A new report from the Financial Industry Regulatory Authority looks at how blockchain technologies will be used throughout the securities industry. It is seeking comments from banks and financial services firms through March 21.
This report provides an overview of distributed ledger technology, highlights key applications being explored in the securities industry and potential impact of the technology, and discusses key implementation and regulatory considerations for broker-dealers.
FINRA is asking market participants to help identify and address any potential risks or hurdles “in order to tap into the full potential of DLT, while maintaining the core principles of investor protection and market integrity.”
“Technological innovations in the industry, operating in accordance with these core principles, have the potential to provide investors with greater access to services and enhanced experiences, offer firms increased operational efficiencies and enhanced risk management, and enable further transparency in the marketplace,” the self-regulatory organization said in a statement. The report is intended to be an initial contribution to an ongoing dialogue with market participants about the use of DLT in the securities industry.
FINRA is also requesting industry comments on any related matters for which it would be appropriate to consider additional guidance.
Distributed Ledger Technology (DLT) (also known as blockchain technology or distributed database technology) has attracted significant interest and funding in the financial services industry in recent years. Several large financial institutions have established dedicated teams to explore the technology, and some market participants have formed consortia to create industry standards.
According to a 2016 report by the World Economic Forum, over the past three years more than $1.4 billion has been invested in this technology to explore and implement uses in the financial services industry.
“There are varying views in the securities industry on the magnitude of disruption DLT may cause,” the report says. “Some have argued that DLT has the potential to revolutionize the operations of the securities industry, while others have debated that any changes resulting from the use of DLT in the securities industry are likely to be incremental and take many years to develop. However, most agree that the technology has the potential to bring additional efficiencies and increased transparency to the industry while also presenting some novel risks such as those related to data security and privacy.”
Some analysts and research reports predict that we may start seeing adoption of the technology in limited market segments in a matter of months, with larger-scale industry-wide adoption potentially occurring after several years, the report adds.
Many FINRA rules, as well as those implemented by other regulators (including the Securities and Exchange Commission), are potentially affected by various DLT applications.
For example, a DLT application that seeks to alter clearing arrangements or serve as a source of recordkeeping by broker-dealers may implicate FINRA’s rules related to carrying agreements and books and records requirements. The use of DLT may also have implications for trade and order reporting requirements to the extent it seeks to alter the equity or debt trading process.
FINRA rules such as those related to financial condition, verification of assets, anti-money laundering, know-your-customer, supervision and surveillance, fees and commissions, payment to unregistered persons, customer confirmations, materiality impact on business operations, and business continuity plans also may to be impacted depending on the nature of the DLT application.
“FINRA welcomes an open dialogue with market participants to help proactively identify and address any potential risks or hurdles in order to tap into the full potential of DLT, while maintaining the core principles of investor protection and market integrity,” the report says.