Insights
Regulatory Update Nov 2022
In this issue we cover:
FCA consults on new UK Sustainability Disclosure Requirements
FCA financial promotions data: increase in intervention
Use of Artificial Intelligence
Court of Appeal Decision – R (Sutton) v Financial Conduct Authority
European Council: Implementation of Basel III International Agreements into EU Law
Change in Control Decision: Conditions on takeover of Link Group
FCA report on borrowers in financial difficulty following the coronavirus pandemic
ECB 2022 thematic review on climate-related and environmental risks
Principals of Appointed Representatives
FCA latest speech on Consumer Duty
FCA consults on new UK Sustainability Disclosure Requirements
The FCA has published a consultation paper on Sustainability Disclosure Requirements and Investment labels. This is part of the FCA’s proposal to introduce a package of measures aimed at clamping down on greenwashing, including sustainable investment labels and disclosure requirements.
The FCA is concerned that firms are making exaggerated or misleading sustainability-related claims about investment products.
The proposals focus on asset managers and their UK-based fund products and portfolio management services.
Responses to the FCA’s questions should be submitted by 25 January 2023.
FCA discussion paper on the potential competition impacts of Big Tech entry and expansion in retail financial services
The FCA has published a discussion paper seeking opinions on the emergence of Big Tech in financial services markets.
The paper focuses on the impacts of Big Tech on competition in four retail markets: payments, deposit taking, consumer credit and insurance.
In summary, the short-term effects could be positive for competition and therefore, consumers as it forces innovation and competitive pricing. The concern is that in the long-run, this could limit the possibility of new firms entering the market and stifle competition as Big Tech firms entrench their positions.
FCA financial promotions intervention
The FCA has published its latest quarterly data relating to financial promotions interventions, showing a marked increase in FCA action. This includes:
- 340 reviews resulting in 4,151 amendments or withdrawals during Q3 2022, compared to 374 amendments or withdrawals in Q2
- 46% of all amendments or withdrawals related to financial promotions within the retail lending sector, with retail banking and retail investments, each making up 24%.
The majority of amended or withdrawn promotions related to follow-up work subsequent to the credit brokers Dear CEO letter (May 2022), further Dear CEO letters sent to BNPL firms and the British Retail Consortium in August 2022. It seems likely therefore that a similarly high volume of regulatory interventions regarding financial promotions may follow during Q4.
Use of Artificial Intelligence
The FCA has recently published a speech by Jessica Rusu – FCA Chief Data, Information and Intelligence Officer – delivered at the City and Financial Global summit on the topic of Artificial Intelligence (AI) in financial services.
In the speech, she highlighted three key points:
- AI needs governance to move from fear to trust building on rules in financial services which are already in place
- Decision making responsibility sits with firms who must be accountable
- Safe and responsible AI adoption must be underpinned by high-quality data as poor-quality data can lead to poor outcomes
Finally, Ms Rusu urged those interested in the subject of regulation and risk management of AI in financial services to engage with the FCA and Bank of England’s AI discussion paper.
Court of Appeal Decision – R (Sutton) v Financial Conduct Authority
On 2 November 2022, the FCA published a press release welcoming the Court of Appeal’s decision to deny permission for a judicial review of its decision to assist the United States Commodity Futures Trading Commission (CFTC) regarding an ongoing investigation.
The FCA had issued notices which required UK residents to produce information in order to help the CFTC with an investigation into particular crude oil trading on a US derivatives exchange. The UK residents in question had applied for a judicial review of the FCA’s decision.
The Court of Appeal denied permission for judicial review because FSMA permits the FCA to use its powers of investigation in order to assist overseas regulators. Moreover, the FCA and CFTC are parties to a multilateral memorandum of understanding under which they have a commitment to assist one another.
European Council: Implementation of Basel III International Agreements into EU Law
On 8 November 2022, the European Council issued a press release, announcing its plans to finalise the implementation of Basel III international agreements into EU law.
