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The Journey to the Cloud: Implications for the Securities Industry

August 24, 2021

The Office of Financial Innovation is a conduit and a facilitator of information related to significant innovation in the financial services industry, working to provide expertise and support to groups within FINRA, as well as FINRA member firms.

As cloud computing transforms how broker-dealers operate, FINRA’s Office of Financial Innovation surveyed nearly 40 broker-dealer firms, cloud service providers, industry analysts and technology consultants to better understand the implications of cloud computing on the securities industry.

On this episode, FINRA’s Haime Workie and Michael Oh join the podcast to discuss the group’s latest report on cloud computing and to provide an update on other areas of focus.

Resources mentioned in this episode:

Report - Cloud Computing in the Securities Industry

Investor Alert - Following the Crowd: Investing and Social Media

Topic Page - FinTech

Listen and subscribe to our podcast on Apple Podcasts, Spotify or wherever you listen to your podcasts. Below is a transcript of the episode. Transcripts are generated using a combination of speech recognition software and human editors and may contain errors. Please check the corresponding audio before quoting in print. 


00:00 – 00:25

Kaitlyn Kiernan: The Office of Financial Innovation is a conduit and a facilitator of information related to significant innovation in the financial services industry, working to provide expertise and support to groups within FINRA as well as to FINRA's member firms. On this episode, two members of the OFI team join us to discuss the group's latest white paper on the adoption of cloud computing and to provide an update on other areas of focus.

00:25 – 00:34

Intro Music

00:34 - 01:07

Kaitlyn Kiernan: Welcome to FINRA Unscripted, I'm your host, Kaitlyn Kiernan. I'm pleased to welcome back to the show Haime Workie, senior director of the Office of Financial Innovation, or OFI, and a new guest with us today, Michael Oh, a director with OFI. Haime and Mike, welcome to the show.

So Haime, it's been a while since you last joined us on the podcast. Can you just start us off by introducing yourself and sharing a bit of your background and a quick look at what the Office of Financial Innovation does?

01:07 - 02:06

Haime Workie: Sure, Kaitlyn. So I took a bit of a winding path to get to my current role here at FINRA. I started off my career as a mechanical engineer and then went to law school. After law school, I worked for a number of years as a corporate attorney, primarily on deals related to mergers and acquisitions and corporate financing. And then subsequent to that, I worked at SEC for a number of years on policy matters in the division of trading and markets.

And my role here in FINRA really draws from all those experiences, looking at the technology aspects of related issues, thinking about corporate financing matters, and then looking at it from a regulatory policy perspective about what impact is this likely to have on the broader securities industry, as well as the member firms that we regulate.

The Office of Financial Innovation itself was formed about two years ago, and it's really designed to facilitate innovation in a way that's consistent with our broader mandate here at FINRA, which is investor protection and market integrity.

02:07 - 02:20

Kaitlyn Kiernan: That is quite the varied background and interesting path you had to financial policy and FINRA. Mike, you're a new guest with us. So welcome. Can you tell us a little bit about your background and what you do with OFI?

02:20 - 03:03

Michael Oh: Thanks for having me. So, I've been with OFI for about a year and a half now. My background is mainly in financial markets and macroeconomics. I was in the emerging market space for some time, first as an international economist with the government and then as a sovereign analyst with an asset manager. And then I fell down the fintech / crypto currency rabbit hole, got into cryptocurrency, had joined some startups and did some teaching and then was fortunate to have the opportunity to join OFI around a year and a half ago.

During my time here, I've been working on digital assets as well as following trends in retail investing. I also had the opportunity to work on this Cloud White Paper.

03:03 - 03:16

Kaitlyn Kiernan: Mike you just mentioned the Cloud White Paper. OFI recently published a new white paper about cloud computing in the securities industry. At a high level, can you just share with us the goal of this paper and what you were looking at?

03:17 - 04:31

Haime Workie: So, there are really three questions we're looking to answer as a result of this paper and more broadly, the research initiative that led to the paper. The first question is why? Why are firms seeking to migrate to the cloud? What are the actual benefits they're desiring to achieve and what are some of the factors that's making the cloud appealing?

