IBSi Blogs

The financial services industry is facing a time of considerable change. During the pandemic, financial services organisations were forced to become digital entities virtually overnight. The acceleration of initiatives has led to significant questions about how best to encourage innovation within the industry while protecting consumers and promoting financial inclusion.

by Hans Tesselaar, Executive Director at BIAN

Enter the proposed Financial Services and Markets Bill, introduced by the UK government to drive innovation across the financial services industry, focused on supporting consumers through digital change. The bill is to replace existing EU regulations following Brexit, aiming to support the UK government’s vision for an “open, green and technologically advanced sector that is globally competitive”.

While introducing the bill is a significant step forward for bringing financial services front-and-centre in the UK, how does regulation support innovation in practice?

A balancing act

The Financial Services and Markets Bill aims to harness the opportunities of innovative technologies in financial services while bolstering the competitiveness of UK markets and promoting the effective use of capital. Banks need to remember, however, that when looking to adopt new technology and innovate, the needs of all consumers must be considered.

As banks accelerate digital transformation initiatives, consumers who prefer more traditional and manual banking methods, such as banking at branches and cash payments, can easily be forgotten. A recent ruling from the FCA means that banks and building societies need to assess the impact of changes to their services. This comes after the FCA warned that the industry is “not currently doing enough to properly understand the impact of these changes”. The regulator can now issue fines to banks that don’t consider access to cash and branches.

The introduction of new legislation and guidance from the regulator is promising but the industry must strike a balancing act to transform for the future while also ensuring it is catering to all consumers, no matter their preferences.

Risk and reward

There is also a commercial motivation for introducing the Bill. The government wants to make the UK the financial, technological and crypto hub of the world, following in the footsteps of the US and moving away from the EU.

One way it plans to achieve this is to implement the outcomes of the Future Regulatory Framework (FRF) Review created to reflect the UK’s new position outside the EU. The risk is that the UK could isolate itself from its close neighbours. There is a wealth of industry surrounding the UK, and independent regulations could cause leading European Banks to look for business elsewhere due to the proposed red tape, stunting innovation.

On the other hand, countries such as Canada and Australia look to the UK as an example and becoming more connected with them could open new possibilities. Instead of concentrating solely on the UK, the value of the Bill to the industry would increase if the government looked to connect and encourage more business with different markets – and then the UK will start to reap the rewards.

The value of collaboration

As a result of this opportunity, collaboration should be a focus to encourage innovation across the globe. To achieve this, banks need to overcome issues surrounding interoperability and a lack of industry standards. FS organisations must be equipped with the technology that allows them to introduce innovative solutions at speed.

A coreless banking approach, for example, empowers banks to select software vendors needed to obtain the best-of-breed for each application area without worrying about interoperability. Banks will also not be constrained to those service providers who operate within their technical language or messaging model because they will use one standard message model.

This ensures that each solution can seamlessly connect and exchange data, from FinTech’s to traditional banks to technology providers. It also means that organisations can communicate effectively on a global scale, removing barriers to growth and supporting international and national regulations, such as the Financial Services and Markets Bill.

An opportunity for growth

As digital adoption becomes more widespread, having access to the latest technologies that support consumers and banks alike is essential to the future of the industry. A more connected and seamless industry will undoubtedly deliver value, and although regulation is the foundation of the industry, collaboration and a consistent focus on the needs of every customer are the keys to unlocking the future.

Markets have been stunned recently by regulators hitting high-profile organizations, including tier one investment banks and trading platforms, with significant fines for cases involving ‘spoofing’.

by Steve Wilcockson, Product Marketing, Data Science, KX

Spoofing is a form of market manipulation where a trader places a large series of orders to buy or sell a financial asset, such as a stock, bond, or futures contract, with no intention of executing them. With increasing varieties of interconnected asset classes being traded, organizations must be more alert across all of their markets or risk severe sanctions.

For example, in one case, a trader took advantage of the close correlation between U.S. Treasury securities and U.S. Treasury futures contracts and engaged in cross-market manipulation by placing spoof orders in the futures market to profit in the cash market. This resulted in a $35million fine! Or take the case of precious-metals traders who consistently manipulated the gold and silver market over seven years and lied about their conduct to regulators who investigated them. Penalties are in the order of a billion USD.

