UK REGULATORY

FCA seeks feedback on its ideas for a global sandbox

The FCA's new webpage contains its ideas for a global sandbox [14.02.02]. Its current sandbox only allows firms to test their ideas in the UK. Although "many aspects of financial markets and FinTech are global" and firms "value being able to work with other regulators and to conduct tests in more than one jurisdiction" says the FCA, it does not offer firms the chance to participate in a "joint sandbox programme with other regulators." Now they are seeking views on doing so.

The FCA notes that a "full multilateral sandbox that allows concurrent testing and launch across multiple jurisdictions, is an ambitious goal." It hopes to open the debate on how a global sandbox might be developed. It highlights three areas:

  • addressing "pre-identified challenges" in areas known for "regulatory problems that cross jurisdictional boundaries" e.g. AML and KYC on-boarding.;
  • enabling firms wishing to expand in different markets to "bring their ideas to market more quickly and easily, creating more effective competition." The FCA asks for firms who could benefit from testing out their ideas in a number of markets to get in touch; and
  • policy and regulatory challenges – the FCA suggests the sandbox could be used to convene "joint events and papers on emerging trends and challenges" using the experiences of the range of firms and regulators taking part to develop "consistent approaches".

The FCA floats the idea for the global sandbox, at the outset, to be an international college of regulators who have innovation or sandbox models. Firms working with them already would then access multiple regulators. The FCA welcomes input on its global sandbox ideas and plans an update in March 2018.

FCA publishes February 2018 regulation round-up

The FCA's February 2018 Regulation Round-up [15.02.18] includes:

  • Requirements for pension transfer advice: The FCA's letter to all firms permitted to advise on pension transfers and opt-outs reminds them of their obligations in advising on pension transfers. The letter is on the FCA's website.
  • Pensions strategy: The FCA and The Pensions Regulator are working on a pensions regulatory strategy for how they will address the main issues for the pensions sector over the coming 5 – 10 year period. They have planned events for stakeholders to be held in the spring in London, Edinburgh and Manchester.
  • Reminds firms to respond to the FCA's consultation papers on the SM&CR by 21 February 2018 and on its Approach to Authorisation and Approach to Competition by 12 March 2018. Read more on these consultations in our earlier update.

FCA and FOS respond to report on culture of social impact investing in the UK

The Gov.UK has updated its page: Supporting Papers - Growing a Culture of Social Impact Investing [13.02.18] and published response letters from the FCA's chief executive Andrew Bailey [08.01.18], and FOS chief executive Caroline Wayman [07.12.17]. Both letters respond to the Advisory Group's report on social impact investing.

In the letter from Andrew Bailey, he welcomes the Advisory Group's work "to encourage the financial services industry to contribute to the development of a stable framework for impact investing in the UK". Following responses to the FCA's Call for Input on regulatory barriers to Social Investments [December 2015] the FCA concluded that regulation does not prevent the social investment market from developing. It published a Feedback Statement [October 2016] which defined social investing "as 'a broad concept, which at its heart combines the idea that an investment can have a social impact as well as some form of financial return'". Bailey reiterated "this remains our understanding" and "it is not product specific and we would expect communications with investors as to the expected degree of social return alongside any potential financial returns to be clear, fair and not misleading..."

The FCA will "support the work of the Advisory Group in seeking to set out and maintain a current terminology within the social impact space" Bailey said. He touched on a number of topics in the letter from Elizabeth Corley, Vice-Chair of Allianz Global Investors, on behalf of the Advisory Group [09.11.17] including:

  • whether the FCA's liquidity requirements "can be to the detriment of long-term investment because they may preclude the use of long-term and less liquid assets". Bailey noted "the FCA's rules do not require daily pricing and both authorised investment funds and workplace pension schemes using unit-linked structures are already able to manage some element of illiquid investment within their funds";
  • the emergence of "investment trusts that have an impact investing mandate, as well as a number of charity bonds and traditional open-ended funds" which Bailey's letter says shows "there is space, within the regulatory framework, for investment products with a social angle". The letter also says the FCA will "engage actively" on these sorts of proposals;
  • supporting new asset managers from start-up to authorisation and to the early stages of supervision by means of the FCA's new Asset Management Authorisations Hub. Read more here;
  • lack of clarity for advisers on "how to take account of non-financial goals when making recommendations". On this Bailey's letter comments that it was considered in the Feedback Statement and, in the context of work on suitability, the FCA will "consider further opportunities to reiterate that clients' objectives will be individual and should be explored and considered by advisers, regardless of whether they are financial or non-financial goals." The new MiFID II product governance rules may help as they require a "robust and responsible distribution framework for products" but Bailey was "cautious" about new guidance or good and bad practice examples over and above the MIFID II requirements for advice, in case they "artificially restrict firms' appetite to explore the boundaries of a budding sector where there has so far been no regulatory reason to do so";
  • the FCA will work with the Financial Ombudsman Service when it clarifies how it will treat complaints "about social investments, and especially in respect of non-financial losses";
  • identifying that the regulatory framework of itself is insufficient to enable financial practices "become mainstream". The FCA identified lack of "consistent valuation for non-financial outcomes" as an impediment to a social investment sector. Bailey's letter refers to the Advisory Group's Report which identified "that 52% of respondents said difficulty in measuring social outcomes limited their willingness to invest in impact investments." His letter supports the Advisory Group's "goals of developing better reporting of these outcomes"; adn
  • Bailey notes that the FCA in general and in particular through its Project Innovate is "open to truly innovative businesses". He writes: "I would be happy for the [Advisory] Group to promote Innovate to firms as they seek to develop better reporting of non-financial outcomes or consider the types of financial instruments that should be available to investors". Read more on Project Innovate.

