Investment Management Monthly Regulatory Update April 2016
1. Introduction 1.1 In addition to our register of relevant regulatory developments in the past month, we note four themes this month which stand out from the crowd. 2. Eversheds Top 4 Themes 2.1 Liquidity Following last month s publication on good practice on liquidity risk management and oversight, the FCA published an occasional paper on liquidity in the UK corporate bond market. The FCA presents evidence on the evolution of liquidity in the UK corporate bond market for the period 2008 2014. They found that there is little evidence of liquidity having a larger effect on bond spreads now than a few years ago. They also claim that the regulatory interventions that have been introduced since the financial crisis did not result in less liquidity in normal times and did not result in liquidity being more flighty when shocks of a mild nature hit the system. David Lawton, Director of Markets Policy and International, FCA gave a speech this month where he touched on the issues mentioned in the occasional paper but also mentioned the systemic risks of investment funds set out by the FSB and ISOSCO, which were: the possible mismatch between the liquidity of fund investments on the one hand and the terms and conditions for the redemption of fund units on the other; the high levels of leverage within (certain) investment funds; the operational risk challenges in transferring investment mandates from a fund manager in a stressed condition to another manager; the securities lending activities of asset managers and funds; and the potential vulnerabilities of pension funds and sovereign wealth funds The FCA s intervention in the area of liquidity are overshadowed by the continuing legislative rumblings surrounding MiFID II and the new requirements for pretrade transparency for certain fixed income markets. The European Commission let the European Parliament know that it had rejected three of the twenty eight standards proposed by ESMA. One of the three rejections relates to rules for greater transparency in bond markets. The Commission is concerned that the definition of liquidity were too wide. This would result in too many types of bonds would have been caught by the pre-trade disclosure requirements and those in turn may have impacted the extent of liquidity in the market. We await ESMA s response. 2.2 The Budget For many investment managers and those servicing funds, the 2016 Budget may be seen as containing a wider than expected range of measures, including: significant extensions to the ISA allowance, together effectively with a subsidy equivalent in value to giving basic rate tax relief for investing in the Lifetime ISAs for under 40 s; the removal of withholding from interest distributions from 6 April 2017; a stamp duty land tax (SDLT) regime for property ACSs and seeding relief for ACSs and PAIFs from this summer; the reduction of the top rate of capital gains tax from 28% to 20%, although the reduction will not apply to carried interest or gains on residential property; and
the rate of corporation tax will fall yet further, to 17% by 2020, and the Government will consult on fundamental changes to the rules for the use of carried forward losses. It will also introduce restrictions on interest relief from 1 April 2017 in common with many of the jurisdictions taking part in the OECD BEPS Project. For further coverage of how the 2016 budget affects the sector, see our recent briefing. 2.3 Financial Advice Market Review The Review s main conclusion is that there is a clear need for regulatory and governmental intervention to help both consumers and industry benefit from new and more cost-effective ways of delivering high quality advice and guidance. The 28 recommendations fall into three areas: (1) affordability, (2) accessibility and (3) liabilities and consumer redress. In particular, the Review contains the following observations: HMT should consult on aligning the definition of advice to the MiFID (personal recommendation) definition; the FCA should provide guidance to firms in a variety of areas around streamlined advice and firms offering services that help consumers making their own investment decisions without a personal recommendation; amendments should be made to the TC Sourcebook; and the FCA should take steps to help ensure that firms and advisers are aware of the existing flexibility in the rules on adviser charging There is also a significant degree of overlap between the review and the Budget, for example the review recommends that: HMT should explore options to allow consumers to access a small part of their pension pot before the normal minimum pension age, to redeem against the cost of pre-retirement advice; and HMT should explore ways to improve the existing 150 income tax and National Insurance exemption for employer-arranged advice on pensions. This review is also overshadowed by MiFID II and the rules on inducements and financial advice (being a personal recommendation). 2.4 Derivatives There have been various key regulatory developments. In particular, a number of fundamental measures pursuant to EMIR either became effective or moved a step closer to being adopted. On 1 March 2016, the European Commission adopted clearing obligation regulatory technical standards for credit default swaps including 5Y euro-denominated itraxx Europe Main and itraxx Europe Crossover classes. The European Parliament and Council will now have a one-month non-objection period (this can be extended by one month). On 8 March 2016, the European Supervisory Authorities published a final draft regulatory standards (RTS) on risk-mitigation techniques for OTC-derivative contracts not cleared by a central counterparty (CCP). The draft RTS contain the applicable standards that set out the levels and type of collateral and segregation arrangements required to ensure the timely, accurate and appropriately segregated exchange of collateral. The RTS cover matters such as margin models, the eligibility of collateral to be used for margins, operational processes and risk-management procedures. On 15 March 2016, the European Commission determined that the U.S. Commodity Futures Trading Commission (CFTC) has the equivalent requirements as the EU in regulating CCPs.
