Where next for investment and asset management regulation?

Speech by Megan Butler, Executive Director of Supervision - Investment, Wholesale and Specialists at the FCA, delivered at the FT Investment Management Summit Europe 2017.

fca board m butler web 0.jpg

Speaker: Megan Butler, Executive Director of Supervision - Investment, Wholesale and Specialists
Location: FT Investment Management Summit Europe 2017
Delivered on: 28 September 2017

Key points:

  • The importance of the investment community to the UK and its role in supporting the FCA Mission.
  • Introduction of the Asset Management Authorisation Hub to support new entrants navigate regulatory requirements.
  • Acknowledge the range of priorities affecting the sector, including the SMCR and MiFID II, and the need for regulatory co-operation.
  • Consider what good looks like by asking five very basic conduct questions.

Note: this is the text of the speech as delivered.

Clarifying our supervisory approach

It’s a pleasure to join everyone.

Towards the end of his presidency, Ronald Reagan quipped that Government’s view of the economy could be summed up as: ‘If it moves, tax it. If it keeps moving, regulate it. And if it stops moving, subsidise it’.

As you might imagine, we don’t tend to see our role that way. Rather, we see robust regulation as fundamental to the future success of financial services.

But we are conscious that you have experienced – and continue to experience – regulatory change.

So my plan this afternoon is to clarify our supervisory priorities. What is it – day in, day out - that we really care about? I also want to provide detail on our plans for an FCA asset management authorisation hub.

But first, I want to reflect on a very busy 12-month period.

And I should begin by acknowledging the role of the investment community in supporting the FCA Mission – which we published earlier this year, along with our Business Plan and Sector Views.

The Mission is essentially the FCA’s organising philosophy – it provides a framework to underpin our decision-making, including decisions on prioritisation.

We see it as an extremely important step. Traditionally, regulators have tended to concentrate on ‘risks’ to their objectives. An inward focus. The Mission sets out a fundamental switch by concentrating on ‘harm’ to customers and markets. An external focus.

It also establishes how we respond to specific issues within markets or firms, as well as decisions on how we operate our individual business units, including: policy, competition, authorisation, supervision and enforcement.

If you’ve read the document, you’ll see we haven’t shied away from putting public interest at the centre of our regulation.

We don’t think this is a controversial focus. But it does mean we take a particular interest in corners of the industry that most affect wider society – which puts asset management squarely into the bracket of ‘sectors that we care deeply about’.

The Mission is essentially the FCA’s organising philosophy – it provides a framework to underpin our decision-making, including decisions on prioritisation.

From your perspective, I can appreciate that this might seem a bit of a double-edged sword. However, I want to stress that we see your role in society as an overwhelmingly positive one.

We say it many times, but asset management is central to life and business in the UK.

You curate a 12 percent share of global AUM. Your industry has created around 92,000 UK jobs.

Over three quarters of households are saving towards, or else receiving pensions that rely on your services - whether directly or indirectly. And 11 million people are invested in products like stocks and shares ISAs.

In other words, without asset managers, without your ability to grow the wealth of ordinary citizens, issues like pension provision would be many orders of magnitude more pressing.

So investment management is not just a positive economic influence. It is also of great, and growing, importance to the public.  

Instilling greater competition and strong governance

That said, our interim Asset management market study outlined a number of issues in the market. Not all of it made easy reading.

I don’t want to go over the full report and findings today. I know you are apprised of the detail.

But the topline is that we found powerful evidence of weak price competition in the industry - with no clear link between price and performance.

Asset management is central to life and business in the UK.

As you know, we consulted on the interim findings between November and February this year – and published our final report in June.

We’ve since received a lot of responses to our consultation paper, which included important proposals in areas including:

  • Independent directors on fund governance boards
  • A strengthened requirement for fund governance boards to act in the best interests of fund investors, and to explicitly consider value for money.
  • An expectation that boards will take action if they encounter poor fund performance
  • And a requirement to return risk-free box profits to funds.

In terms of next steps – we are reviewing responses to the paper now. And our consultation on remedies and possible changes to the FCA Handbook ends today.

We also recently referred the investment consultancy sector to the Competition and Markets Authority. And last week, the CMA set out a structure for its investigation – posing three broad questions:

  • First, do investment consultants have enough incentive to compete for clients?
  • Second, do conflicts of interest reduce the quality and value for money of services provided to customers?
  • And third, do barriers to entry and expansion mean there are fewer challengers to put competitive pressure on established investment consultants – causing harm to customers?

The CMA has asked for submissions in response to its issues statement by 12 October.

In the meantime, we will prepare a second consultation on transparency-related points like benchmarking, performance reporting and, if needed, objectives and the all-in fee.  

We believe this adds up to a strong package of measures that will reduce harm and increase public value.

We firmly believe it will help you attract fund flows. People will invest in you because you take, and are seen to take, decisions in the best interests of your clients. 

Launching the asset management hub

Nonetheless, we know it is not enough to ask investment managers – on your own – to make improvements in the name of competition. We need to play our own part.  

