Legal briefing | Financial Services Regulation |

Regulatory measures for financial services firms

Overview

This briefing was updated on 30 June 2020.
 
As COVID-19 continues to impact daily life, the Financial Conduct Authority (FCA) and the European Securities and Markets Authority (ESMA) are working to try and mitigate its impact on the financial markets, financial services firms and their customers.

Some of the actions being taken are set out below.

 

1. Contingency plans and organisation

Firms are expected to have properly tested contingency plans in place to ensure business and operational continuity and to be ready to apply them.  These should include a tolerance for disruption for each important business service and ensure that the firm is able to remain within its impact tolerances during severe but plausible scenarios. 

The FCA has said that firms should review their current arrangements and take reasonable steps to ensure they are prepared to meet the challenges and risks posed by COVID-19.  This includes identifying and documenting the resources that support their important business services and considering whether further investment is required to enable staff to work from home effectively for a prolonged period while maintaining the availability of important business services.

Contingency plans of UK firms may be subject to review by the FCA. 

The FCA has also said that it does not require firms to have a single senior manager responsible for their coronavirus response but that responsibility for this area should be allocated in a way which best enables firms to manage the risks they face.  This is likely to involve existing responsibilities specified in the Senior Managers Regime.

The FCA also expects firm proactively to manage the increased risk to their information technology systems by prioritising information security and ensuring that adequate controls are in place to manage cyber threats and respond to major incidents.  Specific steps include:

  • being vigilant to the potential increase in security breaches or cyber-attacks;

  • ensuring that there are appropriate governance and oversight arrangements;

  • reviewing the impact of coronavirus on information and systems security defences and taking action as needed;

  • ensuring that general notification requirements are followed and significant operational/cyber incidents are reported; and

  • enhanced monitoring to protect end points, information and firm critical processes, including network connections and video conferencing software.

https://www.fca.org.uk/firms/information-firms-coronavirus-covid-19-response

https://www.esma.europa.eu/press-news/esma-news/esma-recommends-action-financial-market-participants-covid-19-impact

https://www.fca.org.uk/news/speeches/fca-response-covid-19-and-expectations-2020

2. Complying with regulatory obligations

The COVID-19 outbreak has made it difficult for firms to continue to comply in their usual way with certain regulatory obligations.  However, firms are still expected to take all reasonable steps to meet those obligations. 

The FCA and ESMA have therefore provided some guidance on how firms may adapt their practices in certain areas.

Extension to reporting deadlines for regulatory returns

The FCA's temporary extension to the submission deadlines for certain regulatory returns now no longer applies for most forms falling due after 30 June 2020.  Those forms should now be submitted by their usual deadlines. 

A very limited number of forms may still benefit from the extension, including the Complaints Return (DISP Annex 1R) which may continue to be submitted up to 2 months from its original due date.

For small or medium-size businesses with fees and levies for 2020/2021 below £10,000, the administrative fee for all late returns has been waived until 30 September 2020.

The FCA has confirmed that, unless there is a significant change in the COVID-19 situation, it has no intention of extending reporting deadlines after 30 September 2020.  Regardless of the FCA's extension, firms should still submit their returns as soon as possible.

Separately, the FCA has confirmed that there is no change to the deadlines for AIFMD transparency reporting to the FCA.    

https://www.fca.org.uk/firms/regulatory-reporting/changes-regulatory-reporting-during-coronavirus

https://www.fca.org.uk/firms/fca-expectations-regarding-funds-coronavirus#revisions

 

Telephone recording

In the case of firms' telephone recording obligations, the FCA has said that where firms are unable to record calls, they should notify the FCA and consider steps to mitigate outstanding risks such as enhanced monitoring or retrospective review. 

ESMA has also provided a statement to the effect that firms which are unable to comply with the standard MIFID II telephone taping requirements should adopt alternative arrangements.  This could include using recordable electronic communications instead of telephone calls.   If recording is not practicable at all then ESMA states that firms should consider alternative steps to mitigate the risks of the lack of recording which could include written minutes or notes of telephone conversations.  In that case, clients should be notified that written records will be taken instead of recording.  Firms should also ensure enhanced monitoring and ex-post review of relevant orders and transactions and seek to restore full telephone recording as soon as possible. 

https://www.esma.europa.eu/sites/default/files/library/esma35-43-2348_esma_statement_on_covid-19_telephone_recording.pdf

Regulatory data

The FCA has said that firms which experience difficulties in submitting their regulatory data are expected to maintain appropriate records and submit the data as soon as possible.

