PRA RULEBOOK AND FCA HANDBOOK OF RULES AND GUIDANCE Flashcards
FINANCIAL POLICY COMMITTEE (FPC)
Part of the Bank of England and responsible for macroprudential regulation, or regulation of the stability and resilience of the financial system as a whole.
What is the FCA’s strategic objective?
To ensure financial markets function well.
FCA Operational objectives?
- secure an appropriate degree of protection for consumers
- to ensure the effective competition in the interests of consumers
- protect and enhance the integrity of the UK financial system
FCA key priorities for the strategic objective
- renewed focus on wholesale conduct
- trust in the integrity of markets
- preventing market abuse
What does the FCA define enforcement as a regulatory tool?
a ‘credible deterrence’
Selecting cases to enforce against to send a strong and clear message to other firms not to engage in wrongful activity
The FCA’s integrity objective
Includes within it the ‘soundness, stability and resilience’ of the UK financial system.
They expect firms to operate high standards in their risk management, having procedures in place to ensure continuity of critical services.
Firms are required to comply with standards for resilience and recovery
Judgement based supervision work
The FCA needs strong, relevant skills and experience.
Conduct regulation requires a different skill set.
Supervisors will mean that supervisors conduct in-depth and structured supervisory work on those firms with great potential to cause risk to consumers, market integrity or competition.
Objectives of security an appropriate degree of protection for consumers
The aim’s and objectives are to:
- ensure customers are treated in a way that is appropriate for their level of financial knowledge
- be more outward-looking, by engaging more with consumers and understanding more about their concerns
- set clear expectations for firms and be clear about what they can expect from the FCA
- intervene early to tackle potential risks to consumers before they occur
- maintain a strategy of ‘credible deterrence’ including intervening earlier and holding individuals to account
Protecting and enhancing the integrity of the UK Financial System
Support a healthy and successful financial system, where financial markets are efficient and transparent.
The markets need to be supported by appropriate infrastructure, access and transparency to meet the needs of customers.
To achieve this, they seek to ensure that:
- senior management is accountable for their firm’s activities, including agency and principal responsibilities
- positive culture of identifying and managing conflicts of interest
- orderly resolution and return of client assets
- firms’ business models, activities, controls and behaviours maintain trust in the integrity of markets and do not allow market abuse
- market efficiency, cleanliness and resilience are delivered through transparency, surveillance and supervision of infrastructure
- firms acting as agents on behalf of their clients put best interests at the heart of their business
- early intervention in wholesale markets to mitigate the risk of harm being transmitted to retail consumers
The wide range of market failures
- unilateral market power
- barriers to entry and expansion
- coordinated conduct by firms
- vertical relationships
- weak customer response
- principal-agent problems
What is the FCA responsible for?
- conduct regulation of all firms covering dealings with retail customers, regulating around 50,000 in total including those supervised by the PRA
- prudential supervision of firms not supervised by the PRA (around 48,000)
- supervision of trading infrastructure including the investment exchanges and over the counter markets
- investigating and prosecuting insider dealing
- acting as the UK Listing Authority
- overseeing the FOS and the FSCS (jointly with the PRA)
What is the role of the FCA Policy, Risk and Research Division?
it acts as the radar of the organisation, combining research into what is happening in the market and to consumers with better analysis of the types of risk and where they appear
- It identifies and assesses risks to consumers, firms and markets - both emerging and current
- creates a common view of the risks in financial markets to inform - - the FCA’s authorisation, supervision and enforcement decisions
uses the knowledge of these risks to make evidence-based policy
It brings the information gathering, analysis and research into one place.
PRA’s 8 Fundamental Rules
- conduct business with integrity
- conduct business with due skill, care and diligence
- act in a prudent manner
- maintain adequate financial resources at all times
- have effective risk management strategies
- organise and control affairs responsibly and effectively
- deal with regulators in an open and cooperative way
- prepare for resolution so, if the need arises, it can be resolved in an orderly manner
key difference between the PRA statutory objectives and fundamental rules
How does the FCA achieve statutory objectives?
