Three of the biggest legacy system disasters
Banks may continue to muddle through with legacy systems without too much bother, but ultimately there comes a time when this needs tackling. Leave it for too long and you could end up with a legacy footprint that dangerously compromises the institution. Coupled with risks elsewhere, it can even dump a bank, hedge fund or brokerage firm out of business entirely.
Here’s a look at some of the worst cases of legacy systems impacting a financial services firm.
MF Global collapse
MF Global was a major global financial derivatives broker that went bust in 2011. Its collapse was down to a range of different problems, not least a propensity for using customer funds to cover trading losses. But chief among the problems and very much at the root of later dealings was a reliance on legacy IT systems that one executive described as a “hodgepodge of systems and processes without a design”.
The CFTC bankruptcy filing stated: “MF Global’s collapse was abetted by, among other things, management’s failure to integrate or upgrade its various technology systems and platforms for monitoring Treasury Department operations, liquidity risk, and financial regulatory functions.”
In the absence of an automated global treasury system, staff manually tracked the movement of money among the company’s legal entities.
Ultimately a reliance on various legacy systems for measuring liquidity left gaps that proved fatal. The firm used a variety of back office systems, rather than one global system for the clearing and settlement of trades. “The company’s various back office operations platforms were antiquated and showed only limited position and account information, thereby impeding the effective monitoring and forecasting of company liquidity,” the CFTC filing stated.
It was this failure to forecast company liquidity that in the end did it for MF Global.
JP Morgan and the London Whale
JPMorgan incurred a $6.2 billion loss after it underestimated the downside of its synthetic credit portfolio back in 2012.
Dismissed by Jamie Dimon as a “a tempest in a teapot”, the bank’s boss later admitted the trades were “flawed, complex, poorly reviewed, poorly executed and poorly monitored”.
Among various issues, a key problem was that the bank’s Value at Risk (VaR) was being calculated with an Excel spreadsheet that “required time-consuming manual inputs to entries and formulas, which increased the potential for errors”.
These Excel docs had to be completed manually, by a process of copying and pasting data from one spreadsheet to another. Unfortunately, employees were using the sum of two numbers instead of the average in calculating volatility. Reports into the loss by regulators suggested a bigger problem around systemic risks in the largest banks, but tackling the legacy systems at fault could have averted at least some of the losses.
RBS IT outage
Royal Bank of Scotland suffered a system crash in 2012 that left RBS, NatWest and Ulster Bank customers locked out of their accounts for days. It cost the banks millions in fines, drove many customers to competitors and revealed a deep-seated problem that could affect other banks: outdated IT systems.
On June 17th 2012, the RBS IT department upgraded the software that processed updates to customers’ accounts overnight. When it noticed problems with the upgrade it decided to uninstall it without first testing what might happen. “The IT department did not realise, however, that the upgraded software was not compatible with the previous version,” the UK’s Financial Conduct Authority (FCA) stated.
The FCA said that “the incident was not the result of the banks’ failure to make a sufficient investment in its IT infrastructure”, yet RBS chief executive Ross McEwan admitted that the bank had “for decades” failed to invest in its systems.
In a sense the FCA is correct - RBS is not shirking investment, spending about £1 billion a year on IT. The problem lies in legacy systems. As Andy Haldane, director for financial stability at the Bank of England, pointed out, 70 to 80 per cent of big banks' IT spending is devoted to maintaining legacy systems rather than investing in improvements.