A revolution in detection

Such cases represent a clear failure to prevent instances of market abuse, and we might ask how that is possible given recent investments in detection systems designed to help protect organizations from such activity.

Technology on its own is not a solution. Personal ethics are, and always will be, an issue. However, technical evolution in how spoofing is conducted must be countered with a revolution in spoof detection. Traditional spoofing operates where false, but manipulative, orders are placed on the same asset where the unlawful profits may get realized. Traditional systems may capture such instances well. However, systems can and have failed in cases of more furtive manipulation, such as realizing the profit on a derivative by placing the spoofing orders on an underlying asset, not the derivative contract itself.

Successful future-proofed technologies must look for correlations across assets, business units, and markets. But more monitoring means more data and compute overhead, as well as team and workflow challenges.

When monitoring so many more data combinations, static detection systems face challenges. They need to be sufficiently agile and dynamic to handle greater data dimensionality. Robust statistics, machine learning, and behavioural analytics can help quickly synthesize data, provide early indicators of suspicious activities, and quickly eliminate false positives, but more is needed. Delivering rigorous historical event analysis and real-time insights, detection systems and their owners need dimension-busting algorithms that can work with ever-increasing volumes and complexities of data at speed.

Scalable analytics

Detection technologies must adapt to evolving market needs: new data types, the sheer volume of data, and constant updates over time. Time-series data – collections of data, often from different sources and types, organized through time – is the most efficient base unit, enabling ready processing to seek correlations, anomalies, and patterns. For example, when looking for spoofing and “layering” specifically, internal order/quote actions and trades are compared to market quotes, not just top of the book but also in their depth and consolidated trades. This helps determine if deceptive orders and cancellations that formed part of the strategy were marketable (i.e., likely to execute) at the time of the transaction. This can consist of hundreds of millions of records or more. The North American futures industry, for instance, generates over 100 billion order messages each day, and the securities markets billions more!

Choosing the right haystack

Another challenge is finding meaning in the masses of data. In plain terms, when looking for a needle in a haystack, select the right haystack to start with, and then minimize the disruption to finding the needle. In such cases, machine learning can deliver more efficacy over such high-dimensional data than rules-based solutions. Yet rightly or wrongly, and for reasons of regulatory compliance and governance around explainability and reproducibility, machine learning models tend to augment easier-to-validate rules-based processes.

However, machine learning techniques can compute over as many axes as there are useful features, easily. One popular method deployed across many industries and applications – from police surveillance to cybersecurity, from search engine recommendations to predictive healthcare and financial surveillance – is a Support Vector Machine (SVM). This is a great algorithm to identify and score features – measurable pieces of data – such as colours and distances on an image, or, in the financial world, trade characteristics and trading patterns including fraudulent features across different data sets.

Many other algorithms and tests apply in addition to SVMs. Whatever the model approach – clustering or regression, linear or nonlinear, machine or deep learning algorithms – their parameterization is invaluable in financial surveillance. For spoofing, they can navigate well the frontiers and layers of normal and abnormal market activities, and assess balanced and unbalanced markets, where liquidity might be illusory or volume artificial.

Conclusion

Spoofing is hard to detect. Its very existence relies on trades likely not being executed, increasingly across different markets and assets. As the examples have shown, regulators have the teeth to find and punish such market-abusing spoofers, so regulated entities need to ensure they have the tools to find them too. Personal ethics will forever challenge financial organizations and regulators, but dynamic, flexible, fast technologies navigating highly complex data sets can future-proof organizations, adding agility and scalability to their fraud detection, crime, and AML stacks.

