Financial Services SpeedRead 20 july 2021

1. New FCA webpage on MoUs and other agreements with overseas regulators

On 8 July 2021, the FCA published a new webpage, setting out a list of multilateral and bilateral Memoranda of Understanding (MoUs) and other agreements it has signed with overseas regulators.

The FCA explained that these agreements help it to cooperate and exchange information with other regulators and that working with its overseas counterparts help it meet its objectives, tackle shared risks and supervise cross-border firms effectively. As confirmed by the FCA, the list provided on the new webpage is not exhaustive and some agreements are confidential.

2. United Kingdom signs free trade deal with Norway, Iceland and Liechtenstein

On 8 July 2021, the Department for International Trade (DIT) published a press release, announcing that it had signed a new free trade agreement (FTA) with Norway, Iceland and Liechtenstein, boosting a trading relationship worth £21.6 billion last year.

The DIT states that the new FTA is the most advanced trade deal that Norway, Iceland and Liechtenstein has ever signed, with gold standard provisions in digital trade, mobile roaming, and business travel. It is also states in the press release that the new FTA will slash tariffs and offer new duty-free quotas on exports of high-quality British food and farm products and "support jobs in every corner of the UK". According to the DIT, the deal also delivers the most comprehensive mobility commitments in any British FTA to date. It allows high-skilled professionals to enter Norway, Iceland and Liechtenstein for business purposes; ensures that visas are processed within a maximum of 90 days; and includes professional qualification recognition.

Further, the press release states that the agreement supports the UK's ambitions in relation to climate and environmental protection. It preserves the UK's right to regulate to reach the Net Zero target, promotes trade and investment to grow the low carbon economy, and addresses numerous issues related to environmental protection. The signing of the new FTA, as stated by the DIT, marks a new closer alliance between the UK, Norway, Iceland and Liechtenstein.

Following on from this, on 16 July 2021, the DIT published a new webpage setting out a list of joint declarations adopted at the signing of the new FTA. On the same date, the DIT also published a Parliamentary report, which provides an overview of the new FTA and an Impact assessment.

3. ESMA consultation paper on guidelines on certain aspects of the MiFID II remuneration requirements

On 19 July 2021, ESMA issued a consultation paper containing draft guidelines on certain aspects of the MiFID II remuneration requirements. According to ESMA, the remuneration of staff involved in the provision of investment and ancillary services and activities, or in selling or advising on structured deposits to clients is a crucial investor protection issue.

ESMA confirmed that the purpose of these draft guidelines is to enhance clarity and foster convergence in the implementation of certain aspects of the new MiFID II requirements, replacing the existing ESMA guidelines on the same topic, issued in 2013. As explained by ESMA, the consultation paper builds on the text of the 2013 guidelines, which have been substantially confirmed (albeit clarified and refined where necessary). It also takes into account new requirements under MiFID II and the results of supervisory activities conducted by national competent authorities on the topic.

In order to reflect these considerations, ESMA has reorganised the guidelines and divided them into the following sections:

• Design of remuneration policies and practices;
• Governance; and
• Controlling risks that remuneration policies and practices create.

Further, to help stakeholders read the consultation paper, Annex IV contains a correlation table between the new draft guidelines and the original guidelines.

The deadline for responses to the consultation paper is 19 October 2021. ESMA expects to publish a final report and final guidelines by the end of Q1 2022.

4. FCA Business Plan 2021/22

On 15 July 2021, the FCA issued its Business Plan 2021/22 which outlines its business priorities for the year ahead. This is the first annual plan since Nikhil Rathi joined the FCA as Chief Executive in October 2020. In the Business Plan, the FCA sets out its plans to become a more transparent, accountable and evidence-driven organisation and confirms it will make changes to its approach and operations, as well as the ways in which it is held accountable. The FCA considers it needs to be more proactive in the face of technological changes and greater choice in the marketplace.

The Business Plan sets out the FCA's cross-cutting principles:

• fraud;
• financial resilience;
• operational resilience;
• improving diversity and inclusion;
• ESG; and
• international cooperation.

