Chapter 3 Flashcards
EU regulations
Legally binding in all member states
EU directives
Transposed into member state law by parliament
UCITS - Undertakings for Collective Investment in Transferable Securities Directive
Passporting for open ended funds
AIFMD - Alternative Investment Fund Manager Directive
Passporting for closed ended funds
EMIR - European Market Infrastructure Regulation
Over The Counter Derivatives
FACTA - Foreign account tax compliance act and Common Reporting Standard (CRS)
FACTA = USA
CRS = International
Prevent tax evasion
RFIs (reporting financial institutions e.g. investment, insurance, depository institutions, custodial institutions) are required to report under CRS
FSAP, the financial services action plan
Supports integration of EU financial markets:
-create a single EU wholesale market
-achieve open and secure retail markets
-create state of the art prudential and supervisory rules
Creation and implementations of directives e.g MiFID, prospectus directive
European regulatory bodies
European securities and markets agency covers financial markets
European banking agency covers banks
European insurance and occupational pensions authority covers insurance and employer provided pensions
4 Levels of european regulatory landscape
level 1 - legislative acts
level 2 - implementing measures
level 3 -facilitating convergence of regulatory practice
level 4 - enforcement
markets in financial instruments directive (MiFID)
to create a common market for the financial services industry
harmonised rules
allows firms within the EEA to open branches and cross border sell without licensing in each separate jurisdiction (passporting of services for firms)
also covers market transparency standards and regulation of MTFs and OTFs
For MiFID to apply. Have to be doing 1+ of core (freely passportable) activities. Which are?
- reception and transmission of orders
- execution of orders
- dealing on own account
- portfolio management
- investment advice
- underwriting and placing
- operating an MTF/OTF
MiFID: ancillary activities may only be passported if in conjunction with core activity. which are?
- safekeeping and administration = custodian
- lending to finance a deal in which the lender is involved
- merger/acquisitions + capital structure advice
- investment research and financial analysis
- fx services if connected to investment services
instruments within MiFID
Transferable securities: shares
Money market instruments: cash, certificates of deposit, T-Bills, commercial paper
Financial, commodity, credit and climate derivatives and contracts for difference
Forward rate agreements and swaps (currency, equity, rates)
Options over any of the above
Non MiFID
bank accounts
units in CIS
Spot FX
Insurance undertakings
FSMA - Financial services and markets act 2000
primary act of parliament granted power to regulate financial service industry to the financial services authority (FSA)
Financial services act 2012 passed power from FSA to
FCA - financial conduct authority
PRA- Prudential regulation authority
twin peaks approach, more specialisation
Bank of england
protect and enhance stability of financial system of the UK:
PRC - responsible for exercising the bank’s functions as the prudential regulation authority
FPC - identifies and takes action to remove or reduce systemic risk. directs PRA and FCA. responsible for macro prudential policy
PRA
Enhances financial stability by promoting the safety and soundness of banks, other deposit takers and insurers and other systemically important firms, minimising adverse effects on stability of UK financial systems
Ensure that insurance policy holders are protected
PRA approach
- judgement based
- forward looking
- focused
- part of BoE
- working closely with FPC on financial stability
- also works on special resolution regime (SRU) which focuses on living wills and orderly winding down of failing banks
Payment systems regulator
CHAPS BACS
Competition and markets authority (CMA)
covers all industries. concern = substantial lessening of competition
investigate merger when
- where combined market share >= 25%
or - where UK turnover of target to be merged >= 70m
Panel on takeover and mergers (PTM)
If fair treatment
Information commissioner’s Office and GDPR. max fee.
general data protection regulation. fine 4% turnover or 20m Euro, whatever is higher.
bidder required to make mandatory bid in cash if acquire what % of shares of a target company
30% - effective control bc then can’t get the 75% majority without the 30% approval
FCA statutory objectives
strategic objective: ensuring markets function well
operational objectives:
consumer Protection - ensure and appropriate degree of protection for consumers.
