A changing landscape

The pain of financial services regulation over the past quarter century would be worth it if it had contributed to the public good, but it is not easy to assess whether this is the case
by Christopher Bond and Eila Madden

Twenty-five years is a long time in financial regulation. Since then there have been many styles of regulation – from self-regulation through high-level rules to our current hybrid approach of principles and detailed rules. 

Regulatory bodies have risen and fallen each time there is a crisis. Who would have thought, after the Barings Bank failure, that the Bank of England would regulate not only banks but strongly influence the regulation of other financial sectors too? The balance between firms and investors has also moved – today, judging from the ‘tone from the top’ and the use of regulatory tools other than enforcement, the FCA is listening more to firms’ concerns about the level and cost of regulation. Building blockSome pieces of regulation have seen more transformation than others. Mark de Ste Croix MCSI, head of the compliance and legal department at wealth management firm Raymond James Investment Services, believes the single most significant and impactful piece of regulation in the past 25 years is the Financial Services and Markets Act 2000 (FSMA 2000). 

He explains: “It ushered in a new way of thinking: industrialising financial services regulation and addressing issues at a level of detail that forced firms to change the way they viewed the market, how they were structured and how they operated. Over time, it changed the behaviour of firms’ executives, wealth managers and their clients, and ultimately transformed firms into more client-focused, professional businesses.” While the FSMA’s aim is well intentioned, Mark says the “complex, convoluted and inaccessible” regulation is at odds with the regulators’ demands for firms to offer their clients a simple and transparent service. 

The past 25 years has also witnessed a change in the culture of the sector. Alexander Culley, Chartered MCSI, compliance officer, says: “Many brokers and traders may not be familiar with N2 (1 December 2001 – the date that consolidated statutory regulation came into existence via the FSA) but it changed their world. 

“It became mandatory for their calls to be recorded and their instant messages stored. Going for a drink at lunchtime became a risky affair: one lapse of judgment could put you on the wrong side of the FSA’s Principles for Approved Persons and cost you your career. Changing jobs became harder. Detailed background checks were introduced, which meant cautions received for childhood pranks became relevant again. And you had to make sure any client hospitality you accepted didn’t breach the gifts and entertainment policy.” 
Public backlashN2 was a response to growing public opinion that something was awry in the opaque world of financial services, and private equity (PE) bore the brunt of that feeling. Until 2011, PE firms had always been subject to light touch European regulation, but their only real concerns were around the specific national placement regimes in various countries while fundraising, and complex tax structuring for investments.

The Alternative Investment Fund Managers Directive 2011 (AIFMD) changed all that. Ashley Long FCSI, partner and CFO at PE firm GMT Communications, says the Directive highlighted several issues. “The flexibility to undertake business in Europe without interference had been reduced,” he says. “Aspects of the business that were considered private or between the firm and its investors, such as remuneration, risk management, transparency and detailed reporting, were now outside their sole control.

“Firms realised that this piece of legislation was born out of the financial crisis and the banker bashing that followed, with few real prosecutions and the public looking for revenge,” he adds. “The legislation was politically motivated and PE was around the bullseye. It put the PE sector firmly on the legal, regulatory and tax radar. Private doesn’t mean private like it did 25 years ago!”
Protecting the sectorMost of the game-changing legislation over the past quarter century has meant to protect the public from unscrupulous practices within the financial services sector, but one piece of law has sought to protect the sector itself – the Money Laundering Regulations 1993 and gradual expansion of Anti-Money Laundering and sanctions regime regulation.

“In the early days, a quick check of the client’s address in a hard copy of Bankers’ almanac was quite sufficient for the life of that client,” says Ffion Thomas, Chartered MCSI, head of risk, compliance & MLRO at Mitsubishi UFJ Trust International. “Today, whole departments work on obtaining initial client due diligence information, ongoing monitoring of transactions, politically exposed persons, sanctions, and keeping all the information up to date. The legislation, guidance, best practice and ongoing technological developments in this area have grown so much, and do not appear to be decreasing any time soon.”
The consequencesThe passing of stringent regulations has made politicians and the public feel better, but has it been good for the consumers of financial services?

