Regulatory technology initiative of the year: Modelity

Structured Products Europe Awards 2017

Eran Elad, Modelity Technologies

The financial services industry and its technology providers have scrambled to keep up with the burgeoning regulation that followed the financial crisis. Yet, every now and then, a company finds itself ahead of the curve. A grasp of fundamental principles, foresight or timing sometimes propels a firm to the forefront of a market. In the case of Modelity Technologies, it is a little of all three.

Modelity clearly grasped the fundamental principle that structured products require not only sophisticated pricing and analytics, but also more prosaic back-office documentation, plus ongoing monitoring. It had the foresight to integrate these on its Modelity/Structures platform, which is a comprehensive sales, support and management tool for structured products businesses. 

Its timing proved spot on when the regulators hoisted the bar way up with the Packaged Retail and Insurance-based Investment Products (Priips) regulation and its requirement for key information documents (Kids) – due to come into effect early in 2018 – which closely matched what the company was more or less providing. Suddenly, technology that had been ‘nice to have’ became ‘must have’, and demand soared.

It is not that Modelity had no further developments to make to meet requirements. Although it had the basic platform in place, with the tools for pricing, documenting and monitoring a wide variety of products, Priips demanded way more. 

In fact, its Priips project has been “huge”, says Eran Elad, Tel Aviv-based vice-president for product management at Modelity. The company’s staff has doubled in the past two years. “Most of our company is working on Priips now,” says Elad 

First, there is the vast universe that the regulation covers, with a huge variety of product types across many asset classes. The second major challenge is that because Priips is a principles-based regulation, it leaves a number of issues open to market interpretation. 

“Developing the capabilities to support all these product types and asset classes is an enormous task – it is still not finished,” says Elad. “With so many product types, payoffs and scenarios to calculate, the regulators decided not to dictate how financial institutions should handle these, but left it to their intelligence, saying only that their solutions should be in the spirit of the regulation. That has left many open issues.” 

One such issue is how to calculate a product’s value for an intermediate holding period. The regulation has a reasonably clear explanation of how to calculate performance scenarios for the recommended holding period for a product, but left open how it should be done if an investor wants to sell the product early. Another issue is how to handle products with early callability, where an issuer has the right to decide to call a product after a certain period before its maturity.  

“These are just two of a gazillion issues we are helping to try to solve,” says Elad. 

With so many product types, payoffs and scenarios to calculate, regulators decided not to dictate how financial institutions should handle these… That has left many open issues 
Eran Elad, Modelity Technologies

Modelity is part of a European quant forum lead by JP Morgan that is addressing outstanding Priips problems. Modelity contributed to the discussion on how to calculate the conditions under which an issuer can call a product early but how to calculate an intermediate holding period for a product was harder to negotiate. 

“The forum members couldn’t come to an understanding, which means that each bank does it its own way – and we need to support all these options,” says Elad. 

A major ongoing issue where Modelity made a significant contribution involves how to calculate the summary risk indicator (SRI) for credit-linked notes (CLNs). The Priips standard SRI calculation assumes a credit-risk factor based on a single issuer. However, CLNs can be based on the credit risk of a basket of entities. Here, Modelity was a step ahead of the regulation. It had already agreed and implemented a methodology for the Swedish market that deals in such products and proposed it to the quant forum. Now, many of Modelity’s non-Swedish clients are using the methodology for CLNs under Priips, as well as non-client members of the forum.  

Also, as part of a buy-side European working group, Modelity contributed to the representation of structured products within the European Priips template to allow the distribution of structured products within insurance wrappers. Under the regulation, insurance companies must report information similar to that required by the Kid on underlying investment options available within their insurance products, including structured products.

Other developments that Modelity has made to support clients’ Priips compliance include beefing up its platform performance to handle the monitoring of all the Kids its supports, including daily recalculation of the performance of products and their underlyings, their SRIs, performance scenarios and reduction in yields. To facilitate the automated loading of products and trades onto the platform, the company has developed an application programming interface as an alternative to manual input.   

The judges praised Modelity for its active role across the industry and for being “at the forefront of work relating to the Priips Kid and Mifid II, which are the most relevant regulatory developments for the buy side and the sell side of the structured products market in 2017”. 

The judges noted that the company’s key advantage is its ability to combine strong analytics and pricing capabilities with the relevant regulatory technology for both sides of the market.

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