Wholesale financial markets have undergone considerable changes in recent years as MiFID II, EU BMR and EMIR came into force. When considered in the context of Brexit, these will have a significant impact on firms’ strategies and business models.
Here we set out five key areas the FCA will focus on throughout 2018/19:
1) Brexit: Firms should now be in the process of operationalising their Brexit plans. The FCA expects there to be a high degree of co-operation between themselves and European NCAs during the transition period, although the nature of the relationship thereafter is unknown. Booking models and supervisibility will be areas of focus in evaluating new firm structures. The ECB has issued FAQs for banks opening subsidiaries in the EU that sets out its expectations with regard to risk management. EU regulators are unlikely to accept back-to-back or remote booking models in the long term; nor will the FCA and PRA. Firms should ensure that appropriate local risk management procedures are in place. They should also be thinking about the new structures in the context of Accountability II.
2) Culture: The FCA may focus on the conduct and culture of smaller wholesale firms, which largely escaped censure in the post-crash investigations. Trading firms including IBDs, agency brokers and HFT firms should ensure that they have effective conduct risk frameworks in place. Meaningful MI is a key aspect of effective conduct risk management. It would be useful for firms to consider the “Five Conduct Questions” framework, which is used to examine the conduct of large wholesale banks.
3) Cryptocurrencies and Blockchain: HMT, BOE and FCA have formed a new task force to consider the regulatory approach to cryptocurrencies. Cryptocurrencies currently fall outside of the regulatory perimeter (though obviously derivative products such as CFDs are within the perimeter). The FCA has stated its commitment to supporting innovation and encourages firms to test new products and technologies in its Fintech ‘Sandbox’. FS firms are looking for ways to apply blockchain technology in areas such as clearing and settlement, derivative margining, insurance, etc.
4) Market abuse: MiFID II data will better facilitate the identification of market abuse in more asset classes, including fixed income and commodities. Firms must ensure that their market surveillance is robust and effective and STORs are submitted correctly and promptly across all asset classes traded.
In addition, the FCA are currently consulting on updating the Financial Crime Guide to include a chapter on insider dealing and market manipulation. The new chapter will outline guidance on good and bad market practice in detecting and reporting market abuse.
5) MiFID II Implementation: Post implementation, the key areas of focus will be on research unbundling and inducements; best execution policies (and execution arrangements generally, the FCA will need to understand the impact of the legislation on UK market structures), and transaction reporting.
Firms operating algorithms should ensure that they are compliant with MiFID II, the requirements of GDPR and the FCA’s recent guidance on algorithmic trading compliance.