UK Regulatory Radar

Welcome to the July edition of UK Regulatory Radar.

We kick off this month looking at the Financial Services and Markets Bill (FSMB), as the UK Government introduces its first piece of major financial services legislation since the UK left the EU. The Bill aims to tailor the regulatory framework to the UK and updates the powers of the regulators. Parliament has responded with the formation of a new Treasury Select Committee (TSC) sub-committee for Financial Services Regulation scrutiny (initially consisting of all TSC members). This initiative will please many parts of the financial services industry that are concerned that post-Brexit the PRA and FCA will have too much power to make regulation without the detailed parliamentary oversight that was part of the EU framework.

As we anticipated in our June issue, the regulators have started consulting on the rules that they will put in place once the FSMB is agreed, for example, the joint Bank of England (BoE), PRA and FCA discussion paper on operational resilience of critical third parties to the UK financial sector.

The BoE’s July 2022 Financial Stability Report highlighted worsening global economic conditions, which are putting pressure on the finances of households and businesses and have the potential to undermine UK financial stability. However, the Financial Policy Committee deems that, for now, UK banks remain strong and have considerable capacity to support lending. That said, banks expect impairments to increase, particularly towards the end of the year. To help ensure that they continue to have the resilience to lend in stress, the BoE will increase the UK Countercyclical Buffer (CCyB) rate from 1% to 2% from July 2023. The BoE also confirmed that it will launch its annual cyclical scenario (ACS) stress test in September 2022 with results in summer 2023.

The FCA has outlined its expectations around treatment of consumers and SMEs impacted by the difficult economic conditions. It has also issued final rules on its Consumer Duty which will have far-reaching impact on the "what" and "how" of in-scope firms' delivery of products and services. Although the FCA has granted firms an extension to the dates initially proposed, our work in the market suggests the timescales remain challenging and firms will need to ramp up their programmes to be as ready as possible. Separately, the FCA has just finalised changes to its rules regarding marketing high-risk investments to consumers and consulted on broadening the distribution of the Long Term Asset Fund to retail investors.

The regulators seem to have been clearing the decks ahead of the summer holidays — read on for more details — however key pieces have been deferred to the autumn including consultations on Sustainability Disclosure Requirements and Diversity and Inclusion. With this in mind, we wish you a restful summer break, in anticipation of a busy autumn.

EMA FS Regulatory Insight Centre

The FCA provided an update on the status of its planned consultation paper on UK Sustainability Disclosure Requirements (SDR) and investment labels that had been expected in Q2 2022. The FCA now plans to consult in the autumn, in order to take account of other international policy initiatives and ensure stakeholders have time to consider the issues.

The FCA has responded to the International Sustainability Standards Board's (ISSB) first two exposure drafts, on General Requirements for Disclosure of Sustainability-related Financial Information and Climate-related Disclosures. Overall, the FCA welcomes the drafts and notes that in their current state they will improve market integrity and transparency. However, the FCA makes a number of observations regarding potential clarifications and further guidance that could make the standards more usable.

The FCA has published a feedback statement (FS22/4) and associated Primary Market Bulletin on ESG integration in UK capital markets. The statement focuses on issues related to green, social, sustainability and sustainability-linked debt instruments (ESG-labelled debt instruments) including prospectus and `use of proceeds' (UoP) bond frameworks, the role of verifiers and second party opinion (SPO) providers, the role of ESG data and rating providers, and potential regulatory approaches.

The FCA has published a review into feedback from its second ESG data and disclosures digital sandbox pilot. Overall, the review concludes that the exercise was valuable to industry and helped to accelerate technological innovation and collaboration. Despite some issues with the availability and relevance of data and disclosures, the FCA is currently investigating ways to open up the sandbox to a wider audience.

The Department of Work and Pensions (DWP) has announced the creation of a taskforce to support pension trustees and the wider sector in understanding and assessing the social or `S' factors in ESG, including metrics and KPIs. The taskforce will be led by the Secretary of State at the DWP, with regulators invited to join the working group.

