Since the financial crisis, there has been a noticeable change in the UK regulator’s focus and approach to market integrity, and as such an expectation of greater focus by firms on compliance in this area. So where have regulators been focusing their efforts and how has this impacted the way in which firms operate?
1. Recruiting specialized staff
A shift in the regulator’s recruitment practices was the first noticeable change, signaled by the appointment of a number of ex-traders and individuals with market surveillance experience from the London Stock Exchange. It is a cultural change as much as it is an enhancement of competence, and sends a strong message to the industry that the FCA is committed to ensuring the skills that it has in-house match the cutting-edge developments in the industry to challenge firms’ market abuse risk assessment and monitoring efforts.
In response, firms have mirrored this trend and sought to recruit their own in-house specialist staff. The challenge for these role holders often is that there is much demand on resources and pressure on costs, resulting in many firms focusing efforts on where the main regulatory risk is (e.g. sanctions) with market abuse monitoring moving down the list of priorities.
However, recent enforcement cases brought on grounds of manipulation of interest rates and foreign exchange benchmarks have shown the industry that the FCA is becoming more sophisticated in reviewing transactions, trading activities and communication with other parties, as well as collaborating with other global regulators to stamp out market abuse activities. Sufficient focus on this area, conducting market conduct risk assessments and e-communication surveillance should therefore be a priority for firms.
2. Investing in technology
The FCA has spent considerable resources on market surveillance technology, including its own in-house surveillance and monitoring system (Zen), supplemented with software from the third-party vendor market, such as SMARTS technology developed by Nasdaq OMX for real-time monitoring. This mix of in-house systems and third party software is the right model for the future of IT infrastructure for regulators. The combination of using real time monitoring while having access to all transaction data on T+1, including client references, is a powerful one.
Firms have also needed to invest in technology to achieve regulatory compliance and reduce risk, as manual monitoring can no longer sustain standards. Whilst this investment can be high in some instances, firms must understand that there is an expectation on them by regulators to monitor for market abuse and it can save considerable costs and reputational damage down the line.
3. Cultural shift
It is the culture of the industry that has brought us to where we are today and it is only recently that the industry has started to see the effect of enhanced enforcement in this area.
The changes required can be difficult to pinpoint, fix and maintain. However, sustainable change is needed – it must come from the top-down and be shared across the entire organization, sector and markets and then embedded into future planning and decision making at every level.
For this reason, regulators are now looking closely at how a firm’s culture is contributing towards providing positive outcomes as well as discouraging and detecting misconduct. It is therefore likely that firms’ HR policies, recruitment guidelines, appraisal processes and bonus payments will reflect the regulator’s current in these areas, as well as other types of conduct risk.
The focus on conduct and culture is global and a consistent message from regulators. Firms are likely to be subject to regulatory commissioned reports on their approach and controls relating to market conduct, which means that having the right technology, skilled workforce and culture in place is vital. What is clear overall is that this is an area of regulation where prevention is cheaper than cure.