Fines New Directives High Impact Announcements Speeches Finalised Policy Nil Nil 4 2 7 MiFID II PRA: Consultation MiFID II 01/03 This consultation paper sets out the PRA proposals for rules to transpose the Markets in Financial Instruments Directive (MiFID II) and the Markets in Financial Instruments. The paper focuses on the mechanics for CRD firms to passport MiFID services and the systems and controls needed for algorithmic trading and direct market access. Consultation 1. Derivatives European Commission: Final Mandatory central clearing of five year itraxx Europe main and crossover index credit default swaps 01/03 The European Commission adopted a draft Delegated containing final technical standards for the mandatory central clearing of five year itraxx Europe main and crossover index credit default swaps. Adopted 2. Trading FCA: Ban Libor Fine 02/03 A former Deutsche bank trader has been banned from performing any function in relation to any regulated activity. This was following a criminal conviction for fraud in the US and relates to the FCA s assessment against the Fit and Proper test for Approved Persons (FIT). 3. MiFID II / Financial Crime FCA: Other Policy Development Update Issue 31 04/03 A few dates to note in this latest issue: Mid 2016: Implementation of MiFID II CP 2. Spring 2016 Policy proposals and Handbook Changes related to the Implementation of the Market Abuse. TBC: PS to CP15/35 Markets in Financial Instruments Directive II Implementation Consultation Paper I, PS to CP15/43. Final Notice Policy Development Update Issue 31
4. Derivatives ESMA: RTS Margin requirements for non-centrally cleared derivatives. 5. General FCA: Feedback Statement Feedback Statement on Call for Input: Regulatory barriers to innovation in digital and mobile solutions These RTS cover the risk mitigation techniques related to the exchange of collateral to cover exposures arising from non-centrally cleared over-thecounter (OTC) derivatives. The draft RTS contain the following provisions: For OTC derivatives not cleared by a Central Counterparty, the draft RTS prescribe that counterparties have to exchange both initial and variation margins. This will reduce counterparty credit risk, mitigate any potential systemic risk and ensure alignment with international standards. The draft RTS outline the list of eligible collateral for the exchange of margins, the criteria to ensure the collateral is sufficiently diversified and not subject to wrong-way risk, as well as the methods to determine appropriate collateral haircuts. The draft RTS lay down the operational procedures related to documentation, legal assessments of the enforceability of the agreements and the timing of the collateral exchange. The draft RTS cover the procedures for counterparties and competent authorities related to the treatment of intragroup derivative contracts 09/03 Many stakeholders, particularly those involved in the advice and investment market, suggested that lack of clarity over regulatory definitions of advice, guidance and personal recommendations were a barrier to the use of digital and mobile solutions. The FCA said in this paper that they will explore the issues raised through the Financial Advice Market Review (FAMR). Draft RTS FS16/2: Feedback Statement on Call for Input 6. Financial crime European Commission: Final RTs Market Abuse 09/03 The following RTS have been published by the EC: Preventing, detecting and reporting abusive practices (suspicious transaction and order reporting); buy-back programmes and stabilisation measures; investment recommendations. RTS: preventing, detecting reporting abusive practices and RTS: buy-back programmes and stabilisation measures RTS: investment recommendatio ns
