FCA to Act ‘Proportionately’ On MiFID II


Speech by Mark Steward, Director of Enforcement and Market Oversight at the FCA, delivered at the AFME European Compliance and Legal Conference 2017

Speaker: Mark Steward, Director of Enforcement and Market Oversight
Location: De Vere Grand Connaught Rooms, London
Delivered on: 20 September 2017


There has been an approximate 75% increase in the number of FCA investigations over the past year, as a result of three factors:

  1. more investigations into capital market disclosure issues
  2. the extension in scope of the reporting regime for firms, brought about by MAR, which has given the FCA a richer and more varied market picture, leading to more cases being selected for investigation
  3. the FCA’s change in approach when deciding whether to open an investigation

MiFID II, and improvements in the FCA’s capacity to collect and aggregate order book data from all venues, will allow the FCA to understand the markets it supervises with much greater precision, detect serious misconduct earlier, and improve its policy assessments.
The FCA will act proportionately, when deciding whether to take enforcement action against firms covered by MiFID II, which have not transitioned in time for 3 January 2018.

Mark Steward, FCA

Thank you for inviting me here this afternoon.

I want to speak to you about recent FCA enforcement trends, especially in the context of wholesale markets and, given the work of the AFME and your interest in being here today, the way in which MiFID II is already influencing the trend line.

As you know MiFID II represents a significant change and challenge not only in practice but also in essential logistics. What will remain in place, if not strengthen, is the deep relationship the FCA enjoys with our European colleagues, sharing information, intelligence and practice, on a daily basis, especially in the regulation of our wholesale markets. I should also acknowledge the role of the AFME and its membership in helping to cultivate these mutual benefits. Long may all of this continue.

Enforcement Trends
Let me start with enforcement with special focus on our wholesale or markets-facing work.

The most significant change over the last year has been in the uptick in the number of investigations we have commenced. The uptick is significant, representing approximately a 75% increase in the number of investigations on foot.

I think there are three important factors at play here.

First, we are broadening our shoulders. We have commenced more investigations into capital market disclosure issues, especially where we see there may be poor disclosure practices or, in some cases, where poor disclosure can mislead the market and become market abuse. Good disclosure by issuers is an important component in any market working well and so we are keen to ensure high standards are maintained. For example, we took action against Tesco Ltd earlier this year for market abuse in which we imposed the first redress order under section 384 of the Financial Services and Markets Act.

Secondly, there have been significant legislative changes under the Market Abuse Regime (MAR) influencing investigation numbers. MAR has extended the scope of the reporting regime for firms in terms of markets, platforms and conduct. This means more participants reporting more data, especially around suspicious transactions and, significantly, the reporting obligation includes orders now as well (STORs).

Almost as soon as MAR commenced, in the middle of last year, we saw an equally significant increase in the number of STORs – in the order of a 77% increase on 2015/16.

Unsurprisingly, a richer and more varied market picture – a better view in other words – combined with the stimulus of suspicions provided by the market itself, has led to more cases being selected for investigation.

I should add that MiFID II will further enrich our view of the market as we will capture even more data. Currently we capture around 20 million transaction reports per day and we estimate this will increase under MiFID II to around 30-35 million transactions, in excess of 50 million orders per day or a total of over 1 trillion data points per year. I will return to this notion of us gaining a better view of the market and how this is shaping our work in a moment.

The third factor in the increase in investigation numbers has more to do with our starting point for investigations. Some background is needed to explain this.

In November 2015, the HBOS Report was published. The Report focused on the failure of HBOS. However, one part of the report, which was written by Andrew Green QC, reviewed the reasonableness of the FSA’s investigations into the failure of HBOS. Andrew made some important findings, one of which, in his view, partly explained why the then FSA did not conduct further investigations into the failure of HBOS when it could have, namely a view that such investigations would not have been successful i.e. they would not have led to successful enforcement actions so it was not viable to conduct them.

In his view, this was misguided given the public interest at stake in the failure of HBOS, especially given the statutory threshold for an investigation into some individuals in fact had been met.

While there is little doubt that ‘prospects of success’ is an important element in considering whether enforcement resources should be deployed, I think it must be right that the merits of a case cannot be assessed before you have the relevant evidence, or even the key evidence. This is a real horse before cart issue.

Andrew’s views have prompted some thinking around what should be the starting point for an investigation.

The Starting Point…
The legislation creates some very low thresholds and that is deliberate, I think, giving the FCA wide discretion to act where there are serious concerns but not much hard evidence to really go on. The low threshold does not mean we should always act when there is not much to go on. We need to act reasonably, fairly and proportionately and, as we said in our recently published Mission, we should act, diagnostically and remedially where we see harm or risk of harm in the context of our overall strategic objective to ensure our markets function well.

Putting this into the specific context of an investigation, this means we should investigate where we suspect serious misconduct may have occurred. I certainly don’t think the bar can be any lower nor should we limit our discretion given the infinite set of circumstances we may need to contend with.

