Review of 2024: as markets took a breather, firms switched focus

In the absence of major crises and rules deadlines, financial firms revamped strategy, services and practices

Credit: Risk.net montage/Getty
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After years of almost constant struggle, one crisis after another, the financial markets finally got some respite in 2024. There were no major crises to speak of – no bank failures or hedge fund defaults – and very little in the way of market volatility. And there were no major regulatory deadlines to meet, with even those on the horizon falling further into the distance.

The industry took advantage of the relative calm to focus on new projects. Banks began to rethink the traditional three-lines-of-defence model, with more resources directed to first-line risk teams – a trend that raises thorny questions. Dealers started work on upgrading their counterparty risk models, which failed to accurately predict losses in the Archegos default, with many taking their cue from research published by Risk.net. 

Sell-side trading operations were overhauled to account for the growth of ‘pod shops’ – multi-manager hedge funds that now handle more than one-fifth of the industry’s assets. The market for US synthetic risk transfers saw the emergence of a new ecosystem of investors and intermediaries, which could make it easier for lenders to insure their credit portfolios. 

The election of Donald Trump raised even bigger questions about the US’s commitment to the Basel III international capital standards

Elsewhere, CME, Ice and LCH unveiled plans to clear US Treasury securities ahead of an incoming regulatory mandate, while a slew of new entrants bolstered the ranks of clearing brokers, which had been dwindling for years.

Amid this flurry of activity, one highly anticipated project was notably missing: just 10 banks are expected to use internal models under the Fundamental Review of the Trading Book (FRTB) – dealing a blow to the new market risk capital framework that has been more than a decade in the making. While much has been done to improve risk management capabilities over the course of 2024, the mass abandonment of internal models raises the spectre of increased herding effects as banks assign the same risk weights to all exposures, and respond to market shocks in the same standardised manner.

Here, we look back at some of the year’s biggest Risk.net stories, and those with the greatest potential to shape the coming 12 months.

THE NAME OF THE GAME

In a more perfect world, the Basel III international capital standards – agreed at warp speed after the global financial crisis – would have been fully implemented by the start of 2024. In reality, the rules are currently only fully effective in six of the 28 jurisdictions that comprise the Basel Committee on Banking Supervision – with the largest being Japan and Canada. Of the rest, the European Union has finalised its version of the rules, which will go live in January 2025. The UK is almost there, but has delayed implementation for another year. The outcome in the US, though, is completely up in the air.

A draft version of the rules released in July 2023 by US banking regulators – dubbed the ‘Basel III endgame’ – was met with a barrage of criticism from banks. While the jettisoning of internal models for credit risk was widely expected, the proposal – said to have been hastily rewritten after the collapse of Silicon Valley Bank in March 2023 – contained several other elements that drew the industry’s ire. Client-cleared trades would be subject to credit valuation adjustment (CVA) charges and included in the calculation of the surcharge for global systemically important banks (G-Sibs). Fee income used to set operational risk charges would be calculated on a gross basis. Minimum haircuts for repurchase agreements were dropped entirely.

The banking industry mounted a fierce lobbying effort against the proposal, running halftime ads during Sunday Night Football – the US’s most-watched TV show, with over 20 million viewers – and assembling a coalition of unlikely allies, including housing and minority activists, to take the fight to Congress.

The Federal Reserve finally caved in to the pressure, announcing in September that the draft rules would be scrapped and reproposed to address the industry’s concerns. The reversal split the regulatory community, with Republicans at the Federal Deposit Insurance Commission calling for the proposal to be eased further and a Democratic member demanding the Fed stick to its original vision.

As the year drew to a close, the reproposal was nowhere to be seen, while the election of Donald Trump raised even bigger questions about the US’s commitment to the internationally agreed bank capital standards.

