The history of technology transformation in the trading sector suggests only the introduction of genuine competition in the retail banking sector will push banks to replace legacy IT, with fines and reputational damage making little impact.
Without that competition, retail banks will only modernise when their legacy systems collapse – or if regulators force them to change.
Banks need to face a competitive threat similar to the London Stock Exchange (LSE) when the trading sector was liberalised.
Retail banks are under the spotlight as a result of high-profile technology failures. The digitisation of banking means IT failures, that might have gone unnoticed in the past, are now in the public eye in seconds.
Consumers' use of mobile banking means that, if a bank suffers downtime, they will notice immediately. The emergence of social media platforms such as Twitter means that, when somebody notices such an IT failure, it receives widespread exposure straight away.
As a result of increased public awareness, the financial services regulators are now focusing on banks' IT infrastructures. The combined fine of £56m the Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) imposed on the Royal bank of Scotland (RBS) last month is the most overt example of the regulators' new-found interest in IT.
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Technology as a competitive trading edge
The regulators imposed the fine on RBS because of the IT problem in 2012, when customers of RBS, NatWest and Ulster bank were locked out of their accounts for days. This resulted from a glitch in the CA-7 batch process scheduler, which froze 12 million accounts. Customers were left unable to access funds for a week or more as RBS, NatWest and Ulster Bank manually updated account balances.
As IT becomes more and more of a differentiator and new banks – built on modern IT infrastructures – enter the sector, the time is right for regulators to back healthy competition – beyond just making it easier for consumers to change bank accounts.
The London stock Exchange is a good example of how competition forced an IT overhaul. The organisation was the prime trading venue in the UK and held an almost monopolistic position until European regulators liberalised the sector.
The 2007 Markets in Financial Instruments Directive (Mifid) legislation enabled new companies to compete for trades. But it was technology – rather than the law itself – that drove the liberalisation of the stock-trading sector.
The emergence of new technologies is the important thing in increasing competition
Eli Lederman, Turquoise
When the LSE glimpsed oblivion
Eli Lederman, the founding CEO at alternative trading facility Turquoise, likened the evolution of the stock market to the deregulation of the airline industry.
Turquoise was set up by leading investment banks to take on local stock exchanges. This was made possible by Mifid, which ended the concentration rule that had previously forced all local trades to go through local exchanges.
At the launch of Turquoise, Lederman said the deregulation of the airline industry had increased competition in that sector in a similar way to how Mifid had increased competition in stock exchanges. "Mifid is to trading what deregulation was to the airline industry," he said.
"The emergence of new technologies is the important thing in increasing competition. It is now easy to assemble the pieces of technology required for an exchange."
When Turquoise set up as an alternative trading venue in 2008, it used off-the-shelf technology, including its core trading platform from supplier Cinnober, and a combination of Progress Software and Detica technology for its market surveillance applications. It used software from Neonet to provide market data and EuroCCP for clearing and settlement services. The infrastructure is housed in two datacentres run by financial services IT service provider BT Radianz and comprises HP blade servers running on a Red Hat Linux operating system (OS).
In 2009 the London Stock exchange bought Turquoise.
IT revolution in the trading sector
Faced with this onslaught, the London Stock Exchange had its own IT revolution, at the risk of losing a substantial proportion of its business. It decommissioned its (regularly failing) trading platform, Tradelect, and bought a new one – as well as the company that made it.
The company could not afford IT glitches with increased competition on the horizon. Traders value microseconds as an advantage, so any downtime at a trading value will quickly hand business to competitors.
The London Stock Exchange bought trading software company MillenniumIT for £18m to replace .Net-based Tradelect. The system was not only competitive, but ahead of many competitors. Trading times went down from a lumbering 3 milliseconds to complete, to a matter of microseconds. By 2011, The London Stock Exchange's main exchange and Turquoise were averaging times of 115 microseconds and 103 microseconds respectively to complete trades.
The London Stock Exchange continues to sell MillenniumIT technology to other trading companies and exchanges.