FCA's wholesale markets priorities include: review of primary and secondary markets rules; LIBOR transition; and market abuse and financial crime.

The FCA's consumer priorities include strengthening rules on financial promotions to protect consumers in relation to investments and progressing proposals for a new Consumer Duty to raise standards in firms' treatment of consumers.

The FCA intends to publish its wholesale and retail strategies in early 2022 to set out its ambitions for those markets.

The FCA also confirms that it will: (i) introduce a more robust gateway for new firms consisting of higher standards and greater scrutiny of firms' financials and business models; (ii) introduce stronger oversight for newly authorised firms (a regulatory "nursery"); and (iii) provide stronger oversight of firms via a new Regulatory Scalebox, as recommended in the Kalifa Review.

5. Transforming to a forward-looking, proactive regulator: Speech by Nikhil Rathi, FCA CEO

On 15 July 2021, the FCA published a speech by Nikhil Rathi, the FCA CEO, that was published alongside the FCA's 2021/22 Business Plan (see above entry for details). In the speech, Mr Rathi provides an overview of the key themes and aims behind the Business Plan. Mr Rathi sets out the forces that are moulding financial services:

• the rise in vulnerability coming out of the pandemic;
• rapid technological change;
• rewriting the UK regulatory framework after Brexit; and
• transition to a net zero economy.

Mr Rathi argues that in order to meet these challenges, the FCA has to be: more innovative (taking advantage of data and technology to increase ability to act decisively); more assertive (testing the limits of FCA powers); and more adaptive (learning and always adjusting the FCA approach). Mr Rathi adds that a regime of accountability and culture of transparency will underpin this.

Mr Rathi confirms that the FCA will be more rigorous when upholding high standards, especially in relation to governance, conflicts of interest and conduct. Mr Rathi comments that there will be more focus on scrutinising applicants' financials and business models - especially in complex markets, or where the firm is operating in a high-risk business (e.g. crypto firms applying for anti-money laundering registration). In acknowledgement that there are too few ways that the FCA's performance is accurately captured, Mr Rathi confirms that the FCA will be setting seven key strategic overarching outcomes and testing a number of metrics (and that these are aligned with its transformation programme and set out in the Business Plan).

6. FCA Report: Implementing the recommendations from the Independent Reviews – update

On 15 July 2021, the FCA issued a report providing an update on the work it has carried out up to July 2021 to implement the recommendations and lessons from the Independent Investigation into the FCA's regulation of London Capital & Finance plc and the Independent Review into the FSA and FCA's handling of the Connaught Income Fund Series 1 and connected companies. The report forms part of the broader FCA's Transformation Programme, further details of which are set out in the FCA's Business Plan 2021/22.

Points raised in the update include the following:

• the FCA considers it applies a proportionate, robust and holistic approach to its assessment of firms and confirms that in the year to March 2021, one in six firms applying for FCA authorisation were refused, rejected or withdrew their application following engagement with FCA;
• the FCA is taking robust action so that firms holding an FCA permission use it for the purpose intended, so as to reduce the risk of a "halo" effect, and the FCA will look at firms' business models holistically where this is appropriate;
• the FCA has completed its "use it or lose it" pilot and "use it or lose it" will become part of the FCA's existing strategies to cancel the permissions of firms that do not conduct the regulated activities for which they have permission, as well as those that do not pay their fees or that fail to provide required information;
• in the year to March 2021, the FCA opened over 1,700 supervisory cases involving scams or higher risk investments; and
• the FCA is also reviewing its approach to consumer engagement and has begun discussions with the Financial Services Compensation Scheme and the Financial Ombudsman Service to form a "consumer investment coordination group".

7. GFXC completes review of FX Global Code

On 15 July 2021, the Global Foreign Exchange Committee (GFXC) published an updated version of its FX Global Code, following a three-year review of the Code. Eleven of the Code's 55 principles have been amended in an aim to strengthen the Code's guidance on anonymous trading, algorithmic trading and transaction cost analysis, disclosures and settlement risk. GFXC has also published:

• a webpage providing templates for industry participants to use in improving disclosures and assisting with transaction cost analysis;
• a paper summarising the outcomes of the Code review and highlighting the specific changes to the Code; and
• a commentary on principle 11 and the role of pre-hedging in today's FX landscape.

