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Independent Report published into the FSAs

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    On 14 December 2021, the FCA published a report by John Swift QC, the independent reviewer, which considers the FSA's, and subsequently FCA’s, supervisory intervention on Interest Rate Hedging Products (IRHPs) ("the Report"). The Report and the FCA's Response are accessible here.

    John Swift QC was assisted by an Ashurst team led by London Contentious Financial Services Group partner David Capps, as well as Kemp Communications and Nikolaus Grubeck and Kristina Lukacova, both Junior Counsel from Monckton Chambers.

    Background

    In 2012 and 2013, the FSA entered into agreements with nine banks which resulted in over £2.2 billion in compensation being paid to thousands of customers who had been mis-sold IRHPs between 2001-2011. This resulted in a voluntary customer redress scheme ("the Scheme") that led to just over 20,000 IRHP sales to customers being reviewed and around 14,000 offers of redress being accepted. 

    In June 2019, the Non-Executive Directors of the FCA appointed John Swift QC to conduct an independent review into the Scheme ("the Review"). John Swift QC's Report details the FSA's intervention that led to the creation of this Scheme, as well as the FSA/FCA's role throughout the period of the Scheme's implementation. It is the result of over two years of work, in which the review team considered over a million documents and conducted interviews with dozens of stakeholders. The Report sets out the legal and regulatory context and details the FSA and FCA’s role in the intervention, before reaching detailed findings in relation to the Review's Terms of Reference and making specific recommendations for the FCA.

    Key findings

    The Report makes a number of findings in answer the FCA's Terms of Reference for the Review, including that:

    • a "serious regulatory error" was made in limiting the Scheme, without adequate justification and consultation, to only a sub-set of private customers/retail clients who were deemed to be "unsophisticated". As a result, about 10,000 sales of IRHPs to customers were excluded from consideration under the Scheme. This represented about one third of the total number of sales and left these customers with no relief under the Scheme;
    • the FSA fell below the appropriate standard of transparency by failing to consult on the nature, terms and scope of the Scheme. In addition, during the Scheme's implementation, the FSA/FCA's communications to stakeholders, and the public generally, did not provide a level playing field between the banks, who were privy to all the information regarding the terms of the Scheme, and the potential beneficiaries of the Scheme, who were not. In particular having regard to the decision not to publish the full terms of the Scheme, the FSA/FCA did not strike the appropriate balance between the two public interest principles of transparency and the protection of confidential information;
    • the FSA/FCA's management and oversight of the Scheme fell short in a number of respects. Key elements of the Scheme were overly complex which meant that the prompt redress targeted by the FSA/FCA was never a realistic prospect; there was no independent appeal mechanism; the root causes of IRHP mis-selling were never properly investigated, effectively removing the possibility of enforcement action. Regulatory intervention of this scale required better management from the outset, as well as greater resource allocation during the Scheme's implementation, and more active Board engagement in respect of key decision-making.

    Recommendations

    Mr Swift QC makes 21 forward-looking recommendations across five key areas, which are intended to strengthen FCA regulation and its supervision of firms. These are set out below.

    The FCA has accepted 19 of Mr Swift QC's recommendations. It disagrees with recommendation B4 regarding the role of Skilled Persons in redress schemes and only agrees with recommendation A2 to the extent that there should be objective justification where regulatory intervention is limited to only a subset of persons within a defined class. The FCA maintains that its decision to distinguish between 'sophisticated' and 'non-sophisticated' persons within the private customers/retail client categories was justified. 

    A.  General recommendations:

    1. More proactive regulation – the FCA should regulate more proactively to prevent harm to consumers as well as taking remedial action after harm has occurred;
    2. No departure from equal protection for all persons in the same category without proper justification – the FCA should aim to ensure that persons within the same category are treated consistently: where rules exist for the protection of all within a defined class, regulatory intervention should not be restricted to benefit only a subset of that class unless there is an objective justification founded on strong evidence and tested through consultation;
    3. Sufficiently clear rules – the FCA should ensure its rules are sufficiently clear and detailed to permit effective compliance.