“To take something where we don’t have that risk, and have to capitalise against risk that doesn’t exist, doesn’t make sense” – a clearing executive at a large futures commission merchant (FCM) (US dealers slam capital hit on clearing for unreal CVA risk, February 26)

“The level of amendment to the proposal that would be required to make it acceptable will require reproposal” – Randal Quarles, former vice-chair for supervision at the Fed (Basel III endgame: why moving fast might prove better for banks, May 15)

“We have a case of strange, strange bedfellows here” – Pat McCarty, Georgetown Law School (Sunday night football and the Basel III endgame, August 21)

“We do our work over the long cycle: this rule process started in 2013 and we are going to take the time to get it right” – Michael Barr, Federal Reserve (Fed’s Basel III rollback gives clearing units a capital break, September 10)

THE MODELS

The implementation of the FRTB – the market risk component of Basel III – should have been a watershed moment for market risk modelling. Instead, it turned into a fiasco, with one bank after another decrying the cost and complexity of the new internal models approach (IMA).

Over the course of the year, Risk.net revealed the extent to which banks were spurning the IMA in favour of the simpler standardised approach (SA). The big five Canadian banks all opted to use the SA when the FRTB took effect there in January 2025. In Japan, only Nomura plans to adopt the IMA to calculate market risk capital requirements. A Risk.net report in April revealed just three European Union banks – BNP Paribas, Deutsche Bank and Intesa Sanpaolo – had applied to use internal models under the FRTB.

A study published by the International Swaps and Derivatives Association (Isda) and EY in July confirmed much of Risk.net’s reporting, while providing a more complete picture of the decline of internal modelling. Of the 26 banks that participated in the study, 24 currently used the IMA for market risk, but only 10 planned to do so under FRTB.

In November, Risk.net revealed that Barclays and HSBC also planned to use internal models for market risk. Along with Singapore’s United Overseas Bank, that brought the number of confirmed IMA banks at the end of 2024 to just seven.

US banks are still waiting to see the Fed’s final Basel III rules before making a decision on IMA use. The delays in finalising the US rules prompted the EU to delay its own implementation of the FRTB by a year. The Fed indicated in September that its re-proposal would include a multi-year implementation period of the profit-and-loss attribution test and other incentives for banks to model their market risk exposures.

It might be a case of ‘too little, too late’.

The mass abandonment of the IMA has reinforced concerns that the FRTB could create a herding effect, with banks assigning the same capital costs to all exposures, and then moving in the same direction when those capital costs change in the same way, at the same time.

The coming years will test the validity of those concerns.

“We didn’t have an exact number of banks in mind, but did not imagine a situation where one model ruled the world” – Tomoki Tanemura, Bank of Japan (Japanese megabanks shun internal models as FRTB bites, April 17)

“There’s no obvious capital benefit. It’s easier to manage the standardised approach than the IMA” – David Kelly, consultant specialising in quantitative finance (Revealed: the three EU banks applying for IMA approval, April 24)

“I don’t know how many banks will end up implementing [advanced models], but it’s not going to be that many” – a regulator (Why FRTB models are on the edge of extinction, June 24)

“Based on all the work we have done, there is a stark decline in the take-up of internal models” – Panayiotis Dionysopoulos, Isda (Study finds just 10 banks plan to apply for FRTB models, July 18)

“As far as I know, I don’t think anyone is going to be going live on January 1, [2026]” – a market risk expert (Barclays and HSBC opt for FRTB internal models, November 11)

RACE FOR THE PRIZE

While banking regulators were struggling to finalise their capital rules, the US Securities and Exchange Commission (SEC) successfully adopted its clearing mandate for US Treasuries and repurchase agreements at the end of 2023.

The rules, which will take effect over the next 18 months, set off a race to overhaul the plumbing of the US Treasury market to support buy-side clearing. Historically, most buy-side firms have relied on dealers to submit trades to the Fixed Income Clearing Corporation, which has a monopoly on US Treasury clearing. Concerns about FICC’s rules – which allow dealers to bundle clearing with execution in a ‘done with’ model – prompted calls for alternative venues to compete with the incumbent.

In March, CME announced it would throw its hat in the ring – albeit reluctantly. Ice and LCH followed suit, setting the stage for the biggest transformation of the US Treasury market in a generation.