A traditional critique of regulation is that a lot of red tape tends to protect incumbents from competition by putting off new entrants to the market.

And on this point, we know prospective entrants to the asset management industry would welcome more support from the FCA.

We receive a lot of applications each year for authorisation from asset managers. We approved 204 new firms in 2016.

We know some of those businesses find it difficult to navigate regulation. In fact, our contact centre takes up to 1,200 pre, and post application calls a month from investment managers seeking clarification on issues ranging from authorisation, to regulation and reporting.

I should say that this is not necessarily a big surprise because it is extremely difficult to describe complexity simply.

But we do see it is an imperative that the best investment managers aren’t put off of operating in the UK by avoidable barriers to entry. 

So I’m pleased to announce today that the FCA is setting up an asset management authorisation hub to support new entrants to the market.

The Hub will assist start-ups as they move between pre-authorisation and authorisation, and on to regular supervision. 

To achieve this, we want to build a user friendly system of support based on four principal objectives:

  • We want to clarify expectations - and support firms with better guidance on regulations and processes.
  • We want to make information easier to access via a dedicated portal for investment managers on our website.
  • We want to foster more positive, personalised engagement between the FCA and market entrants.
  • And we want to provide end-to-end support for firms moving through the start-up cycle.

We are launching phase one of the Hub next month - at which point we will offer new firms pre-application meetings, dedicated case officers and access to the website portal.

The Hub will assist start-ups as they move between pre-authorisation and authorisation, and on to regular supervision.

On top of this, we will make it easier for firms to engage – directly – with our supervisors after they become authorised.

Next year, our intention is to expand the offer to include support, like quarterly surgeries and online booking for pre-application meetings.

We’ll also publish more detail on entry criteria and application details – so there is a lot of support in the pipeline for new entrants.

I do want to make it clear though that the authorisation hub is not designed to lower entry standards to the market.

We have no intention of presiding over a decline in quality. So entrants will need to meet the same rigorous standards as current firms before they receive authorisation.

It is though a good indicator of your sector’s social and economic importance.

As I have already discussed, public value is integral to our objectives. Hence we want your clients to benefit from the best new ideas and businesses in investment management.

Our aim is to achieve that goal, at least in part, by providing greater clarity, and by helping asset managers to navigate our processes.

As you may know, we already successfully operate a new bank start-up unit with the PRA. Over time, we’ll take a view on whether it would be beneficial to continue to expand this kind of support even more widely.

A busy period – SMCR & MiFID II

But moving on to more pressing priorities for asset managers, I need to say a few words on the extension of the Senior Managers Regime and MiFID II, as well as on Brexit.

The SMCR and MiFID countdowns are well and truly on, so let me briefly mention some areas that are uppermost in our own minds.

First, the extension of the Senior Managers and Certification Regime.

I’ve repeated this many times, but we see personal accountability as fundamental to the future of financial services.

This is why good governance is a central theme of the asset management market study.

It is also why we want to roll out the SMCR to pretty much every firm that offers financial services, and is regulated by the FCA.

As you know, the regime came into force for banks and PRA-designated investment firms last year – and our intention is to use this experience wisely.

We see personal accountability as fundamental to the future of financial services

In particular, we are sensitive to the fact that the roll out will affect firms of many different shapes and sizes.

At the moment, we already have a wide range of businesses under the SMCR: with credit unions on one end of the spectrum, banks on the other. Allwith different risks, impact and complexity.

We have learnt from this. We want the new regime to be proportionate. We also want it to reflect the fact that each of you is different.

And I think this is evident in our proposals, which are inherently proportionate.

So we have put forward plans for a ‘core regime’ (which will apply baseline requirements to every firm) and an ‘enhanced regime’ (which will affect the largest and most complex businesses, including a few firms here today).

We believe this is an essential step toward making sure the regime is both proportionate and effective. But we need you to make your voice heard.

Over the summer, we put out our proposals for feedback in Consultation Paper 17/25. And I encourage you to respond by our November 3 deadline.

I can only reiterate that we are primarily interested in outcomes in this area and that we operate in the real world.

Together we can impose significant costs on criminals who seek to use the services and facilities you provide by disrupting, discouraging and derailing them. And taking the profit out of their activity.


Exactly two months after that of course, MiFID II comes into operation.

From our perspective, we support the key objectives of the new legislation – particularly around its aims to improve market cleanliness and efficiency, as well as to enhance transparency to retail clients on costs.

I think it is important to point out that the range, and depth of data we’ll get from January will improve our ability to monitor the market. Helping us spot abusive practices earlier.

From our perspective, this is a significant step forward, in as much as it will help us see the totality of the market – both buy and sell side.

I am sure that we can all agree that ultimately everyone benefits from this in the form of cleaner, more efficient markets.

But I am conscious that MiFID’s new reporting requirements do place an onus on firms.

I’ll come on to how we are helping you deal with this in a second. But from our perspective, there are two pressing priorities for industry.

First, we do expect firms to submit Suspicious Transaction and Order Reports to us - in line with their obligations under the Market Abuse Regime.

On top of which, we expect you to make sure your systems and controls are deterring market abuse.