- seeking to ensure that any firms that fail, do so in a way that avoids significant disruption to the supply of critical services
- emphasizing resolution planning to permit orderly failure
- cooperating closely with the FPC and the FCA to ensure macro and microprudential regulation is aligned across the markets
- working with the FCA and others to ensure the UK authorities have a strong global voice
The FCA focuses on material issues when engaging with firms
The approach is based on the judgement of its staff
PRA developed a risk framework, capturing three elements
- potential impact a firm could have on financial stability in the UK
- how the external context in which a firm operates, and the business risks it faces might affect the viability of the firm
- mitigating factors including: a firm’s management and governance and its risk management and controls; its financial strength, specifically capital and liquidity
Enforcement Powers
PRA’s preference is to use powers to secure remedial action, given its approach to intervening early to address emerging risks.
But the PRA has the authority to impose financial penalties and public censures in cases where sanctions are inappropriate.
Also has powers when directions or restrictions are ignored by the firm.
How does the PRA deploy its disciplinary powers?
- reinforces the PRA’s objectives and priorities
- promoting high standards of regulatory behaviour
- the need to send a clear signal to a firm about the circumstances in which the PRA considers a firm’s behaviour
- deterring future misconduct
Role of the Enforcement Decision Making Committee
Role of the Enforcement Decision Making Committee is a committee of the Bank of England.
Helps the BoE discharge its responsibilities and strengthen enforcement process by ensuring that there is a functional seperation between investigation teams and decision makers in contested enforcement cases
Members of the EMDC will be independent of the BoE’s executive team
PRA Approach to supervision
Relies significantly on judgement
Supervises firms to judge whether they are safe and sound, whether they meet the threshold conditions.
Has a statutory objective to promote the safety and soundness of firms
- does this by seeking to avoid adverse effects on financial stability
seeking to avoid adverse effects resulting from disruption to the continuity of financial services that can be caused by the way firms run their business
PRA Key Objective
Focusing on issues and the firms that pose the greatest risk to the stability of the UK financial system
Does not operate a ‘no-fail’ regime
Who sits on the PRA board?
Governor of the Bank of England
Deputy governor for financial stability
Deputy governor for Markets and Banking
CEO of the PRA
independent non-executives of the board
FCA Approach to Supervision
Supervision is the continuing oversight of regulated firms and individuals controlling these firms to reduce actual and potential harm to consumers and markets
FCA adopts a ‘pre-emptive’ approach based on making forward looking judgements about firms business models, product strategy and how they run their business.
supervision contributes to the delivery of the statutory objective to protect and enhance the integrity of the UK financial system
The FCA has responsibilities for prudential supervision, its focus will be on the reduction of impacts to customers and the integrity of the financial system where firms fail
The FCA’s supervisory principals
protect consumers
promote competition
enhance market integrity
The FCA’s Principles for Business
Forward Looking
- pre empt poor conduct so that the risk does not crystallise
Focus on strategy and business models
- assessment on firm’s business models and strategies to identify emerging risk of harm
Focus on culture and governance
- assess the drivers of behaviour within firms
Focus on individuals as well as firm accountability
Proportionate and risk based
Two way communication
Coordinated
- FCA supervision teams work closely with other FCA departments
Put right systematic harm that has occurred and prevent it from happening again
FCA Supervision model
Proactive
- preventative work through conduct assessment of firms
PRESCRIBED RESPONSIBLITIES for CORE AND ENHANCED FIRMS
HANDBOOK PR REF
- Performance of obligations under SMR
- Performance of obligations under the Certification Regime
- Performance of obligations and training of the CONDUCT RULES
- Responsible for the firm’s policies and procedures for countering the risk that firms might be used to further financial crime
PRESCRIBED RESPONSIBILITIES FOR ENHANCED FIRMS
- Performance of obligations under SMR
- Performance of obligations under the Certification Regime
- Performance of obligations and training of the CONDUCT RULES
- Responsible for the firm’s policies and procedures for countering the risk that firms might be used to further financial crime
- Compliance with the Responsibilities Map
- Safeguarding and overseeing the independence of the Independent Audit function
- Safeguarding and overseeing the independence of the Risk function
- Ensuring the internal audit function is independent and everyone involved is independent
- Developing the firm’s business model
- Managing the firm’s internal stress tests and ensuring the accuracy and timeliness of the firm’s information
Outline the application of SM&CR to Benchmark Administrators
applied in 2020 for benchmark administrators that do not perform any other regulated activity
They are automatically subject to CORE SM&CR
Prescribed functions
SMF 1 - Chief Executive function
SMF 3 - Executive director
SMF 9 - Chairman positions
SMF 27 - Partner
As the firms are subject to UK BMR - they do not require the SMF16 and SMF 17 role
Three prescribed responsibilities
- Performance of the firm’s obligations under SMR
- Performance of the firm’s obligations regarding notifications and training of CONDUCT RULES
- Responsibility for the firm’s policies and procedures
Has not applied certification regime to these administrators
Some might be limited scope and then only require SMF29 - Senior Manager
CONDUCT RULES APPLY
How to outline RESPONSIBILITY MAPS
Only apply to enhanced firms under SM&CR
They are used to map governance and individual accountability for roles
- they ensure there are no gaps in accountability for individuals
- assigns each responsibility
firms must explain why a role might be shared jointly as they are only allowed in specific circumstances
What are Statements of Responsibilities?