The second question is how? How are firms moving into the cloud, specifically what processes are firms using as they migrate to the cloud, are they kind of just going all in in terms of migrating to the cloud or are they taking a step by step approach or looking to move over certain pieces of their business into the cloud? Or are they taking a more experimental approach and just kind of testing the waters and taking more of a wait and see approach?

The third question was really around what and specifically what are the implications of migrating to the cloud, both from the perspective of firms and their business models and operations, but also from a regulatory perspective and what it means for us as regulators here at FINRA.

And the idea was hopefully, as we look to answer each of these questions, we can share some of that knowledge with the industry through this paper and serve as a way to gain feedback from the industry about what additional steps FINRA itself could take going forward.

04:31 - 04:36

Kaitlyn Kiernan: And who did you talk to while working to answer these three questions?

04:37 - 05:23

Haime Workie: We spoke to nearly 40 market participants, and I have to give kudos here to Mike, who really led this initiative and worked to identify the right entities we should be speaking to. We spoke to a number of broker dealer firms and this ran the gamut of kind of the large diversified firms to the very small shops, to everything in between. Looking at fintech firms as well as firms that had various different types of business models. We also spoke to all the major cloud service providers that operate in this area, as well as research industry analysts and technology consultants, with the hope of trying to get a broad perspective of how broker dealers were using the cloud, as well as what where some of the key challenges that they are facing. And what were some of the key issues they're encountering as they are doing it?

05:24 - 05:28

Kaitlyn Kiernan: That's interesting to hear. And what were some of the key takeaways?

05:29 - 08:18

Haime Workie: The takeaways really centered around common themes that we saw as a result of folks' migration into the cloud. The first was around this use of software as a service or SAAS, this was something that many firms were doing, even those that hadn't taken a deep dive into the cloud. And what this involves is basically having a full-service platform for a specific type of services, for things like emails, file sharing, online chat, video conferencing. And this proved to be particularly helpful during the context of the pandemic, where people are able to easily and remotely access these services. Some other types of SAAS services included things like customer relations management, as well things like financial accounts and human resources needs.

The second major thing that we saw across the board was the idea that the rollouts for cloud infrastructure should be targeted, incremental and iterative. While we did have some outliers that fully went into the cloud and ones that were taking a complete wait and see approach., many of the firms were using this iterative process where they're looking to see are there certain lines of businesses they can try to migrate over to the cloud, trying to see how that worked and then move over more businesses and use that knowledge as they're going through to feed into how they would structure the rest of their cloud migration.

The third theme was issues around governance, cloud security and training. And this relates to how you go about doing it and what is the thing folks need to consider as they migrate into the cloud. So having a good governance process in place around cybersecurity, make sure you've thought out all the things that could potentially go wrong, if not all the things than at least many of the things that could potentially go wrong and have a process in place to deal with those issues.

And then the final set of things was really around the need for both organizational cultural changes to accompany the cloud adoption. What we heard consistently from those who are further along the cloud journey was that this is more than a technology migration. It really needs to be a change in the way the firm's culture operates, because as you move marginal based expenditure for specific services that you're getting, you need to make sure that you have in place a way to utilize that so that you're not paying more for the services than you otherwise would need to. Also, you need to have an approach that allows you to take advantage of the ability to scale up and scale down. So that ties into things. They are thinking about innovation, ability to fail fast and quickly so that you can move on to the next few ideas. And to the extent that you're able to take advantage of one of your ideas, that you're able to scale up in a way that you probably couldn't have done in a pre-cloud world. The idea was that all these things were not really necessarily tied to technology, it's the way that people thought of using technology and deploying those tools.

08:19 - 08:26

Kaitlyn Kiernan: And Mike, from your experience talking to all these firms, what has the firm experience been so far?

