The Outsourcing Working Group has had a short but productive life. In the space of a few months it came up with a set of principles for asset managers and securities services providers, showing what can happen when rival firms work together to tackle a common problem. The companies taking part proved they could be happy playmates not only with each other, but also with regulators. ISS spoke to some of the people who made it happen to hear about the long-term implications of their work.
In December 2012, the UK’s top financial regulator issued one of its “Dear CEO” letters to the asset management community. In the wake of the global financial crisis, when too-big-to-fail companies did indeed fail with catastrophic results, Britain’s financial watchdogs were still nervous.
“Our concern is that if an outsource provider were to face financial distress or severe operational disruption, UK asset managers would not be able to perform critical and important regulated activities, thereby causing detriment to customers,” the Financial Services Authority, as it was then called, wrote.
The FSA – the precursor to the Financial Conduct Authority (FCA) – asked firms to review their contingency plans and ensure they were compliant with existing rules.
A few well-timed phone calls later and both asset managers and the groups that serviced them had come together to figure out what compliance actually meant. Ultimately they produced a set of documented guidelines, giving asset managers and securities services providers a much-needed toolkit. But equally importantly, the project offered a template for how industry participants can work with each other and with regulators.
Considering the number of firms involved and the breadth and depth of the issues, the achievement of the Outsourcing Working Group (OWG) is remarkable. For a start, there are nearly 200 members of the UK’s Investment Management Association (IMA). Getting anything like a coordinated, systematic response to the regulator’s call was never going to be easy.
“I think the FCA appreciated what happened but I’m maybe not sure externally that people really got how much of a big deal this was,” said Susan Wright, the senior regulatory advisor at the IMA.
Wright was a member of the OWG steering group and was on all three of the OWG’s main work stream groups, each of which produced guiding principles for asset managers and service providers in relation to outsourced activities. The work streams covered oversight of outsourcing arrangements, exit planning and standardisation and the ideas contained in the OWG’s 40-page document were embraced by the regulator.
But how did so many rival firms manage to achieve this in such a short space of time?
Enter Mark Westwell, a senior vice president at State Street Global Services. In the weeks after the Dear CEO letter was issued, he had attended various consultant-led events convened to discuss the industry response, but he and fellow providers felt nothing was gaining traction. So after talking to a few of his counterparts at other services providers, Westwell made a telephone call.
“I picked up the phone to the regulator, in April of last year, and I said, ‘I and my competitor peer colleagues are very comfortable that we can make a difference here, we think we can help solve this problem. This is how we want to go about it. What do you think?’”
The idea turned out to be simple: get every major outsourcing service provider in the same room, bring in some asset management firms, add consultancy firms to act as facilitators and agree what makes sense. No guns to heads, no Swords of Damocles, just collaboration to come up with workable, common-sense ways to address problems the regulator had identified.
And the problems were real. When the FSA first started asking asset managers what kind of oversight procedures they had in place and whether they had exit plans ready, it discovered that many firms were lacking. The regulator in its letter said it was “not confident” there were effective recovery and resolution plans in place across the industry.
One of Westwell’s counterparts was Matt Davey, head of consultant relations in sales and business development at HSBC Fund Services Europe. While Westwell was first talking to the regulator, Davey contacted the IMA. Would the buy-side be interested in working with the outsourcing service providers to hammer out workable ideas? The answer was yes, and thus the OWG was born.
“We decided as providers that we had a vital role to play in this because we were the sort of glue that would hold everything together,” said Westwell, head of client management for the UK, Middle East and Africa for State Street Global Services. In addition to his day job, he became chair of the OWG.
“We left all our competitive responsibilities at the door. It was totally collaborative. And we sat down and we thrashed through some of the issues.”
Wright also stressed the importance of the OWG participants thinking in terms of the industry rather than their own firms. “You have to realise these are huge competitors,” Wright said. “Each of the service providers is sharing what they can produce in order for an asset manager to demonstrate appropriate oversight.”
Before the OWG took shape, Wright had already been involved in coordinating a response to the Dear CEO letter, running her own group with some 30 asset managers. It produced a white paper on the issue. But she noted that the OWG brought both sides of the contracts together.
Davey of HSBC added: “It’s not something that we see very often in the industry, where we have a cross-section of asset managers, providers, industry bodies, coming together to work on a particular issue and come up with a solution which has got the consensus of the whole group.”
As evidence of this collaborative approach, Westwell noted: “The document itself contains no branding from any of the organisations represented. We worked hard to just leave all of our normal competitive differences outside of all of this discussion so that we pulled together the collective intellectual capital to decide what practical steps could be taken to rise to this challenge.”
Westwell said the OWG, whose members had plenty of project management experience, was conscious of the need to avoid becoming a talking shop. It focused on deadlines and deliverables. That pushed it to break down in the three groups and to come up with agreed principles.