FICC responded by proposing new rules in April aimed at making it easier for buy-side firms to access its services. While both CME and Ice confirmed they would support ‘done away’ trading, where clients select a clearing broker after execution, FICC’s proposal stopped short of prohibiting dealers from bundling these services. Regulators delayed approval of FICC’s rule changes in the face of fierce criticism from the buy side and used their bully pulpit to push for a done away clearing model.

FICC refused to budge, and its proposal was finally approved in November, in one of SEC chair Gary Gensler’s final acts before standing down in January 2025. But with a new administration waiting in the wings, the fate of the SEC’s US Treasury clearing mandate remains an open question.

“The regulators should not be in any type of business of picking winners and losers – it should be a level playing field” – Mark Wendland, DRW (Holes in the netting: the limits of CME-FICC cross-margin deal, January 15)

“I will file an application to become a clearer of US Treasuries. Do I want to? No. Do I have to? Absolutely” – Terry Duffy, CME Group (Reluctantly, CME moves to clear US Treasuries, March 12)

“We and a lot of other people were pushing to decouple access to clearing and executing counterparty as part of this change. They did not do that” – a regulatory executive at a market-making firm (FICC takes flak over Treasury clearing proposal, April 22)

“I’m not a big fan of done away repo, because of [its] complexities in a crisis situation” – Peter Nowicki, Wedbush Securities (CME, Ice tread nuanced path to US Treasury clearing, August 26)

“Let’s assume that FICC, CME and Ice have similar solutions. The real open-ended question is: are intermediaries going to support it and what are they going to charge for it?” – an executive at a market-making firm (Netting hurdles could decide the US Treasuries clearing race, October 16)

SYNTH-POP

The market for synthetic risk transfers (SRTs) exploded after US regulators authorised capital relief for a wider range of deals. With more issuance on offer, new investors flooded the space, including asset managers such as BlackRock and Pimco, as well as non-specialist credit investors more familiar with trading instruments like asset-backed securities and collateralised loan obligations.

The influx of new players compressed yields and introduced new risks. Some investors began applying leverage to US deals, which are more conservatively structured and carry lower coupons than European equivalents. Others viewed this as excessively risky, noting that SRT deals are implicitly leveraged already. The market soon found a clever way to boost returns on SRT deals issued by US banks, without resorting to financial leverage. The method, known as retranching, involves chopping up the deals to achieve the desired return profile and then redistributing the senior slices to other investors with lower risk appetites. The potential snag is that investors reissuing SRT notes could be viewed as commodity pool operators by the Commodity Futures Trading Commission, a designation that brings stiffer supervision and reporting requirements.

By the end of the year, there were signs that the regulatory issues had been resolved and that the market was maturing. In November, Risk.net reported that Bank of America was looking to build a trading business around US SRTs, with an emphasis on retranching deals and distributing the senior slices to insurance companies. With an emerging ecosystem around SRT deals, the market could be poised for a breakout year in 2025.

“There already has been some aggressive behaviour, and there’s no doubt in my mind there will continue to be some aggressive behaviour as the market further develops” – Alan Shaffran, Magnetar Capital (Risk transfer and the shift from camaraderie to competition, April 4)

“If you want to do 10 transactions a year, you cannot do anything other than to do some industrialisation” – Thomas Alamalhoda, BNP Paribas (For a growing number of banks, synthetics are the real deal, May 1)

“A lot of funds have raised money at a target return for a certain period of time, and the only way they can deploy money under those restrictions in SRT currently is through the use of leverage” – Robert Bradbury, Alvarez & Marsal (Capital rules explain leverage craving in US bank risk transfers, June 17)

“There are increasing numbers of participants involved in the SRT market with multiple pockets of cash suited to both junior and mezzanine tranches” – Alastair Pickett, Chenavari Investment Managers (Sliced and sliced again: investors’ latest trick for risk transfer, August 14)

“Their focus is really on granular risk that they can look at and underwrite, similar to what they’re used to doing in the asset-backed securities market” – an investor familiar with Bank of America’s plans (BofA sets its sights on US synthetic risk transfer market, November 21)

WHERE IS THE VOL?