In the wealth management and financial planning fields, Mark says that “firms are more focused on client needs, wealth managers are better qualified and supervised, and the range of investment products available is staggering”. Yet, he says, costs have risen and fewer people can get quality advice.
“It remains to be seen if reform has improved regulation or merely changed the seats around” Campbell Edgar CFPTM Chartered FCSI, head of financial planning at the CISI, concurs. “As a result of the ending of product provider commission to distributors under the Retail Distribution Review, around 25% of the regulated adviser population found alternative employment or retired,” he says. This created a supply and demand imbalance in the market for planning and advisory services. As a consequence, anyone bar the high-net-worth, high-earning individual or family, potential pension transferor, or recent inheritor has been disenfranchised, opening up an ‘advice gap’. He adds: “It looks like the Government wants to dilute a lot of  ‘advice’ to ‘guidance’, and wants its delivery to be ‘robotic’.”

Gerard Dique MCSI, a senior compliance officer at asset management firm AXA Investment Managers, wonders if the regulatory changes we have witnessed over the past 25 years have occurred more to serve politicians’ desire to be seen to be acting in, rather than to serve, the public good. He cites the evolution that rolled multiple self-regulatory bodies, such as the Investment Management Regulatory Organisation (IMRO), into the FSA, which is now the FCA and Prudential Regulatory Authority (PRA). 

“It remains to be seen if this reform has improved regulation or merely changed the seats around and reformed some of the governance, and is a cosmetic change driven by a Conservative Party hell-bent on reforming Labour’s FSA creation,” says Gerard. “I suspect performance of the regulators’ oversight is unlikely to be enhanced when the same staff carry out the same roles, under very similar Handbook Rules, with just titles and locations amended.”   

He is also sceptical about the roll-out of the Senior Managers Regime (SMR) for all firms in 2018. Already in place for banks and insurance companies under the regulation of the PRA, the SMR’s genesis is in the IMRO’s ‘individual registration’, which evolved into the FSA’s Approved Persons Regime and will now be replaced by the SMR. 
Looking forwardAlexander is less sceptical, believing that the SMR will herald the beginning of a more sober age. “Recruiting your mate over lunch will officially be consigned to the past,” he says. “Brokers and traders will need to be able to personally demonstrate continuing professional development. Heads of desk will be obliged to appraise the performance of their staff on much more than just their contribution to the profit and loss statement. 

“The question is: is the new regime already out of date? Today, the growth of automated, globalised trading means that any latter day Leesons no longer pose the greatest conduct risk. It’s the legions of latter day Alan Turings operating from third countries that we need to be most worried about.”

The future holds other regulatory challenges and opportunities: MiFID II’s radical impact on financial markets and investor protection; the uncertain future for mutual access between the UK and the EU after Brexit; bank separation for large retail banks; and recovery and resolution plans for larger firms. As important are the challenges and opportunities that developing technology will bring, such as the impact of blockchain on settlements; the increasing professionalisation of compliance and risk managers; and the international tightening of the tax and data protection regimes. Perhaps most significantly there is the recent mood change from governments and regulators slowing, or even rolling back, some of the post financial crisis reforms, such as in bank prudential capital and heavy penalties for regulatory breaches.

This article was originally published in the Q2 2017 print edition of The Review. The print edition is available to all members who opt in to receive it, except student members. All eligible members who would like to receive future editions in the post should log in to MyCISI, click on My Account/Communications and set their preference to 'Yes'.
Published: 17 May 2017
  • Financial Planning
  • Change
  • The Review
  • Features
  • Compliance, Regulation & Risk
  • Mifid II
  • Senior Managers Regime
  • Retail Distribution Review
  • Anti Money Laundering
  • Alternative Investment Fund Managers Directive
  • Financial Services and Markets Act
  • Regulation
  • FCA
  • Bank of England
  • 25th anniversary

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