“We all, for a living, effectively do a lot of project management in the way that we move business around when providers select us or indeed exit our businesses,” Westwell said. “So we know about delivering things in certain timescales.”
Breaking it down
One of the key decisions the OWG made was to limit its scope and to organise itself into the distinct sub-groups. Westwell kept the FCA informed about what the OWG would, and crucially what it would not, be doing.
For instance, one of the out-of-scope issues was insolvency. “Insolvency practice varies from geography to geography and therefore the asset managers shouldn’t be concerning themselves with insolvency practice because it’s out of their remit,” he said.
At the same time, the OWG, perhaps by dint of the broad-based nature of its makeup, appreciated the diverse nature of the firms in the industry.
“There isn’t really a typical asset manager-outsource relationship. Some firms outsource everything to one provider,” Wright of the IMA said. “And you’ll have another asset manager who will look at each particular process and will find a dedicated outsource provider to provide that activity on their behalf depending on what it is.’”
To add to the complications, there are often legacy activities that result from merger and acquisition activity, so it was immediately clear there could be no one-size-fits-all approach. And not only are asset managers diverse in nature, but also they can have different needs at different times of a business relationship.
Wright, for instance, said the OWG recognised that oversight can take a number of different forms for the same company. There is the early engagement period, the business-as-usual period, and the end-of-the relationship period when an asset manager is looking to do business with a different provider. These different periods all entail different oversight activities.
“It’s this whole idea that oversight is not just a set of KRIs (key risk indicators) that are always green and show 99%,” Wright said.
Both sides benefited from this recognition. Asset managers were able to challenge the traditional approach and service provides were able to understand better what managers were looking for.
The second work stream focused on exit planning, something which asset management firms hadn’t considered in sufficient detail before the FCA’s Dear CEO letter.
“When you look at a service level agreement with a new provider any reference to exit planning is near the back,” Wright said. “Quite a few firms tried to add detail to their exit plan after the start of their relationship.”
The OWG engaged legal firms in their work and Wright said there are now a number of firms that are ready to help with exit planning. “It’s not easy to untangle a contract for an activity that you’ve not actually started yet,” she said.
Davey said exit planning was inherently problematic.
“I think the exit plans are very difficult to finalise unless you have an incoming provider, unless you know who that incoming provider is,” he said.
But that didn’t mean firms should throw up their hands. “What you can do is to prepare for the event, to make sure you have that toolkit ready, so you have all the information there that’s available so that whoever that new provider is, they know roughly what to expect and how the documents are going to be structured,” Davey said.
The third work stream, concerning standardisation, offered a chance to address the need for common terminology and documentation, data interfaces and testing processes. “It is broadly accepted that improved standardisation would be beneficial to the industry and should provide incremental improvements in transition times,” the OWG said in its document. It focused on providing guidance on how to document the overall operating model, defining a framework for service and data requirements during transition periods and proposing a testing methodology for use during a transition process.
The FCA declined to discuss the OWG work beyond reiterating its expectations for the industry. A spokesperson for the regulator said: “We expect that firms should have a clear and comprehensive plan in place to mitigate the risks that arise from their decisions to outsource.” Asked about the nature of the project, she said the FCA had no other comment.
Taking it further
The OWG was conceived as a closed-ended project. There is no version 2.0 in the pipeline. “There are no plans to continue. We set the objectives and we published the report, and that’s where we finish,” Davey said.
But the OWG is likely to leave a legacy.
The UK, as a global financial hub and with its large asset management community, has plenty of reasons for embracing this work, but OWG participants said other jurisdictions could benefit from a similar approach.
“I think you could apply it to lots of different areas,” Davey said. “The types of rules that you have in place for outsourcing are very similar as you look at different locations.”
Westwell said the OWG had generated a lot of positive interest from abroad since the principles it proposed were not unique to the UK. He said a number of different market sources have heard that even the US Federal Reserve had become interested in the collaborative work the OWG did in the UK.
“Certainly it’s a template that could be leveraged for a similar situation, because who knows what may occur?” Westwell said.
Even if the OWG did not inspire similar initiatives, Westwell said there was a major international dimension to its work. “The bottom line here is many international institutions have UK subsidiaries operating and regulated in this environment, and absolutely 100% they have to comply with all these regulations,” he said, noting the numerous US asset management arms operating in London that were also represented in all the OWG activity.
Davey described the relationship between service providers and asset managers as “intimate”, so talking about those issues in a group forum was no mean feat.
But somehow the OWG allowed these rival firms to open up to each other, creating both a refreshing and rewarding environment. “There’s a certain freedom in not having a client relationship and having an engagement on a topic like this, that you’re not encumbered by a commercial relationship,” Davey said.
He added: “I think everyone put a lot of effort in because everyone recognised that it was an industry issue that we had to solve as an industry. There was no competitive advantage for any of us in just trying to ignore it, or in any other approach.”