The latest regulatory update – November 2021

Regulatory Update November 2021

In this issue we cover:

• FCA’s ESG priorities
• ESMA: Statement on Investment Recommendations on Social Media
• FCA’s speech on “Drivers of change”
• Climate and environmental risk management in banking sector
• FCA Board Effectiveness Review
• FCA proposed changes to financial services firms fees to cover the cost of regulation
• ESMA final report on clearing and derivative trading obligations under EMIR and MiFIR following benchmark transition
• FCA amendments to Investment Firms Prudential Regime Instrument 2021
• FCA Market Watch 68
• FCA fines Sunrise Brokers LLP for financial crime control failings
• HM Treasury and Bank of England release statement on Central Bank Digital Currency next steps

FCA’s ESG priorities

The FCA has outlined its strategy for driving environmental, social and governance change internally and within the industry.

The FCA outlines its target outcomes and actions, particularly promoting transparency and trust. It will provide tools and influence the industry and in recognition of the high importance and it has appointed its first Director of ESG.

The FCA sees the financial services industry as an important influence as we transition to a net zero economy, but it’s not just focused on climate change. It lists a host of other social issues. In its opinion, financial services can be a force for good but also a source of harm, in terms of direct investment as well as misleading consumers by ‘greenwashing’ their activities.

The strategy implies that it will go beyond influencing and will use rulemaking tools, if it doesn’t see the change it seeks. Its supervision teams will also be driving change in their regular interactions with firms. Firms should read the strategy and consider its impact on the way it conducts its business.

To coincide with the COP26 Finance Day, the FCA published a Discussion Paper (DP21/4) which asked for views on potential criteria to classify and label investment products to help investors make more informed ESG investment decisions. DP21/4 forms part of the FCA’s new ESG strategy, which was also released on the same day.

The FCA are seeking feedback on potential approaches to the design of:

• sustainable investment labels 
• consumer-facing disclosures for investment products 
• client- and consumer-facing entity- and product-level disclosures by asset managers and FCA-regulated asset owners

The input received to this discussion paper will inform the development of policy proposals for consultation in Q2 2022.

ESMA: Statement on Investment Recommendations on Social Media

At the end of October, ESMA issued a statement setting out the application of the investment recommendations regime under the Market Abuse Regulation (MAR) to social media. The statement is intended for those recommending investments via any platform, as well as those making investment decisions based on investment recommendations done on any platform (including social media).

It sets out the definition of investment recommendations and stresses that investment recommendations must be done in a specific and transparent way, to allow investors to assess: the credibility of the recommendation; and any interests of those making the recommendations.

The regulator notes that investment recommendations are often made by brokers and financial analysts but can also be said to be made by other individuals proposing an investment strategy when the proposal is intended for wider distribution (e.g. posting on social media).

ESMA reiterates rules under MAR requiring those making investment recommendations to disclose identities, present recommendations in an objective way, and disclose all relationships or circumstances that would impair objectivity.

Additionally, it sets out sanctions applicable in the event of a breach of the investment recommendation regime.

FCA’s speech on “Drivers of change”

On 2 November 2021, Jessica Rusu, the FCA’s Chief Data, Information and Intelligence Officer delivered a speech at the CDO Exchange for Financial Services titled: “Drivers of change in the financial services industry and how we are responding”.

The speech focussed on the “data-driven revolution” which has resulted in a number of new technologies and as a result, new challenges. The “revolution” has transformed “the kinds of products and opportunities available; how firms offer services and interact with customers; as well as how risks are qualified, and decisions made.”

The speech highlights how consumers are drawn to new high-risk markets and products which have also attracted new types of consumers that are encouraged to enter the market by social media, friends and family.

Ms Rusu used the examples of cryptocurrencies and social media to highlight the opportunities and challenges associated with the new technologies. She noted that the FCA have been engaging with social media platforms to ensure that they are complying with laws preventing the communication of unregulated investments as well as tightening up on the advertisement of scam investments.

The speech also highlighted the need for a “data-led regulator”. This will be set out in more detail in the FCA’s refreshed data strategy in due course.