Investors spent much of the first half of 2024 puzzling over the lack of volatility in the stock market. The Cboe’s Vix index of implied volatility in the S&P 500 index defied recession fears and geopolitical tensions to average 13.9 in the first six months of the year, compared with a historical norm of around 20.

A paper published by the Bank for International Settlements in March pinned the blame on options-selling exchange-traded funds (ETFs), whose assets under management have almost tripled to over $60 billion in the past three years – a claim fiercely disputed by Cboe.

Others pointed the finger at zero-day options, noting that the skew of S&P 500 options – the distribution of implied volatility across a range of option strikes – had fallen by half since the instruments arrived on the scene in mid-2022. A flat skew is associated with a relatively directionless market environment.

When volatility returned to the market, it did so suddenly and dramatically. On August 5, the Vix surged 180% to an intraday high of 65.7% in pre-market trading – the biggest one-day spike in its 30-year history – before retracing to 38.57 by the close.

A Risk.net investigation revealed the move had little to do with options-selling ETFs or zero-day options. Instead, a series of unusually large S&P 500 puts and Vix calls executed in pre-market hours, when liquidity is notoriously thin, were found to be the main cause of the Vix explosion.

The lesson for investors is that even when volatility is low, the markets can be incredibly fragile.

“There’s no compelling evidence that [covered call ETFs] are having a disproportionate impact on the equity volatility market” – Mandy Xu, Cboe (Options market still searching for cause of the Vix plunge, March 20)

“The fundamentals have changed many times since 2007, and we’ve never seen the skew at this level” – Matt Amberson, Option Research & Technology Services (Taming of the skew sparks new debate over 0DTEs, July 19)

“Liquidity, or the lack thereof, played an enormous role in the calculated level of the Vix pre-market on August 5” – Lester Coyle, III Capital Management (Pre-market trades blamed for record Vix surge, August 29)

GHOSTS

Three years after the collapse of Archegos, banks and regulators are still haunted by the grisly episode, which cost the industry over $10 billion.

The Fed for the first time included a hedge fund default scenario in its annual stress tests for the country’s largest banks.

In April, the Basel Committee launched its own consultation on new guidelines for managing counterparty credit risk. The discussion paper pointed to flaws in potential future exposure (PFE), the standard risk measure used to calculate default losses.

The regulatory pressure prodded banks to look for ways to upgrade their counterparty risk models to account for leverage and wrong-way risk – two components that are notably missing from PFE. A series of research papers published in Risk.net gave differing answers, but often had a common sticking point – a lack of data. Hedge funds in particular are cagey about disclosing trade or portfolio information to their counterparties, stifling efforts to more accurately model their exposures in the event of a default.

The guidelines being mulled by the Basel Committee could force the issue by requiring banks to extract more granular portfolio information and internal risk reports from secretive hedge fund clients. That seems a tall order in the absence of new disclosure rules from markets regulators, which have not been forthcoming. Some banks began exploring the possibility of creating an industry utility to pool hedge fund data, which can be used for counterparty risk modelling.

The hope is that new counterparty risk models – and the data needed to power them – can be up and running before the next big hedge fund failure.

“I don’t know if [supervisory stress-testing] would have prevented Archegos, but it may well have prevented Archegos being so big” – a former risk manager at a prime broker (Fed unveils hyper-Archegos test to reveal bank blow-up risks, February 23)

“Do you think hedge funds or family offices would be willing to provide banks with insight into their proprietary trading strategies?” – Andreas Ita, Orbit36 (Basel triggers new tussle on anti-Archegos rules, May 20)

“The chance that Credit Suisse is an absolute outlier and no other bank is sitting on similar problems is almost inconceivable” – Jon Gregory, independent risk consultant (Why was Archegos worse than the Fed’s five-fund stress test?, August 5)

“The big challenge, both quantitatively and practically, is obtaining sufficient transparency on a client’s leverage” – Andrew Dickinson, Bank of America (The post-Archegos risk model rebuild begins… slowly, September 4)

THE ‘IN’ CROWD

A decade after the advent of mandatory swaps clearing, which began in the US in 2023, Risk.net asked more than 20 regulators and industry experts whether the reforms implemented globally after the 2008 financial crisis had achieved their intended goals.

