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Financial Crime In Focus

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FINANCIAL CRIME IN FOCUS – Edition 13

Published Date: 9th December 2019

Will regulatory technology deliver a Utopia that frees AML compliance from inefficiency, increasing costs and limited money laundering detection rates?

‘Regtech’, as it is fondly known, has come a long way – but is it delivering?

If the investment figures reported recently in The Fintech Times are anything to go by, the markets certainly have confidence that it can. Global investment in Regtech has grown five fold from 2014 to 2018 reaching nearly $4.5bn and the UK is a leading global centre in this. Clearly the opportunity is there even if, to quote Nick Cook at the FCA, it remains the ‘sleeping giant of financial technology.’

And there has been a lot of noise recently on this very topic. Perhaps most notably we’ve heard key speeches from Nick Cook and Megan Butler of the Financial Conduct Authority (FCA). Both have been speaking about how technology is revolutionising the financial industry sector. However with every opportunity comes threat. The same technology is simultaneously leveraged by financial criminals resulting in a digital game of ‘cat and mouse.’

Both FCA speeches offer interesting insights from the regulator’s perspective, with Butler highlighting that ‘disrupting crime in real time is a key frontier... our joint endeavour is to monitor entry, devise controls and erect barriers powerful enough to stop criminals from causing further harm.’

Laudable aims which we would all agree with, but the big question is – how? How do we move from detecting what’s estimated to be less than 1% of money laundering in the UK, to something even bordering on success?

Head them off at the pass...

If we are to really increase money laundering detection rates at the ‘entry’ stage, i.e. at on-boarding, then real time solutions are essential. Risk is so dynamic in nature and financial criminals so incredibly agile, that unless checks use up to the minute information and innovative technology to monitor trends, we will always be playing catch up.

Investing in the right technologies is key to achieving this. Historically, KYC and AML processes have relied on static technologies and data sets. For example traditional ‘rules based’ transaction monitoring systems use rules which are based on past events or company policies. Such systems simply cannot update in real time and respond to current trends. Applying ‘Smart’ technology to transaction monitoring processes, in the form of artificial intelligence, is the future.

The Enhanced Due Diligence process is also benefitting from the rise of AI. The deep web is a rich source of information that can be used to evaluate the risk associated with an entity, but retrieving the right intelligence can be a challenge. By applying artificial intelligence in the form of Natural Language Processing, it is possible to quickly and easily extract vital adverse information from the outer reaches of the deep web.

And these are but a few of the many use cases that are benefitting from AI – identity verification, fraud detection and even the evaluation of sanctions risk are all being optimised through the use of smart technologies, driven by the RegTech leaders.

However, challenges for the vendors remain. As Cook pointed out, ‘a key struggle for RegTech solutions is making the step from Proof of Concept to Proof of Value – being able to demonstrate to these potential customers in the financial services industry that your solution not only works, but may provide a more efficient and effective way of doing things.’

There is undoubtedly some resistance to change in the industry and a fear that migrating to an innovative solution could deliver a double whammy; neither delivering the promised improvements nor meeting with regulatory approval. The worst of all worlds.

However there is hope...

The FCA has signaled support for Regtech innovation through creation of a new sandbox - ‘cohort 6’. It also recognises its own need to keep up with technology. Such positive steps are critical for broader adoption in industry. The extent to which regulated firms implement new technology will not only be driven by operational efficiency and cost/benefit factors, but also by how much the regulator actively encourages its adoption.

To get serious about harnessing the power of technology to fight financial crime and improve detection rates, then a much improved industry partnership between the companies investing in the new solutions, users who apply them and regulators who monitor them will be needed.

The reform of the Suspicious Activity Reports (SARs) regime is one such area where collaboration could yield great benefits. Smart technologies have the potential to significantly improve what is a currently a highly inefficient system.