Second, I need to stress that legal entities that want to trade under MiFID II will need a legal entity identifier.

So please make sure your underlying clients are aware of the deadline and are making plans to get an LEI. The process is not particularly expensive or complex.

In the meantime, I want to make it clear that we will take a sensible and proportionate approach to MiFID’s introduction.

My colleague Mark Steward – our Director of Enforcement – said last week that we have no intention of taking enforcement action against firms for not meeting all MiFID II requirements straight away – if there is evidence they have taken sufficient steps to meet the new obligations by the start date, and that there are plans in place to complete the process.

We will also provide support to asset managers – where we can – to resolve significant business planning issues. 

We know, for example, that research continues to pose a challenge.

There are still some ‘will they, won’t they’ stories in the press about who is going to pass on costs to clients.

And I know there is a question mark hanging over firms that are registered as broker dealers in the US and other territories – and who can’t accept payment for research, without also applying to become an investment advisor.

Let me assure you that we are fully aware of this issue, and we are in close contact with colleagues in the EU and US, who are working on a solution. So please watch this space.

Regulation co-operation is essential

Now, staying on the topic of international co-operation, it is clearly impossible to talk about change in your industry and not mention Brexit.

Andrew Bailey, our Chief Executive, has already spoken on the importance of open markets and regulatory co-operation.

I want to re-emphasise that we think it is crucial for the UK investment industry and the rest of Europe – to uphold these principles.

And we are particularly conscious of the need to find sensible outcomes on delegation.

We see no real justification for unnecessarily complicating rules around delegation and outsourcing. Both are integral elements of efficient market business models. Both work well now. And there is no reason to suggest both won’t work well in the future.

On top of this, there is an important question as to whether a change to delegation provision could, potentially, have an adverse impact on European and global markets.

We think regulators are well placed to solve these challenges. We will work extremely hard for pragmatic, productive and positive cooperation between UK and European regulators – not forgetting the global context.

We also want to work closely with you to support Brexit-related business planning, so you can help maintain the integrity of UK markets and protect customers.

As Andrew put it earlier this year, there is no good reason why one should sacrifice open financial markets – in the fund industry or any other market – as an ‘inevitable response to Brexit’.

Our chief responsibility is to ensure financial markets work well. We want an open market.

We want regulators to engage constructively, and to do this by keeping the efficiency of global markets uppermost in their minds.

Our priorities for you

I appreciate though that there is a great deal of uncertainty and change for you to contend with at the moment. And I promised at the start that I would clarify our supervisory priorities.

We do a lot of work internally and externally to ensure that you understand our expectations, objectives and priorities. I’ve already briefly mentioned the Mission and our Sector Views.

And then there are our regular firm communications, which are an important aspect of our engagement with industry.

But we understand that every business has its own identity. And we prefer firms to identify and rectify problems themselves.

So we do not expect, nor do we want your firm to have the same culture as the person’s next to you. But we do expect firms to put an onus on positive customer outcomes and basic integrity.

How you accomplish this is up to you. But to give a sense of what good looks like from our perspective – so what my supervisors care about, day-in, day-out – we will be encouraging you to ask yourself five, very basic conduct questions.

First: What proactive steps do you take to identify conduct risks in your business? As with any risk, you cannot hope to mitigate something you don’t know exists.

Second: How do you encourage people in front, middle, back office, control and support functions to feel responsible for managing conduct?

Even with growing numbers of people in compliance, there are more people on the frontline. They tend to understand the business. They tend to know where the risks are. And they should – if we get the incentives right – have the greatest interest in long term, sustainable good business practices.

Third: What support do you put in place to help your people improve the conduct of their business or function?

Do your training and induction programmes, for example, lay out your expectations of colleagues?

Do you provide information and reporting, or enable committees to form and discuss issues? Do you pause to look at the main initiatives being undertaken in your firm?

Cyber and information security, for example, has a huge conduct element – including basics like clear desk policies and phishing scams. We also see conduct risk in emerging areas like algorithms – looking not just at the logic, but how they are actually used.

Fourth: How do your board and executive committee get oversight of conduct in your organisation? And how do you bring it into your discussions?

You want to know that the feedback loop is alive and working. AML, for example, is not just about process; it is about behaviour. Is the board able to stay abreast of these risks, and up to date with advances in mitigation activity?

And fifth: Have you looked at whether there are any business activities you’re engaged in that undermine your work to improve conduct?

This is a question that might start with incentives. For example, does a member of staff with a good P&L get promoted or rewarded if they bend the rules? Are positive role models identified and championed?

More widely, in business planning for example, if you raise targets and cut budgets do you take note of the potential impact on conduct risk? 

Taken together, we think these questions offer you a useful way for firms to think about managing conduct risks in your organisation.

And I can’t think of anywhere where that aspiration is more important than in investment management.

You are, as I said at the start, an essential part of any solution to the big global challenges like demographic change and saving shortfalls.

As a result, it is vital that we continue to work extremely closely with you and the rest of the investment management community.  

And we will continue to improve our own processes so people see the benefits of a dynamic, competitive market.

Thank you.