Forward-Looking Compliance Practices
in Wealth Management
In a market of rapidly mushrooming regulatory requirements, wealth
management firms need to adopt proactive practices by allocating
resources with a long-range aspiration for compliance.
Global wealth today has crossed $241 trillion, up a
$10 trillion from last year and nearly $100 trillion
from 2003, with the U.S. contributing to about
three-fourth of the latest increase. Average wealth
per adult is also touching new highs. Although the
post-crisis growth of wealth management indus-
try has been resounding, the industry has been
facing more challenges than ever before such as
stringent regulations, unstable financial markets,
demanding investors and cut-throat competition.
Global wealth management firms are battling
tighter margins due to various challenges.
A key challenge is regulatory compliance, which
calls for the need to adopt a strategic vision.
Regulatory action typically stems either from
revelations of fraudulent practice or from
a crisis in the past. So what can change? The
answer lies in becoming proactive rather than
reactive towards compliance.
Simply put, firms need to put automated con-
trols in place to prevent any one individual from
affecting the way the firm conducts business. At
the same time, controls and restrictions should
not be enacted to an extent that hampers the
achievement of business objectives and under-
mines employee morale and action. Designed
systems should also be intelligent enough to have
analytical capability to generate reports and help
in finding the firm’s internal noncompliance.
In the wake of the recent financial crisis,
regulators have become more focused on protect-
ing investors, ensuring that firms have enough
regulatory capital and practice timely reporting.
Many new regulations have come to the fore to
address issues that were earlier overlooked. To
leap the regulatory hurdles, wealth management
firms should reexamine their business and oper-
ating models, adhere to the regulations and also
anticipate upcoming regulations by setting their
own standards of noncompliance.
This white paper analyzes the key themes of
the regulations: Reporting, Investor Protection,
Marketing and Distribution, Transparency, Risk
Management, Client Onboarding, Capital Require-
ments, Remuneration and Business Conduct. And
these themes are mapped (Figure 1, next page)
cognizant 20-20 insights | december 2013
• Cognizant 20-20 Insights
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Key Regulatory Themes
against the global regulations and IT systems
(Figure 2, next page). The regulations impact
the following areas in IT system the most: Trade
Settlement, Risk Management, Sales, Portfolio
Accounting and Portfolio Management. They play
a crucial role in adapting to the regulatory changes
and also to be prepared for the future regulations
by setting high standards for compliance.
The regulations in the wealth management
domain touch across the following key themes.
• Background checks for clients. In a bid to
curb the money laundering and other financial
crimes (such as fraud, tax evasion, etc.), client
onboarding process has become more strin-
gent. Anti-money Laundering and Know Your
Customer norms ensure that the firm collects
all the necessary information about its clients
before providing services to them. In addition
to these regulations such as Foreign Account
Tax Compliance Act (FATCA) and OEC Offshore
Tax agreement address the tax evasion issue.
• Financial strength of the firms. The recent
financial crisis brought to the fore a major flaw
in the system. The dearth of capital in finan-
cial services firms led to many firms becoming
insolvent. As a result, many regulations have
cropped up to ensure that the firms have suf-
ficient capital consistent with the risk profile
of the firm. Regulations such as Undertakings
for Collective Investment in Transferable Secu-
rities (UCITS), Alternative Investment Fund
Managers Directive (AIFMD), European Market
Infrastructure Regulation (EMIR) and Basel
address the capital requirement issues.
• Reason for transferring responsibility.
There are certain guidelines concerned with
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the kind of activities that can be delegated
by a fund manager, which are covered in the
UCITS and AIFMD regulations. These regula-
tions state that there must be an objective
reason to delegate an activity to someone
and also limit the extent to which an activity
can be delegated to ensure that the ultimate
responsibility of the delegated activity still
lies with the fund manager.
• Consistency in evaluating fund. In order to
reflect a true picture of the fund, it is impera-
tive that the fund managers employ the cor-
rect valuation methods for valuing the fund.
Regulations like AIFMD and UCITS lay empha-
sis on the procedures used for valuing the fund
to ensure that the funds are valued indepen-
dently and the methods used are consistent.
