Finding Balance: The Post-COVID Landscape for Financial Institutions — Reflections


Navigation of Financial Institutions in the Covid-19: where are we?

It has now been two years since the World Health Organization declared Covid-19 a pandemic in March 2020, triggering the first lockdowns. Initially, the media, consultants, academics and other commentators were talking and advising on the immediate impact and business disruptions in general. While many comments and advice initially focused on what companies were already discovering to be unfolding before their eyes, it seemed that too little time or thought had been devoted to answering the most difficult questions about the shape of the future. .

Questions asked by our customers

In response to this we have developed a series of special briefings – find the balance – to discuss how Covid-19 could affect the financial services sector, addressing each diverse sub-sector separately. We have focused on analysis and resources beyond the legal sector, including media commentary, economic analysis, advice and policy insight and – key to this – reflecting the own views of our customers about what was happening and how it might change the markets. One of the constant comments we receive from clients is the need to provide insight into what is happening beyond their own immediate horizons. All customers know what is happening to them and can use internal resources to analyze this, but they really want to hear about what they cannot see: what is happening elsewhere, what are the underlying causes and effects hidden from the headwinds and where the future opportunities will be. emerge from. find the balancelooks at the whole industry banking, Assurance, financial sponsorsas well as financial infrastructure and payment providers. It aims to reassess our understanding of significant global market changes and financial services trends, including ESG and the impact of digitization and new technologies. The series also examines the risks and pressures on financial institutions presented by the growing indebtedness of companies, the rise of alternative financingand increased regulatory oversight born out of the 2008 financial crisis.

Key themes

Most commentators have underestimated the strength of the capacities of national economies to rebound and the ability of society and businesses to adapt to a world under Covid-19 restrictions. This is partly due to the rapid nature of government and central bank interventions in financial markets and the wider economy, such as rebound loans and employee furlough schemes. The trend towards digitization, already well advanced, has also come to the rescue and has in turn been the subject of heavy and immediate investment. Technology has enabled remote working to dramatically reduce business interruptions – although in financial services it posed a conduct risk from a supervisory perspective. As a result, we have not seen the level of distressed loans that some had predicted, at levels that would have tested banks’ capital adequacy and put pressure on sponsors’ portfolios and holdings. financial. Although the 2008 financial crisis reforms that enhanced the resilience of the financial sector were never fully tested, we anticipated that the regulatory system, with enhanced prudential and conduct standards, would be the key to market stability. This turned out to be the case. We also expected supervisors to be emboldened in their approach. Although there was a slow start as regulators adapted to events unfolding around them (like all businesses), they stood up to be counted. Sufficiently strict and risk-oriented prudential supervision has maintained a solid financial platform.

Focus on the sub-sector

Regarding our focus on each financial subsector, we highlighted the need for traditional banks to offer customers more revenue-generating products and services – using technological innovation to support a beleaguered market. Without it, we argued, the retail and commercial sectors were at risk of low yielding utility status. Large legacy institutions have exceeded expectations in terms of maintaining or even increasing market share. We discussed the growing pivot to Asia by many insurers, with China poised to become the largest insurance market by the 2030s, in line with economic growth in the region. The jury is still out on how much future geopolitical rivalry will interfere with that trajectory. Financial sponsors are a diverse sub-sector, making generalizations difficult, except that their importance to financial markets and as a source of funding for businesses continues to grow. Before the pandemic, the sponsor industry (particularly private equity funds and sovereign wealth funds) had large amounts of unallocated money. The pandemic caused significant price rationalization in some quarters, but not all, and this was the trigger for a slight increase in investment activity. As a corollary, we flagged the pressure on the industry to increase transparency on ownership, mandates and fees, and the likelihood of more rules to cater to a relatively free industry that would be increasingly active. . The proposed regulation by the US SEC announced this spring for private equity is a good example.

Our briefing on financial infrastructure, effectively the lifeblood of the sector, emphasized the speed of change and the need for consumers and businesses to adapt. Until a few years ago, infrastructure was considered a sleeping backwater, but during the pandemic we have seen the transformation of a subsector driven by market disruptors – the rise of innovative and competitive information data companies, a wave of market consolidation, expansion and diversification across value chains. In addition, large tech companies and fintechs outside the regulatory perimeter are raising new challenges. We didn’t focus on what turned out to be exponential growth in crypto-assets and currencies. Regulators, now scrambling to catch up, have also failed to understand and control markets they were not meant to regulate. We highlighted that operational resilience (and therefore regulatory enforcement risk) would become an increasingly critical concern, particularly where an operational failure could affect financial stability and the orderly functioning of markets. . Digitization – with the ability to impact both the speed and extent of success or failure – has demanded investments in cyber resilience.

Global Drivers of Change

Sustainability and digitization were both increasingly important priorities before the pandemic, but 2020 has accelerated even further. A greater appreciation of the need for resilience in the provision of goods and services has strengthened the momentum for greater support for a sustainable economy and boosted the ‘social’ and ‘governance’ aspects of ESG. Covid-19 has pushed businesses and customers to embrace technology out of necessity rather than choice, but has also forced financial institutions to both explore new ways of delivering services and come up with new products.

Our prediction was that following a crisis, enforcement and compliance activities would increase as risk events, deficiencies and inadequate responses from the control environment were revealed. We can already see regulators in various markets increasing pressure on institutions. It is still too early to identify a noticeable increase in investigations and enforcement actions regarding conduct, theft and fraud and inadequate systems and controls, but we still view this most likely as a downstream effect following public inquiries , regulatory reporting and internal audit and investigation within companies.

Growing corporate indebtedness is an area where service capacity concerns continue to grow. Alternative financial service providers with little or no regulation may be more exposed than banks. Our analysis anticipated losses from commercial banks and private equity that have yet to materialize. However, now that inflation and interest rates are on the rise, there is reason to be increasingly concerned about debt, particularly in emerging economies which are most vulnerable and among companies that have perhaps battered to stay alive during or have made bold decisions to expand their businesses during the pandemic. period. These companies could be vulnerable to the significant deterioration in market conditions and the sharp increase in levels of geopolitical instability that we see in 2022.

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