The broad conclusion was that central clearing had reduced system risks, but that the dwindling number of FCMs could become a problem in the future.

Back in 2014, when mandatory clearing was just starting in the US, there were 22 FCMs providing client clearing services for over-the-counter derivatives. As of 2023, this number had shrunk to just 12, as tougher capital rules, such as the leverage ratio, pushed some firms out of the business.

That trend began to reverse in 2024. In January, Hidden Road Partners joined CME Group’s roster of FCMs – only the second new entrant in more than a decade. In March, Robinhood Markets acquired an FCM from Marex, which had a spare authorised clearing entity to offload after acquiring ED&F Man Capital Markets in 2022. Marex, the ninth-largest clearer of futures and options by client margin in the US, then became the first non-bank member of LCH’s SwapClear service in June.

While the emergence of a new class of non-bank FCMs in 2024 was widely seen as a positive development, a separate twist in this story rattled the industry. In October, CME received approval to operate its own clearing broker – sparking conflict-of-interest concerns among FCMs. Their new rival would share a single corporate home with CME Clearing, which sets and enforces rules for all clearing members.

“I guess now there are three certainties in life: death, taxes and clearing” – Daniel Maguire, LCH Group (Taming the systemic risk Hydra: 10 years of mandatory clearing, January 31)

“When Hidden Road submitted its application to be an FCM, they thought we had ticked the wrong box” – Michael Higgins, Hidden Road Partners (Hidden Road ready for rush hour after FCM approval, April 9)

“Today, we’ve got many clients who, just a year-and-a-half ago, wouldn’t have considered working with Marex” – Thomas Texier, Marex Clearing (Marex plots interest rate clearing push, August 16)

“They audit us. They can fine us” – the head of clearing at an FCM (Clearing members rattled as CME approved to launch its own FCM, October 29)

BLURRED LINES

In April, an internal memo from Lloyds Bank, announcing it would cull 150 risk roles and reallocate resources to first-line business units, made its way into the press. The news was met with a mixture of derision and concern among risk managers.

The UK lender is far from an outlier, however, with at least four other large banks telling Risk.net they were also actively rethinking the traditional three-lines-of-defence model, with broadly similar consequences – a reallocation of resources from the second line to the first.

The idea of expanding the risk functions within business units has a number of motives. These teams may respond faster than their second-line colleagues, particularly to cyber attacks and other technology risks. They may also be better placed to spot and tackle conduct issues. Set against that, risk teams that are part of the first line may lack the independence to challenge the business when needed – an issue that some regulators are known to have raised.

Still, many banks appear to be pressing ahead. As one example, Risk.net’s Operational Risk Benchmarking service found that six of 10 regional and domestic banks had a first-line risk team for dealing with IT disruptions, with half of them adding to that team over the past 12 months.

The enthusiasm for blurring the lines has so far been tempered somewhat by the challenge of finding staff with the requisite risk management skills to sit in the business units and uncertainty over how regulators feel about all this. If banks continue down this path, a showdown with supervisors may be in the offing.

“Timely patching could be challenging for some small businesses, but for well-resourced financial organisations like ICBC, neglecting to address bugs at this level is unacceptable” – the chief information security officer of a global bank (Beating the drum on cyber risk: the battle for boardroom attention, February 27)

“There is a feeling that there is an inability for the second line of defence in assimilating the risks that come with the new business models” – Anand Thirunellai Radhakrishnan, Moody’s (Between the lines: why banks are rethinking risk management, August 1)

“The investment going into the 1.5 expertise [is motivated by] the challenge around accountability and fixing problems as quicky as possible” – the chief risk officer of a global bank (Risk management overhauls juggle speed and independence, September 10)

“Remediation is a huge cost. Figuring out, ‘are we in the clear, or not?’ – that’s a lot of money” – a senior second-line risk manager at a European lender (Regionals built first-line defences pre-CrowdStrike, December 19)

WHO LET THE PODS OUT?