08:27 - 10:14

Michael Oh: I think from a cloud adoption perspective, as Haime mentioned, we talked to a number of different broker dealers of different sizes and different businesses, and so from the perspective of where they are and their experience, it really runs the gamut. But most of the industry is in this stage of exploring and experimenting, and many of the broker dealers have started to migrate workloads into the cloud. And if you look at, for example, the larger diversified firms that you've probably articulated some enterprise strategy and are figuring out which businesses to move into the cloud. So by and large, many of the firms are in the process of moving into the cloud.

As Haime mentioned, sort of the low hanging fruit tended to be the software as a service type of applications, which typically didn't touch their core brokerage business, but maybe touched their ability to do collaboration or productivity types of workloads. And again, in the context of working remotely, these were the things that could pay off for broker dealers. So that's sort of where the industry is.

At either ends of the spectrum you do have firms that are already fully in the cloud. For example, the fintech firms, the newer entrants to the scene that are cloud native and don't have to worry about cloud existing infrastructure. And then on the other side of the spectrum, you do have a number of firms who haven't quite started their cloud journey. And part of that is because they don't necessarily feel that they have mission critical work that needs to be in the cloud. But they also recognize that going to the cloud is a big effort. And so they want to do so cautiously. And as Haime was saying you take maybe a more wait and see approach.

Again, many of the firms are sort of in the middle in terms of exploring the cloud, experimenting and starting to move workloads or starting to scale into the cloud. So I think, by and large, the industry as a whole is moving towards leveraging the benefits that can be had in the cloud.

10:15 - 10:36

Kaitlyn Kiernan: Makes sense that for a new business, it would be easier to start in the cloud versus shifting processes that have for a long time been in more the traditional data centers. You said most of these firms are in some phase of adoption. Generally, what are they hoping to achieve or do with cloud technology?

10:36 - 12:20

Michael Oh: When we talk to firms, there are probably two concepts that were recurring when they talked about what businesses were trying to achieve in the cloud, and those were resiliency and agility.

So in terms of resiliency, you can think of the scalability that is provided by the cloud. So for a broker dealer, for example, that is processing trades, there might be days when markets surge in terms of volatility and volume of trading activity. And the advantage of being able to scale into a cloud's data center is that you don't have to really worry about do you have the servers or the physical infrastructure to accommodate a surge in trading activity.

In terms of agility, I think Haime touched on this, is that firms reflected that they're able to get to market more quickly. And so if you think of starting a new business, traditionally, you would have to secure servers, rack them, configure them. It would take months. You would have to hire IT people to do it, cost hundreds of thousands of dollars. And only after a few months could you get started on your project or on your idea. On the cloud, you can just spin up the resources that you need in an afternoon and get to work. And if it succeeds, you can scale up in terms of the resources you need in the cloud. And if it doesn't, as Haime says, you can fail fast without having spent so much money on servers and physical infrastructure.

The other angle, speaking about agility, is that we've heard from firms that the cloud environment is just a better environment, rich in applications and tools for developers to develop and launch and test new applications. And, especially if paired with more agile workflows, firms could more effectively integrate different teams more quickly and effectively shorten the application development lifecycle so they could be more responsive to what the market needs, or to be able to launch updates more quickly and that way become more agile.

12:21 - 12:37

Kaitlyn Kiernan: That's interesting, especially what you were saying about making it cheaper to get started right off the bat, helpful if you're removing some barriers of entry to the industry. But on the flip side, what are some of the challenges firms are facing with their cloud adoption?

12:38 - 14:44

Michael Oh: The main challenge that firms shared with us is that migrations to the cloud are just very difficult and they can take up a lot of time and a lot of resource. There are some different angles here to consider.

One is the talent. So if you're moving to the cloud, it's a new environment. Firms need to retool their talent base in some way, shape or form, whether trying to hire new talent, retrain existing talent, maybe hire an outside consultancy or an IT service provider. And if you're going outside to hire that talent, there is fierce competition for the talent because it's not just the financial services industry, but other industries that are also moving to the cloud and looking for this kind of talent. So that is one challenge there.