7. Client money and assets FCA: Discussion paper 8. General ESMA: Consultation 9. Wealth Management FCA/HMT: Market Review CASS 7A and the Special Administration Regime Review Securities Financing Transaction 09/03 The DP considers various proposals dealing with the distribution of client money in the event of the failure of a firm. It includes proposals for the transfer of client money pool and custody assets, extending the bar date to client monies, extending the hindsight principal and deduction of costs from the client estate. The DP must be read together with the Treasury Consultation on amendments to the Special Administration s for Investment Banks. 11/03 The DP sets out proposals for implementing the reporting framework under the SFTR, including tables of the fields with the proposed data to be reported, and the registration requirements for those trade repositories which want to accept reports on security financing transactions. Financial Advice 14/03 The review has found that there is a clear need for intervention by the regulator and the government to help both consumers and industry benefit from new and more cost-effective ways of delivering high quality advice and guidance. The 28 recommendations fall into three areas (1) affordability, (2) accessibility and (3) liabilities and consumer redress. In particular the review advises that: HMT should consult on aligning the definition of advice to the MiFID (personal recommendation) definition. The FCA should provide guidance to firms in a variety of areas around streamlined advice and firms offering services that help consumers making their own investment decisions without a personal recommendation. Amendments should be made to the TC Sourcebook The FCA should take steps to help ensure that firms and advisers are aware of the existing flexibility in the rules on adviser charging DP16/2: CASS 7A and the Special Administration Regime Review ESMA consults on Securities Financing Transaction Reforms will make financial advice and guidance work better for consumers 10. Trading FCA: Prosecution Insider Dealing 15/03 Mr Clarke admitted dealing on the basis of inside he obtained during the course of his employment at Schroders. He was employed initially as a fund manager s assistant and, from 2006, as an equities trader. In these roles Mr Clarke received inside about significant corporate events, mainly anticipated public announcements of mergers and acquisitions. He used this to place trades using accounts in his own name and that of close family members, in respect of which he had been provided with the account numbers and passwords. The total profits made from Mr Clarke s insider dealing amount to at least 155,161.98. FCA press release
11. General HMT: Budget UK budget 15/03 The 2016 Budget contains many measures affecting the asset management industry more or less directly, some confirming existing announcements but many new. Our briefing on the budget (see right hand column) contains on: 12. Trading FCA: Occasional paper 13. Crowdfunding FCA: Policy Statement Occasional Paper No. 14: Liquidity in the UK corporate bond market: evidence from trade data Loan-based crowdfunding platforms and segregation of client money 14. General Innovative Finance ISA 15. Peer to peer Advising on P2P agreements UK individuals tax rates and allowances Changes affecting authorised investment funds Partnership changes Offshore property funds 17/03 The FCA presents evidence on the evolution of liquidity in the UK corporate bond market for the period 2008 2014. The FCA found that there is little evidence that liquidity is having a larger effect on bond spreads now than a few years ago. They also claim that the regulatory interventions that have been introduced since the financial crisis did not result in less liquidity in normal times and did not result in liquidity being more flighty when shocks of a mild nature hit the system. 21/03 Final rules to allow firms that hold money in relation to both P2P and B2B agreements to be able to elect to hold all lenders monies in relation to this business under CASS 7 if they wish to do so. Firms may then hold P2P and B2B monies together, but segregated from the firm s money, without breaching CASS 7. The FCA also sets final rules to clarify that, where a firm holds money that has not yet been invested for a client, this should be client money held under the CASS rules, unless the circumstances are such that it could never be money held in relation to a P2P agreement. Final guidance on existing financial promotion and disclosure rules to clarify the types of firms should provide in relation to the Innovative Finance ISA. Final guidance on rules to take account of the new regulated activity, in article 53(2) of the Regulated Activity Order, of advising on article 36H agreements (advising on P2P agreements). Eversheds Briefing on the UK Budget Occasional Paper No. 14: Liquidity in the UK corporate bond market: evidence from trade data PS16/8