firms must provide statements of responsibilities and they MUST be approved by the regulators
they outline which areas/maps of the business that senior managers are responsible for
they are used by the regulator when there has been a breach
individuals must sign them
DUTY OF RESPONSIBILITY
the ‘burden of proof’ that regulators must have sufficient evidence before bringing an SMF on proceedings
u-turn after FINANCIAL SERVICES ACT 2016 - burden of proof shifted to regulators rather than individuals to prove an individual did not take appropriate steps to avoid a firm’s contravention occurring
What are the Consumer Duty implications for ‘SENIOR MANAGERS’ ?
From 31 July 2023 - FCA consumer duty implementation date.
- CD should be reflected in policies, governance, leadership and people policies
- Senior Managers should ensure that firm’s have appropriate oversight of customer outcomes through systems and controls
- Risk functions should pay attention to consumer risks for internal audit
- Senior managers will be held accountable for ‘good consumer outcomes’
- Must appoint the CONSUMER DUTY CHAMPION at board level
FINMAR SOURCEBOOK
Introduced in 2010 following Financial Services Act 2010
- Financial Stability information power - person has to provide information relevant to the stability of the UK financial system
- Overseas financial stability information power - exercisable at the request of an overseas regulator to require a person to provide information relevant to the stability of the financial system of the country
SHORT SELLING REGULATION (SSR)
EU Short Selling Regulation 236/2012 applies to EU member states
It covers - sovereign debt, sovereign credit default swaps listed for trading on an EU trading venue including MTFs
The location does not matter, a person in a third country selling is covered by the regulation
Brexit UK firms must comply with UK SSR
KEY ELEMENTS
- transparency requirements for short positions in shares and sovereign debt
- Restrictions on uncovered short sales in shares, sovereign debt and sovereign CDs
- Central counterparty procedures to deal with settlement failure
- emergency measures that must be taken in exceptional circumstances
DISCLOSURE REQUIREMENTS OF THE SHORT SELLING REGIME
Requires
- Short positions in equities to be disclosed to the regulator where they reach or fall below 0.1% of the issued share capital of the company. Short positions reaching 0.5% of the issued share capital need to be disclosed to the market.
- Short positions in sovereign debt above thresholds need to be reported to the regulator. where the outstanding amount is 500 billion or less, the thresholds are 0.1% then each 0.5%
if sovereign debt is above 500 billion the thresholds are 0.5% and then 0.25%
What are the restrictions on uncovered short selling?
UNCOVERED SHORT SELLING is selling a security when you do not own it.
Person may enter into uncovered short selling only if if they have
- pre-borrowed the security
- entered into an agreement to borrow the security
- made arrangements with a third party to ensure the security will be available for settlement
- the market making exeption
Uncovered short positions in sovereign Credit Default Swaps are not permitted
SYSC 7 RISK CONTROL
Common platform firms must implement and maintain adequate risk management policies and procedures.
Firms must adopt effective arrangements processes and mechanisms to manage the risk
Senior managers in a firm must approve and review the strategies and policies for taking up and monitoring the risks the firm might be exposed to
- adequacy and effectiveness of the firm’s risk management policies and procedures
- level of compliance and relevant persons with the arrangements, processes and mechanisms
- the adequancy and effectiveness of measures taken to address deficiencies in the policies
SYSC 7 RISK
RESIDUAL RISK
MATERIAL RISK
INTEREST RATE RISK
OPERATIONAL RISK
SYSC 8 OUTSOURCING
Firms which rely on third parties to perform operational functions which are critical for their adherence to regulatory obligations must ensure they review and monitor the performance of the third party
The firm will still be held accountable by the FCA/PRA for its performance. It is the firm’s best interests to monitor the performance of third party against SLAs
Firms must take steps to avoid undue operational risk and not undertake the outsourcing of important functions that impair internal control and the ability of the regulator to monitor the firm’s compliance with obligations under the system.