market Integrity - protect and enhance integrity of UK financial system
promote Effective competition in interests of the consumer
FCA powers
conduct supervises all firms
prudentially supervises firms not covered by PRA
authorises firms
approves individuals
supervision and enforcement: writes rules, monitors compliance with rules
discipline and sanctions: investigates rule breaches and undertakes disciplinary action
acts as the competent authority for listing and prospectuses (UKLA) Writes and enforces listing rules
FCA principles of business - mandatory, else discipline
FIMMCCCCCRS
Integrity
Skill care and diligence
Management and control - risk management
Financial prudence - having enough financial resources
Market conduct e.g. takeover code
Customers’ interests - fairness: front running, overcharging
Communications with clients: clear, fair, not misleading
Conflicts of interest
Customers: relationship of trust - advisory + discretionary Client communication
Clients’ assets
Relations with regulators
Senior management arrangement, systems and controls (SYSC)
encourages directors and senior managers to take practical responsibility for arrangements on matters of interest to the regulator
expands on organisation and control of company affairs with adequate risk management
vests responsibility for organisational control in specific directors and senior managers
creates common platform (rules) of systems and control requirements for firms
Under FSMA 2000, All firms carrying out regulated activities on specified investments must be
authorised by the FCA before they undertake business or be exempt (BoE, LSE) or carry out activites that are excluded (media, newspapers)
breach: criminal offence, max 2 years and unlimited fine
FSMA specified investments
all investment instruments + rights to those investments, inc credit and mortgages, but excluding physical assets (e.g. land and commodities) + excluding National Savings and Investments inc premium bonds and certificates
FSMA regulated activities
Accepting deposits
Issuing electronic money
Effecting or carrying out contracts of insurance as principal
Dealing in or arranging deals in investments
Managing investments
Operating an MTF or OTF
FSMA exempt persons (APRIL) - no need for authorisation, not regulated market
Appointed representatives
Members of the Professions (lawyers, accountants, actuaries)
Recognised Investment exchanges (RIEs) and clearing houses (RCHs)
Institutions e.g. BoE and ECB
Lloyds members (specialist insurance) lloyds itself is regulated
Who needs to comply and continue to meet COND (threshold conditions)
firms that want to become an authorised entity under FSMA 200
threshold conditions
legal status: must be company, not sole trader
location of offices: in UK so regulators can visit
prudent conduct
effective supervision
appropriate resources: finance + human resources
appropriate non financial resources
suitability: honest, soundly run company
business model: is it sustainable
3 elements of Senior Managers and Certification Regime
senior managers regime
certification regime
conduct rules
SMCR: senior managers regime
check if senior managers are fit and proper to start the job. regulatory approval of senior management functions (e.g. acting as a chairman or CFO). Prescribed responsibilities - important functions other than SMFs allocated to existing SMF
SMCR: certification regime
Firms internally assess on annual basis, fitness and propriety of other employee who poses risk to customer/firm e.g. other significant management, client facing roles, advisory roles
SMCR: conduct rules
Set of standards apply to all employees except catering + cleaners.
Five individual conduct rules + 4 additional “senior manager rules” e.g. integrity, skill care + dilligence
Training and competence
competence needs to be assessed and maintained if advising retail clients (individuals)
Retail Investment advisers professionalism requirements
Code of Ethics
Qualifications - level 4 e.g. IMC
CPD - continuing professional development each year: 35 hours, with 21 structured
SPS - statement of professional standing (certificate)
Role of an investment exchange
- recognised investment exchange (RIEs) overseen by FCA: highest standards of investor protection e.g. LSE< ICE Futures Europe, LME (metals)
- financial market infrastructure overseen by BOE: recognised clearing house, recognised payment system
- MTFs (shares) and OTFs (bonds, derivatives)
- Traders vs brokers
- Systematic Internalisers (Sis) - where investment bank takes one side of transaction
- MiFID Transparency requirements (pre/post trade)
regulation of derivative market
European Market Infrastructure Regulation (EMIR) requires:
1 - reporting of every contract to trade repository
2 - enhanced risk management standards
3 - clearing via a CCP OTC derivatives subject to mandatory obligation
Role of clearing house as CCP (central counter party)
Initial and variation margin (good faith deposit to open a position)
IFRS 9 (international financial reporting standards): derivatives shown at fair value on accounts + changes on income statement unless its a hedge where shown on reserves
Title Transfer collateral arrangements: protection for retail clients
client categorisation : per-se eligible counterparties
investment firm/credit institutions
insurance company
UCITS CIS
Pension fund or its management company
EEA authorised securities firm, bank or insurance
Own account commodity derivatives dealiers + locals, National government, central bank, supernational organisation
client categorisation : per-se ECP (eligible counterparties) status only exists for
Receiving transmitting orders
