In January, HSBC announced it had settled around three million FX trades, worth up to $250 billion, using blockchain technology via its HSBC FX Everywhere solution (read the full report here). The solution orchestrates payments across HSBC’s internal balance sheet. Using a shared permissioned ledger, it transforms the process around intra-company FX activity, automating several manual procedures and reducing reliance on external settlement networks.
Meanwhile, in Japan, Broadridge has conducted the first proof of concept of a blockchain-based proxy vote (more on this story is here). Alongside ICJ, a joint venture company of Broadridge and the Tokyo Stock Exchange, the proxy vote took place using Quorum as the underlying distributed ledger technology (DLT). Developed for the Japanese proxy market, the solution mirrored the voting processes which included unique file transfer protocols on the ICJ electronic platform.
During the past two years “tremendous investment” has been made by the financial industry in pilots and proofs of concept for blockchain, says Mike Tae, head of strategy at Broadridge. “Financial services companies are very keen to explore the technology and identify use cases that can change the way their businesses operate,” he says.
In June 2018, research company Greenwich Associates estimated that the financial services industry was spending about $1.7 billion per year on blockchain. Its market study, Blockchain Adoption in Capital Markets – 2018, found that 14% of respondents claimed to have successfully deployed a production blockchain solution. During the year leading up to the report’s publication, blockchain budgets had increased 67%, with one in ten capital markets firms reporting budgets of more than $10 million.
Tae says, as an infrastructure provider, Broadridge has the scale and network value to invest in innovative technologies such as blockchain in a way its clients cannot.
The company is focused on governance and communications and has run blockchain pilots for AGM and proxy voting, for example, with Santander. In the Spanish bank, the company has found a “committed partner to innovate with”.
Another use case has been in bilateral repo. Such transactions are very manual and Broadridge is investigating the use of blockchain to simplify the operational component with an aim of reducing the number of fails and improving transparency. “When you put an asset on the blockchain, you can see everything that happens with that asset.”
The Depository Trust and Clearing Corporation (DTCC) has also applied DLT to better manage netting for US Treasury and Agency repo. It conducted a proof of concept with Digital Asset, which is working with the Australian Stock Exchange (see here).
Elsewhere, DTCC’s re-platforming of its Trade Information Warehouse to DLT is progressing well, says Rob Palatnick, managing director, chief technology architect at the CSD. DTCC expects to launch it in the second quarter of 2019.
One of the fundamental challenges with blockchain is that it means something different to almost everyone, he says. “There’s no such thing as ‘putting it on a ledger’. It’s not a giant secure spreadsheet that everyone in the world can use.”
Instead, there are many different vendors and models. At some point, he says, different blockchains will have to interoperate but that is a long-term issue. Palatnick believes there is something of a chicken and egg scenario: “Will people implement blockchain solutions if there are no industry-wide standards? At the same time unless you have many implementations and work through the interoperability issues, you won’t get to standards.”
DTCC has a role to play here, he says. As an industry-owned organisation it is focused on creating operational efficiencies, reducing risk and lowering costs. “We believe there needs to be clear governance and accountability around blockchain and that DTCC can act as a facilitator in establishing that framework.”
The more the industry collaborates, the more the technology can mature and prove itself, he adds.
Tae characterises blockchain as a “standards play”; because it has so much potential, industry participants are willing to unlock it. However, while blockchain has been proved in “real world” settings, solutions need to be productised and monetised. “The next step is to answer some questions about blockchain, such as interoperability and the regulatory and legal status of the technology,” he says. At present many different blockchain platforms exist, which raises a question about interoperability.
On the regulatory front, there must be a clear framework and standards around digital assets, for example. “Because a digital asset is a digital representation of an actual contract, does it hold the same legal status in a bankruptcy court, for example? The answers need to be hammered out.”
In the UK, the Financial Conduct Authority (FCA) is consulting on guidance, which, once finalised, will set out the crypto asset activities it regulates. The consultation period will close on 5 April 2019. The FCA says the guidance is intended to help firms understand whether their crypto asset activities fall under FCA regulation. Firms will have a better understanding of whether they need to be authorised and can ensure they are compliant and have appropriate consumer safeguards in place.