The BoE, PRA and FCA have issued a joint Discussion Paper seeking views on potential measures to manage the systemic risks posed by certain third parties designated as “critical” to the UK Financial sectors by HMT under the newly-introduced FSMB. Under the proposals, HM Treasury (HMT) would be able to designate a third party as 'critical' if it was “satisfied that a failure in, or disruption to, the provision of the services that it provides to firms and FMIs (either individually or where more than one service is provided, taken together) could threaten the stability of, or confidence in, the financial system of the UK”.

The most commonly-cited example of critical third parties (CTPs) are cloud service providers (CSPs), but CTPs could also include other providers of information and communications technology services, e.g. data analytics. The proposed measures focus around three building blocks:

• A framework for supervisory authorities to identify CTPs
• Minimum resilience standards in respect of material services provided to firms and FMIs
• A range of tools for testing the resilience of material services provided to firms and FMIs

Views on the proposed measures are welcomed until 23 December.

HMT has launched a Digitisation Taskforce with the aim of modernising the UK's shareholding framework and completing the elimination of paper share certificates. The Taskforce will consider how to improve the way that rights (such as voting rights or secondary offers) attached to such shares flow to end investors and whether new processes and technology can bring efficiency to the way shares are held, settled and administered.

The PRA published its long-awaited consultation (CP6/22) and a draft supervisory statement on model risk management (MRM) principles for banks. The principles contain the key elements that the PRA considers necessary in an effective MRM framework and would be relevant for all regulated UK-incorporated banks, building societies and PRA-designated investment firms. The PRA proposes five core principles to be adopted by banks, across (i) model identification and model risk classification, (ii) governance, (iii) model development, implementation and use, (iv) independent model validation and (v) model risk mitigants. More details here.

The PRA has written to firms setting out the expected timetable for submitting new market risk internal model approach (IMA) applications under the Fundamental Review of the Trading Book (FRTB). Current IMA firms will automatically move to the new standardised approach (SA) when the new rules are implemented on 1 January 2025 unless they have been granted a new IMA permission under FRTB. Firms are expected to submit final pre-application materials at least 12 months in advance of implementation. Firms submitting after this date should expect to use the SA at least for an initial period, pending model review which could take significantly longer than 12 months. As the deadline approaches, the PRA will use firms' existing quarterly FRTB implementation meetings for in-depth reviews on:

• Q4 2022: Default Risk Charge (DRC)
• Q4 2022: Risk factor eligibility test (RFET)
• Q1 2023: Non-modellable risk factors (NMRF)
• Q2 2023: P&L attribution test (PLAT) and back testing — Q3 2023

The PRA's review of the use of the Standardised Initial Margin Methodology (SIMM) model by firms in scope of the Mandatory Margining Rules for non-centrally cleared derivatives primarily highlighted issues around SIMM model governance and firms' ability to identify and remediate model underperformance on a timely basis. The PRA found that the existing governance process, in which firms rely primarily on ISDA for updating SIMM or negotiating add-ons for model underperformance, might result, for some counterparties, in margin levels not being adequate to cover for risks at the 99% confidence level as required by regulations. In addition, in September 2022, a large number of smaller counterparties (including many hedge funds) will come into scope of the rules and may have portfolios with risk profiles materially different from those to which SIMM has predominantly been applied in the past (i.e. large broker-dealers and banks). It will therefore be even more critical that SIMM model governance enables firms to promptly identify and remediate model underperformance. Firms are expected to undertake a self-assessment of their implementation of mandatory margining requirements and provide a corrective action plan for any gaps identified, by December 2022.

A PRA statement confirms the regulator's view that recent movements in risk free rates meet the threshold for a material change in risk profile as set out in SS6/16 (Supervisory Statement (SS) 6/16 `Maintenance of the transitional measure on technical provisions' under Solvency II' ). As such the PRA will accept applications from firms to recalculate the Transitional Measure on Technical Provisions (TMTP) as at 30 June 2022.

The PRA has proposed amendments to its approach to identifying other systemically important institutions (O-SIIs) intended to reduce the cost burden of identifying O-SIIs for the PRA and firms and enhance proportionality for firms. The amendments, to apply from 1 December 2022, would:

• Remove the EBA's scoring methodology from the O-SII identification process, and delete the EBA Guidelines, so that O-SII indentification is based soley on the PRA's scoring methodology
• Update specific indicators and weights in the PRA's scoring methodology for O-SII identification

The PRA is consulting until October on proposed changes to its approach to authorising and supervising Insurance Special Purpose Vehicles (ISPVs).