Execution of trades
Dealing on own account
client categorisation : per-se professional clients
(advising, fund management)
Entity authorised to operate in financial markets
National, regional governments, central banks, international/supernational institutions
Institutional investors - main activity investing in financial instruments
client categorisation : per-se professional clients large undertaking
Subject to MiFID: 2/3 of 20m balance sheet total, 40m net turnover, 2m own funds
non MiFID: 2/3 of - 12.5m balance sheet total, 25m turnover, 250 avg employees in year OR 5m in share capital/net assets
client categorisation: retail clients
client not a professional client or eligible counterparty
e.g. individuals, small companies/trusts/partnerships, local authorities
2 bodies of BoE
Financial policy committee
monetary policy committee
defined benefit pension
fixed pension based on final salary
tests for retail clients to opt to elective professional clients
1 Qualitative test: MiFID and Non MiFID - assess expertise, experience and knowledge to assure of capability and understanding
2 Quantitative test: MiFID only
3 Written request from client to be classified as a professional, written warning to client explaining lost protection, written acknowledgement from client accepting lower protection
opt to elective professional clients: quantitative test
Meet 2 of the 3Rs:
1 - average trade frequency ten per quarter over previous four quarters (regular)
2 - portfolio > 500k (rich)
3 - worked in financial sector for >= one year in professional capacity (resume)
opt to elective professional clients: qualitative test
Firm assesses expertise, experience and knowledge to assure of capability and understanding
Exemptions from obligation to produce prospectus
- where offer is made to qualified investors (those who are or may elect to become professional clients or eligible counterparties)
- where offer is made to < 150 persons per EEA state
- where min consideration per investor, or min denomination per unit >= 100,000
- where total consideration of offer < 5m calculated over a period of 12 mo
- shares representing < 10% of the number of shares of the same class already admitted for trading on the same regulated market (read this bit more)
Define financial promotion rules
Any invitation or inducement to engage a client in investment activity communicated in the course of business. Most do not apply to ECP clients
Financial promotions should comply with
FCA principles for business
S21 FSMA 2000: firm must not communicate a financial promotion unless
-it’s an authorised person
-the content has been approved by authorised person
-its subject to an FPO exemption (ads that do not need to comply)
Financial promotions that do not need to comply
- promotions to overseas investors
- follow up promotion
- introductions
- made by exempt persons (e.g. BoE)
- generic promotions
- made to investment professionals e.g ECP
- made by journalists
- made to HNWIs or sophisticated investors
What is HNWIs
100k net income (after tax and NI)
or 250k net assets (excl pension + home)
Financial promotion rules
- fair clear and not misleading, cleraly identifiable as promotions
(not apply to excluded communications e.g. one off promotion) or communications to investment professionals or ECPs - firm ensure:
clear capital at risk
quoted yields gives a balanced impression of short + long term prospects
clear info about complex charging structures
any unregulated activities highlighted as not being FCA regulated
clarity on packaged product not provided by the firm (CLIPS) - rules on past performance
-not initiate unwritten promotion unless exemptions
-no cold call unless exemptions
financial promotions: packaged product not provided by the firm (CLIPS)
CIS (unit trusts OEICs) Life policies Investment trust saving schemes Personal pensions Stakeholder pensions (low cost)
financial promotion: past performance rules
not most prominent feature
at least 5 preceding years, complete 12mo periods
reference period + source info clearly stated
clear warning “past performance not reliable indicator of future results”
currency - warning
gross performance - full effect of fees shown
financial promotion: unwritten promotion exemption
appropriate time of day
identifies themselves and firm at outset + makes reason for contact clear
determines if clients wishes to continue communication and terminates if requested
gives contact point
(cite - contact, identify, time, end)
financial promotion: cold call exemptions
customer existing relationship and recipient envisages call
relates to a generally marketable product (CLIPS unless high volatility or life policy linked funds)
relates to a controlled activity e.g. dealing service, inc deposits and readily realisable securities e.g. liquid shares (not warrants)
(mess: marketable packaged products, envisages call, service, related to securities)
record keeping rule for promotions for MiFID Non MiFID Pension transfers, opt out or FSAVCs Life policy, occupational pension, personal/stakeholder pensions
MiFID = 5 years
Non-MiFID = 3 years
Pensions = indefinitely due to mis-selling
Life policy, occupational pension, personal/stakeholder pensions = 6 years
investment adviser charging + remunerations
since jan 2013 - not permitted to earn commission by product provider. now offer charge for advice
applies to retail investment products - a broader definition than ‘packaged products’ (CLIPS)
Charges disclosed in writing in good time before advice in clear language
charge can be paid upfront or deducted from investment
Investment adviser charging: inducements (gifts)