Marketing & Distribution
• Insistence on plain language. With the finan-
cial products becoming increasingly complex,
there are regulations that mandate the firms
to market their products in a comprehensible
manner for investors. Hence, the firms will need
to upgrade, reprint, and distribute new market-
ing materials and product information sheets
that comply with the new mandates. Some
key regulations in this area are UCITS, Retail
Distribution Review (RDR), Packaged Retail
Investment Products (PRIPs), AIFM, and Mar-
kets in Financial Instruments Directive (MIFID).
• Standards for fair incentives. Under a set of
new stringent rules covering remuneration,
managers are expected to ensure that sound
and prudent practices are in place, which are con-
sistent with risk profiles. The regulations such as
AIFMD state that at least a portion of the vari-
able remuneration must be in the form of non-
cash variable payments such as shares/units of
AIF so that the incentives are aligned with the
interests of AIFM. Other regulations that focus
on remuneration issues are UCITS, RDR.
• Appointment of a scrutineer for assets.
Regulations like AIFMD, UCITS also mandate
Source Systems Mapping
Reporting to Investors
Disclosure about Fund
Firm Level and Portfolio
IT Systems Potentially Impacted by Regulatory Changes
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that the fund managers appoint a depositary
for cash flow monitoring, safekeeping of the
assets and oversight of certain operational
functions. The regulations also specify who
can act as a depositary.
• Setting up a robust risk-control system.
Risk management function can play a crucial
role in the decision making as it helps a firm
identify and monitor the key risks. The regula-
tions such as Basel, EMIR, AIFMD, and UCITS
state that firms must implement adequate
risk management systems to identify mea-
sure, mitigate and monitor all risks. This would
include the use of appropriate stress-testing
procedures. It is also required that the risk
management systems be subject to an annual
review by the senior management.
• Need for crafting transparent content. The
regulators emphasize on in the need for more
transparency in the firms. There are many
mandates that regulate the content and the
format of annual reports published by the
firms. Key regulations addressing the theme
of transparency are RDR, PRIPS, EMIR, FATCA,
AIFMD, and UCITS.
• Employing fairness in trading. Regulations
such as AIFMD also propose guidelines for
conducting the business in a fair manner,
which includes fair and equal treatment of all
the investors and fair resolution of conflicts of
interest. Other key regulations that address
the business conduct are RDR, UCITS.
The Road Ahead
Complying with the ever-increasing number
of regulations can be a daunting task for the
wealth management firms.
Firms need to take into
account, not just the cost of
noncompliance, but also the
cost of compliance. While
noncompliance may lead to
penalties, loss of business,
the cost of compliance is no
less harsh. To analyze the
tradeoff between the cost of compliance and con-
tinuing in a particular line of business or with a
particular product battling high compliance costs,
we need to do scenario analysis. For this purpose,
the information backbone of the business needs
to be shared with the compli-
ance department. This will
also help business in gaining
analysis from the compli-
ance, which can be used for
cross-selling and upselling.
The new approach of shar-
ing the transactional analy-
sis results will help business
in going one step ahead in
doing behavior analysis for
cross-selling and upselling.
For example, in India a lot of
retailers encourage custom-
ers to do cash transactions instead of using debit
or credit card. Compliance will track these trans-
action trends and business can use the informa-
tion to design a new product (new type of debit
or credit card) or modify existing products to
encourage retailers to embrace card transactions.
Given the instability of the market, the regula-
tions are much more likely to change in future.
The industry must be prepared to tackle those
challenges by focusing on strategic transforma-
tion. Firms can allocate a part of its discretionary
budget every year to be future-proof rather than
responding to existing regulatory changes. This
business, practices and systems,identifying weak-
nesses from the firms’ internal compliance per-
spective, and coming up with process and system
solutions to avoid huge compliance expenditures
in the future. One of the examples for the internal
compliance could be related to portfolio churn-
ing in an individual portfolio. Internal compliance
can supervise the extent of portfolio churning
and analyze the case internally. At the same time
client should be reported on the fees and commis-
sions charged and how it has impacted the port-
folio value. Reverse churning is also something
that needs to be analyzed and reported internally.
A firm’s existing analytics can be used to generate
reports about its internal compliance failure and
tracking the patterns. These noncompliance pat-
terns can be discussed with regulators to make
standard compliance requirements in the market.
In a market where competitors grapple with new
compliance requirements, the firm can utilize the
budget on its newer business strategies, giving it
a clear edge over the rest.
allocate a part of
year to be future-
proof rather than
Firms need to
take into account,
not just the cost
but also the cost