8. ESMA statement on payment for order flow and zero-commission brokers

On 13 July 2021, ESMA issued a public statement on risks arising from payment for order flow (PFOF) and certain practices by zero-commission brokers.

PFOF is the practice of brokers receiving payments from third parties for directing client order flow to them as execution venues. In ESMA's view, PFOF causes a clear conflict of interest between the firm and its clients, because it incentivises the firm to choose the third party offering the highest payment, rather than the best possible outcome for its clients when executing orders. ESMA reminded firms that they must thoroughly assess whether, by receiving PFOF, they are able to comply with relevant MiFID II requirements, with particular emphasis on those obligations related to best execution, conflicts of interest, inducements and cost transparency.

Zero-commission brokers are firms that charge no explicit commissions for the execution of client orders and make their services as bearing no costs for investors. These firms often receive PFOF from third parties, which may compensate for the lack of direct commissions charged to their clients. ESMA reminded zero-commission brokers that marketing their services as cost-free when they receive PFOF from third parties will breach their obligation to provide fair, clear and not misleading information to their clients and to provide information on all costs and charges.

In light of these concerns and of the multiple requirements applying to PFOF, ESMA considered that in most cases it is unlikely that PFOF could be compatible with MiFID II and its delegated acts. Accordingly, ESMA has requested National Competent Authorities to prioritise PFOF in their supervisory activities for 2021 or early 2022, especially in those Member States in which PFOF has been observed. These supervisory activities should aim at assessing the actual impact of PFOF on firms' compliance with relevant MiFID II requirements, including whether firms receiving PFOF are able to demonstrate that they consistently achieved the best possible result for retail clients when executing their orders.

For more insights, see our briefing here.

9. BoE/FCA Report: Assessing the resilience of market-based finance

On 13 July 2021, the Bank of England (BoE) issued a report in relation to market based finance. Market-based finance refers to the system of markets, non-bank financial institutions and infrastructure providing financial services to support the wider economy. The report looks at the FPC's framework for assessing vulnerabilities in market-based finance and considers the role these vulnerabilities played during the March 2020 turmoil. The report also includes the conclusions of the joint BoE and FCA review into vulnerabilities associated with liquidity mismatch in open-ended funds. The report sets out steps for addressing vulnerabilities in market-based finance and these include limiting the demand for liquidity rising unduly through stress periods; and increasing the resilience of the supply of liquidity in stress.

10. ESMA fines DTCC Derivatives Repository Plc a total of €408,000 for EMIR infringements

On 8 July 2021, ESMA fined DTCC Derivatives Repository Plc (DDRL) a total of €408,000 for seven infringements of the European Market Infrastructure Regulation (EMIR) regarding data confidentiality, data integrity and direct and immediate access to data.

The specific breaches were committed between 2014 to 2018 and related to the following:

• granting certain asset managers access to data that they were not entitled to receive;
• setting up its IT system in a way which altered the substance of certain information reported to DDRL; and
• failing to provide regulators with direct and immediate access to relevant data.

Anneli Tuominen, the Interim Chair of ESMA, noted that the action against DDRL emphasises the importance ESMA places on trade repositories complying with their obligations on data confidentiality, integrity and access. Tuominen further stated that the provision of timely, accurate and confidential data to CCP and derivatives markets supervisors is an essential requirement in facilitating the monitoring and identification of systemic risk in EU derivatives markets. ESMA will, as confirmed by Tuominen, continue to monitor this area and take the necessary action to promote stable and orderly financial markets.

11. Treasury Committee reports on Future Regulatory Framework of Financial Services

On 6 July 2021, the Treasury Committee published its report on the Future Framework for Regulation of Financial Services. In the report, the Committee considers the future of financial services following the Brexit transition period and examines how financial regulations should be set and scrutinised by Parliament.

The conclusions and recommendations proposed by the Treasury are set out below.