firms cannot accept commission, fee or non-monetary benefit other than from the client unless:
- fee designed to enhance quality of service to client e.g. referral fee
- fee does not impair firm’s duty to act in best interests of client
- fee is clearly disclosed
MiFD rules on payment for investment research
- directly paid for by company
pr paid for by client via RPA
Suitability applies to
retail and professional clients for MiFID only
pension fund management
personal recommendations and firms managing investments
Steps to ensure suitability
must obtain necessary information regarding client’s:
- relevant knowledge and experience (maybe assumed for professional client)
- financial situ and level of risk acceptable
- investment objectives
provision of suitability reports (only if advice remember)
Suitability report must normally be provided to the client asap after transaction is carried out
Must be provided if personal advice given to retail client
appropriateness rules for non-advised sales
to ensure firm obtains sufficient info to assess if product appropriate for customer
firm must assess whether client:
1 is able to bear financial risks
2 can understand those risks
warnings provided when: firm believes investment/service not appropriate, client has not produced sufficient info for firm to come to a conclusion
when assessing appropriate not necessary
execution-only business involving non-complex financial instruments e.g. shares on regulated market, money market instruments, VCITS Fund
churning and switching
overtrading to generate commission - difficult to identify
churning: investments generally by investment manager e.g. shares
switching: packaged products e.g. CLIPS by financial adviser
best execution obligation
firm must take all reasonable steps to obtain best possible result taking into account:
execution factors: speed, cost, price, likelihood of execution and settlement or any other consideration
best execution criteria: client categorisation, type of order, type of financial instrument traded, characteristics of execution venues
order execution policy
has to be provided in good time before providing services in a durable medium - email/paper
ensures firm obtains best possible result for client
specific client instructions
deems best execution
client order handling
promptly and fairly execute orders
orders executed in timely order
firm can aggregate a client order with own account transaction or with another client order if
unlikely aggregation will disadvantage any client
disclosed to each client that aggregation may disadvantage them
order allocation policy established and effectively implemented
personal account dealing requirements
firms must establish, implement and maintain adequate arrangements to:
- prevent employees engaging in market abuse or misusing confidential info in conflicting situation
- ensure all relevant persons are aware of restrictions
- ensure any deals notified promptly to firm
- ensure adequate transaction records are kept
- exceptions: DUL - discretionary fund manager working on behalf, units in collective investment scheme, life policies/insurance
investment research rules to ensure independent/free from bias for research to be disseminated to clients/public inc written + oral material
firm arrangements must manage conflicts of interests and cover:
- no front running
- no personal transactions contrary to current recommendation
- no promises of favourable research
- no editorial control for subject of research
disclose all relationships and circumstances impairing objectivity of recommendation
doesn’t apply to disseminating 3rd party research
many key disclosures required
for ucits schemes you must
provide a key investor information document KIID
for packaged retail insurance based investment products you must
provide a key info document (KID)
non-priip products need a
key features documents )KFD)
retail client can change their mind for any reason. cancellation periods without charge
general rule - 14 days
life and pension policies - 30 days
2 types of reporting
occasional reporting + period reporting
occasional reporting/trade confirmations/contract note
ensure clients are advised of the details of a transaction
must confirm transaction promptly- T+1 in durable medium for retail clients
Trade confirmation info inc - firm/client/date/time, type/venue/instrument, buy or sell quantity/price, additional info
periodic reporting/statement
at suitable intervals, send periodic info to clients: total fees and charges + total dividends and interest
Every 6 months for retail clients, can ask for 3mo, and annual statements
If derivatives/leveraged then more risk so prepared every month and sent out promptly
EU benchmark regulation
prevents tax evasion
FCA regulates conduct of firms and individuals. PRA regulates ‘prudential’ regulations for which firms
deposit taking firms (banks, building societies), insurance companies and systemically important (large) investment firms. FCA governs small/medium investment firms not systemically important
ICE
RIE where investment futures and options are traded using an electric order matching system. Have to be an ICE future Europe member or get a member to act on behalf
Trader: acting on their own or company’s behalf. Takes profit from positions taken in futures/options
Broker: acting on someone else’s behalf. Charges commission.
ICE clear europe is clearning house for ICE futures europe.
not regulated investment under regulated activities order
land
accompany what percentage of shares before force minority shareholders to sell
90%
fund governed by trustee act permitted to invest in
UK growth unit trust units, commercial property, gilt edged securities