The operative word here is serious i.e. not trivial, technical or officious which implies also a rational and objective basis to investigate, where the circumstances give rise to real harm or risk of real harm caused by suspected misconduct. This will typically include, in our markets-facing work, insider dealing or other market abuse, poor disclosure affecting the integrity of our markets and, importantly, circumstances where market integrity may be harmed by financial crime.

I know there are some who think the increase in investigation work will lead to the need for additional resourcing by the FCA. Instinctively, I don’t think this is right and pragmatically, in light of Brexit and other work on our plates, it is not remotely feasible!

The challenge then for us is to become vastly more efficient, strategic and focused, especially in conducting investigations more quickly and expediently. And this is exactly what we have been doing. From my own experience, I know this can be done.

As we pointed out in our Mission, the function of an investigation is essentially diagnostic, to enable us to understand, when serious misconduct may be in issue, what has really happened and what we need to do about it. It is a fundamentally different process to litigation where we have a view about what has happened. When we are investigating, we have not concluded any view about what has happened. Importantly, while all litigation we conduct should be premised on a proper investigation of the evidence, an investigation does not mean litigation is inevitable.

One example might describe the difference and the function of an investigation better. In litigation, as most litigators know from bitter experience, it is very risky to ask a question you don’t know the answer to – the answer is often unhelpful to your cause, so litigators know it is better not to ask it. In an investigation, it is the opposite. Usually we will not know the answers before asking the question, which is why we need to investigate. And having asked the right questions is a precondition to making better decisions about what might need to be done.

The investigator’s mind, at the start of an investigation, should be a quiver of arrow-like questions rather than a disposition or view as to what the outcome needs to be.

Moving more quickly means detecting suspected serious misconduct as early as possible and this is where the new data we are collecting under MAR and will receive under MIFID II can shape our enforcement work for the better. Let me now turn to that.

A Better View
In addition to the capture of transaction reporting data, we are now developing our capacity to collect and aggregate order book data from all venues using a cloud-based platform. Previously we did not routinely capture order book data. It is not routinely reported to us and to gather it we need to capture it from the different trading venues. The logistical challenge is then to aggregate it so we are able to read-across venues and markets. This is an enormous but important technical challenge but I think is essential for us to gain a better view of our wholesale markets.

Our aim is to be able to collect this data on a daily basis from all venues in all cash markets enabling us to segregate order flows by firms and trader and, given the additional data sets that we will collect under MiFID II, with the introduction of legal entity identifiers, by client also. We also have plans to expand the scope of this collection to other markets in the future. It will be a powerful tool that will provide substantial regulatory benefit in the public interest.

This is, I think, a sea change in our ability to view the whole market. It will enable us to make assessments, virtually in real time; it will allow us to understand the markets we supervise with much greater precision; it will reduce false positives and data requests to firms and, it will enable us to detect serious misconduct earlier, especially suspected manipulation which is far more challenging to detect than insider dealing.

The sea change, of course is not just directed to creating enforcement dividends. The better view of our wholesale markets will feed and shape our work more widely, not only in our oversight of markets but also our supervision of firms and our policy assessments as we give effect both to our commitment to market integrity and our strategic objective to ensure all our markets work well.

Enforcement of MiFID II
We are very conscious of the obligations imposed by MiFID II on firms. Our objective has been to help firms put in place the foundations for MiFID II and to be ready for day one on 3 January 2018.

We have issued statements reminding firms not authorized for MiFID II activities or firms that need variations of permission that they needed to submit completed applications for authorisation or variations of permission by 3 July 2017 to be guaranteed their applications will be determined in time. Many firms have managed to meet this deadline, and some have not. Those firms really need to take action now.

Similarly, all legal entities and individuals acting in a business capacity who are clients of firms subject to MiFID II transaction reporting obligations and firms themselves must have a Legal Entity Identifier or LEI if they wish to carry out transactions from 3 January 2018. Firms must ensure these clients have an LEI before effecting transactions covered by MiFID II on their behalf.

I know some of you want to know what our enforcement approach will be for firms that have not completely transitioned in time for 3 January 2018.

As always, we intend to act proportionately. In this context, this means we will not take a strict liability approach especially given the size, complexity and magnitude of the changes that are required to be in place. We are very aware of how much work many firms have been engaged in for a very long time now in re-tooling and preparing for next year. This means we have no intention of taking enforcement action against firms for not meeting all requirements straight away where there is evidence they have taken sufficient steps to meet the new obligations by the start-date, 3 January 2018.

Many firms that have been working well to prepare for next year and they should feel assured and confident that they can continue to work with us to meet the starting line. At the same time, we cannot create a floor for compliance below the required MiFID II standards and so our disposition is likely to be different where firms have made no real or genuine attempt to be ready or where key obligations are deliberately flouted.

Source: FCA

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