The overdraft landscape in the US is at a watershed moment, with banks and credit unions alike taking action to lessen customer impact from overdraft and NSF penalty fees. For a long time, overdraft fees have been ‘in the shadows,’ often perceived as a penalty fee disproportionately applied to those who can least afford to pay.

by Jody Bhagat, President of Americas, Personetics

Market forces and regulatory pressure are moving the industry in a positive direction, and it’s encouraging to see the industry’s rapid response to lessen penalty fee impact with a range of customer-friendly approaches to overdraft response.  The range of response thus far can be characterized by the 4P’s:

Policy: Eliminate overdraft fees (Capital One, Ally, Alliant)
Price:  Reducing or eliminating overdraft or NSF fees (B of A, WFC)
Process: Changes to accommodate grace period or negative buffer (PNC Low Cash Mode)
Product: Creative enhancements to address the majority of situations (Truist One, Huntington Stand By Cash)

The next breakthrough in overdrafts for the industry is to address the 5t P: Proactive.  Proactive cash flow management helps anticipate and resolve overdraft situations prior to occurrence and allows for tailored customer treatments.  Rather than determining which fees to reverse, banks can focus on what tailored treatment can help this customer address a future overdraft condition and improve their financial wellbeing in the process. What if overdraft response was something that your institution was excited to promote to customers, in a way that puts the customer at the centre of the conversation?

Rather than simply a defensive move, forward-looking institutions can use this moment as an opportunity to reinforce a customer advocacy approach, where the institution becomes a trusted advisor. With inflation at a 40-year high and many families struggling with cost-of-living pressures, it’s more important than ever for banks to support customers and improve their financial wellbeing.

Here are a few reasons why overdraft response can become a bigger source of differentiation and competitive advantage for financial institutions.

Data is king: A new opportunity to understand your customer

Before you can solve overdraft conditions, it’s important to understand which customers are vulnerable to overdrafts, and what is the root cause. Overdraft conditions can become a moment of opportunity to take a closer look at what is happening in that customer’s life, and engage with the customer in a meaningful, personalized way.

Financial institutions are taking a closer look at which customers are most likely to overdraft, and why. By leveraging advanced data and analytics, banks can proactively engage the 4-6% of customers who overdraft on a monthly basis.

From our analysis, we found four common personas experiencing overdraft situations:

1. Paycheck to Paycheck: Jim is experiencing multiple cash flow crunch situations every quarter and overdrafts repeatedly. Jim’s income may be volatile or barely enough to cover expenses.
2. Hardship: Martha has experienced a recent hardship (e.g. income loss or significant medical expense) that is likely to create a near-term overdraft situation and a running up of credit lines.
3. Mismanaged Timing: Tom has mismanaged the timing of their deposits and payments for a given month, resulting in an overdraft condition.
4. Affluent Mistake: Jen has plenty of deposits with the bank but unwittingly got caught in an overdraft condition with an account.

Identifying your customer profiles and the context of each overdraft situation can help banks provide the right solution and support for each customer’s financial circumstances. By cleansing and analyzing transaction data, banks can readily understand the context of the overdraft situation. With advanced data and analytics, the bank can identify customers who are at risk for overdraft conditions, and proactively provide treatment options to support the customer’s financial needs, such as an overdraft protection solution with a connected savings account, or a short-term line of credit.

Context is queen: providing tailored treatments for overdraft at scale

Instead of just a penalty fee, overdrafts can be a way to better understand the individual customer and improve their financial well-being. By proactively engaging customers on cash flow issues, banks can reduce the number of overdrafts and negative balance situations and build stronger relationships, leading to higher customer satisfaction and loyalty.

By modelling customers’ cash flow patterns and applying a “robust” balance forecasting algorithm, banks can analyze customers’ historical, scheduled, and patterned activity to accurately identify when they are likely to have a low or negative balance prior to their next likely deposit. That way, banks can help anticipate a customer’s liquidity issues, determine why it is occurring, and proactively provide options to address the situation.  Through back testing of our model, we’ve found that we can accurately anticipate approximately 70% of overdraft conditions.  With this kind of knowledge, banks can unleash their creativity in offering treatment conditions based on the customer context and the likelihood of overdraft.

Building deeper customer relationships

Overdraft fees have represented a meaningful amount of net income for banks (6-7%) and some have been reluctant to forego that revenue. However, a customer-centric overdraft program could be an even more sizable opportunity for financial institutions by deepening customer relationships

Over the coming year, we’ll see more banks leaning into their overdraft response and seeking a more proactive solution along with reactive actions. Forward-leaning institutions will look at it not as a defensive move to avoid regulatory scrutiny, but as part of a broader proactive approach where the bank operates as a trusted advisor that helps people with their money management.