Financial crime systems and controls

The FCA warns that firms should not seek to address any operational challenges to their financial crime systems and controls by changing their risk appetite.  However, the FCA has said that firms may re-prioritise or reasonably delay some activities such as ongoing customer due diligence reviews or reviews of transaction monitoring alerts provided that they continue to comply with the relevant anti-money laundering and counter terrorist financing legislation.  Delays will generally be considered reasonable if they are done on a risk-assessed basis and there is a clear plan to return to the usual process as soon as possible.

Any amendments to firms' controls should be clearly risk assessed, documented and go through appropriate governance.  Firms should also notify the FCA of any material issues that are impacting the effectiveness of their financial crime controls or causing significant delays to remediation plans.

https://www.fca.org.uk/firms/financial-crime/financial-crime-systems-controls-during-coronavirus-situation


Market conduct and discipline

Following on from the above, the FCA has dedicated the whole of the May 2020 edition of its Market Watch 63 newsletter to market conduct and discipline in the context of coronavirus. For the most part, the newsletter reiterates the regulator's expectation that all market participants - including issuers, advisors and anyone handling inside information - should continue to support the integrity and orderly functioning of the financial markets and should carry on complying with all obligations under the Market Abuse Regulation.

The FCA anticipates that, because of the crisis, many issuers will need to seek additional capital through the primary capital markets and this, combined with the fact that alternative working arrangements are currently in place, will make it as important as ever that controls around market abuse, conduct and the management of conflicts of interest are in place.

In addition to comments directed at issuers, some of the specific measures which the FCA suggests that other market participants might consider as appropriate in the current circumstances include the following:

  • reviewing the availability or the application of controls for restricting access to inside information on secure IT systems and how to carry out the supervision of staff who are working from home and have access to inside information;

  • instituting a mandatory 2-week holiday for front office staff;

  • repeating or updating staff training on the handling of inside information;

  • considering their existing controls around personal account dealing in the light of the potentially heightened risks presented by staff working from home;

  • reviewing and updating risk assessments in the light of coronavirus (and a surge in the number of surveillance alerts) and, if necessary, modifying their market surveillance systems to ensure that they are appropriately calibrated to detect any new or heightened market abuse risks.

The newsletter also contains a reminder of market participants' obligations under the MAR market soundings regime and under the Short Selling Regulation.

https://www.fca.org.uk/publication/newsletters/market-watch-63.pdf

Client identity verification

Firms must continue to comply with their obligations on verifying the identity of clients but this can be carried out remotely in accordance with existing legal and industry guidance provided that there are appropriate safeguards. These safeguards could include seeking third party verification of identity (such as from a lawyer or accountant) or asking clients to submit ‘selfies’ or videos.

https://fca.org.uk/publication/correspondence/dear-ceo-letter-coronavirus-update-firms-providing-services-retail-investors.pdf

https://www.fca.org.uk/firms/financial-crime/financial-crime-systems-controls-during-coronavirus-situation


12-week rule

The FCA has extended the 12-week rule allowing temporary cover for Senior Manager absences through a "modification by consent" procedure.  Where the procedure is used, a person can provide temporary cover for a Senior Manager for up to 36 weeks without needing FCA approval.  This extension will be available until 30 April 2021.

Where possible, the designated individual should be someone who has already been approved as a Senior Manager for other functions.  Firms should also allocate to the most senior person responsible for that activity or area, who has sufficient authority and an appropriate level of knowledge and competence to carry out the responsibility properly.

https://www.fca.org.uk/news/news-stories/period-cover-absent-senior-managers-extended-due-coronavirus-covid-19

Post and paper-based processes

The FCA expects firms to continue to comply with the requirements for post and paper-based processes but understands that in some cases that may not be possible. Where this is the case, the FCA expects firms to notify it as soon as possible.

However, firms should still make communications in a timely manner and try to ensure that customers are not disadvantaged by any delays.  Firms should return to full compliance as soon as practicable.

Where firms have been unable to comply with the rules on postal and paper processes, they should demonstrate to the FCA any steps that they have taken to mitigate the impact of this.   Firms should also provide general updates through its website and other public channels on how it will treat incoming and outgoing post and how customers can check their financial statements.  Firms should invite customers to contact them if they wish.

