The UK's Financial Conduct Authority certainly has not slowed down during the summer months, having released a number of important publications and speeches. This month’s update examines the ways in which firms can start preparing for the extension of the SM&CR, the regulator’s intentions in the consumer credit market and the future of LIBOR.

The SM&CR is, of course, the Senior Managers and Certification Regime, which aims to hold practically everyone of consequence in financial services to account for their own actions, the better to ward off nationwide financial collapse. LIBOR is the London Interbank Offered Rate, the average interest rate calculated through submissions of interest rates by major banks across the world.

The transition to the extended SM&CR

Having introduced the SM&CR into the banking sector, the FCA has released proposals for an extension of the rules throughout the industry.

Replacing the current Approved Persons Regime, the SM&CR is intended to ensure that fewer bad things happen to consumers and encourage markets to adhere to moral and ethical principles through the improvement of 'conduct' (for which the FCA purposefully does not have a master definition) at all levels. The proposed introduction of the new approved ‘senior manager’ and certified ‘significant harm’ functions, along with new powers for the regulator under the Financial Services and Markets Act 2000 to create a set of enforceable basic standards of conduct that apply to almost all employees, is expected to influence and direct the behaviour of everyone at a financial firm.

The new regime is further evidence of the FCA’s increasing tendency to use 'culture' (a term which FCA enforcement director Mark Steward has described as "intangible and theoretical") and 'conduct' to regulate a large swathe of the industry with finite resources, thereby requiring firms to ‘do more with less.’

Since the number of firms subject to the regime (and their diversity and "risk impact") is increasing greatly, the FCA is proposing to base its approach to them on "size and complexity thresholds," their various sizes, their various types and their governance arrangements. However, firms in the the wider industry should expect to see the regulator take the same courses of action with them and impose the same principles on them that it does in relation to banks. Its aim is to be more consistent in its dealings with the financial services sector as a whole.

The FCA is planning to impose a standard set of requirements, known as "the core regime," on all solo-regulated firms, with a small number of firms - whose size, complexity and potential impact on consumers require greater attention from the FCA - also obliged to comply with additional requirements via an enhanced regime.

To make people more accountable for their actions, every firm will be required to submit a "statement of responsibility" to the FCA when it first applies for "senior manager approval," or when it has made a significant change to a senior manager’s responsibilities. The FCA is also proposing to introduce firm-wide "responsibility maps" (organograms) to provide it with an overview of the allocation of responsibilities and to ensure that there are no gaps. As a result, senior managers could be held personally responsible for breaches of FCA rules and principles and may face enforcement action against them, although the burden of proof will still lie with the FCA.

The allocation of "significant harm functions" will not require FCA approval, but firms will have to assess anyone who performs a certified function to ensure that he is fit and proper to do his job. For this assessment the firm will be obliged to gather evidence and record its decisions, with reviews taking place at least annually.

The FCA is consulting interested parties about its proposals for the new regime. While it does so, firms might benefit from some preliminary activity to help them inch ahead of their rivals before the implementation date. They might consider doing the following.

• Familiarise themselves with the current SM&CR as it applies to the banking sector.
• Review current governance arrangements to ensure that they are transparent and people can understand them easily.
• Identify those senior managers who will require certification and begin to assess the fitness and propriety of everyone who may pose a "risk of significant harm" to the firm or its customers.
• Write down the responsibilities of all senior managers and allocate all key functions.
• Review all relevant policies and procedures to ensure that they conform to the new requirements and update them if necessary.

Firms urged to act on MiFID II preparations

The FCA has urged firms which have not yet submitted complete applications for 'authorisations' or 'variations of permissions' to do so as soon as possible. The European Union's second Markets in Financial Instruments Directive is due to take effect from 3rd January 2018 and any firm that lacks the requisite permission to do business in accordance with it after this date will be unable to continue operating in the relevant areas.

The deadline for submitting a completed application for permission to the FCA was 3rd July, but the regulator says that any applications received after this date will be determined within six months, although it cannot guarantee that it will reach any decisions about them before the implementation date. Any firms in this position are advised to evolve contingency plans.

Firms, if they have not done so already, should urgently conduct gap analyses to identify the places where they need to make changes. This includes "variations of permissions." They should also draw up clear plans for making those changes before the deadline.

The FCA’s agenda for the consumer credit market

The FCA has published some findings it made during its review of the High-Cost Short-Term Credit (HCSTC) market and has set out its regulatory agenda for that market. It has decided to maintain the current price cap on HCSTC, having found that consumers in this market have benefited from it. The review showed that people were worried about other forms of credit, specifically unarranged overdrafts, rent-to-own home-collected credit and catalogue credit, which were subject to practices that may not be in the best interests of consumers. The regulator plans to consult the regulated community about its plans to offset these problems in early 2018.

The FCA has also released proposals to make its rules to do with assessments of creditworthiness and affordability clearer. It plans to look at:

• the distinction between affordability and credit risk;
• the factors to be considered when designing "affordability checks" to ensure that they are appropriate and proportionate in relation to individual lending decisions;
• the appropriate role of income and expenditure information when assessing creditworthiness; and
• the things it expects of firms’ policies and procedures.

The FCA consults firms about insistent clients and FAMR in general

Having received some feedback from the financial services industry, the FCA is proposing to turn its 'expectations' to do with the treatment of insistent clients, first published in its 2016 factsheet, into "handbook guidance." The new guidance, it hopes, will apply to all transactions in which someone makes a personal recommendation and not just those that concern the transfer or conversion of safeguarded benefits.