Climate and environmental risk management in banking sector

The European Central Bank (ECB) has reported on the state of the approach taken by banks to manage their climate and environmental risks, it outlines broad observations and good practice.

The report focuses on the following areas:

• business model
• governance and risk appetite
• risk management
• disclosures

The ECB is of the view that most banks have taken some of the steps it expects to see, but they generally fall short of expectations. Whilst recognising the challenges that firms face, the ECB is concerned whether the actions taken to date are truly meaningful.

FCA Board Effectiveness Review

The FCA published the external review of its board, undertaken by a specialist consultancy between May and September 2021.

The review considered the board’s effectiveness across a range of 32 criteria. Twelve of the criteria were noted as being key areas of effectiveness. This included, the board’s current skills and experience, and its independence and quality of challenge. A further twenty emerging areas of effectiveness were identified as requiring further work, however these weren’t identified within the report.

Whilst the overall assessment of the FCA board was positive, the review did identify a clear rationale for it to be increased by at least one director considering the FCA’s large agenda, the challenges faced by the organisation and the significant NED committee workload.

FCA proposed changes to financial services firms fees to cover the cost of regulation

The minimum fee, which has remained largely unchanged over the last decade, will increase from £1,151 to £2,200 to better reflect the costs associated with the authorisation and supervision of 51,000 firms throughout the UK.

As part of its transformation to a more innovative and assertive regulator, the FCA has committed to invest £120 million over the next three years to strengthen its ability to identify firms and individuals of concern.

In addition, the FCA is proposing changes to the calculation of consumer credit firm fees to bring them more into line with other firm fees.

The FCA will consider all feedback received on the consultation and expects to implement changes in time for the 2022/23 fee cycle.

ESMA final report on clearing and derivative trading obligations under EMIR and MiFIR following benchmark transition

On 18 November 2021, in light of the upcoming discontinuation of EONIA and LIBOR, ESMA issued a final report outlining the proposed draft Regulatory Technical Standards (RTS) to amend the scope of the EU derivatives clearing obligation and the EU derivatives trading obligation (EU DTO). The amendments aim to ensure a “smooth benchmark transition” as well as effectively maintaining the scope of the CO and EU DTO.

As of 3 Jan 2022 the proposed amendments would:

• remove derivatives referencing EONIA, GBP LIBOR and JPY LIBOR from the EU derivatives clearing obligation;
• introduce derivatives referencing €STR to the EU derivatives clearing obligation; and
• remove derivatives referencing GBP LIBOR and USD LIBOR from the EU DTO.

Additionally, 3 months after the publication of the RTS in the Official Journal it introduced derivatives referencing SOFR to the EU derivatives clearing obligation.

ESMA has submitted the draft RTS to the European Commission for endorsement. Adoption of these amendments may take time, so the report suggests the new provisions come into force as soon as possible in advance of the benchmark transition.

FCA amendments to Investment Firms Prudential Regime Instrument 2021

On 12 November 2021, the FCA published a table summarising the amendments to the original text of the near-final Investment Firms Prudential Regime (“IFPR”) Instrument. No amendments have been made to the substantive content of the IFPR Instrument since the near-final version was issued in the FCA’s July 2021 policy statement (PS 21/9) in July 2021.

The amendments relate to:

• The glossary definition of ‘UK parent investment firm’ – to ensure “connected undertaking” relationships function as intended under MIFIDPRU 2.4 and 2.5;
• MIFIDPRU 4.14.1R(2)(b) and 4.14.2G – to ensure the K-TCD requirement also includes any SFTs and long settlement transactions entered into by a firm with permission to deal on own account;
• MIFIDPRU 7.9.5R(5) – to correct the reference to the notification requirement under 7.6.13R;
• MIFIDPRU 9 Annex 2G (Guidance notes on data items in MIFIDPRU 9 Annex 1R): MIF002 guidance notes – to correct references to items 7A to 9A;
• MIFIDPRU 9 Annex 2G (Guidance notes on data items in MIFIDPRU 9 Annex 1R): MIF007 guidance notes – to correct references to 69A (where 68A has been completed) and references to 71A (where 70A has been completed);
• MIFIDPRU TP10.2R(4)(a) and MIFIDPRU TP 10.9G – to ensure the transitional requirement in MIFIDPRU TP10 on individual capital guidance includes any amounts regarding capital planning buffers or other CRD IV buffers under IFPRU 10;
• SUP 16.12.17R – to delete the MLA-M row for reporting frequency rules; and
• Application and notification forms – to outline operational and administrative requirements and to ensure the information the FCA requires is clearer to firms.