“The consultation is in response to industry request for greater clarity, and to the Crypto Asset Taskforce’s recommendation that the FCA provides additional guidance on the existing regulatory perimeter,” the Authority said in a statement.
Christopher Woolard, executive director of strategy and competition at the FCA, added: “This is a small but growing market and we want both industry and consumers to be clear what is regulated, and what isn’t. This is vital if consumers are to know what protections they’ll benefit from and in ensuring we have a market functioning as it should.”
Away from the capital markets and in the trade finance arena – where blockchain is considered to be a very promising technology – interoperability is also cited as a problem.
Vinod Madhavan, group head: trade at Standard Bank, says the biggest issues for blockchain are scalability and interoperability. “A big change” this year for the South African bank will be a change of mindset when it comes to blockchain. “We will move away from having proofs of concept as targets for delivery towards having functioning blockchain capabilities in the market,” he says.
Among the projects the bank is pursuing this year is a blockchain mechanism for its intra-branch letters of credit (LC) flow. The aim is to address reconciliation issues by implementing blockchain. Another major project involves the use of the smart contract component of distributed ledger and blockchain technology for domestic guarantees in South Africa. “We are working with industry participants in South Africa to put trade guarantees on the blockchain.”
However, there are challenges. On scalability, Swift’s messaging system can handle multiples of the volumes a typical blockchain solution can handle, he says. “If you try to create a permissioned, closed system you can increase the throughput, but you lose out on what blockchain can deliver.” The scalability question “is still out there”, he adds.
Interoperability is a problem, particularly given the many blockchain-based letters of credit solutions in the market. The concern in choosing any of these solutions is about “who will be left standing” and which standards will come out as the winner, says Madhavan. For that reason, Standard Bank has picked two initiatives contained to a particular market. If there is sufficient upside generated by either project, the bank will look to expand on it.
The multiplicity of solutions poses a problem for banks that fear they may become locked into a supplier that ultimately fails. This makes work on standards for blockchain worthwhile, he says. “In trade finance, we have a financial supply chain, a document chain and a physical goods chain. It is time for the industry to look at standardisation. But in the meantime, rather than waiting for standards to happen, we are solving a problem with our customers, beneficiaries and other banks within South Africa, using smart contract solutions from known players in the market. If this works, we can expand into other countries, such as Kenya.”
Enno-Burghard Weitzel, Commerzbank’s head of product management trade services, says blockchain and technologies such as robotics and automation are likely to transform the heavily manual trade finance process. The German bank is e member of the R3 blockchain consortium and was one of the first three banks to perform the Marco Polo proof of concept. “Commerzbank believes it will continue to gain traction and has the potential to revolutionise the handling of international trade transactions via blockchain, by providing risk mitigation and financing along the supply chain upon matching of agreed trade data, and by removing data silos from supply chains,” says Weitzel.
In early 2018 the bank worked with Audi to ease the export of vehicles from Germany to Spain using a worldwide, blockchain-based commercial transaction. “Previously such a transaction would require the exporter’s bank to ascertain the identity of each participant, but blockchain enables transparency for every participant,” he says. “Through this we have gained crucial insights into how the trade finance ecosystem can continue its transformation. We continue to keep our finger on the pulse and to find ways to help bring trade finance into the digital era.”
While innovations such as these may not be adopted on a widespread basis for some time, says Weitzel, Commerzbank believes that corporates will increasingly recognise the benefits of the digitalisation of trade finance.
But blockchain is not solely about the technology – Madhavan says to create blockchain solutions that solve “real world” problems, requires not just technical skills, but “domain skill sets”. In trade finance, developers need to know what the payment is, its underlying need, what a guarantee looks like, etc. Marrying domain expertise and technical expertise is crucial and was something that Madhavan saw in the Discovery Zone at last year’s Sibos in Sydney. “There were clear examples there of players who had domain expertise and were connecting with technical experts. Financial institutions need to be out there engaging with fintechs – that is something we are doing at Standard Bank. Our innovation hub looks at fintechs both domestically and internationally.”
Like Madhavan, Tae points up that the technology is only as good as the people who use it. Any solution must leverage a network of people and other entities using the blockchain. If key constituents are not on the blockchain, it will not work.
“Blockchain has the potential to be truly disruptive and transformative and if it takes hold could change financial services operations.”