A function is regarded as critical if a defect or failure would impact the compliance of a common platform firm with the conditions and obligations of its authorisation
SYSC 8 OUTSOURCING FUNCTIONS - What functions are not considered as critical?
Provision of advisory services which do not form part of the relevant services including provision of legal advice
Purchase of services such as market information services and price feeds
recording and retention of relevant telephone conversations
SYSC 8 OUTSOURCING - What must firms comply with?
- Outsourcing must not result in the delegation by senior personnel of their responsibility
- Relationship and obligations of the firm under the regulatory system must not be altered
- The conditions the firm must comply with to be authorised must not be compromised
- None of the conditions subject to the firm’s authorisation must be altered
What steps must firms take to ensure firms comply with SYSC 8 Outsourcing?
- the service provider must have the ability, capacity and any authorisation required by law
- service provider must carry out the outsourced services effectively
- service provider must supervise the carrying out of the outsourced functions and manage the risks
- action must be taken if the service provider is not carrying out the functions effectively
- firm must retain the expertise to supervise the outsourced functions effectively
- Service provider must disclose to firms any changes that might impact the ability to carry out the outsourced functions effectively
- The firm must be able to terminate the agreement for outsourcing if necessary
- The service provider must cooperate with the regulator and any other competent authority in connection with the outsourced activities
- The firm and the regulator/any other competent authority must have effective data related to the outsourced activities
- Service provider must protect any confidential information relating to the firm and its clients
- the firm and the service provider must create disaster recovery plans
Record keeping
MiFID business must be held for five years
SYSC 10 - CONFLICTS OF INTEREST
Firms must take all steps to identify, prevent and mitigate conflicts of interest when they arise. Principle 8 of the FCA Principles
The rules in SYSC apply to common platform firms in respect of regulated business and ancillary activities that constitute MiFID business and non-MiFID business
firms need to take steps to identify, prevent and manage conflicts of interest between:
- the firm, including the managers, employees, appointed representatives
- one client of a firm and another
firms should
- employ and apply effective organisational arrangements to prevent conflicts of interest from occurring
- have appropriate information barriers - chinese walls
- ensure the general or nature of the conflict which cannot be prevented is disclosed
- prepare and maintain an effective CoI policy
- provide retail and professional clients with this policy
- have a segregation of duties
- policy of independence
common platform firms must keep and update a record of the kinds of services or activity carried out by or behalf of the firm which a conflict of interest entailing a material risk has arisen
Potential conflicts of interest
When a person directly or indirectly linked by control to the firm
- is likely to make a financial gain or avoid a financial loss
- has an interest in the outcome of a service provided to the client
- has a financial incentive to favour the interest of another client or group
- carries out the same business as the client
- receives or may receive an inducement in relation to a service provided by the client
for non-common platform firms - not subject to UK CRR/CRD or MiFID - must take it as guidance or a rule
How should firms manage conflicts of interest?
- Information barriers
- delegation of responsibilities
- Renumeration structures
- policy of independence
They must:
- be designed to ensure that relevant persons engaged in different activities involving a conflict of interest carry the role at a level of independence
- include effective procedures to prevent or control the exchange of information between relevant parties engaged in activities involving a risk of conflict of interest
- seperate supervision of relevant persons whose principal functions may conflict or represent different interests that may conflict those of the firm
- removal of link of any direct link between the remuneration of relevant persons engaged in one activity and the remuneration of revenues generated by different relevant persons
- measures to prevent a person exercising inappropriate influence over the way a relevant person carries out activities
Outline the function of CHINESE WALLS and how they should be structured as effective?
If a firm establishes and maintains information barriers it must:
- withhold or not use the information held
- permit its employees in one part of the business to withhold the information from those employed in another part of the business - one parts of the business is carrying on regulated activities or another activity carried on in connection with a regulated activity
- take reasonable steps to ensure that these arrangements remain effective and are monitored
EXAMPLE - corporate finance section of the company is separated from the research function
Disclosure must be made in a durable medium and include sufficient detail taking into account the nature of the client to allow them to take an informed decision with respect to the service
overdisclosure without adequate consideration as to how the conflict of interest could be mitigated is not permitted
Disclosures must be taken as a LAST RESORT
REMUNATION SYSC 19B - what is the objective?