The time for banks to act is now. As inflation and the cost-of-living crisis rage on, the institutions that adapt their policies with customers front of mind will not only help to improve financial health, they’ll gain lifelong customers in return.

The World Bank cites financial inclusion as one of the key enablers to reducing extreme poverty and boosting shared prosperity. Unfortunately, many countries still fall way behind on levels of financial inclusion and are unable to offer their citizens equitable access to essential financial services. When this occurs, we get financial exclusion. Sadly, this remains an issue around the world, which is preventing nearly 1.2 billion people from fulfilling their true economic potential.

by Patrick Reily, Co-founder, Uplinq

The knock-on effects of financial exclusion are felt by everyone. Essentially, individuals who are excluded from economies are in turn, unable to make meaningful contributions to them. As a result, economic growth in these areas can be limited, which has created a tremendous incentive to promote levels of financial inclusion across the world. In particular, there’s a real need to boost financial inclusivity in regions, such as Africa and Latin America, where the issue may be leading to diminished growth.

Why is financial exclusion problematic?

There are several ways to assess the economic harm caused by financial exclusion. As mentioned, the phenomena contribute to both microeconomic and macroeconomic problems. On a personal level, financial exclusion inhibits a person’s ability to access mainstream financial services, such as savings and pension schemes. Unfortunately, such limitations increase the likelihood of personal debt and limit opportunities for education, personal development and access to employment.

What’s more, financial exclusion overlaps significantly with issues like poverty, as well as broader challenges, such as social exclusion. To this end, without equitable access to financial services, individuals may begin to feel cut off from society. Simply put, these people don’t have access to the same security frameworks afforded to others. Sadly, this can then manifest into a myriad of further economic and societal problems.

Does financial exclusion hurt businesses?

While some of us may be deeply concerned about the plight of the financially excluded, others may feel less concerned as they deal with problems of their own. However, financial exclusion has a negative economic impact on all of us. On the broader scale, financial exclusion can stymy economic growth, lower educational attainment and limit the development of innovation and intellectual property. Directly or indirectly, we all pay an enormous price.

What’s more, the concept of financial exclusion also extends to businesses. In this instance, it applies to companies who are unable to access traditional financial services in the same manner as market competitors. Primarily, this issue tends to affect small-to-medium-sized businesses (SMBs), many of whom find themselves at a disadvantage to larger counterparts when looking to access essential financial services, such as lending capital. Without equitable access to lending capital, the ability of SMBs to reach new markets is severely limited.

Why do SMBs matter?

With high levels of financial exclusion, businesses, as well as the economies they function within, are unable to reach their maximum economic potential. As such, there is a need for all of us to combat the issue. At Uplinq, we believe the fight to promote financial inclusion begins by tackling the issue within the SMB market. If we do that, we can take the first step towards building a more inclusive world for all.

Ultimately, SMBs are the lifeblood of most Western economies, providing around 63% of new private-sector jobs created in the US alone. To properly scale, many of these businesses need access to lending capital, which isn’t always available. Furthermore, on account of their size, many SMBs lack the requisite financial data to pass traditional credit checks. This is not to say these businesses aren’t worthy of receiving lending capital, but instead, simply struggle to effectively make the case within the context of existing decision-making frameworks.

Building a more inclusive world

So, how do we go about building a more financially inclusive world? At Uplinq, we believe a radical overhaul of traditional decision-making systems is required. Specifically, it’s time to update the antiquated decision-making processes used for SMB lending decisions. For too long, these services have relied on limited data sets to generate results. As such, many existing systems are unable to offer an accurate picture of a businesses’ true financial viability, which limits lending opportunities.

Thankfully, modern technologies now exist, which offer dramatic improvements in this area. Notably, solutions like Uplinq can assess billions of alternative data points to create a more comprehensive picture of a business’ financial viability, regardless of its size or status. By implementing these technologies within their systems, lending companies can begin to serve the SMB market in a far more inclusive manner.

