FCA puts principals of appointed representatives on notice

The Financial Conduct Authority has identified major shortcomings in principal firms’ understanding of their regulatory responsibilities for their appointed representatives. Senior management of principal firms should take note 

What has happened?

The Financial Conduct Authority (FCA) has sent a clear message to investment management firms with appointed representatives (ARs) to improve their supervision and oversight of their ARs. The message was published on a new webpage and in a Dear CEO letter, in which the FCA reports on its findings from a review of 338 principals, each with between one and 80 ARs.

These communications, which detail the FCA's concerns, are essential reading for the senior management of principal firms. 

What does this mean?

The FCA's review identified significant shortcomings in principal firms’ understanding of their regulatory responsibilities for their ARs:

"Most principal firms we reviewed had weak or under-developed governance arrangements in place, including a lack of effective risk frameworks, internal controls and resources.Though principals are responsible for the activities of their ARs, most principals were not assessing the risks these activities posed to their firms. Consequently, some principals may not be holding adequate financial resources for both liquidity and capital. Many principals did not identify conflicts of interest inherent in this business model or make attempts to manage them."

While the review focused on the investment management sector, the FCA said that the findings may also apply to principals and ARs operating in other sectors of the UK financial services industry.

Many failings

The FCA found many failings.

For example, it found little evidence of client file reviews, testing or challenge being undertaken by principals and none of the principals regularly reviewed their ARs’ websites, some of which contained non-compliant financial promotions and inaccurate information about regulatory status.

Where the FCA reviewed firms’ assessments of the adequacy of their financial resources (where required under the prudential regime), more than 90% of these were not fit for purpose.

The FCA also expressed concern that principals in the contracts for difference sector do not have sufficient systems and controls in place to monitor their ARs.

In addition, the FCA expressed "significant concerns" about the "Host AIFM" model, under which a principal firm is appointed as the alternative investment fund manager (AIFM) to an alternative investment fund (AIF), the AR is usually appointed as an adviser to the AIF and people from the AR may be seconded to the principal, in which capacity they can undertake portfolio management activity. The FCA identified inherent conflicts of interest which were not always addressed, a lack of appropriate control and risk management frameworks to oversee the AIFs and the activities of the seconded portfolio managers, and inadequate market abuse controls. The FCA warns that it will continue to assess the risks associated with the Host AIFM model.

What happens now?

The FCA expects principals to assess how they are meeting regulatory requirements in relation to their ARs and if they are not, they should consider ending the relationship with their ARs.

In the meantime, the FCA will be conducting further work, including undertaking visits to principal firms, and expects to see that firms have acted on its review findings.

The FCA will take appropriate action where it identifies that firms have failed to act.

Next steps

Please contact us if you would like to know how the issues mentioned in this article may affect your organisation.

Contacts
Rachel Kent
Partner
London
Michael Thomas
Partner
London
Dominic Hill
Consultant
London
Yvonne Clapham
Senior Knowledge Lawyer
London

 

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