 regulatory requirements; the Business Segment. Business Segments Accounting is also available in Bank Analyzer and in SAP-ECC, and it also provides with the capacity of disclosing the Financial Statements of the Business Segments.

If both Profit Centre and Business Segments Accounting provide the functionalities of IFRS-8, can we use indistinctly one or the other?

Not really, a more detailed analysis can help on detecting the advantages of one approach in front of the other.

Profit Centre Accounting is an Internal Management Accounting functionality, which gives the answer of how well or bad, the company’s areas of responsibility are performing. The final objective is taking corrective measures for improving the performance, and incentivating with bonuses the managers with better performance.

On the other hand, Business Segments Accounting is oriented to provide external financial disclosure (typically IFRS-8), but as IFRS-8 requirements literally refer to “internal management reports”, the overlapping with Profit Centre Accounting can become confusing.
Some hints for helping on the decision of implementing Profit Centre Accounting, Business Segments Accounting or both.

Bank Analyzer standard delivery of Internal costs calculation is done on Profit Centre level; Funding Costs, Standard Process costs, Standard Capital costs, etc. are initially calculated in Profit Centre level.

Profit Centre Accounting provides a full valuation approach of the company performance, including Transfer Prices for representing the internal valuation of intra-group transactions. The Transfer Prices of these intra-group transactions can differ of the market invoicing prices. It can be sensitive to report this information in the audited IFRS-8 financial statements.

Additionally, as Business Segments are required for reporting those operations involving more than 10% of the company income, the number of business segments is typically around (or less) than 10.

And as Profit Centres represent areas of responsibility whose performance must be estimated, their typical number can be hundreds, or even thousands in big Financial Institutions.

We can discuss about the effort of building the double reporting framework of Profit Centre Accounting and Business Segments accounting, but SAP gives some tools to reduce the necessary customizing activities. We’ll talk about them in a future post.

K. Regards,
Ferran.
 

Attention CIOs, SAP Banking is the answer to the question you´re about to be asked.

Dear,
This week, Mr. Mohamed El-Erian, Chief Economic Advisor at Allianz http://www.allianz.com/, former chief executive officer at Pimco http://www.pimco.com/ and chairman of Barack Obama's Global Development Council published the following article in Bloomberg.

http://www.bloombergview.com/articles/2014-05-30/the-new-paradigm-for-banks

Just the title is clear enough; "The New Paradigm for Banks".

A paradigm change is a big thing, what are the root causes?

Mr. El-Erian names three; weak economy, central bank policies and regulation.
I
can´t agree more. Those of you who have read this community posts in the last 6 years already know what´s my opinion about it.

We´re in the middle of a Systemic Crisis which is driving a major change on the Financial System, from a model based in volume to a model based in efficient Capital Management.

Natural resources scarcity and global debt have reduced the world's potential growth, and this has deep implications for the Financial System.

Three years ago, you could read it here.

http://blogs.sap.com/banking/2011/12/07/its-growth-stupid/

We're in a Fractional Reserve Banking System; a Financial System which only requires a limited amount of capital (around 8-10% of Risk Weighted Assets); or in other words, a highly leveraged Financial System.

Leverage produces a multiplying effect in a growing economy but it´s unsustainable in a non-growing or limited-growing economy.

Governments know this, and as Mr. El-Erian mentions, they come with a two steps proposal:

- Regulation to drive capital management efficiency.

- Central Banks policies to borrow the necessary time to implement the new regulatory framework.

This is not new information, Mr. Jaime Caruana, General Manager of the Bank for International Settlements (Central Bank of the Central Banks) made it very clear one year ago.

http://www.bis.org/speeches/sp130623.htm

Paradigm change of the Financial System is going to happen and it's going to be challenging.

Let´s imagine for a minute that we're sitting at the executive board of a Tier 1 or Tier 2 Bank; as the bank can´t fulfill the increasing capital requirements, the chairman brings a critical request to his team.

What can you offer to improve the bank's capital ratio?

Barclay´s example that we discussed some weeks ago is giving us some answers.

http://sapbank.blogspot.com/2014/05/why-barclays-is-good-example-of.html

- The Chief Financial officer will propose a plan for toxic assets liquidation.

- The Chief human resources officer will come with a headcount reduction.

And the Chief Information Offer will have to bring a proposal for efficient capital management; let´s help him with it.

Efficient Capital Management requires:

- Determining the long term sustainable value of the bank´s portfolio.

- Matching accurately bank´s assets and liabilities by maturity bands.

- Proactive and effective implementation of hedging risk strategies.

- Integrated and multidimensional portfolio stress testing.

And overall, an Integrated and Financial Risk Architecture which offers a holistic vision of all the banks rights and obligations; assets, liabilities and collaterals.