To sustain market confidence and promote financial stability by removing the incentive for inappropriate risk-taking by firms.
Remuneration policies and practices are consistent with and promote effective risk management
The code limits the risk of damage to the UK’s competitiveness
The objective of the remuneration policy is to sustain market confidence and promote financial stability
The need to ensure that remuneration policies are consistent with and promote effective risk management
It applies to
- banks
- building societies
- UK designated investment firms
The regulators will seperate firms into three streams
1. HIGH IMPACT GROUPS - need to prepare a remuneration policy statement ahead of the financial year and have remuneration meeting with the PRA and the FCA may not be able to pay bonuses without agreement
- Medium high risk groups will have to prepare a reported that will be prepared as part of the risk assessment review
- Low impact firms will only need to prepare a report if part of a thematic review
WHAT ARE THE RENUMERATION PRINCIPLES?
Principle 1 - Risk management and risk tolerance
- Must ensure the policy is consistent with and promotes sound/effective risk management
Principle 2 - Supporting Business Strategy, Objectives, Values and Long-Term Interests of the Firm
Principle 3 - Avoiding conflicts of interest
Principle 4 Governance
- Must ensure the governing body in its supervisory function adopts and reviews the principles of the remuneration policy.
- The committee must be constituted to exercise competent and independent judgement over remuneration policies
- The remuneration committee must be responsible for the preperation of decisions regarding remuneration
Principal 5 CONTROL FUNCTIONS
- Employees enjoyed in control functions are
independent
have appropriate authority
remunerated to attract qualified and experienced staff
the procedures for setting remuneration input into setting the remuneration policy for other business areas. Risk and compliance functions should have significant input into the setting of individual remuneration
Principle 6 - Capital
Remuneration must not disallow a firm to limit the firm’s ability to strengthen its capital base
Principle 7 - Exceptional Government Intervention
A firm that benefits from exceptional government intervention must ensure variable remuneration is strictly limited as a percentage of net revenues when it is inconsistent with a sound capital base
Principle 8 - Profit based measurement and risk adjustment
Any measurement of performance used to calculate variable remuneration components takes into account the cost and quantity of capital and the liquidity required and the need for consistency with timing and likelihood of the firm receiving revenues incorporated into current earnings
Principle 9 - Pension Policy
Firm must ensure the pension strategy is in line with the business strategy, objectives, interests and values
Discretionary pension benefits are paid to the employee in the form of instruments and subject to a five year retention period.
PRINCIPAL 10 Personal Investment Strategies
Employees should not use personal hedging requirements or liability related contracts of insurance that would undermine the limiting risk of the remuneration policy
PRINCIPAL 11 - Avoidance of the remuneration code
Employees should ensure that remuneration is not paid through vehicles to avoid the remuneration code
PRINCIPAL 12 - REMUNERATION STRUCTURES
The purpose of this principle is to ensure that the structure of an employee’s remuneration is consistent with, and promotes, effective risk management.
- remuneration must be based upon the performance of the individual concerned
- Firms are only permitted to offer guaranteed variable remuneration in the first year of service
- Firms must set appropriate ratios of fixed versus guaranteed remuneration
- Firms must ensure that any variable remuneration, including a deferred portion, is paid or vests only if it is sustainable according to the financial situation of the firm as a whole
AIFM REM CODE SYSC 19B
AIFMS are required to establish, implement and maintain remuneration policies for code staff that are consistent with and promote sound and effective risk management, which do not encourage risk taking inconsistent with the risk profile of the AIFM they manage
Code staff comprise those who have a material impact on the risk profiles of the AIFM or AIFs the AIFMs manage
What are the AIFM REM CODE PRINCIPLES?
1 - Risk Management
2- Supporting Business Strategy, Objectives, Values and Interests
3 - Governance
4- Control Functions
5 (a) - Remuneration Structures - Performance
5 (b) - Remuneration Structures - Variable Remuneration
5 (c) - Rem structures - Ratio between fixed and variable components of total remuneration
5 (d) - Rem structures - payment related to early termination
5 (e) - Rem structures - retained units, shares or other instruments
5 (f) - Rem structures deferral
5 (g) Rem structures - Performance adjustments
6 - Measurement of performance
7 - Pension Policy
