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Regulatory Refreshment – April 2020

Regulatory Capital – Top 10 Tips

 

This month’s Regulatory Refreshment newsletter discusses the FCA’s focus for the year ahead and what FCA authorised firms should be thinking about in regard to the impact of COVID-19 on their regulatory capital position.

We are hosting a webinar on regulatory capital – COVID-19 – How may it impact your regulatory capital position – Thursday, 30 Apr 2020 12:30 – 1:30pm. Click here to register.

Regulatory Capital

In the context of investment businesses, it is important to remember that regulatory capital is designed to help a firm conduct an orderly wind down and to act as buffer for external and internal shocks.

There is no doubt that COVID-19 is a significant external shock. The scale and magnitude of the impact will differ depending on the firms’ circumstances.

The webinar will delve into these issue in more detail. However, my top tips for regulatory capital are (in order of importance):

  1. Prudence: Plan for the worst and hope for the best.
  2. Use your capital: Regulatory capital is there to be used. Don’t be afraid of going into a deficit position (subject to the point below) if there are no alternative options.
  3. Wind-Down: Draw a line in the sand beyond which you will not have sufficient capital to conduct an orderly wind-down of the business. This will act to constrain your use of regulatory capital.
  4. Liquidity: Where there are liquid resource tests that apply to your firm you need to consider this in addition to the wider regulatory capital rules.
  5. Senior Management: Nobody is perfect. If the worst happens and there is a disorderly wind-down and customers suffer detriment it is critical that Senior Managers (under the SMCR) can demonstrate that they tool reasonable steps to protect the interests of their clients.
  6. Reporting: The FCA will be receiving a significant number of notifications. It is important to understand when you are required to notify them and what information is needed to be included.
  7. Eligibility: Have a clear understanding of what are eligible capital instruments e.g. fully paid up share capital, convertible instruments, audited reserves, etc.
  8. Ratios: Understand the ratios needed between different types of capital e. tier 1, tier 2, overall capital.
  9. Interim losses: Ensure you are clear on when current period losses will act to reduce the overall capital resources of the firm.
  10. Financial support: If you are accepting financial support from group companies it is important to understand if the loan is eligible for inclusion as regulatory capital and up to what amount i.e. it may only be eligible up to a specific percent.

FCA Business Plan

The FCA has last week published their business plan for 2020/21. Our best guess is that this was substantially written well in advance of COVID-19 dominating the headlines and taking up significant amounts of resources at the UK regulator. Nevertheless the FCA have published their cross-sectorial and investment management priorities.

In summary, the FCA’s focus areas are:

  1. LIBOR Transition: The FCA has said that it is important that firms transition before the prospective end of LIBOR after the end of 2021. We have produced a short briefing on this which can be accessed via our website here. Please contact Mike Booth (regulatory) or Paul Durban (legal) for any specific questions.
  2. Financial Crime: The FCA is expecting to start collecting additional information from firms with a view to identifying firms or areas that are potentially vulnerable. They have said that they will continue to take enforcement action where we uncover serious misconduct.
  3. Operational resilience: COVID-19 has turbo charged the FCA’s focus on operational resilience. Useful reading material can be found on the FCA’s webpage.
  4. Product Governance: The FCA want investors get high-quality, fair value, products and services. Their focus will primarily be on “Host” Authorised Corporate Directors.
  5. Governance and culture: The FCA continues to prioritise effective governance and expect firms to implement the SM&CR properly to help deliver this. We have a training session on our website in relation to the FCA’s Conduct Rules here.
  6. Brexit: Whilst “Brexit” has now happened, the UK is effectively still in practice enjoying (at least from a regulatory perspective) the benefits of membership of the EU until 31 December 2020. The FCA have not speculated as to whether COVID-19 will force either the UK or the EU to push the transitional period out further e.g. another 6 months.
  7. Climate change: In addition to the new climate reporting rules for issuers (link) the FCA also plans to continue our policy research to better understand how retail investment products are designed, the accuracy of disclosure, and whether this enables consumers to make effective decisions on ‘green products’. MJ Hudson Spring are our ESG and responsible investing division who design and implement strategies that deliver real value and impact. For more information on their services click here
  8. Innovation and technology: The FCA is increasing its use of technology to help improve its supervision and reduce the burden of periodic reporting by firms to the FCA.
  9. Market Abuse and Disorderly Markets: The market impact of COVID-19 has led many local European regulatory authorities have imposed short sale bans on certain publicly traded instruments and imposed lower thresholds for reporting short positions. Keeping up to speed with the most recent Market Watch Newsletters is useful here.

Please do get in touch if you need guidance on any of the matters discussed in this edition.