    B.  Recommendations relating to voluntary redress schemes:

    1. Strengthened decision-making process – the decision-making function to approve voluntary redress agreements should be reserved to the FCA's senior leadership;
    2. Use of statutory safeguards for the enforcement of voluntary agreements – before entering into a voluntary agreement, the FCA should consider formalising the agreement through voluntarily varying a firm's permission (VVOP) or by voluntarily putting requirements on a firm's permissions (VReq);
    3. Avoiding unnecessary complexity – to the greatest extent possible, redress schemes should be simple, clear and easy to implement, to ensure rapid and consistent results. Any redress scheme should be designed to avoid unnecessary complexity so that those implementing the scheme, and its beneficiaries, are able to readily understand its terms and conditions and that the scheme can operate quickly and easily;
    4. Improved oversight role of Skilled Persons where they are used as part of a redress scheme – in future redress schemes, the FCA should strengthen the oversight role of the Skilled Persons, including a starting point that they (and not the regulated firms) should be the primary decision-makers;
    5. Inclusion of an independent appeal mechanism – future redress schemes should include an independent appeal element allowing beneficiaries to challenge outcomes (including eligibility determinations) with which they disagree;
    6. Adequate consultation – the FCA should improve consultation with all stakeholders.

    C.  Recommendations relating to the FCA's greater use of statutory powers:

    1. Use of statutory powers to obtain compensation and restitution – the FCA should give due consideration to its statutory powers to obtain compensation and restitution;
    2. Concurrent use of regulatory powers, including enforcement – even where a voluntary redress agreement has been reached, the FCA should give careful consideration to the concurrent use of regulatory powers, including exercising its enforcement powers alongside the agreed redress scheme.

    D.  Recommendations relating to implementation and oversight:

    1. Monitoring of consistency of outcomes – in future schemes, the FCA should implement high-level monitoring of outcomes to ensure consistency across firms;
    2. Set realistic timelines – timescales and deadlines for the delivery of different stages of a redress scheme should be realistic and reasonably achievable;
    3. Ensure adequate resourcing – FCA interventions should be adequately resourced at both the operational and the senior level, throughout the duration of the project.

    E.  Recommendations relating to FCA decision-making and processes, including the principles of transparency and regulatory independence:

    1. Prioritise transparency as a regulatory imperative – the FCA should commit to greater transparency (not limited to consultation) in the exercise of its powers and its policies;
    2.  Maintain an appropriate audit trail – the FCA should maintain a detailed, comprehensive and reasoned audit trail in relation to its decisions, which goes beyond just recording headline decisions. The audit trail should also cover the way the decisions made are followed through and actioned;
    3.  Strengthen Board engagement and accountability – to ensure Board accountability, the FCA should improve processes for engaging its Board, including non-executive directors, in any major interventions;
    4. Retain ownership and public law accountability over interventions – whether using Skilled Persons or not, the FCA should ensure future schemes are designed so that it retains sufficient control over any intervention and remains accountable in public law for the results of the exercise of its jurisdiction;
    5. Internal review – following any major regulatory interventions, the FCA should conduct full internal reviews to establish lessons learned and achievements in a timely manner;
    6. Consider including post-termination cooperation obligations on senior FCA personnel – the FCA should consider including post-termination cooperation obligations in the employment contracts of all senior FCA personnel;
    7. Protect actual and perceived regulatory independence – the FCA should ensure it acts, and is seen to act, as a fully independent regulator.
    Authors: Andrew Sims, Solicitor, Catherine Lillycrop, Solicitor
     

    The information provided is not intended to be a comprehensive review of all developments in the law and practice, or to cover all aspects of those referred to.
    Readers should take legal advice before applying it to specific issues or transactions.

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