Front-office control functions

What’s next for capital markets banks

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Major financial institutions are increasingly focused on effectively controlling non-financial risks in their front-office businesses.

Drivers of this increased attention include:

  • Regulatory pressure for greater accountability (most notably the Senior Managers Regime in the UK)
  • Well-publicized conduct issues
  • Recognition that the complexity of front-office activities requires a detailed application of three lines of defense control principles across non-financial risk types

This focus on improving non-financial risk management is supported by an observed trend toward strengthening first-line accountability. (For more about the trend toward greater first-line accountability, see A set of blueprints for success: seventh annual global EY/IIF bank risk management survey, EYGM Limited, October 2016.)

Indeed, while the industry has seen a continued evolution of the size, focus and authority of both risk management and compliance groups, which comprise second lines of defense (LODs), there is a related evolution happening in that these second-line groups are insisting on greater first-line accountability and action around risk and control – particularly in the front-office businesses.

This push toward the front office has been particularly acute in capital markets businesses, given that many of the recent conduct issues (and resulting regulatory focus) originated in trading and sales businesses.

So, how are front-office groups responding? EY undertook a survey of first-line trading and sales businesses at 15 leading capital markets banks.

We asked how front office control of non-financial risk is evolving, including through creation or expansion of dedicated functions within the 1 LOD. We found that among the banks, there is a common trend toward developing a dedicated front-office control function to enhance oversight of and consistency around non-financial risk management.

Banks have taken a variety of approaches in terms of structure, resourcing and tools, but some common themes exist. It also is evident that these functions will continue to transform in the near future, as repeated high-profile compliance issues and regulatory expectations keep the industry’s focus on improving mitigation of non-financial risks.

Our survey highlights the expanding mandates and resource contention faced by the front office and suggests that while dedicated control functions have been a significant step forward in managing non-financial risk, there is a need for increasingly sophisticated action plans to achieve a sustainable operating model.

Without question, the trend toward greater accountability for nonfinancial risks in the 1 LOD has had a significant impact on how front-office businesses are staffing for and handling non-financial risk and controls. For the large bank management teams with whom we spoke, the journey has moved beyond theory and well into practice, but there are still challenges to confront in both the 1 and 2 LODs.

In concluding this report, we have set forth the actions we think are next for capital markets banks to complete the transformation successfully.

For more details, download the full report, which shares specific findings and insights from the survey and from follow-up conversations we held with management of large banks across the Americas, Europe, and Asia-Pacific. We also provide our viewpoint about leading practices incorporating our experiences designing and delivering 1 LOD control programs and actions we think are next for capital markets banks to complete the transformation successfully.