• Ownership of financial regulation. The Committee agrees with the Treasury that the EU financial services rules that were on-shored during the process of leaving the EU should be moved into the regulators' rule books. According to the Committee, keeping rules in statute could require Parliament to amend or pass new legislation every time regulators wish to make changes, which would be resource intensive and impractical.
• Regulatory independence. The Committee noted that the independence of regulators from political interference is one of the key aspects of UK financial services regulation. Therefore, the Committee does not believe there is compelling evidence for legislating to allow Ministers the absolute right to see regulators' policy proposals before they are published for consultation.
• Activity based principles. The Committee acknowledges that there may be a role for the Government to use 'activity based' principles to instruct regulators' approach to specific business sectors, and recommends that the Government is careful in this respect. The Committee is also concerned that the creation of too many 'activity based' principles would add a further layer of issues to which regulators would have to have regard.
• Financial Ombudsman Service. The Committee supports the Treasury's consultation to create a more coherent financial services regulatory framework and recommends that the Treasury consider how the decision-making processes of the Financial Ombudsman Service would interact with the future regulatory framework for the FCA.
• Parliamentary scrutiny. The Committee believes that effective scrutiny of regulatory proposals can be more targeted. The Committee does not see a clear need for the creation of a new committee or independent body to scrutinize financial regulations. It believes that a more efficient use of Parliamentary resources would be to use the structures already available in both Houses.

12. European Commission adopts Delegated Regulation containing disclosure obligations under Taxonomy Regulation

On 6 July 2021, the European Commission adopted a Delegated Regulation in an aim to reorient capital flows towards sustainable investment and ensure market transparency. The Delegated Regulation requires undertakings subject to articles 19a and 29a of the Non-Financial Reporting Directive (NFRD) (which deals with environmentally sustainable economic activities) to abide by the obligations set out under article 8 of the Taxonomy Regulation.

Article 8 of the Taxonomy Regulation specifies that non-financial undertakings must include the following information in their non-financial statements:

• information clarifying how and to what extent their activities are environmentally sustainable economic activities; and
• information setting out common rules relating to key performance indicators relating to turnover, capital expenditure and operational expenditure of their activities related to assets or processes associated with environmentally sustainable economic activities.

According to the European Commission, investors and the public should be able to assess the proportion of Taxonomy-aligned economic activities pursued by investee undertakings. Asset managers should therefore disclose the proportion of investments they have made in Taxonomy-aligned economic activities in the value of all investments managed by them resulting from both their collective and individual portfolio management activities.

The Delegated Regulation will apply from 1 January 2022 and the particular requirements will depend on the type of entity.
 

13. FCA: Dear Chair letter: Authorised ESG & Sustainable Investment Funds: improving quality and clarity

On 19 July 2021, the FCA issued a letter to the chairs of authorised fund managers setting out expectations on the design, delivery and disclosure of environmental, social and governance (ESG) and sustainable investment funds. This letter follows the publication of the FCA consultation paper on climate related disclosure rules for asset managers (CP 21/17).

The FCA refers to a number of poorly drafted and substandard applications for authorisation of investment funds with an ESG or sustainability focus.

The FCA states that it expects to see material improvements in future applications and also wants to see clear and accurate ongoing disclosures to consumers where funds make ESG-related claims.

The FCA sets out stylised examples of substandard applications for authorisation of investments funds with an ESG/sustainability such as:

• a proposed passive fund having an ESG-related name that was found to be misleading as it was looking to track an index that did not hold itself out to be ESG-focused; and
• a fund application claiming to have a strategy to invest in companies contributing to "positive environmental impact" (with no measurable non-financial objective alongside the financial objective or strategy with information on how that impact would be measured and monitored).

Guiding principles

The annex to the letter contains guiding principles relevant where an FCA authorised investment fund pursues a responsible or sustainable investment strategy and claims to pursue ESG / sustainability characteristics, themes or outcomes. The principles are not targeted at funds that integrate ESG considerations into mainstream investment processes. The FCA states that the guidance is intended to complement the obligations under the EU's Sustainable Finance Disclosure Regulation (SFDR), even though the SFDR has not been onshored in the UK.