The FOS chief executive Caroline Wayman's letter sets out that the FOS plans to clarify "how we would approach any complaints about social impact investments, and especially how we might approach non-financial losses and the basis on which we would make awards."

Contains public sector information licensed under the Open Government Licence v3.0.

EU REGULATORY

European Commission's AIFMD survey

The European Commission is seeking feedback on how the AIFMD has worked and the extent to which the AIFMD's objectives have been met. A survey will be conducted by KPMG to seek views on the AIFMD's requirements, stakeholders' experiences applying them and the AIFMD's impact on the market. The Commission says all stakeholders are invited to feedback.

European Parliament publishes draft report on sustainable finance

The European Parliament's Committee on Economic and Monetary Affairs published a draft report on sustainable finance (2018/2007(INI)) [13.02.2018]. It welcomes the final report of the High Level Expert Group on Sustainable Finance (read more here) and contains a motion for a European Parliament Resolution on sustainable finance. To put environmental, social and governance (ESG) "at the heart of EU financial decision making and establishing an EU sustainability taxonomy" among other commentary in the report it:

  • calls on the Commission to "lead a multi-stakeholder process, to establish by the end of 2019, a robust and credible green taxonomy, including a 'Green Finance Mark'...";
  • "insists that fiduciary duty should be extended to encompass a mandatory 'two-way' integration process whereby asset managers are obliged to consider ESG factors and clients are asked about their timeframe and sustainability preferences";
  • calls on the ESAs "to develop guidelines for model contracts between asset owners and asset managers, which would clearly incorporate the transmission of the beneficiary interest as well as clear expectations as regards the identification and integration of ESG risks on behalf of the asset manager";
  • requests stewardship forms an "integral part of the legal duties of investors to be reflected through disclosure of major holdings, engagement activities, the use of proxy advisers and the use of passive investment vehicles";
  • identifies the "urgent need for a uniform standard for green bonds";
  • calls on the Commission for a "legally binding labelling system" for a range of financial products including investment funds, indicating their conformity with the Paris Agreement and ESG goals; and
  • calls on ESMA to update its guidelines on suitability to include ESG issues.

ESMA's interactive rulebook is launched

ESMA launched an interactive single rulebook (ISRB) - an on-line resource collating and providing access to the level 2 and 3 measures adopted for a level 1 text. The goal is "to provide an interactive version for each key level 1 text under ESMA's remit over time." The ISRB currently contains the UCITS directive (1008/65/EC) showing, on an article by article basis, the Implementing Acts ("IA"); Delegated Acts ("DA") (including Technical Standards "RTS" or "ITS")); Guidelines ("GL"); Opinions ("OP"); and Q&As ("Q&As") ESMA has issued. It is only a "documentation tool and ESMA does not assume any liability for its content" so readers are directed to the Official Journal for the "authentic version" of the EU legislation.

ESRB's Recommendation on liquidity and leverage risks in investment funds

The European Systemic Risk Board (ESRB) published its Recommendation [15.02.2018] for addressing risks connected with liquidity and the use of leverage in investment funds. The Recommendation notes, among other issues, "increased financial intermediation by investment funds may result in the amplification of any future financial crisis" and liquidity and redemption "mismatches" may result in "fire sales" to meet redemption requests when markets are stressed. In addition leverage can amplify "negative market movements" where it results in "exposure in excess of the assets of an investment fund" and funds may spread risk due to their "interconnectedness" - such as with investors - "a direct channel through which shocks can be transmitted to other financial institutions."