Basel III is part of a continuing effort to enhance the international banking regulatory framework in areas such as risk management, solutions for tackling financial stress or economic uncertainty and the promotion of transparency within the European banking sector. The European Commission aims to strengthen the European banks’ resilience to potential future economic shocks by implementing global, prudential Basel III standards
The European Commission’s proposals to implement Basel III into EU law are as follows:
- Capital Requirements Directive: the proposed directive aims at strengthening the regulatory and supervisory landscape for banks operating in the EU. The proposal intends to close loopholes for third country branches, by enhancing and harmonising supervision and risk management of banks across the EU and strengthening banks’ resilience towards ESG risks.
- Capital Requirements Regulation: the proposed regulation aims at re-enforcing and facilitating the allocation of capital and liquidity within banking groups in Europe without imposing a significant increase in their capital requirements. The framework for credit risk and operational risk will be further improved and supported by the output floor which aims to reduce unjustified variances in banks’ risk metrics. The regulation also notes that competent authorities and the EBA should understand the impact that International Financial Reporting Standards (IFRS), particularly IFRS 9, have on the range of values for risk-weighted assets.
Change in Control Decision: Conditions on takeover of Link Group
On 12 September 2022, the FCA published a decision notice imposing conditions on the proposed acquisition of the Link Group, including a 100% shareholding and voting rights in Link Fund Solutions (LFS) by Link Acquisition Australia Pty Ltd, Link Acquisitions Holdings Australia Pty Ltd, Dye and Durham Corporation and Dye and Durham Limited (D&D).
Link Fund Solutions managed the LF Woodford Equity Income Fund (WEIF). The FCA has investigated the circumstances leading to the suspension of the WEIF and is likely to seek to require LFS to pay a financial penalty and/or consumer redress. The FCA’s current view is that the redress payment LFS could be required to pay up to £306 million. The redress proposal reflects the FCA’s current view of LFS’s failings in managing the liquidity of the WEIF. The FCA decided to approve the acquisition and allow D&D to take control of the seven UK-authorised firms, subject to a condition to commit to make funds available to meet any shortfall within LFS to cover any redress payments LFS may be required to make.
FCA side pockets
On 8 September 2022, the FCA set up a new webpage for investors discussing side pockets. Side pockets have the potential to impact anyone who invests in funds with exposure to Russian, Ukrainian or Belarusian assets. They are measures which can be used in emergencies, which allow fund managers to temporarily separate affected assets from the rest of a fund. Investors will receive a written notification of the creation of a side pocket, explaining the reasoning behind the decision. The notification will cover practical information about the changes, benefits and costs, implications for the investor’s rights, and the risks associated.
This follows on from the FCA’s Policy Statement issued in July 2022 on the use of side pockets to mitigate possible harm resulting from exposure to Russia, Belarus and Ukraine. “Sanctioned investment” has been widely defined and relates to any investment or asset under a sanctions regime, which is held in a retail authorised fund. The FCA has added guidance relating to a number of issues, for instance on the ways in which voting rights regarding side pocket units may be exercised, how fund managers should assess the value of a fund with side pockets, and redeeming and transferring side pocket units.
FCA report on borrowers in financial difficulty following the coronavirus pandemic
On 3 November 2022, the FCA issued a report on borrowers in financial difficulty following the coronavirus pandemic. The report aims to ensure firms are providing tailored support to customers in financial difficulty in light of the Covid-19 pandemic.
The FCA examples of firms delivering good outcomes for customers, it also found areas where significant improvement was needed in terms of supporting borrowers in financial difficulty. In the accompanying press release, the FCA confirms that just 30 per cent of firms it reviewed sufficiently explored customers’ specific circumstances, which meant repayment agreements were often unaffordable and unsustainable. 32 firms have already been informed by the FCA to make changes to improve the way they treat customers, with seven of these firms voluntarily agreeing to pay £12 million in compensation to nearly 60,000 customers.
