Regulatory Update March 2022
In this issue we cover:
- AI report signals future financial services regulation
- MiFID II UK Shake Up
- Barclays fined £783,800 by FCA for oversight failings with Premier FX
- Increase to Financial Ombudsman Service award limits
- ESMA issues specific recommendations to CySEC over its supervision of cross-border investment activities
- FCA publishes portfolio letter on custody and fund services supervision strategy
AI report signals future financial services regulation
The Bank of England (BoE) and the Financial Conduct Authority (FCA) published a report on Financial Services artificial intelligence (AI). The document lays out barriers to adoption, challenges, and risks related to the use of AI and how stakeholders can address these issues and mitigate risks.
A key finding is that AI is rapidly evolving and that the sector is already leveraging it in many ways. Although AI can bring opportunities and benefits, it can also amplify risks and create new ones. As models become increasingly sophisticated, with improved speed, scale and complexity – including autonomous decision-making – the sector needs to consider the impacts.
While the report does not discuss any new regulatory guidance or expectation in the sector, supervisory bodies are increasingly concerned about the use of AI. Firms should take this an early signal that they should look to identify all AI-linked processes and how these interact with the organisation, both internally and externally.
This report gives a blueprint on the issues firms should look to address. This includes the availability and quality of data, assessing the risk of using AI models, the ability to explain outputs and developing AI frameworks for governance.
MiFID II UK Shake Up
On 1 March 2022, HM Treasury published its response to its July 2021 consultation on the Wholesale Markets Review, confirming the removal of the share trading obligation, changes to the systematic internaliser regime and coming guidance via the FCA on defining multilateral systems. The publication is the latest step in the emergence of a post-Brexit UK MIFID regime. Although, the changes represent a compromise between two different strands of market feedback. On the one hand, the idea that financial firms have spent time and resources ensuring that they comply with and have the infrastructure, for certain MiFID II obligations but do not want to spend time and resources unpicking all of these. It appears this has been weighed against the opportunity to remove unnecessary or disproportionate regulation. John Glen’s speech charts a course through these twin considerations.
On timing, much of the below will take place when parliamentary time allows – this will require a new Bill to be presented to carry out primary legislative changes (announced probably as part of the next Queen’s speech, in May). On 3 March 2022, the FCA published a speech by Edwin Schooling Latter, Director of Markets and Wholesale Policy, on setting out how the FCA would be taking forward certain aspects of the Wholesale Markets Review.
At the EU level, the European Commission published its proposals to amend aspects of MiFIR in November 2021 covering similar areas although UK proposals differ in a number of ways.
Barclays fined £783,800 by FCA for oversight failings with Premier FX
On 28 February 2022, the FCA published a final notice in which it fined Barclays Bank plc £783,800 for “failing to conduct its business with due skill, care and diligence” (Principle 2 of the Principles for Business). The FCA found that Barclays failed to effectively oversee and monitor its business relationship with the now liquidated Premier FX Ltd. Barclays failed to ensure that Premier FX’s business aligned with its expectations when it received information from Premier FX and failed to recognise the deficiencies in Premier FX’s controls.
The FCA took Barclays’s voluntary agreement to cover the losses of Premier FX customers whose claims have been approved by Premier FX’s liquidators (£10,076,943.75) into account when deciding on the financial penalty.
In February 2021, the FCA publicly censured Premier FX for misleading customers about its services and for failing to safeguard client money.
Increase to Financial Ombudsman Service award limits
The FCA’s policy statement PS19/8 sets out the background to an increase to the Financial Ombudsman Service (FOS) award limits.
From 1 April 2022, the new FOS award limits will be:
- £375,000 for complaints referred to FOS on or after 1 April 2022 about acts or omissions by firms on or after 1 April 2019
- £170,000 for complaints referred to FOS on or after 1 April 2022 about acts or omissions by firms before 1 April 2019.
From 1 April 2020 onwards, both award limits will be automatically adjusted each year in line with inflation, as measured by the Consumer Prices Index (CPI).
For any complaints referred to the ombudsman service before 1 April 2019, the limit will remain at £150,000.
ESMA issues specific recommendations to CySEC over its supervision of cross-border investment activities
On 10 March 2022, ESMA published its peer review report on the supervision of cross-border activities of investment firms.
In the report, ESMA identified the need for National Competent Authorities (NCAs) to “significantly improve” how they approach authorising, supervising and enforcing investment firms’ cross border activities. ESMA reminded NCAs to calibrate their supervisory work to the specific nature, scale and complexity of an investment firm’s cross-border activity.
Alongside the report, ESMA issued two specific recommendations to the Cyprus Securities and Exchange Commission (CySEC). This is the first time that an NCA has been issued with such recommendations. ESMA recommends that CySEC:
- increases the human resources it dedicates to supervising Cypriot investment firms’ cross-border services; and
- strengthens its day-to-day supervision of firms and implements a revised annual supervisory plan so it can successfully monitor, promote and enforce compliance.
CySEC must make every effort to comply with the recommendations, and has two months to inform ESMA whether it has complied, or intends to comply, with the recommendations.
FCA publishes portfolio letter on custody and fund services supervision strategy
On 22 March 2022, the FCA issued a portfolio letter outlining the key risks that custody and fund services firms need to manage. Firms are expected to take necessary action required to ensure these risks are appropriately mitigated.
The letter identifies the four key areas of harm in the custody and fund services sector as:
- disruption to consumers and market participants, or the loss, compromise, or lack of availability of data, due to insufficient operational resilience or weak cyber controls;
- sub-standard oversight and control of client money and assets leading to financial losses for investors and/or an inability to recover assets efficiently;
- inadequate depositary oversight of fund managers, and failure to take reasonable care to ensure an authorised Collective Investment Scheme (CIS) is managed in accordance with applicable rules and solely in the interests of the CIS and its unitholders; and
- inadequate oversight of business linked to high risk, illiquid or speculative investment products sold to retail investors, and failures to consider related consumer outcomes.
The FCA sets out its supervisory priorities and expectations of firms in the areas of: operational resilience and cyber; the protection of custody assets and money in line with the FCA’s Client Assets (CASS) Sourcebook; depositary oversight and speculative and illiquid investments. Firms are also expected to prepare for market developments and regulatory change. The FCA states that this includes the Investment Firms Prudential Regime.