For suitability assessments, as face-to-face meetings are not possible, firms should use other methods, such as phone calls and online due diligence checks.

https://www.fca.org.uk/news/statements/how-firms-should-handle-post-and-paper-documents



3. Supervisory flexibility

In order to allow financial services firms to deal with issues arising from COVID-19, the FCA and ESMA have issued several statements providing for supervisory flexibility and forbearance in respect of certain regulatory obligations.  This effectively means that competent authorities will generally not seek to take enforcement action for failure by firms to comply with those regulatory obligations during the specified time.

10% reporting requirement

Portfolio managers must inform the client where the value of the portfolio depreciates by 10% and of any subsequent 10% fall in value. Similar obligations apply to firms holding retail client accounts that include positions in leveraged financial instruments.

The FCA has said, in a Dear CEO letter addressed to firms providing services to retail investors, that it does not intend to take enforcement action where a firm fails to comply in full with its disclosure obligations to a retail client provided that the firm:

  • has issued at least one notification to the retail client within a current reporting period, indicating their portfolio has decreased in value by at least 10%; and

  • subsequently provides general updates through its website, other public channels (such as social media) and/or generic, non-personalised client communications. These communications should update clients on market conditions, explain how clients can check their portfolio value and invite clients to contact the firm if they wish.

The FCA subsequently confirmed that the above statements also apply to non-retail client business performed by MiFID investment firms and collective portfolio management investment firms (to the extent that the requirements are applicable to those firms) although in its Dear CEO letter it had previously said that it does not intend to take enforcement action where a firm chooses not to provide 10% depreciation reports for any professional clients.

This approach will apply until 1 October 2020.

https://fca.org.uk/publication/correspondence/dear-ceo-letter-coronavirus-update-firms-providing-services-retail-investors.pdf

https://www.fca.org.uk/firms/fca-expectations-regarding-funds-coronavirus

Authorised funds

The FCA has provided answers to a number of concerns that firms have raised about the challenges they are facing both operationally and as a result of increased volatility. These include:

  • Virtual general meetings: the FCA does not have a supervisory concern about general meetings of fund unitholders being held virtually although authorised fund managers will need to consider whether fund documentation includes requirements additional to those in the FCA rules;

  • Ensuring compliance with limits on value at risk (VaR): firms should have contingency plans in place to deal with market conditions and the taking of appropriate remediation action and if they continue to face problems they should contact the FCA;

  • Repo use for liquidity management: repo transactions within UCITS schemes and non-UCITS retail schemes should only be used for efficient portfolio management – if they are entered into for the sole purpose of liquidity management, they are unlikely to meet the requirements under the rules;

  • Dealing in units: if dealing by using physical means (including post and fax) is allowed but ceases to be possible, authorised fund managers should consider whether they can provide alternative means of dealing without disadvantaging unitholders.

https://www.fca.org.uk/firms/fca-expectations-regarding-funds-coronavirus

 

Annual Reports

EU AIFMs are required to publish an annual report with respect to each EU AIF they manage and for each AIF they market in the EU.  Non-EU AIFMs marketing under Article 42 are also required to publish an annual report in respect of AIFs marketed by them in the EU. 

In both cases the annual report must be published no later than six months following the end of the AIF’s financial year.

ESMA has issued a statement that competent authorities should not prioritise supervisory action in respect of these requirements for limited period as follows:  

  • for annual reports referring to a year-end between 31 December 2019 and 31 March 2020, for a period of two months following the relevant deadline; and

  • annual reports referring to a year-end occurring between 1 and 30 April 2020, for a period of one month following the relevant deadline.

AIFMs are expected to use their best efforts to prepare the relevant reports and publish them within the relevant deadlines but, where necessary, this effectively gives AIFMs a one- or two-month grace period, depending on the date of their year-end.   This does not, however, affect any obligation to disclose inside information under the Market Abuse Regulation.

ESMA also states that AIFMs who are expecting a delay in publication should notify their competent authority promptly of this and also inform investors as soon as practicable of the delay, the reasons for such a delay and to the extent possible the estimated publication date.

To reflect this guidance, the FCA issued a statement to the effect that AIFMs have up to eight months to publish their annual reports although the FCA states that AIFMs should still seek to publish within the usual time limits.  This seems to go further than the ESMA guidance as the two-month extension applies to all year-end dates and there is (currently) no end date to the temporary relief.