These are the shapes that capital takes; modeling them in an integrated architecture is the basic requirement for building the IT proposal to the paradigm change.

After the crisis, financial institutions will have to live in a very different world of scarce and expensive capital which will make efficient capital management the main priority.

Combining Bank Analyzer Integrated Financial and Risk Architecture with the in-memory capabilities of SAP HANA, makes the foundation of a Capital Optimization model in which I have been working for the last six years, as I described briefly in the post below.

http://blogs.sap.com/banking/2012/02/01/capital-optimization-sap-hana/

Looking forward to bring your opinions.
K. Regards,
Ferran.

Liquidity and Capital Optimization with SAP Mobility and Bank Analyzer.

Dear,
A former client released some weeks a new Banking mobility platform for tablets and smart-phones, and I had the opportunity of testing the Apps.

The mobile applications provide the customers with the capacity of accessing to their bank accounts, checking balances, run credit cards payments, etc.

It also provides a framework of tools with graphical representations of the accounts movements and credit-cards consumption.

In general it´s a useful tool, and it will provide the bank's customers a self-banking system, reducing the number of interactions with the branch or phone-banking.

For the bank, the technology offers an opportunity of improving the customer service, reducing operational costs at the same time.

This is important, but in my opinion, it´s not even close to the real opportunities of the mobility paradigm.

Mobility offers a 24/7, direct, bidirectional and formalized communication channel between the bank and its clients, virtually in any situation and place. This communication channel opens the gate for new business processes that must be aligned with a successful strategy.

As you know, top priority of the new Financial System is efficient Capital and Liquidity management.

The challenge for mobility consultants and architects is designing and describing new processes supporting Capital and Liquidity optimization.

Mobility offers many opportunities for capital and liquidity optimization, let´s look at some of them.

Not utilized free-lines consume capital and they don´t give any benefit to the customer or the bank. This is particularly relevant in revolving credits (like credit cards).

Typically credit cards have the same credit limit during the year, while the customer consumption behavior can present seasonality patterns. The bank and the customer can agree variable credit limits of the credit cards, according to the customer monthly consumption plans. By adjusting the commitment amount to the client's consumption expectations, the bank can reduce the free-line and consequently the capital consumption.

In a similar way, if the clients provide their expected liquidity requests to the bank, the treasury department can generate simulated transactions in the bank's Assets and Liability systems.

Having this information in advance would be very useful for the banks liquidity planners, as they can plan the liquidity requirements more efficiently, getting the necessary liquidity at better rates, or preparing the investment of potential excesses of cash.

Clients with potential exposures or requests in foreign currency, could also plan their foreign currency requirements or Forex hedging transactions in the mobility banking tool. With this information, the bank can also better clear their exposures on foreign currency. Imagine, for instance, that the client is planning a trip to a foreign country or he´s expecting payments in foreign currency.

All this data, provided by the collaboration scenarios, is only useful if it´s processed and converted in information. The conversion requires a central representation of the bank´s exposures (real and simulated), capital and liquidity positions.

Bank Analyzer will support the bank´s managers in their liquidity and capital planning activities, using the information provided by the mobility channel.

The model requires a seamless integration between the banking mobility system and the capital management system.

The required level of integration only can be offered with the holistic vision of SAP, which is the only banking suite offering all the components of the value chain; from the mobility Apps to the capital and liquidity management engine.

Looking forward to read your opinions.
K. Regards,
Ferran.

Why Barclays is a good example of the Systemic Change?

Dear,
Some weeks ago it was announced that Barclays was going to reduce significantly its Investment Banking division and firing 7500 employees.

http://www.bloomberg.com/news/2014-04-23/barclays-may-cut-7-500-at-investment-bank-bernstein-says.html

Furthermore, the bank also announced that the new bank´s strategy will bring a workforce reduction of 19000 employees by 2016

http://www.theguardian.com/business/2014/may/08/barclays-to-cut-19000-jobs-scale-back-investment-bank-antony-jenkins

We also read that the Bank will park 90 billion Euros worth of risk-weighted assets from the investment bank in a bad bank.

http://www.reuters.com/article/2014/05/08/barclays-restructuring-idUSL6N0NU1LJ20140508

And finally, Barclays Chief Executive Officer of the Americas division and top-paid executive, Hugh McGee resigned some weeks ago because the bank´s focus is going to be regulation.

“My focus has always been on clients, but given the need for Barclays leadership to focus on regulatory issues for the foreseeable future, I have decided that it is time for me to move on”

http://dealbook.nytimes.com/2014/04/29/head-of-barclays-u-s-business-to-step-down/?_php=true&_type=blogs&_r=0

For understanding the recent events, we have to look at Barclays recent history.

On September 2008, Barclays tried to purchase the investment-banking and trading divisions of Lehman Brothers, but the acquisition was not approved by the British regulatory authorities.