It’s not often that dealers rejig their trading operations around a single client segment. But such is the power of multi-manager hedge funds, such as Balyasny, Citadel, Millennium and Point72.

Assets managed by these ‘pod shops’ – which trade multiple strategies, and are organised as a collection of autonomous trading teams – have more than doubled in the past five years to over $342 billion, with gross exposures exceeding $2 trillion.

This posed a couple of questions for dealers. The first is how to service these clients profitably, given that many are staffed with former sell-side traders who use their experience to squeeze pricing. And second, how to manage the risk of position crowding if supposedly autonomous pods begin gravitating towards the same trades?

Dealers responded by automating as much of their trading with these clients as possible in order to build a dataset that allowed them to better analyse their strategies and screen out crowded or unprofitable trades.

That investment led to a solution to the crowding problem. Dealers began pitching their own quantitative investment strategies (QIS) as a way for individual portfolio managers to quickly diversify into areas like commodities if their existing strategies get squeezed, and for pod shops to hedge so-called re-correlation risk – where a stress event causes previously uncorrelated strategies to drop in tandem.

Demand from pod shops helped propelled a 20% increase in the QIS revenues of the most active dealers in 2024 and lifted total notional assets under management to a record $350 billion – exceeding those of the pod shops themselves.

“Unless I can make money from pricing the deals, I’m not interested in showing prices to these clients” – a senior rates trader at a US bank (How banks are adapting to all-powerful pod funds, April 2)

“Many believe there could one day be a hedge fund equivalent of a Lehman or 2008 type event. A big, correlated unwind would be very painful for the financial community” – Tom Leake, Capstone Investment Advisors (How ‘re-correlation’ risk could cause a pod-shop unwind, April 22)

“I would never have thought I’d be talking about high conviction QIS strategies with hedge fund clients” – Arnaud Jobert, JP Morgan (Form an orderly QIS: hedge funds spur quant products to new heights, May 30)

MY GENERATIVE AI

When the latest wave of artificial intelligence (AI) technology – known as generative AI (GenAI) – first emerged on the scene last year, banks took a surprisingly cautious approach, to the point of imposing blanket bans on staff using third-party models. This year, caution gave way to enthusiasm as banks began putting a slew of GenAI use cases into production.

Risk.net revealed in January that at least four G-Sibs were testing the use of GenAI to translate and update legacy code. An article in April detailed how Ally Financial overcame risk and third-party obstacles to put into production its first GenAI application – a version of ChatGPT that automatically summarises customer calls. 

At a Risk.net conference in June, Deutsche Bank’s head of innovation sketched out the GenAI-driven applications the bank was prioritising – ranging from digital assistants to document processing systems. Other, more sophisticated, use cases being explored by banks include bond trading and foreign exchange hedging. Even regulators got in on the act, with the Fed revealing in June that it was pursuing five use cases for GenAI, including data cleansing, and translation of legacy code and content generation.

“We are spending as much time, if not more, on building the safeguards so that we can have a high level of confidence that generated code is accurate” – Martin Wildberger, RBC (Will generative AI crack the code for bank tech teams?, January 2)

“In my seat, one of the biggest things was just stepping back and recognising that GenAI was relevant to a lot of different risk areas – it’s not just model risk” – Jason Schugel, Ally Financial (How Ally found the key to GenAI at the bottom of a teacup, April 29)

“This is one of the big things we’re doing. I think by the end of the year, we’ll be well up to a million documents that we’re processing [with GenAI]” – Tim Mason, Deutsche Bank (Deutsche Bank’s seven lead use cases for GenAI, June 20)

“It’s hard to justify [hiring] coding developers to update all old code to new code, but now you can leverage LLMs” – Sunayna Tuteja, Federal Reserve (US Fed reveals its five use cases for generative AI, June 27)

Editing by Duncan Wood

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