In order to take advantage of this temporary relief, AIFMs will need to notify the depositary and auditors, notify the FCA providing certain information and also make public disclosures to investors.

https://www.esma.europa.eu/press-news/esma-news/esma-sets-out-supervisory-expectations-publication-investment-funds-periodic 

https://www.fca.org.uk/firms/extending-deadlines-publishing-fund-reports-and-accounts


Best Execution

Firms are required to publish best execution reports by 30 April 2020 (RTS 28 Reports).  Following an ESMA communication on the same matter, the FCA has said that it will not take enforcement action against firms which are unable to meet the 30 April 2020 deadline provided that they publish their RTS 28 Reports by 30 June 2020.

In addition, where an execution venue is unable to comply with the requirement to publish its best execution reports by 31 March 2020 (RTS 27 Reports), the FCA will not take enforcement action provided that the relevant RTS 27 Report is published by 30 June 2020.

Nevertheless, firms are still expected to continue to meet their client order handling obligations which may include the use of different types of orders to execute client orders and manage risk during market volatility.

https://fca.org.uk/publication/correspondence/dear-ceo-letter-coronavirus-update-firms-providing-services-retail-investors.pdf

https://www.esma.europa.eu/press-news/esma-news/esma-provides-clarifications-best-execution-reports-under-mifid-ii


Securities Financing Transaction Regulation

Securities financing transaction reporting obligations for credit institutions, investment firms and relevant third country entities apply as of 13 April 2020.  

However, in order to allow such entities to focus on business continuity and deal with issues arising from COVID-19, ESMA has issued a statement that competent authorities should not prioritise supervisory action in respect of these requirements until 13 July 2020.  ESMA also states that competent authorities should apply their supervisory powers in a proportionate manner. 

In addition, ESMA has indicated that it is not necessary to register Trade Repositories (who receive the reported information) ahead of 13 April 2020.

https://www.esma.europa.eu/sites/default/files/library/esma80-191-995_public_statement.pdf


Tick size regime for systematic internalisers

Similarly, in respect of the new tick size regime for systematic internalisers under the Markets in Financial Instruments Regulation (which applies as of 26 March 2020), ESMA also states that competent authorities should not prioritise their supervisory actions until 26 June 2020.  Again, any supervisory powers should be applied in a proportionate manner.

https://www.esma.europa.eu/sites/default/files/library/esma70-156-2486_public_statement_tick_sizes.pdf



4. Short selling

ESMA has temporarily lowered the reporting threshold for holders of net short positions in shares traded on an EU regulated market to include positions which reach or exceed 0.1% of the issued share capital.   

The FCA therefore has stated that it requires firms to make best efforts to report at the new, lower threshold as from Monday 6 April 2020. However, firms are not required to amend and resubmit notifications submitted between 16 March 2020 and 3 April 2020.  

https://www.fca.org.uk/markets/short-selling/statement-short-selling-bans-and-reporting

 

5. Financial resilience

The FCA requires firms to manage their financial resilience including by taking appropriate steps to conserve capital and planning for how to meet potential demands on liquidity.  Firms may also make use of any capital and liquidity buffers.

Firms are also required to maintain an up-to-date wind-down plan that considers the impact of COVID-19 and how the firm could exit the market in an orderly way while reducing harm to consumers and the markets.

If a firm is concerned it will not be able to meet its capital requirements or its debts as they fall due, is planning to draw down a buffer or if its wind-down plan has identified material execution risks, it should contact the FCA or its named FCA supervisor.  In some cases, it should provide the FCA with its plan for the immediate period ahead.

A firm must also satisfy itself that discretionary distributions of capital are prudent given market circumstances and are consistent with the firm's risk appetite.  This includes distributions in respect of share buy-backs, dividends, upstream cash and variable remuneration.  Firms should not distribute capital that could credibly be required to absorb losses over the coming period.

The FCA reminds non-bank lenders which are subject to IFRS9 that forward-looking information used in expected credit loss estimates must be both reasonable and supportable.  Firms must also reflect the potential impact of COVID-19 as well as government and central bank support.  

The FCA also clarified that government schemes to help firms through this period can be used to help firms plan for how they will meet debts as they fall due.  However, the FCA has also said that government loans cannot be used to meet capital adequacy requirements as they do not meet the definition of capital.

https://fca.org.uk/publication/correspondence/dear-ceo-letter-coronavirus-update-firms-providing-services-retail-investors.pdf

https://www.fca.org.uk/news/statements/fca-expectations-financial-resilience-fca-solo-regulated-firms

6. Guidance on breaches of covenants

The Prudential Regulation Authority (PRA) wrote to UK banks, building societies and PRA-designated investment firms on 26 March 2020 effectively saying that it expected them to treat covenant breaches arising from COVID-19 related matters, and which are of a general nature or unrelated to the solvency or liquidity of the borrower, differently to breaches resulting from borrower-specific issues.  The PRA also said that, in such cases, PRA-regulated firms should consider waiving the breach and should do so in good faith without imposing new and unrelated charges or restrictions.