The FCA noted that further amendments may be made to small number of the final rules when it responds to CP21/26.

FCA Market Watch 68

On 16 November 2021, the FCA published “Market Watch 68” which focussed on web-based trading platforms.

The FCA has observed an increase in the use of electronic trading platforms in recent times and has focussed on the following risks and challenges associated with the increase:

• Market abuse surveillance: the FCA is concerned that users of web-based platforms may not be able to monitor all of their orders to detect market abuse in line with their obligations under Article 16(2) of UK MAR. This is because users do not always systematically record order messages that precede execution;
• Data challenges: many users of web-based platforms are unable to get data in a suitable format for surveillance;
• Compliance awareness: compliance teams of users of web-based platforms do not all have a strong hold over their firm’s use of web-based platforms and surveillance gaps;
• MAR assessments: many firms’ MAR assessments do not include business entered on web-based platforms and therefore question whether proper surveillance is in place;
• Record keeping: due to gaps in capturing all trades, firms are unlikely to comply with the requirement to keep data relating to all orders and transactions for a period of five years;
• Onboarding governance: firms should make greater effort to consider market abuse surveillance and record keeping obligations when onboarding new platforms;
• Firm rationales for failings: firms continue to use “questionable rationales to justify their potential failure to meet their obligations under UK MAR” and the FCA will not accept this as a reason for a firms’ failure to comply with UK MAR; and
• Operators of web-based platforms: the FCA reminds operators of their obligations to effectively monitor and prevent potential market abuse.

FCA fines Sunrise Brokers LLP for financial crime control failings

On 12 November 2021, the FCA published its final notice against Sunrise Brokers LLP fining it £642,000 for serious financial crime control failings in relation to cum-ex trading.

This is the second fine issued by the FCA in relation to cum-ex trading. The first was issued in May 2021 against Sapien Capital Ltd.

The FCA found that Sunrise had breached Principle 2 (“a firm must conduct its business with due skill, care and diligence”) and Principle 3 (“a firm must take reasonable care to organise and control its affairs responsibly and effectively, with adequate risk management systems”) for its failure to prevent alleged fraudulent trading undertaken by the Solo Group. The trading that was undertaken by the Solo Group during this period allowed the arranging of withholding tax reclaims in Denmark and Belgium.

The FCA found that Sunrise failed to exercise due skill, care and diligence in applying its anti-money laundering policies and failed to properly assess, monitor and mitigate the risk of financial crime. In particular, the FCA noted that Sunrise had onboarded 142 clients over a short period of time without carrying out adequate KYC checks.

HM Treasury and Bank of England release statement on Central Bank Digital Currency next steps

On 9 November 2021, HM Treasury and the Bank of England published a joint statement setting out the next stages of exploring a UK Central Bank Digital currency (CBDC). CBDC would be issued by the Bank of England to act as a new form of digital money for everyday use by households and businesses but would not replace cash and bank deposits and would instead alongside them. The Bank of England and HM Treasury had previously launched the CBDC Taskforce on UK CBDC in April 2021.

As part of the ‘research and exploration’ phase, HM Treasury and the Bank of England will initiate a consultation in 2022 outlining their examination of the case for a CBDC in the UK. The consultation will guide policy development over the next few years and determine whether the authorities can then move to the ‘development’ phase. This phase will most likely last a number of years and will involve in a technical specification and detailed testing of the best design for and feasibility of a UK CBDC.