The Recommendation identifies that within the current legislative framework the UCITS and AIFM Directives both contain requirements for "liquidity management" and "also provide a legal basis for limiting the build-up of leverage in investment funds". The Recommendation contains the following five recommendations:

  • Recommendation A – Liquidity management tools for redemption: "to address the risks that may arise when fund managers do not have adequate liquidity management tools in place such as redemption fees, redemption gates, or the ability to temporarily suspend redemptions". The ESRB calls on the Commission to propose a common Union legal framework for additional liquidity management tools (a-LMTs) for funds originating in the Union and for Union legislation on the role of NCAs in redemption suspensions and on ESMA's role in respect of such NCA powers.
  • Recommendation B – Additional provisions to reduce the likelihood of excessive liquidity mismatches: in open-ended AIFs holding a significant proportion of their investments in illiquid assets. The ESRB recommends that the Commission proposes Union legislation "to limit the extent to which the use of liquidity transformation in open-ended AIFs could contribute to the build-up of systemic risks or the risk of disorderly markets."
  • Recommendation C – Stress testing: seeking to "promote coherent liquidity stress testing practices at the investment fund level". The ESRB recommends ESMA develops guidance for UCITS managers and AIFM.
  • Recommendation DUCITS reporting: to "establish a harmonised UCITS reporting framework across the Union". Although EU jurisdictions have UCITS reporting obligations reporting practices differ so impeding "monitoring and a comprehensive assessment of the potential contribution of UCITS to risks to financial stability". The ESRB recommends the Commission proposes Union legislation for UCITS and UCITS management companies to report regularly - notably on liquidity risk and leverage – and recommends this is done at least quarterly "by a sufficiently relevant proportion, from a financial stability perspective, of all UCITS and UCITS management companies." The ESRB recommends the data reported is made available by NCAs to other NCAs, ESMA and to the ESRB.
  • Recommendation EGuidance on Article 25 AIFMD: to facilitate implementation of this article and of the "macroprudential tool to limit leverage in AIFs" for which it provides. There needs to be a "common approach to ensure that NCAs are able to use the tool in a harmonised manner", so guidance on the framework for assessing "leverage risks and on the design, calibration and implementation of leverage limits" is sought by the ESRB. It recommends ESMA gives such guidance and uses the information from the NCAs "to benchmark and share knowledge with national macroprudential authorities and the ESRB on practices on the use of leverage limits and the imposition of other restrictions on the management of AIFs."

European Commission's vice-president looks at the financial sector's challenges and opportunities

The vice-president of the European Commission, Valdis Dombrovskis, spoke [31.01.2018] at the European Financial Forum 2018 in Dublin on a range of matters including Brexit, asset management, FinTech and sustainable finance.

Brexit negotiations for a transition-period are the Commission's current key focus, Dombrovskis said, "as we move on to define our future relationship, we should bear in mind that financial stability is best protected by coordinating rules and supervision". He noted "our financial markets may in the future be less integrated than today, but they will still have many ties. This requires maintaining strong convergence of rules and supervision in the EU and the UK." So the EU is "enhancing" their equivalence rules - "an important tool" for convergence Dombrovskis said. "Our most important common objective must be to preserve financial stability" he noted, regardless of the outcomes of the talks, "financial firms should be prepared" - and regulators in both the EU and the UK are working with firms to this end.

On asset management Dombrovskis referred to the EuVECA's revised rules which apply from March 2018, increasing eligible assets and reducing cross-border marketing costs. Read more here. He explained the funds market is "predominantly organised along national lines", with 70% of AUM held by funds that are only available for sale in one EU country and with only 3% of AIFs marketed in more than three countries. The Commission will propose ways to address impediments to distributing funds cross-border in the spring of 2018.

On Fintech, "as the largest user of information and communications technology, the financial sector stands to benefit enormously from the adoption of new technologies" said Dombrovskis. Europe has 32 AI research institutions in the global top 100 - more than the US or China. To become a "fintech superpower, we need to make sure our companies are able to grow and scale up in Europe" he said, so an EU Action Plan on Fintech will be presented in March 2018. The Commission will "present a legislative proposal to enable EU-wide crowdfunding and peer-to-peer lending" he said and a proposal for an EU passport for this part of the sector.

Dombrovskis commented on the rate of innovation in Fintech and that regulators find it hard to keep up. While some EU countries have innovation hubs and regulatory sandboxes Europe lags behind by comparison with other financial centres. So it should start considering "a common approach to sandboxes at EU level" he said.

