Regulatory update September 2018

Alexander Culley, Chartered FCSI, compliance officer, outlines some important topical points


SMCR: going solo

After a prolonged period of consultation, in July 2018 the FCA finally set an implementation date for the Senior Managers and Certification Regime (SMCR) of 9 December 2019 for solo-regulated firms. However, what may have slipped under the radar of many investment firm compliance officers is an invaluable document that was published in mid-2018 that sets out how the FCA is applying the principles of the Senior Managers Regime to itself. Simply entitled ‘Senior Managers Regime’, this document contains, in summary and graphical format, details of:

  • allocation of responsibilities
  • government and management arrangements
  • statements of responsibility

as applied to senior managers that work for the FCA. This is a pretty good resource for those of us that have been looking for inspiration with regards to how to create our own SMCR-compliant governance frameworks.

Still grappling with conduct risk?

In April 2018, the FCA provided its latest feedback on responses received from wholesale banking firms to its ‘5 Conduct Questions’. The FCA found that the banking community had made significant progress in embedding its conduct risk programmes. Nevertheless, improving conduct is a journey without a destination. As such, the FCA found that banks still need to do more to:

  • train their non-executive directors on their role in identifying and managing conduct risk
  • make their conduct programmes more outward looking, ie, considerate of customer and wider market concerns and aspirations
  • use variable remuneration to promote good behaviour, instead of just using it to punish poor behaviour.

Most importantly for investment firms, the FCA states in its feedback that it is “extending the programme more widely across the whole investment sector. This will include, for example, asset management, trading firms and trading venues”. How should senior management and compliance in investment firms prepare themselves for the impending conduct blitz?

Dr Roger Miles, expert in behavioural economics, offers the investment firm community an excellent solution. His book Conduct risk management: using a behavioural approach to protect your board and financial services business (Kogan Page, 2017) is packed with information on how to:

  • recognise good and bad behaviour
  • predict the next theme in conduct led regulatory enforcement
  • design a conduct risk management programme around the use of the ‘behavioural lens’, a revolutionary concept which examines ‘what actually happens’ in a business, rather than what is just written down in a firm’s formal documentation and reporting infrastructure.

Six months to go until Brexit

Will there be a transitional period? Is my firm using its second Markets in Financial Instruments Directive (MiFID II) passports today? What could the ramifications for our European Economic Area-based clients be if exchange-traded derivatives traded on British trading venues are immediately deemed to be over-the-counter on Brexit date, thanks to the European Markets Infrastructure Regulation? It is easy to become confused amidst the avalanche of partisan and uninformed reporting that is out there.

There is no substitute for conducting your own research. Here are a few pointers that could come in handy:

  • Remember that a MiFID passport is purely for the provision of cross-border services, advice or to establish a branch. Accordingly, if you don’t have any tied agents or branches do you really need a passport, even today? Paragraph 2.4.2 of the FCA’s Perimeter guidance manual states that “even with a cross-border element a person may still be carrying on an activity in the UK”. This is likely to be the case if you execute orders from a location in the UK. A MiFID passport covers specific services, not marketing.
  • Have a look at the Financial Services and Capital Markets Union preparedness notices that were published earlier this year on the European Commission’s website. Read together with the UK government’s own notices that were published in late August, these form the starting point for drafting or refining a contingency plan for a ‘no-deal’ scenario.
  • Think about whether you need to revisit the assumptions that you made in your last Internal Capital Adequacy Assessment Process (ICAAP) review. Remember, the ICAAP is a ‘living document’ and it should inform your Brexit contingency planning. Do you need to perform any new stress or scenario tests and, if you are a significant IFPRU firm, report the results of these to the FCA?

Outsourcers beware

Earlier this year the FCA fined Interactive Brokers (UK) (IBUK) just over £1m for failures associated with outsourcing its post-trade monitoring to another entity in its wider group that is based in the US. In particular, IBUK failed to properly supervise the outsourced activities:

  • it had little input in the design and calibration of the surveillance systems that were used by the US entity to detect market abuse
  • the US entity’s output was not reviewed sufficiently
  • staff at the US entity were not properly trained to understand what constitutes market abuse in the EU.

This ultimately led IBUK to fail in its obligation to ensure that suspicious transaction and order reports were submitted to the FCA in relation to three potential cases of market abuse that occurred between February 2014 and February 2015.

This case serves as a warning to any UK firm that is facing pressure from overseas entities in its group to ‘globally’ centralise control functions or reporting. This will not always be in the best interests of the UK firm. The senior management of a UK firm should always perform an outsourcing assessment before offshoring any infrastructure, especially if it relates to ensuring compliance with regulatory obligations (because these are almost always likely to be ‘critical’). If functionality cannot be outsourced safely, the senior management of the UK firm should robustly resist attempts to offshore it. FCA v IBUK proves that the consequences of failing to do so can be dire.

In brief

  • On 12 July 2018, the European Securities and Markets Authority (ESMA) deferred the implementation of the systematic internaliser (SI) calculation regime for all asset classes other than equities, equity-like and bond instruments to 1 March 2019. ESMA intends to publish data for the remaining assets classes and instrument types on 1 February 2019, giving investment firms a month to perform their first SI calculations and, if necessary, finalise compliance with the obligations applicable to SIs.
  • On 7 September 2018, ESMA published responses to a consultation paper that proposed a two-year extension of the temporary exemption from the mandatory clearing obligation for intragroup transactions involving a third country firm that is a member of an EEA entity’s consolidated group. If granted, the relief would apply to certain interest rate swaps and credit default swaps.
  • If you work for a significant IFPRU firm, don’t forget that your firm must submit results of its stress tests and scenario analysis to the FCA annually and not later than six months after its annual reporting date (IFPRU 2.2.37(6)). This requirement is often overlooked because this information must be submitted to the FCA manually, eg, by email. There aren’t any prompts in GABRIEL.
Views expressed in this article are those of the author alone and do not necessarily represent the views of the CISI.
Published: 17 Sep 2018
  • Compliance, Regulation & Risk
  • Change
  • SMCR
  • Senior Managers Regime
  • regulatory update
  • passporting
  • Mifid II
  • EMIR
  • conduct risk
  • Brexit

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