16. MiFID II ESMA: Guidelines Training and Competency Guidelines 17. Competition Speech The FCA s Competition Powers 18. Funds European Commission: Delegation 19. Trading Speech Investment Funds, 20. Trading ESMA: Consultation paper 22/03 ESMA has published guidelines that apply in relation to the provision of the investment services and activities listed in Section A, and the ancillary services listed in Section B of Annex I of MiFID II. The guidelines relate to: Criteria for knowledge and competence for staff giving about investment products, investment services or ancillary services; Criteria for knowledge and competence for staff giving investment advice; and Organisational requirements for assessment, maintenance and updating of knowledge and competence. 23/03 Speech by Deb Jones, Director of Competition at the FCA, delivered at The Impact of Competition Powers on Financial Services Conference, London. She comments that we stand ready to enforce, but it is not all about enforcement. It is also interesting that she reveals that the FCA is taking active steps towards the opening of [a] Competition Act investigation. UCITS V 24/03 European Commission Delegated ((EU) 2016/438) supplementing the UCITS V Directive (2009/65/EC) with regard to obligations of depositaries has been published in the Official Journal of the EU. It comes into force on 12 April 2016 (that is, 20 days after its publication in the OJ) and will apply from 13 October 2016. 24/03 David Lawton, Director of Markets Policy and International, FCA gave a speech Markets Liquidity this month in which he touched on the issues mentioned in the occasional paper and the Investor but also mentioned the systemic risks of investment funds set out by the FSB Information regarding commodity and spot markets and ISOSCO, which were: The possible mismatch between the liquidity of fund investments on the one hand and the terms and conditions for the redemption of fund units on the other; The high levels of leverage within (certain) investment funds; The operational risk challenges in transferring investment mandates from a fund manager in a stressed condition to another manager; The securities lending activities of asset managers and funds; and Finally, the potential vulnerabilities of pension funds and sovereign wealth funds 30/03 ESMA opened a consultation seeking views on its proposed non-exhaustive indicative list of expected or required to be published on commodity derivatives markets or spot markets for the purposes of determining inside regarding commodity derivatives and of triggering the prohibitions for insider dealing. ESMA Guidelines The FCA s Competition Powers Delegated Speech Consultation Paper
21. Peer to peer FCA: Statement 22. Funds ESMA: Final Guidelines Peer to peer applications Remuneration policies UCITS V 31/03 The FCA received a lot of applications for firms wanting permission to operate a P2P platform. As at 30 March 2016, the FCA authorised eight firms to operate P2P platforms. There are a further 86 firms awaiting a decision, of which 44 have interim permission. 31/03 ESMA published its final report (ESMA/2016/411) on guidelines on sound remuneration policies under the UCITS V Directive and Alternative Investment Fund Managers Directive. The guidelines will apply from 1 January 2017. Statement on peer-to-peer applications for full authorisation Guidelines on sound remuneration policies under the UCITS Directive and AIFMD
Contact details: Andrew Henderson Partner D: +44(0) 20 7919 0898 M: +44(0) 7747 795 049 AndrewHenderson@eversheds.com Mike Booth Regulatory Director D: +44 (0) 20 7919 0843 M: +44 (0) 7464 906 192 MichaelBooth@eversheds.com Melanie Panzone Legal Director D: +44 (0) 20 7919 4567 M: +44 (0) 7342 708 154 MelaniePanzone@eversheds.com eversheds.com Eversheds LLP 2015 Eversheds LLP is a limited liability partnership