As SAR submissions continue to grow year on year (The 2019 Annual Report from the NCA highlights another record year with 478,437 SARs reported in the 2018/2019 reporting year), the ability to interrogate, analyse and identify patterns in high volumes of data becomes even more critical. Again, Smart technologies will be the key here, as will cross-stakeholder co-operation as the NCA itself highlights ‘Further researching, developing and delivering analytical products, working in conjunction with regional, national and international partners.’

By linking together and analysing SARs using technologies such as statistical linking, the UK financial investigation unit would undoubtedly improve the detection of financial crime and enhance the value of submitted SAR’s.

Gaming the system

The Guardian recently reported just how innovative money launderers are in finding new ways to exploit technology. This time using video games, where in-game purchasing of game tools has been used to launder criminal funds. The company behind the game in question said that “nearly all” of the trading was part of a money-laundering scheme run by “worldwide fraud networks.”

As a result they have shut down the ability for players to trade tokens using credit cards, effectively shutting down this money laundering avenue. However, as is all too common, it’s a case of after the horse has bolted.

Could anyone be reasonably expected to ‘monitor entry, devise controls and erect barriers’ in this instance? It’s a debatable point and would only be possible if firms carry out thorough risk assessments of all products where money flows could be harnessed for illicit purposes. Subsequently they would need to call upon technology based solutions which shut out the criminals, whilst not alienating or blocking legitimate users. Quite a challenge and definitely one for the Regtech industry!

Managing the risk of Cryptos

Cryptocurrencies and cryptoassets are making headlines lately, especially with the upcoming 5th Money Laundering Directive mandating regulation of the sector.

We covered this topic in an earlier edition of Financial Crime in Focus and to be fair, unless you work in the sector, the range of names can be bewildering! One such name - Stablecoin - has come into focus recently as the Financial Action Task Force reported on outcomes of its latest plenary meeting.

Stablecoins are a new form of cryptocurrency which attempt to deliver the best of the digital and physical worlds. They combine the secrecy and instantaneous transmission benefits of cryptocurrencies, with the backing of a reserve asset such as a fiat currency or precious metal. The ultimate aim is to significantly reduce volatility and to provide a safer cryptocurrency.

The challenge for financial service firms involved in the crypto space is simply keeping up with new developments like this and the eco-systems they operate in. Evaluating risk exposure as new regulatory requirements come into play is tough but essential for firms operating in this sector. FATF advise that such instruments still have significant money laundering risk and need to be monitored closely.

Remember what we’re fighting for

Lastly, spare a thought for the money mule victims again and how financial criminals exploit the vulnerable in society. So often people get involved in such scams without even realising they have committed a crime.

The lure of ‘easy’ money can be difficult to resist particularly for those under financial strain, and the festive season no doubt further compounds this pressure. The BBC recently reported the sad story of two ladies prosecuted in Northern Ireland who allowed their banks accounts to be used as part of an organised bank fraud. Some £10,000 was washed through the ‘clean’ accounts. Neither of them had criminal backgrounds but were lured by the promise of ‘easy’ money and now have to live with the consequences for the rest of their lives.

This problem is not isolated to the UK, as a recent press release from Europol highlights. It gives details of a concerted effort by law enforcement in 31 countries who have identified 3,833 money mules, 4,700 victims and made 228 arrests.

Banks are already well aware of this problem, but it continues to grow. Smart technologies which recognise the typologies associated with money mule activity is one solution that can help to tackle the problem. In addition, a culture of better information sharing between banks could greatly improve detection rates.

However a simple thing we can all do is raise awareness of the problem by warning friends and family, to make people more aware of how easy it is to fall victim.

Together we can fight financial crime... until next time.

Author: Michael Harris 
Director, Financial Crime Compliance and Reputational Risk
LexisNexis® Risk Solutions

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The 'Money Laundering Exposed' Initiative

The 'Money Laundering Exposed' Initiative

If the UK is to effectively combat the flow of illicit funds, frank and open conversations with those on the frontline are required. LexisNexis® Risk Solutions is creating a platform for these discussions to take place and be shared, through its latest insight initiative – Money Laundering Exposed.
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