As you know, Lehman filed for bankruptcy on September 15, 2008.

On September 20, 2008 Barclays acquired the core business of Lehman Brothers with the approval of US Bankruptcy Court, becoming a top player, in the selected club of Wall Street´s investment banks.

After 2008 financial crisis, following the governments rescue packages and central banks liquidity injections, results looked very positive for investment banks, including Barclays.

http://online.wsj.com/news/articles/SB10001424052748703581204576033514054189044

But unfortunately, this was never a conjunctural crisis, as others that the capitalistic suffered periodically on the 20th century.

This is a systemic crisis and is forcing a systemic change of the financial system.

Last year's Barclays' strategy has been making the bank growing, increasing its size and volume.

At the same time, the bank increased its Risk Weighted Assets and consumed Capital.

In the old model this would have been a successful strategy, but this is not the case anymore.

In the new model, a successful strategy must not target volume, but efficient capital management, this is the painful lesson that Barclays is learning today.

When Barclays executives decide to park 90 billion Euros in a bad bank (400 billion pounds on the next 3 years), they´re trying to reduce the capital consumed by those assets.

They know that capital is scarce and it will be more scarce in the next future. Consequently, reducing capital consumption becomes Barclays top priority.

Some days ago, I discussed about this with a good friend, who has an executive position in a middle size bank; he told me that the scenario is scary.

I agree, systemic changes can be scary; but they also come with opportunities.

SAP Banking is very well positioned to support banks transformation, according to the new challenges of the systemic change.

I´ve personally worked in the design of a Capital Optimization model, supported by Bank Analyzer technology, that will offer an answer to some of the challenges of the new financial system.

Scary? Maybe

Pessimistic? Never

Looking forward to read your opinions.
Kindest Regards,
Ferran.

Comprehensive Capital Assessment Review and Bank Analyzer – Chapter III

Dear,

Last weeks we looked at the Credit Risk module of Bank Analyzer and reviewed some of its competitive advantages for running the Comprehensive Capital Assessment Reviews that FED is running in the US banks, and ECB is running in the European Banks.

http://sapbank.blogspot.com/2014/04/comprehensive-capital-assessment-review.html

http://sapbank.blogspot.com/2014/04/comprehensive-capital-assessment-review_20.html

Amongst them, the main one is the holistic vision of Risk and Accounting that the Integrated Financial and Risk Architecture offers.

Today, we’re finalizing this collection of posts about the Comprehensive Capital Assessment Reviews, by looking at the final objective of the Capital Reviews.

Capital Reviews must measure the Capital Coverage of the bank, verifying if the Bank has a capital buffer, big enough for supporting stressed scenarios, like those suffered by the Financial System during the worst days of the 2008 financial crisis.

In case the analyzed bank has enough capital, there’re no more actions to be taken; but in case the bank is suffering a capital shortage, the regulatory authorities will take immediate actions for assuring the regulatory capital levels are recovered.

These recapitalization actions have an impact in the Banks reputation and reduce the stock value of the shareholders.

http://www.investmentexecutive.com/-/five-banks-fail-fed-stress-tests-         

As the systemic crisis evolves, capital requirements will become higher, making it more expensive; consequently shareholders will request higher returns on their investments.

On the other hand stocks value depend on the banks’ profits, and require the bank investing, and assuming risks, that will increase the bank’s Risk Weighted Assets and consumed Capital.

This is a difficult equation, executives have to optimize the return on bank´s investments, minimizing, at the same time, the capital consumed.

There’re many techniques and actions for Capital Optimization; a particularly relevant one is the optimal distribution of collaterals.

Basel agreements, including Basel III, recognize the importance of collateralization as risk mitigation technique for reducing the Capital requirements of the Bank. 

In the simplistic case, collateralization is built in a one-to-one relationship to the risk exposure, but in many cases, the relationship is established between several risk exposures and a collateral pool (containing several individual collateral assets).

In the second case, there’s an optimal distribution of the collaterals to the risk exposures, limiting individual over-collateralizations and assuring the reduction of the total capital requirements of the collateralized exposures.

The risk of the collateralized exposures and value of the collaterals change dynamically, as the probabilities of default, ratings and hair-cuts are dynamic magnitudes, dependent on the economic conditions of the business segments; consequently the optimal distribution of collaterals also changes dynamically.

Bank Analyzer Credit Risk supports (in the Level 2 of the Credit Risk calculation) the dynamic calculation of the optimal distribution of a collateral pool to the individual collateralized exposures, reducing the capital requirements (capital consumed).

This optimal distribution of collateral rights is the foundation of the Dynamic Collateral Management; a new discipline with a growing recognition in the last years.

We’ll talk about it in more detail in a future post.

Looking forward to read your opinions.

K. Regards,

Ferran.