This also appeared to be reiterated by the FCA in a joint statement with the PRA and Financial Reporting Council on 26 March 2020 strongly encouraging lenders and other parties to take into account the impact of COVID-19 when responding to potential breaches of covenants.

This guidance, therefore, appears to apply both bank and non-bank lenders and means that such lenders and other parties will need to consider carefully how they address any covenant breach.  It may also be of interest to borrowers when faced with a breach of covenant under their loan documentation.

https://www.fca.org.uk/news/statements/joint-statement-fca-frc-pra

https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/letter/2020/covid-19-ifrs-9-capital-requirements-and-loan-covenants.pdf?la=en&hash=77F4E1D06F713D2104067EC6642FE95EF2935EBD



7. Working practices

The FCA has also said that it has no objection to UK firms making use of backup sites or having staff working from home provided that firms are still able to meet regulatory standards and consider the broader control environment.  Firms must continue to take all steps to prevent market abuse risks which could include enhanced monitoring or retrospective reviews – see also above, under Paragraph 2, Market conduct and discipline: Market Watch 63. 

The FCA has also said that each firm's designated Senior Manager (or equivalent) is responsible for identifying which employees need to travel into the office or business continuity site but that this number should be minimised as far as possible. The FCA expects the total number of roles requiring an ongoing physical presence to be low and in particular not to include staff who can safely and securely trade shares and financial instruments from home or business support staff unless they are looking after specific equipment or technology.  

https://www.fca.org.uk/news/statements/work-travel-responsibilities-senior-managers



8. Identifying key workers

Children of a limited number of "key workers" may be eligible for care in school during the current school closures and the FCA has provided some guidance on the identification of “key financial workers”.

The FCA defines a key financial worker as someone who “fulfils a role which is necessary for the firm to continue to provide essential daily financial services to consumers, or to ensure the continued functioning of markets”.

The FCA states that it is for firms to decide who is essential for these purposes and recommends that the Chief Executive Officer Senior Management Function (SMF1) be accountable for this process (or if there is no SMF1, the most relevant member of the senior management team).

As part of this, firms should first identify the activities, services or operations which, if interrupted, are likely to lead to the disruption of essential services to the real economy or financial stability. They should then identify the individuals that are essential to support these functions and any critical outsourcing partners.

The types of roles that the FCA suggests may be considered essential includes:

  • Individuals essential in the overall management of the firm, e.g. SMFs.

  • Individuals essential in the running of online services and payments processing.

  • Individuals essential in the operation of trading venues and other critical elements of market infrastructure.

  • Risk management, compliance and audit staff.

  • Individuals that provide essential support to the above roles, such as finance and IT staff.

https://www.fca.org.uk/firms/key-workers-financial-services



9. FCA Activity

The FCA has said that it is reviewing its work plans to delay or postpone activity which is not critical to protecting consumers and market integrity in the short-term. This will include extending the closing date for responses to open consultation papers and Calls for Input until 1 October 2020 and rescheduling most other planned work. 

Routine business interactions are being scaled back and the FCA will currently only contact firms on business-critical requests and responses to the current situation.

 

10. Wet-ink and electronic signatures

The FCA has confirmed that its rules do not explicitly require agreements to have wet-ink signatures (i.e. signatures by hand using a pen).

The FCA has also said that its rules do not prevent the use of electronic signatures (which is a matter of law) but that firms should review the risks and harms of using electronic signatures and take appropriate steps to minimise those.  Firms should also consider the client’s best interests rule and the fair, clear and not misleading rule when making use of electronic signatures.

Finally, the FCA confirmed that firms may use electronic signatures for all interactions with the FCA.

https://www.fca.org.uk/news/statements/expectations-wet-ink-signatures-coronavirus-restrictions

 

11. FCA's expectations of SMCR firms

The FCA has set out its expectations of solo-regulated firms under the Senior Managers and Certification Regime (SMCR) in light of COVID-19.

Further information can be found in the following briefing: https://www.traverssmith.com/knowledge/knowledge-container/covid-19-fcas-expectations-under-smcr/

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