Another is that firms took a lot of time, many months, and in cases over a year, to set up their governance processes and procedures. And then there was the security component. And I think if you talk to industry observers, they'll tell you that setting up in the cloud is more secure than what you can do on premise, because these cloud service providers are of such large scale that they can invest in leading edge security and security technologies. But the problem comes when broker dealers or firms in general don't configure correctly in the cloud. That's the big undertaking as well. So if you look at those three requirements in terms of the talent, the governance and the security, it's a big undertaking. And this leads to another point about cost.

When firms think about moving to the cloud, they'll think about cost as a motivating factor. But it's not always a benefit in these migrations. And there are ways in which going to the cloud can provide superior cost economics. But when you talk to firms, because of these transition costs that they have to incur going to the cloud, they may say something like, well, we expect cost benefits, but not for some time or we expect longer term to be cost neutral. Or I think in some cases it may not even be cost neutral, but cost negative. But the extent that this allows firms to be more agile and more competitive it might be worth the cost.

The last thing I'll note in terms of the challenge is the lock in risk. And this speaks to the dependency that any broker dealer may have on any given cloud service provider. And this is an issue that firms are going to face across the board. And there are ways to sort of mitigate this risk, whether technological or operational.

14:45 - 15:42

Haime Workie: One of the things that really surprised me is the ones that people said that they really had a hard time potentially overcoming and some of them even went back in terms of starting to move their business lines as the cloud and then coming back to going on prem was really around this cultural type of buy-in within the organization. All those other challenges are important, things around technology, people talk about some of the regulatory challenges, but none of those, at least based on the discussions we had, seemed to be kind of ones that had a difficult time overcoming over a period of time, was making sure that there was buy-in within the organization in terms of changing the way that they do their business to take advantage of the things that clouds allow them to take advantage of so that in the context of things like there was going to be costs associated with this, that those were justifiable. Because if they did their business the same way and just moved over to the cloud, a lot of firms noted that potentially wouldn't be that much benefits, if any benefits.

15:43 - 16:06

Kaitlyn Kiernan: So FINRA itself is pretty far along in its cloud adoption experience. But I know in one of our very first podcasts with Steve Randich, our chief information officer, he did talk about some of those challenges too and how it was a lot of focus on getting that buy-in. From a regulatory perspective, why is FINRA interested in this topic?

16:06 - 16:52

Haime Workie: We obviously have a vested interest in making sure that firms look to migrate into the cloud, that they do it in a prudent manner so that they're in compliance with the applicable rules. But more importantly, they do it in a way that maintains the integrity of the marketplace. And to that vein, I think one of the things we're looking to do with this white paper is offer a resource that firms can utilize to help them make sure that they're migrating to the cloud, they're taking into consideration the various factors that potentially would need to take into consideration. The other was really to the extent that folks saw any issues with the current regulatory landscape as it relates to the cloud, provide an opportunity for folks to comment on any grey areas that they see or any additional guidance they think would be beneficial.

16:52 - 17:08

Kaitlyn Kiernan: And we will link to the Cloud White Paper for you. Just to switch gears a little bit, Haime OFI has also been looking into the use of gamification features by broker dealers. Can you explain what FINRA means by gamification?

17:09 - 17:36

Haime Workie: Gamification is this idea that you're using game design elements and features in non-game situations. So, for example, design elements that may exist in video games, board games or other types of games in non-game situations. Examples of places where this has been used is learning a new language, corporate training, as well as in the financial space and specifically with respect to the areas we're concerned about, is in the investing space.

17:37 - 17:49

Kaitlyn Kiernan: Well, I am a big user of Duolingo, so I can attest to the gamification in the language adoption space. But what are some of the potential benefits and risks of gamification in the broker dealer space?

17:50 - 18:32

Haime Workie: Before I dive into that, I think it's important to keep in mind that gamification features are really just tools. So at the end of the day, it's really how these tools are used that dictate whether they are beneficial or whether they present risk to the underlying investors. So some of the benefits can be around enhancing investor education, giving information to help people make decisions. Some of the potential risks center around where some of these game design elements and features are being used to influence investors in a way that may be inconsistent with the investors' long term investment goals or objectives that they may have or getting them to act in spaces where they may not fully understand what they're doing.

