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Regulation and Compliance > Federal Regulation > FINRA

FINRA Forum Shows Promises and Pitfalls of New Technologies

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In the future, blockchain, artificial intelligence, network analytics and other new technologies may become as commonplace as the next-day or same-day delivery of consumer items, which was only an idea a few years ago. But for now, these technologies hold more promise than they deliver.

Still, that’s no reason to downplay their potential and the need for financial services firms, their employees and their government regulators to educate themselves about these technologies and the challenges they pose.

Those are some of the key takeaways from the Financial Industry Regulatory Authority’s RegTech conference held in New York City recently.

Early Days

“Blockchain today remains a nascent, immature technology that no one has deployed at scale yet,” said David Shrier, lecturer at the MIT Media Lab and CEO of Distilled Analytics, a company that uses AI to verify that people are who they say they are. It has the “ability to create immutable records” that can be used for audit trails and much more, according to Shrier.

“AI has the ability to find patterns that we cannot easily find as humans,” said Jo Ann Barefoot, CEO of the Barefoot Innovation Group, who hosts a podcast and blog and consults on regtech issues. It can help detect potential cyberattacks before they occur or a potential threat from a previous bad actor setting up new operations.

Financial firms can use these new technologies to strengthen compliance procedures, including know your customer (KYC) processes, and help detect problems before they occur. They even have the potential to help ease regulatory requirements, such as capital reserve rules, if legislators and regulators believe they will enhance their ability to detect shortfalls and fraud.

Regulators can also benefit. An analyst at Vermont’s Department of Financial Regulation currently takes two to three weeks to review auto insurance filings, said Michael Pieciak, commissioner of the Vermont Department of Financial Regulation and president of the North American Securities Administrators Association (NASAA). Using these new technologies, that time can be cut substantially, freeing up the analyst for other matters.

Pieciak recently partnered with Vermont’s secretary of state on a pilot program exploring the use of blockchain technology for maintaining records in the captive insurance field, which is a form of self-insurance by large corporations.

“Getting educated about these new tools is a priority,” said Barefoot. “Figure out how to get the data, your biggest pain points and the solutions available.”

The Challenges

Despite their potential promises, these new technologies also represent challenges for financial firms and regulators.

They pose questions about privacy, legacy systems that can’t communicate with new systems and data integrity. What happens when bad data is included in a blockchain database, considered a permanent record?.

“You have to ensure that the quality of the data in a regtech system is accurate, clear and getting at the whole population,” said Jeffrey Fortune, examination director for FINRA.

There’s also the fact that regulations almost always lag behind these technologies, contributing to a growing gap, said Barefoot.

“Many regulators don’t have a lot a experience with machine learning, AI and distributed ledgers,” said Nick Cook, head of RegTech and Advanced Analytics at the Financial Conduct Authority, which regulates financial firms and exchanges in the U.K. (U.S. regulators from the Securities and Exchange Commission and the Commodity Futures Trading Commission did not attend the conference due to the government shutdown.)

Barefoot recommended that firms “remember their goals, the people and the rules to protect customers and be able to defend what they doing even if the regulations lag.”

The Solutions

In addition to educating themselves about new technologies, financial firms and employees can adopt certain strategies to meet the challenges they pose. Among those mentioned at conference:

  • Digitize paper files, which are a “potential untapped value,” when analyzed using AI, said  Catherine Makstenieks, chief compliance officer at Deloitte Corporate Finance.
  • Adopt appropriate data management programs, policies and strategies
  • Redesign existing processes before applying new technologies, said Andrew Gray, group chief risk officer at Depository Trust and Clearing Corp.
  • Maintain a close relationship with your IT department in order to be able to talk with the regulators and work with vendors. “Know enough to be able to talk to regulators without having to call IT,” said Makstenieks. Listen in on IT calls … understand the process.”
  • Know enough about regtech to come up with three to five questions for vendors
  • Understand how your legacy system matches up with your regtech partner’s
  • Create pilot programs
  • Consider data ethics and what a report on the front page of a newspaper about the misuse of data could mean for the firm
  • Create options for communicating with regulators via APIs.

In the end, technologies like AI can do a lot more and faster than any person can, but they can’t replace humans in certain key areas. “They don’t have empathy or curiosity,” said Cook.

And “at the end of the day,” Gray said, “people still need to design systems and use them.” 

— Check out Here’s What AI Can Do for Advisors on ThinkAdvisor.


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