The goal of the guiding principles is to assist authorised fund managers with complying with existing requirements by ensuring that fund disclosures accurately portray the nature of the fund's responsible / sustainable investment strategy in both the pre-contractual documentation and on an ongoing basis.

The overarching principle for the guidance is "consistency". The FCA states "a fund's ESG / sustainability focus should be reflected consistently in its design, delivery and disclosure. A fund's focus on ESG / sustainability should be reflected consistently in its name, stated objectives, its documented investment policy and strategy, and its holdings". The overarching principle has three supporting principles concerning:

• the design of responsible or sustainable investment funds and disclosure of key design elements in fund documentation;
• the delivery of ESG investment funds and ongoing monitoring of holdings; and

pre-contractual and ongoing periodic disclosures on responsible or sustainable investment funds should be easily available to consumers and contain information that helps them make investment decisions.

The FCA considers that when submitting fund applications and managing funds on an ongoing basis, its guiding principles will help firms "get it right".

14. ESMA updates Q&A relating to application of AIFMD

On 16 July, ESMA updated its Q&A relating to the application of the Alternative Investment Fund Managers Directive (AIFMD). ESMA has added new Q&As relating to ESMA's guidelines on performance fees in UCITS and certain types of alternative investment funds (AIFs) relating to performance fee scenarios where:

• an authorised alternative investment fund manager has delegated the function of portfolio management to different delegated portfolio managers; and
• a new compartment or share class in an existing AIF has been created in the course of its financial year or where a new AIF has been created.

15. Joint FCA, PRA and BoE discussion paper on diversity and inclusion in the financial sector – working together to drive change

On 7 July 2021, the FCA, PRA and the Bank of England (BoE) in its capacity of supervising financial market infrastructure firms (collectively, the regulators) published a joint discussion paper (DP21/2), setting out policy options to improve diversity and inclusion in financial services. The FCA has also published a paper, providing a review of research literature that provides evidence of the impact of diversity and inclusion in the workplace.

DP21/2 focusses on the importance of data and disclosure in order to enable firms, regulators and other stakeholders to monitor progress. The regulators stated that in their view, increased diversity and inclusion will advance their statutory objectives by resulting in improved governance, decision-making and risk management within firms; a more innovative industry; and products and services better suited to the diverse needs of consumers. As explained by the regulators, DP21/2 is aimed at engaging financial firms and other stakeholders in a discussion on how they can accelerate the pace of meaningful change and what role they can most usefully play to support this change.

The discussion paper is open until 30 September. The feedback and data received will be used to develop detailed proposals, with a joint consultation planned for Q1 2022.

16. ESMA consults on amendments to MAR guidelines relating to delayed disclosure of inside information

On 15 July 2021, ESMA published a consultation paper proposing amendments to its guidelines on delay in the disclosure of inside information and interactions with prudential supervision under the Market Abuse Regulation (MAR).

Under MAR, issuers can delay the disclosure of inside information where immediate disclosure is likely to prejudice an issuer's legitimate interest, the delay is unlikely to mislead the public and the issuer can ensure the confidentiality of the information. In 2016, ESMA issued guidelines to provide a non-exhaustive and indicative list of legitimate interests of the issuers that are likely to be prejudiced by immediate disclosure of inside information and a list of situations where delay of disclosure is likely to mislead the public.

ESMA is now consulting on expanding on these guidelines, in the context of the interaction between the MAR transparency obligations regarding inside information and the prudential supervisory framework.

The consultation paper proposes to amend current MAR guidelines by:

• clarifying that in case of redemptions, reductions and repurchases of own funds, pending the prudential supervisor's authorisation, the institution has a legitimate interest to delay disclosure of inside information until authorisation is granted;
• clarifying that in case of draft SREP decisions and related preliminary information, the institution has a legitimate interest in delaying disclosure of inside information until that information becomes final; and
• add a separate section clarifying that Pillar 2 Capital Requirements and Pillar 2 Capital Guidance contained in the Supervisory Review and Evaluation

Process under the Capital Requirements Regulation and Directive package, are likely to meet the definition of inside information under MAR and would therefore need to be disclosed as soon as possible, once final.