"The future of finance will not only be digital, it will also have to be green" Dombrovskis said. He referred to the High-Level Experts' Group Final Report (read more here) which assessed where changes are needed in the financial system. He called it "A manifesto for far-reaching reform." The Commission will propose a strategy on sustainable finance in March 2018 using the report and followed by legislative proposals. Key recommendations in the report are:

  • for an EU taxonomy of sustainable assets - to identify: "what is green and what is not green" and areas where sustainable investment is most needed and can achieve most;
  • for a fiduciary duty - the EU will present a proposal for this duty, clarifying the need to "take sustainability into account when managing money for others. Clients have the right to know how sustainable their investments are";
  • to stimulate both green investment and lending with a "green supporting factor" so, for example, "by lowering capital requirements for certain climate-friendly investments, such as energy-efficient mortgages or low-carbon cars. However, this exercise would be delicate. Green does not mean risk-free" Dombrovskis said;
  • to establish criteria and labels for green bonds and investment funds so investors can see which "comply with green or low-carbon requirements".

"Our ambition is to inspire also other countries to act in favour of a sustainable global financial system" Dombrovskis said.

BREXIT

European Commission publishes "Brexit preparedness" notices

The European Commission has published notices to stakeholders on "Brexit preparedness" [23.03.18]. The notices set out the legal and practical implications of the UK's withdrawal from the EU for a range of areas - including financial services. The UK will become a third country from 00:00h CET on 30th March 2019 unless there is a ratified withdrawal agreement setting a different date for the UK's withdrawal from the EU, or the European Council unanimously decides and agrees with the UK a later date from which the EU's primary and secondary legislation ceases to apply to the UK. Among these notices are:

  • Notice to Stakeholders: Withdrawal of the United Kingdom and EU Rules in the field of Asset Management which highlights consequences of the UK becoming a third country from the point of view of UK asset management activity and EU asset management activity; and
  • Notice to Stakeholders Withdrawal of the United Kingdom and EU rules in the field of Markets in Financial Instruments which highlights consequences of loss of the MiFID authorisation for UK investment firms, the position for their branches and subsidiaries in the EU 27, contractual implications in respect of their clients and counterparties in the EU and other matters such as outsourcing, client disclosure and data reporting.

FINTECH AND REGTECH

FCA and CFTC sign FinTech Cooperation Arrangement

The FCA and the US Commodity Futures Trading Commission (CFTC) signed a Cooperation Arrangement [19.02.2018] to collaborate and support "innovative firms through each other's financial technology (FinTech) initiatives – LabCFTC and FCA Innovate." The agreement is to share information on trends and developments in the FinTech market and enable referrals of FinTech companies wishing to enter the other regulator's market, along with "sharing information and insight derived from each authority's relevant sandbox, proof of concept or innovative competitions." It follows FCA Innovate (set up in October 2014) and LabCFTC in May 2017 which both aim "to help businesses with innovative ideas navigate the regulatory landscape and engage with the regulator". The new agreement "supports both regulators' efforts to facilitate responsible FinTech innovation and ensure international collaboration on emerging regulatory best practices" the FCA's press release says.

Andrew Bailey, Chief Executive of the FCA, commented on the importance of such agreements as "international borders shouldn't act as a barrier to innovation and competition in financial services...". It is the FCA's first such agreement with a US regulator and the FCA and CFTC will host an event in London jointly, showing firms how they can engage with them both.

VeloCity – The Investment Association's new FinTech accelerator for asset management

The Investment Association ("IA") announced in a press release [19.02.2018] that later this year it will be launching VeloCity, described as "a specialist FinTech Accelerator for the asset management industry". VeloCity will help "two cohorts a year of four to eight FinTech firms" turn "their technology into business-ready solutions". The technologies could be relevant for developing "solutions applicable from mid and back office operations, to fund distribution and marketing" according to the press release, such as machine learning, artificial intelligence, distributed ledger technology, cloud-based infrastructure and big data. VeloCity's first intake is planned for Q2 2018. Participants will have access to experts on the Advisory Panel with backgrounds in asset management and digital technology, and to guidance by financial and professional services experts. Participants will also have exposure to potential clients and use a co-working space. The IA's press release says this initiative is "aligned" with the Government's Investment Management Strategy II [December 2017] featured in our earlier update.

FCA's Call for Input on "smarter regulatory reporting"

The FCA "is seeking views on how technology can make it easier for firms to meet their regulatory reporting requirements and improve the quality of the information they provide." [20.02.18] The FCA uses TechSprints to investigate how technology could improve its regulations and reduce regulatory burdens on firms. They involve financial services providers, technology companies and experts. A TechSprint [November 2017] with the Bank of England on regulatory reporting developed a 'proof of concept' that might make "regulatory reporting requirements machine-readable and executable" meaning firms could "map the reporting requirements directly to the data that they hold, creating the potential for automated, straight-through processing of regulatory returns" – an improvement for both firms and regulators as it could be more accurate, cheaper, speed up implementation of new regulatory requirements and, by reducing compliance costs may lower barriers to entry so stimulating competition.

The FCA's Call for Input closes on 20 June 2018. They expect to publish feedback in the summer of 2018 summarising views received and their proposed next steps.

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