18:32 - 18:40

Kaitlyn Kiernan: At a high level, what is FINRA hoping to learn through its focus on the increasing use of these gamification tools?

18:40 - 18:51

Haime Workie: We're really trying to get a better understanding of what are the current industry practices and trends in this area and what are the potential impact to investors and firms' business models. 

18:51 - 19:19

Kaitlyn Kiernan: Looking forward to hearing more from OFI in the future on what you hear from that space. Mike, at the very beginning, you talked about one of your areas of focus is digital assets and you had a background working with various cryptocurrencies. So in December, the SEC released a statement allowing broker dealers to custody digital assets. Can you explain what happened and what FINRA is doing to prepare for this new guidance?

19:20 - 20:21

Michael Oh: In December, the SEC came out with new guidance allowing broker dealers to custody digital assets in a special purpose broker dealer. And this is an important development so far as before, broker dealers could interact with digital assets, but only in a non-custodial fashion. But the statement was provided in a no action relief form for the period of five years, which is a pretty long period of time.

And I think the idea here is to give the regulators time to understand how to better regulate the custody of digital assets and also give the industry time to innovate, as well as build out the infrastructure to support digital assets securities. FINRA right now is working closely with the SEC to get the necessary clarity to implement the different requirements entailed in this guidance. And we're also talking to industry about the new guidance.

One of the things that the guidance provides, or one of the expectations raised, is that broker dealers custody digital assets in line with industry best practices. We're trying to get a better sense of what that means to develop a baseline of knowledge so that when as applications come in, we're in a better position to be able to review these applications.

20:21 - 20:35

Kaitlyn Kiernan: Custodying digital assets has many unique challenges compared to more traditional financial assets, so it'll be interesting to see how that develops. So what else is OFI watching and looking at?

20:36 - 23:04

Michael Oh: There are a number of things that we're looking at in the crypto or digital asset space. One is the continued institutionalization of cryptocurrency, whether you're talking about Coinbase have been done a direct listing or certain digital asset companies having been acquired in a SPAC deal, or new attempts to issue a Bitcoin ETF or other efforts to take traditional securities and put them in a token wrapper and trade them on a public blockchain. So a lot of things happening in the cryptocurrency side that are intersecting with securities industry.

There are two other areas that we're looking at closely as well, they are relatively new but growing very quickly. So one is DeFi, or decentralized finance, and that's basically the building of financial services that we know of, like lending and borrowing or derivatives exchanges or things like that, but they're built on the blockchain and they execute in a trust minimized away, which basically means that there's no trusted third party that's doing intermediating. It's basically smart contracts or code that's intermediating these transactions. And the promise for DeFi is that it can provide broader access to financial services to people, lower costs and introduce greater efficiencies in the provision of these services.

The other area that we're looking at is NFTs or non-fungible tokens. And this is basically a way to verify ownership of an asset on the blockchain. And this is sort of a milestone for cryptocurrency because it's the first major real-world e-commerce application of blockchain technologies. And so we're looking at this from the perspective of in what scenarios might these NFTs look like securities transactions. So the NFTs, to extent that they're a way of showing ownership as a non-fungible token or this digital asset, it's an asset that is pretty liquid and easily financialized. So we're looking at ways in which perhaps these assets can trigger securities types of regulations. And so some examples that we've seen that are happening offshore, for example, are the fractionalization of NFTs. So an NFT might represent some asset and some entity might try to fractionalize the ownership of that asset and, depends on the facts and circumstances, but that could very well look like a securities transaction. Or another example might be the bundling of a number of NFTs so that it looks something like an index fund to provide investors with broad exposure to the NFT space. And so that, again, entails probably some securities registration requirements. So we're just trying to stay abreast of how the space can intersect with the securities regulations and also be in touch with industry participants to the extent that they need to be aware of certain transactions that might trigger registration requirements.