The text of the putative guidance states that when transacting business on behalf of an insistent client, each firm should ensure that:

• the original advice complies with the FCA's rule that requires firms to provide personal recommendations;
• the recommendation, and the reasoning behind it, has been clearly communicated;
• the risks of any alternative courses of action proposed by the client have been clearly communicated;
• someone is drawing a clear distinction between the advice being acted against and any subsequent advice given, including the use of distinct suitability reports; and
• it has kept a clear record of all communications and the process it has followed.

The consultative exercise forms part of a wider one whose aim is to implement the recommendations made by the Financial Advice Market Review (FAMR). It also partly aims to tackle problems to do with "consumer access" and foster competition. The FCA's wider proposals cover:

• "handbook changes" in line with some amendments to the Regulated Activities Order (RAO) which, from January onwards, will exempt authorised firms from the regulated activity of "advising on investments" unless they are providing a personal recommendation;
• amendments to the Perimeter Guidance Manual (PERG) to make the FCA's definition of the phrase "personal recommendation" clearer; and
• additional guidance for firms that are thinking of introducing automated advice services which, among other things, try to identify customers with "uncertain investment needs" and people with little appetite for risk, or set the timing of key information and documents and levels of assistance during the automated advice process.

Investment platforms’ recommendations of funds

The FCA’s latest occasional paper looks at investment platforms’ 'best buy' lists. These platforms 'channel' more than half of British funds and are always growing in size and importance. The regulator does have worries in this area as platforms often suffer from conflicts of interest, not least the ones that offer their own in-house funds. Until the regulations changed in 2016, British platforms were able to receive a share of the fee revenue that was generated through them.

Using data from the FCA's recent Asset Management Market Study, the paper examined the motivations behind "platform recommendations," the effect that they have on fund flows and whether they help investors financially. The research found that platforms are more likely to recommend affiliated funds and that such recommendations did influence flows. On the subject of whether recommendations help customers financially, the paper said that recommended affiliated funds did not outperform non-recommended, unaffiliated funds.

On the whole, the paper concluded that investment platforms are driven by favouritism rather than the available data when they include 'own brand' funds on 'best buy' lists, which could influence the decisions that investors make.

The future of LIBOR

In a recent speech, FCA chief executive Andrew Bailey discussed the future of LIBOR and recent developments in this area, including his early plans for a transition to alternative reference rates that are based firmly on transactions.

With so many contracts relying on LIBOR rates to determine payments, the sudden collapse of LIBOR would disrupt the markets significantly. A number of improvements have been made to strengthen the robustness of LIBOR in recent years, including:

• the introduction of an oversight committee to "provide challenge on" how the benchmark operates;
• significant investment from firms in their controls that pertain to submissions;
• a consultative exercise to look at ways in which the FCA could use its powers, if necessary, to support the LIBOR market once it becomes a crucial benchmark in accordance with the European Benchmark Regulation; and
• attempts to anchor submissions and rates to actual transactions, where possible.

However, the Government's attempts to tie submissions and rates to actual transactions have been hindered by the lack of an active underlying market for unsecured wholesale lending to banks, alongside the reluctance of 'panel banks' to supply judgements because of this.

Andrew Bailey acknowledges that some people doubt that LIBOR remains an appropriate and useful benchmark, not least because it is vulnerable to manipulation in the absence of an underlying active market, and also because of the overall drop in banks funding themselves through wholesale unsecured money markets.

What are the alternatives?

The transition away from LIBOR might take time (perhaps several years) because of the risks involved for market participants and the difficulties in amending the terms of contracts involving many holders. However, there has already been some discussion of alternative reference rates. The Risk Free Rate Working Group has proposed SONIA, the Sterling Overnight Index Average. The UK Alternative Reference Rates Committee has proposed a broad Treasuries repo rate as an alternative. The euro’s EONIA, Swiss SARON and Japan’s TONAR are also possible, as they all benefit from being anchored in overnight markets.

'Panel banks' have agreed voluntarily to sustain LIBOR until 2021, which ought to give market participants enough time to develop robust transition plans. After 2021, the FCA will not guarantee LIBOR's continuation and any future activity would rely on the willingness of the benchmark’s administrator and 'panel banks' to continue. The fate of old contracts that still mention LIBOR at the end of 2021 will depend on the actions of 'panel banks' and the contingency plans that users put in place. The FCA believes that markets cannot rely on LIBOR indefinitely and is keen for work to begin on planning for the smooth transition to alternative reference rates.

The Second Insurance Distribution Directive (IDD)

The FCA has published further proposals to deal with the implementation of the EU's Insurance Distribution Directive, which aims to afford consumers more protection from sharp practice in the insurance market and to foster competition there. The proposals cover:

• the application of the requirements of the IDD, including the provisions that pertain to the "conduct of business" and information, at life insurance firms;
• the proposed changes to COBS (the FCA's Conduct Of Business Sourcebook) to extend IDD information disclosure requirements to insurance-based investment products (IBIPs);
• the implementation of IDD requirements that pertain to product oversight and governance and the management of conflicts of interest at life and non-investment insurance businesses;
• the implementation of some organisational requirements that relate to the protection of customers’ money, plus professional requirements relating to the good repute of employees of insurance distributors.

The FCA is inviting responses to its proposals and expects to publish a policy statement in December.