If we can achieve this goal, then we can begin to build a more inclusive world, which will benefit us all. This is the objective we’re working towards every day. Our innovative solution can allow credit lending providers to generate the most accurate lending decisions possible. To this end, our solution can help a greater number of SMBs receive lending when they need it most, helping to close the gap between them and their more established counterparts.

With the European Commission first adopting the PSD2 proposals in 2015, Strong Customer Authentication (SCA) has now officially come into force across the UK. Now that this long-anticipated wait is over, we can start to look at what SCA means in practice and how merchants can do go beyond these regulations.

by Scott Dawson, Director of Operations, Pixxles

How SCA impacts merchants

In simple terms, SCA requires a customer to verify themselves with two of the three following pieces of information, such as a password, mobile device, fingerprints, facial recognition, or even subtle cues like how they type before payments can be processed. Although these regulations introduce increased friction in the payments process, SCA is necessary to prevent fraud.

Overall, the roll-out of SCA across Europe as a whole has been smooth, despite alarming news of a third of all transactions being blocked and losses of €100 billion. This is likely to be down to the flexibility built into SCA from the outset: transactions under €30 were exempt, and many merchants will receive exemptions on transactions up to €30 if their acquirer’s fraud rate is below 13 basis points and €250 if their fraud rate is below 6bps. This flexibility encourages acquirers and merchants to be proactive about fraud, as the lowered friction from a lack of SCA challenges will likely translate into more sales.

Despite offering increased protection, European eCommerce merchants have seen fraud rates rise as much as 350%. However, this does not indicate that SCA is not effective. The sharp influx in fraud, in general, is down to the rise in new eCommerce shoppers during the pandemic. In fact, if SCA was not in place, it is possible that this figure could have been even greater. Therefore, SCA should be seen as one of many systems that a merchant should have in place if they want to reduce fraud on their eCommerce site.

A collaborative approach to reducing fraud

With that said, what then are merchants’ options for going beyond to minimise fraud rates even further than SCA regulation currently allows, whilst maintaining a frictionless payment process for legitimate customers?

First and foremost, it is important to understand the exemptions process and what level of protection is available to your company. For example, if your fraud rate is already very low, you might have the option of exempting customers from SCA. In order to do this, you will need to contact your current acquirer, and if your current payments partner can’t offer you high enough exemptions you may need to consider changing acquirers.

Next is to adopt additional security technology to support SCA. There are a number of systems that use AI and machine learning to spot the signatures of fraud before it gets to the payment stage. Very few fraud attempts are carried out by a human being on a computer – instead, bot networks with increasingly sophisticated and humanlike behaviour are used to carry out hundreds of automated attacks simultaneously. This is a powerful tool, but there are some obvious tell-tale signs when attacks are carried out by machines that AI can spot. Due to the accuracy of AI, even when attacks break through machine learning can be used to prevent them from happening again.

Lastly, attacks are not always malicious in nature. Around 90% of merchants say that ‘cardholder abuse of the chargeback process is a leading concern for their business. While sometimes this abuse can be intentional, it could also be innocent. For example, a customer might not recognise a charge on their card statement and, instead of looking into it, asks their card provider for a chargeback. It is possible to put systems in place that can dramatically reduce both malicious chargebacks and unintentional ‘friendly fraud’. Having robust order-tracking systems in place is one way to cut down on chargeback claims from customers who think that their order has been lost when it is in fact running late.

Continually evolving to fight fraud

When it comes to fraud prevention, collaboration in terms of tools and expertise is key. As we have seen, by itself SCA isn’t the one and only solution for fraud, but when combined with multiple anti-fraud systems and a focus on learning more about current threats it can become part of a multi-factor solution.

Therefore, although SCA is a step in the right direction, in order to keep up with the fraud ecosystem you will need to be continually evolving too.

Like many places, Latin America has seen the dramatic rise of e-commerce, accelerated by the pandemic and subsequent lockdown measures. This has been accompanied by the increasing use of alternative payment methods (APMs), such as eCash, digital wallets, and bank transfers. All of this makes Latin America an attractive market for merchants. But a key question is whether these changes in consumer habits will endure in the long term?

by Gustavo Ruiz Moya, CEO of eCash for Latin America and Global Head of Open Banking, Paysafe

With a view to better understanding consumers’ payment habits in the region, Paysafe commissioned a survey of 3,000 consumers across Brazil, Chile, and Peru in April 2022.

