The Federal Reserve and FBO compliance. Why liquidity risk is racing up the agenda

three blocks spelling FED
Pete McIntyre, the liquidity expert

Written by Pete McIntyre

December 20, 2023

The Federal Reserve and FBO compliance. Why liquidity risk is racing up the agenda

Can you imagine what it is like to be the Federal Reserve? You are the bank for banks. And if you think customers are hard to predict, please and protect. Try doing this, but for banks.

2023 was littered with banks that lost the good fight, and every one of them exposed liquidity challenges in the financial industry. As stress continues to loom, regulators are recognizing the importance of understanding and managing the risks inherent in the intricate web of global finance. With this, the Fed’s focus on liquidity risk management, and FBO compliance is gaining speed.

Why is liquidity risk racing up the regulatory agenda?

Bank failures have forced global financial regulators to understand that current liquidity metrics are simply not good enough. There is a noticeable increase in emphasis on real-time liquidity management from regulatory bodies such as the Federal Reserve (FED), the European Banking Authority (EBA), and, in fact, all regulators. This heightened focus extends across various segments of the banking sector and, in some instances, even beyond.

A major part of the problem? Currently, we are using branch banking era regulatory metrics in a real-time internet banking world. Thomas J. Jordan, Chairman of the Governing Board of the Swiss National Bank has offered the solution: liquidity regulations must be geared to the new reality of potentially faster and larger outflows of deposits.

At the same time, liquidity and liquidity risk are racing up the agenda in banks and financial institutions. Having a high Liquidity Coverage Ratio (LCR), – the proportion of high-quality liquid assets held by financial institutions to ensure they maintain an ongoing ability to meet their short-term requirements, has been held to signify institution stability. This is wrong, as proven by the failure of Credit Suisse, and real-time liquidity control has proven to be the most effective approach for addressing market confidence.

In the US, this means that the regulator’s attention is expecting FBOs to respond about their ability to manage liquidity risk given the potential impact they may have on financial stability. The rationale for us doing a recent webinar, is this heightened interest from the Fed. Liquidity Experts, Nick Applebee and Pete McIntyre talked about what is at stake for FBOs.

Key Takeaways are:

  1. The Fed is actively addressing intraday liquidity concerns, with 2023 and 2024 supervisory priorities focusing on this area, including scrutiny of large regional banks.
  2. Regulators value a consistent narrative from FBOs, seeking tangible demonstrations of data points, governance structures, and the ability to identify liquidity drivers, with a positive response to presenting a unified view in a single application.

With over 25 years of experience in financial services, Nick is an expert in cash and intraday liquidity management. He has worked at major international banks with FBO operations in the US. Here, he explains the Fed’s thinking and offers practical advice on FBO compliance for banks that are navigating this crucial regulatory landscape. You will also discover the opportunities and benefits a forward-looking financial institution can deliver through intelligent liquidity management.

The Federal Reserve and FBO compliance

The Federal Reserve regulates and supervises FBOs operating in the United States. The Fed implements these regulations to ensure the safety and soundness of these foreign institutions and to maintain financial stability. The rules cover various aspects, including capital and liquidity requirements, risk management, and overall compliance with U.S. banking regulations.

The Fed has been proactive in addressing intraday liquidity concerns, with supervisory priorities for 2023 and 2024 focusing on this aspect. Even large regional banks are now under scrutiny, indicating a broadening regulatory perspective. The notion that having significant liquidity parked at the Fed is sufficient can be misleading, as the ownership structure may leave the FBO vulnerable in times of crisis.

The clear message from the Fed is that banks need to have accurate and timely data to measure, mitigate, and manage liquidity risks effectively. Good data enables FBOs to qualify and analyze usage both in the present and future, allowing for informed dynamic decision-making at various levels of the organization. The emphasis on good governance practices, stakeholder management, and collaboration within the organization is crucial for demonstrating regulatory compliance and building confidence.

Regulators appreciate a consistent narrative from FBOs regarding their liquidity management journey, and they actively seek tangible demonstrations of data points, governance structures, and the ability to identify liquidity drivers. The ability to present a unified view of liquidity drivers and positions in a single application is particularly well-received by regulators.

The anatomy of a successful Fed demonstration

Nick has hands-on experience working on an FBO response to a regulator, here’s what you should know:

During a demonstration, a regulator will want to scrutinise various elements, seeking a deeper understanding of how an FBO manages liquidity risk. Questions regarding data points and their origins, the real-time nature of the data, and the governance structures in place took center stage as well as complimentary functionality for managing liquidity in both business as usual and stressed times. This scrutiny is aimed at evaluating the robustness of the institutions’ liquidity risk management frameworks and functionality at its disposal.

A standout feature that earns praise from regulators is the ability of an FBO to consolidate essential information within a single application. This consolidated view allowed for a holistic understanding of liquidity and the drivers at any given point in time and at various levels within the organization. This efficiency not only impresses regulators but also highlights the institution’s commitment to transparency and streamlined reporting.

Imagine the power of liquidity working for you

Many institutions have already woken up to the fact that if you want to manage liquidity, mitigate risk and make your money work harder, you must have real-time data at your fingertips.

“Real-time liquidity management is a must. No longer is liquidity management only an end-of-day activity with follow-the-sun and against-the-sun options. With some providers charging intraday interest by the minute, real-time position-keeping plus real-time execution are both vital and will only become more so as real-time payment schemes become more prevalent and grow in volume.” BNY Mellon case study, Aite-Novarica, Jan 2023

Less stress, more insight

As Martin Wolf, the chief economics commentator at the Financial Times observed soon after Silicon Valley Bank’s collapse, “the marriage of risky and often illiquid assets with liabilities that have to be safe and liquid … is a calamity waiting to happen.” 

Wouldn’t it be better to know the state of your in-and-out liquidity in real-time, at any given moment of the day, and make sure it starts earning you money rather than costing you?

You can make incredibly accurate forecasts of your real-time liquidity usage using the right tech. Imagine the power that knowledge gives you.

Real-time liquidity management is a gateway to transforming your operations and untapping opportunities for growth. In short, you get a goldmine of actionable insights that allow you to be a change-maker in your organisation.

How to optimise liquidity usage and extract value from liquidity resources

Acknowledged as the best-in-class solution for regulatory confidence, the outcomes for Planixs clients speak volumes. The Realiti platform offers millions in savings on intraday liquidity buffer costs, ensuring compliance with the BCBS248 regulatory agenda, and fostering efficient and effective funding operations.

Built by experts with decades-deep experience in the banking sector, Realiti® is the only liquidity intelligence platform to deliver real-time 360° control and insights across your entire liquidity landscape, in one place.

The platform has enabled many financial institutions to transform cross-firm data into a single source of truth and put pioneering liquidity insights into the hands of stakeholders and decision makers across the organisation.

You are warmly welcome to ask us any questions. Book a call to get expert advice from Planixs, we’d love to talk to you.

Final advice?

The Federal Reserve’s focus on FBO compliance and liquidity risk management is rooted in the need for stability and resilience in the financial sector. Institutions that effectively communicate their narratives, fulfill promises, and demonstrate the practical implementation of their liquidity risk management strategies find themselves in good standing with regulators.

In a regulatory landscape that continually evolves, FBOs must remain agile, responsive, and committed to enhancing their liquidity risk management practices. As the Federal Reserve continues to scrutinize these institutions, the ability to showcase a robust and efficient framework will be pivotal in maintaining regulatory compliance and fostering a stable financial environment.

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