23:05 - 23:38

Haime Workie: One of the things is important for people in the industry to keep in mind is as these various new technologies are being developed and various new processes related to these technologies being developed, the regulatory landscape that's been out there is still out there. And so it's not so much whether the regulations apply. The regulations apply just as before. Depending on what activities you're conducting, there may be additional thought given to how they would apply in this context. But just because you're using a new technology doesn't automatically mean that there's no regulations involved.

23:39 - 23:49

Kaitlyn Kiernan: Definitely a lot for firms to think about there. And Haime another hot area lately is the social media sentiment-based investing. What's going on there?

23:50 - 25:35

Haime Workie: Yeah, so there's actually a lot going on and social media sentiment investing maybe is a bit of a difficult term for most people to kind of wrap their head around. There's three kinds of social sentiment investing, kind of in order of sophistication, the one that's probably easiest to understand is social networking. So this could be things like chat lines that are on Reddit or Twitter or Discord or some of them may even exist within broker dealer platforms themselves where people could go to share different ideas that they have about a particular stock or about trading strategies or just investing in general.

The other type of social sentiment investing is around crowdsourcing. And you can almost think of this like the game shows where you didn't know the answer, so you'd ask the audience what the best answer was and you'd use that information to help you make your own decision. Crowdsourcing works in the same way where you can look at things like the most popular stocks and use that to potentially help you make decisions around your own investing. Look at ones are most frequently traded or other things like that where you solicit information from the crowd and using that information to potentially help you make your own investment decision.

Third, and probably the most sophisticated is around social sentiment analytics. And this can involve things like algorithms that frequently feature AI, things like machine learning or other types of form of AI where you glean data from the Internet about social sentiment, use those algorithms to compartmentalize and analyze that data in order to assist with making various investment decisions. Related to that, there have actually been some recent ETFs brought into the marketplace that seem to track social sentiment and kind of use those algorithms to help them figure out which products to invest in.

25:36 - 25:49

Kaitlyn Kiernan: That's interesting. And you mentioned it being like game shows. And I feel like all three of those very closely align to the options you get on Who Wants to Be a Millionaire: let's phone a friend and ask the audience and 50/50.

25:49 - 25:50

Haime Workie: Exactly.

25:51 - 25:58

Kaitlyn Kiernan: For firms and investors, what do they need to be aware of when they're looking at this type of investing?

25:59 - 26:57

Haime Workie: This type of investing had been done on an institutional level for a number of years, and we're seeing it spill more and more onto the retail space. And what I just caution folks about is that people use this information as one of many factors in the context of their investment decision. And the institutions that use this, they don't just look at one website or one point of input to help them kind of figure out what social sentiment is. They look at a broad array of different sources to figure out social sentiment and then use that as part of one of many inputs in order to help them make their investment decisions.

So to the extent that investors are thinking about just going and using this information as their only source of data or their primary source of data, that may be something that they want to think very carefully about. And related to that, FINRA has previously put out an investor alert around social sentiment investing and what are the factors that investors may want to consider in the space.

26:58 - 27:11

Kaitlyn Kiernan: We will link to that in our show notes as well. So just to wrap up, Mike and Haime, where can firms or investors go to stay up to date on the latest information coming out of OFI?

27:11 - 27:20

Haime Workie: If I can just go to and it'll give you the whole host of issues that OFI is looking at as well as recent publications in the space.

27:21 - 27:51

Kaitlyn Kiernan: Great. Well, that's it for this episode of FINRA Unscripted. Haime and Mike, thanks so much for joining me to talk about gamification, cloud and all these other areas of focus. Listeners be sure to check out the show notes for links to some of the resources that were mentioned today. And if you don't already, be sure to subscribe to FINRA Unscripted wherever you listen to podcasts. If you have any ideas for future episodes, you can email us at [email protected]. Until next time.

27:51 – 27:57

Outro Music

27:57 - 28:19

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