Our survey paints a positive picture when it comes to how long-term this opportunity really is, with 74% of respondents in the Lost in Transaction survey saying their payment habits have changed permanently since the start of the pandemic.

This means it’s an exciting time for consumers and merchants. Access to the internet and e-commerce through mobile phones is growing, and different ways to pay are driving greater choice and inclusivity for consumers. Merchants can now look slightly differently at a region that might have seemed prohibitive in the past due to a lack of local knowledge and partnering opportunities, as well as payment hurdles and difficulties of cross-border transactions.

Latin American countries’ increased digitalization its support of instant payments against the backdrop of a population which is keen to adopt APMs (63% had used a digital or mobile wallet, eCash, or crypto in the last month) has made this a market with huge potential.

Driving greater inclusion through e-cash

Although there are many differences between one Latin American country and another, demographics, banking environments and regulations, and payment preferences, to name but a few, there are also some common characteristics. This includes a general tendency toward an informal economy with a large unbanked population – 45% according to the World Bank. Also, a preference for cash over debit or credit cards, largely driven by the turbulent economic climate over the last decade, access to credit, an air of mistrust of the economic system, and high fees and interest rates of debit and credit cards.

In this environment, alternative payment options are drivers of financial inclusion. Consumers avoid high fees, they conveniently pay in their neighbourhood merchants, no need to go through complex application processes, there are no credit checks, and they don’t have to share a load of sensitive information online. It’s just a better overall experience for the cash-preferred customers.

So there’s no surprise that the use of e-cash is on the rise in Latin America. Our findings tell us that 20% of respondents use e-cash more frequently than they did a year ago, with 17% saying they use it about the same amount as a year ago. Our survey also gathered responses from 8,000 consumers across the UK, US, Canada, Germany, Austria, Bulgaria, and Italy, and it highlighted more use of eCash in Latin America with 15% saying they used eCash in the last month compared to 9% across Europe and North America.

Security ranks top for consumer concerns

Alternative payment methods such as e-cash, Pix, and QR-code-based services have been increasingly popular over the last couple of years in Latin America. Although reasons such as convenience, simplicity, and speed are good indications of why we have seen this uptake, it also highlights concerns around the security of financial information.

In our survey, 45% of consumers said security is the most important factor when choosing how to pay for online purchases. Further, 66% don’t feel comfortable entering financial details online and 78% are more comfortable using a payment method that doesn’t require them to share their details with merchants.

Payment methods such as eCash remove the need to enter financial or personal details online, giving people access to e-commerce in a way that makes them feel secure. We can also see that 38% of Latin Americans feel they don’t know enough about e-cash, while 21% would use it in the next 2 years if it becomes more widely available. So the key to wider acceptance and uptake is at least in part about understanding alternative payment options as well as how they work. With greater awareness, combined with increasing smartphone adoption (81% by 2025, as mentioned above), e-cash is likely to become a more everyday payment choice across the region.

Cost of living, credit, and crypto

In terms of more general payment trends, the cost of living has had a significant impact on Latin American consumers’ choice of payment method for online purchases, with 63% saying they’ve changed the way they use certain payment methods, compared to 36% in Europe and 39% in North America.

This indicates a willingness to adapt payment habits to circumstances, whether that’s trying to avoid high fees or interest rates – of those who have said they’ve changed their habits, 63% are avoiding using pay-by-instalment plans. Or opt for a method that doesn’t involve credit – 58% are using their debit cards more often, while 45% are using direct bank transfers more regularly. Digital wallets have also seen fast adoption: 35% of consumers say they use them more often as a result of the rising cost of living. And 27% are using e-cash more often for the same reason.

Finally, crypto is starting to gain traction with 8% using it more frequently as a payment method compared to a year ago.

In summary, what once might have seemed a difficult and complex market to enter now presents a rich opportunity for businesses outside Latin America, especially for online merchants with virtual deliverables. It really can be as simple as choosing the right provider with a well-established presence ‘on the ground’ and the regulatory requirements in place to get instant access to local payment networks.