The consultation is open until 27 August 2021. ESMA noted that it will consider the responses and expects to publish a final report including its amended MAR guidelines by the end of 2021.

17. HM Treasury updates advisory notice on Money Laundering and Terrorist Financing

On 12 July 2021, HM Treasury updated its advisory notice on money laundering and terrorist financing controls in higher risk jurisdictions. The notice replaces all previous notices issued by HM Treasury on the subject. On the same date, the Money Laundering and Terrorist Financing (Amendment) (No.2) (High-Risk Countries) Regulations 2021 were made and it came into force on 13th July 2021. The Regulations amended the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (MLRs) by substituting the list of high-risk third countries in Schedule 3ZA for a new list.

On the new list, Ghana is no longer classed as a high-risk country for the purposes of enhanced customer due diligence requirements in regulation 33(3) of the MLRs. Haiti, Malta, Philippines and South Sudan are now classed as high-risk countries for the purposes of enhanced customer due diligence requirements.

18. FCA publishes FAQs on its Finalised Guidance on the fair treatment of vulnerable customers

On 19 July 2021, the FCA issued frequently asked questions in relation to its Finalised Guidance concerning the fair treatment of vulnerable customers (FG 21/1). The Guidance, published in February 2021 alongside a Feedback Statement (FS21/4), set out what firms need to do to understand the needs of consumers in vulnerable situations and what changes they need to make to meet the standards set by the FCA's Principles for Businesses.

The Guidance presented the idea of vulnerability as a spectrum of risk and defined a vulnerable customer as: "someone who, due to their personal circumstances is especially susceptible to harm, particularly when a firm is not acting with appropriate levels of care". The FAQs are partly informed by a webinar the FCA held in May 2021 and also by other external engagement. The FAQs are grouped by theme, with answers linking to key chapters and paragraphs in the Finalised Guidance, Feedback Statement and other relevant documents, including the FCA consultation on a new Consumer Duty (CP21/13).

Themes covered by the FAQs include the following:

• why the fair treatment of vulnerable customers is important;
• firms' actions in treating vulnerable customers fairly;
• application and scope of the Guidance;
• how the FCA will supervise whether firms are treating vulnerable customers fairly;
• understanding customers' needs; and
• skills and capabilities of staff.

19. EBA consults on draft Guidelines on the limited network exclusion under PSD2

On 15 July 2021, the European Banking Authority (EBA) launched a public consultation on draft Guidelines improving clarify on the application of the limited network exclusion requirements, which certain payment instruments might benefit from, as laid down in the revised Payment Services Directive (PSD2). The EBA explained that given the significant inconsistencies it has identified on how this exclusion is applied across the EU, the proposed Guidelines aims at clarifying certain aspects of its application, including:

• how a network of service providers or a range of goods and services should be assessed in order to qualify as 'limited';
• the use of payment instruments within limited networks;
• the provision of excluded services by regulated financial institutions; and
• the submission of notification to competent authorities.

In particular, the EBA stated that the draft Guidelines propose requirements, and where relevant, criteria and indicators, aimed at ensuring that excluded payment instruments are used in a limited way, thus reducing potential risks that may arise for the users of such instruments. Additionally, in order to address potential concerns on any possible circumvention of the PSD2 requirements and to increase transparency for consumers who may not be aware that they do not benefit from the protection the PSD2 provides to regulated services, the draft Guidelines propose requirements on the provision of excluded services by regulated firms.

To ensure transparency on the provision of excluded services, the EBA explained that the draft Guidelines provide clarity on the calculation of the thresholds set out in Article 37(2) of the PSD2, the submission of the related notifications to competent authorities and the information to be covered in the description of the excluded activity on the national and the EBA registers.

The EBA also stated that the proposed Guidelines cannot address all the inconsistencies that the EBA has identified, as it is not in a position to change definitions or amend legal requirements set out in the PSD2.

The deadline for responses to the consultation is 15 October 2021.

No updates included for this fortnight's edition of the FSS.