The FCA states that lenders need to focus on:
- engaging with customers;
- effectiveness of conversations with customers;
- helping customers to consider and access money advice and not for profit debt advice; and
- fees and charges.
Firms are advised to:
- encourage consumers to engage earlier when facing financial difficulties;
- offer tailored support, particularly for those with vulnerable characteristics;
- let customers in difficulties know about the availability of free, independent debt advice when appropriate;
- make sure their fees and charges are fair and only reflect the reasonable costs that firms incur; and
- consider, when engaging with consumers, whether it would be appropriate to reduce, waive or cancel fees and charges.
The FCA also confirms plans for a consultation on the future of its tailored support guidance in relation to mortgages, consumer credit and overdrafts, which may include proposals to make changes to the FCA Handbook.
ECB 2022 thematic review on climate-related and environmental risks
On 2 November 2022, the ECB published the results of its thematic review on whether banks adequately identify and manage climate risks (as well as environmental risks such as biodiversity loss), as set out in the ECB’s guide on climate-related and environmental risks. The review also examined banks’ risk strategies and their governance and risk management processes. The ECB has also published a compendium of good practices in climate-related and environmental risks observed in some banks.
The report found that over 85 per cent of banks have at least basic practices in place for most of the areas addressed by the ECB’s expectations. The ECB, however, notes that approaches lack methodological sophistication and granular information on climate and environmental risks, adding that banks continue to significantly underestimate the breadth and magnitude of these risks.
The ECB has set institution-specific deadlines for achieving full alignment with its expectations by the end of 2024. The ECB expects banks to adequately categorise climate and environmental risks and to conduct a full assessment of their impact on activities by March 2023 at the latest, and to include climate and environmental risks in their governance, strategy and risk management at the latest by the end of 2023.
The ECB comments that deadlines will be closely monitored and enforcement action will be taken where necessary, adding that supervisors are already including bank-specific climate and environmental findings in the Supervisory Review and Evaluation Process (SREP).
Principals of Appointed Representatives
On 7 November 2022, the FCA updated its website by including additional wording under the sub-heading “Information and notification requirements for principal firms”.
In summary, the additional wording notes that:
- Principal firms will need to provide information about new and current Appointed Representatives as part of the FCA’s enhanced reporting requirements under the regime;
- in December 2022, the FCA intends to issue a s.165 data request, requiring information about their appointed representatives. Principal firms should expect to receive this between 8 December and 10 December 2022;
- the s.165 data request will go to the Principal firm on Connect. Principal firms should therefore ensure their Connect information is up to date and correct; and
- Principal firms will have until 28 February 2023 to respond.
FCA latest speech on Consumer Duty
Nikhil Rathi, the FCA’s Chief Executive gave a recent speech at UK Finance on issues relating to Consumer Duty. The speech explored how Consumer Duty can improve the entry and management of technology and innovation in the current financial services landscape.
Rathi spoke about how innovation should not leave behind consumer groups with vulnerabilities or a lack of digital skills. The difficulty in monitoring and measuring the success of Consumer Duty was acknowledged and some goals and potential metrics were discussed.
FOS future funding model
The Financial Ombudsman Service (FOS) recently published a feedback statement on its future funding model. The feedback statement summarises the responses received to the questions in its June 2022 discussion paper and explains how they have been considered.
The feedback statement sets out three key proposals:
- It will consult in its 2023/24 plans and budget consultation on changing its compulsory jurisdiction (CJ) levy and voluntary jurisdiction (VJ) levy to recover fixed costs.
- It will continue to assess and improve its processes to enable differential case fees, with a view to consulting in its 2024/25 plans and budget consultation on proposals for charging an initial case fee at conversion and differential case fees by case stage or by product type (or both).
- It will not move more forward with these options:
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- pursuing legislative changes to enable to charge professional representatives
- charging businesses for delays due to non-compliance
- discounts for bulk closures
- charging case fees based on case complexity.