The retail banks are not facing an onslaught of competition threatening to remove over 20% of their market share
Competition drives IT evolution
This was not the first big technology transformation at the London Stock Exchange. On 27 October 1986 it closed its trading floor and moved to electronic trading in a development known as 'the Big Bang'. In those days electronic trades could take up to 30 minutes. Today it is microseconds, but retail banks still use systems that date back to before the London Stock Exchange’s big bang in 1986.
The need for speed gripped the trading sector for years, as investment companies, that use computer programs to trade high volumes, sought systems that could provide the shortest time from order to completion.
But there is constant change in the sector and the introduction of more competition increased the pace. Ten years ago, most stock exchanges used large legacy IT systems, run on high velocity automated computing platforms. These were built using commoditised hardware, with thousands of connections to clients, information sources and regulators.
No 'Year Zero' for retail banks
Brian Taylor, managing director of specialist trading sector advisory BTA Consulting, said banks could learn a lot from the London Stock Exchange. “The London Stock Exchange was courageous and removed the unreliable trading systems supported by Accenture, and replaced it with a much lower cost, modern solution from MillenniumIT from Sri Lanka,” said Taylor.
“Sadly that is unlikely to be listened to, as the retail banks are not facing an onslaught of competition threatening to remove over 20% of their market share, in a very short period, in their core product.
"I am sure there will be many more outages to come.”
He said banks have much to learn from the wider trading sector. “Firstly, they have to bite some very difficult bullets – they simply need to scrap their legacy infrastructures and replace those systems with modern alternatives, which have shorter shelf lives, and are supported by absolutely robust automated and comprehensive testing tools and methodologies.”
He said it is not just about the technology: “Simultaneously, they needed to replace the legacy management and IT teams with fresh blood and a can-do attitude.”
The whole thing is a maze and the old base is often undocumented. The people who designed those Cobol applications are retired – or dead
Jean Louis Bravard,
Layers of IT complexity
Jean Louis Bravard, IT outsourcing consultant and former CIO at JP Morgan bank, said that, although stock exchanges and retail banks were similar in having legacy systems, retail bank infrastructures were more complicated.
“Typically retail systems are very old and based on Cobol (sometimes Assembler) software written in the 1960s and early 1970s, on top of which a million functionalities have been added, in layer-cake fashion. And then, in the late 1990s and early 2000s, layers of internet systems were added," said Bravard.
"The whole thing is a maze and the old base is often undocumented. The people who designed those Cobol applications are retired – or dead.”
He said that, in comparison, trading applications are Unix-based with a lot of modern Excel or similar front ends. “Add to that some pretty solid technologies – like the Bloomberg terminal – and you end up with an environment that is very demanding and tested daily," he said.
"It also breaks, but the difference is that fewer people scream, except when the break is at the level of the exchange.”
Rik Turner, financial services analyst at Ovum, said trading companies are more responsive to the need to change quickly. “They are far more prepared to try something different – even if it’s from a lesser-known technology supplier – provided it will give them a competitive edge,” he said.
Retail banks have underinvested in their IT infrastructure for years
Hirander Misra, Global Markets Exchange Group
The future of retail banking IT
Much of the reluctance to change in the retail banking sector comes from a lack of competitive pressure. “I think one of the central problems is that, in retail banking technology, it is still largely about keeping the lights on – whereas in investment banking and trading generally, it is competitive differentiation," said Turner.
"For retail banking to move to that kind of thinking is quite a challenge.”
Hirander Misra, CEO at Global Markets Exchange Group, which supplies trading companies, said the trading sector developed in a different way to retail banks. “Retail banks have underinvested in their IT infrastructure for years. Legacy systems require specialised IT knowledge – and most of the people with this have left the banks,” said Misra.
“Over time the systems have become too complex. The IT is very unstable.”
He said banks could adopt agile software development techniques today, and need to start refreshing their IT in manageable chunks. “You need to look at a pilot project in one specific area and create a privately run function and then replicate it across the business,” said Misra.