And finally, the BoE/PRA have published an Index of Prudential and Resolution Policies, divided by sectors and topics, as part of their commitment to make policies more accessible to users.

USD LIBOR is discontinuing in June 2023. To prepare for this the BoE is consulting on modifying the scope of contracts which are subject to the UK EMIR derivatives clearing obligation, by adding Overnight Index Swaps (OIS) that reference the Secured Overnight Financing Rate (SOFR) and, subsequently, removing contracts referencing USD LIBOR. The FCA is requesting information on market participants' exposure to USD LIBOR. It is also consulting on winding down 'synthetic' sterling LIBOR. Specifically, whether the 1- and 6-month GBP LIBOR settings can cease in an orderly fashion at end-March 2023 (instead of end-December 2022 as previously announced) and when it will be possible for the 3-month GBP LIBOR setting to cease in an orderly fashion.

The BoE confirmed its approach (under on-shored EMIR) to 'tiering' non-UK central counterparties (incoming CCPs') based on the level of risk they could pose to UK financial stability. Under UK EMIR, Tier 1 CCPs will not be subject to direct UK supervision and regulation, whereas Tier 2 will be subject to direct UK supervision and regulation. The assessment process will involve several steps including calculations on the amount of margin held by UK clearing members and an 'informed reliance assessment' to determine if the BoE is able to place reliance on the incoming CCP's home authority's regulation and supervision.

However, for Tier 2 CCPs there may be specific regulatory provisions for which they can be granted `comparable compliance', and the UK can defer its supervision in these areas to the CCPs' relevant home authorities, as outlined in the BoE Statement of Policy on comparable compliance.

The PRA and FCA are jointly consulting on updating the margin requirements for non-centrally cleared derivatives. They are proposing to:

• Update the list of instruments eligible to be used as collateral for meeting the margin requirements, including EEA UCITS
• Introduce a fall-back transitional provision for firms that would otherwise come into immediate scope of the requirements
• Update the scope of application of the margin requirements to CCPs

Following its consultation in May, the FCA published a policy statement regarding the creation of side pockets in authorised funds following the Russian invasion of Ukraine. The final rules were largely in line with the proposals in the consultation with a small number of exceptions. These included broadening the definition of the term “sanctioned investment”, enhanced risk warnings for investors, and additional rules and guidance on voting rights for side pockets and carrying out the assessment of value. The new rules and guidance came into force on 11 July. 

The FCA also updated its webpage to clarify the disclosure requirements for overseas funds marketing to UK retail investors. For EEA UCITS recognised under the Temporary Marketing Permissions Regime (TMPR) or via section 272 of FSMA, the FCA confirmed the exemption from the requirement to produce a PRIIPs Key Information Document (KID) lasts until 31 December 2026. EEA UCITS must therefore continue to produce a UCITS Key Investor Information Document (KIID) if marketing to retail investors in the UK (resulting in different disclosure requirements in the UK and the EU). Looking ahead, the FCA is engaging with HMT regarding the disclosure requirements that would apply under the planned Overseas Funds Regime when the TMPR ends on 31 December 2025 (in the event of an equivalence decision).

In addition, the FCA just launched (PDF 1.07 MB) a consultation regarding broadening retail access to Long Term Asset Funds (LTAFs). The consultation follows on from the FCA's policy statement (PS) that brought the LTAF regime into force in November 2021. The proposed changes would make LTAFs available to more categories of retail investors, treat LTAFs as “Restricted Mass Market Investments”, increase the exposure that other authorised funds can have to LTAFs, align some LTAF rules with existing investor protection rules, and remove certain investment limits for unit-linked funds. Under the changes, restricted retail investors would have to undertake an appropriateness assessment and would be able to invest up to 10% of their total portfolio into LTAFs and other restricted products. After the consultation closes on 10 October, the FCA plans to publish a policy statement and final rules in early 2023.

The Payment Systems Regulator (PSR) has continued its work acting on the findings of the Card Acquiring Market Review (CAMR), publishing consultations on the Terms of Reference (ToR) for two market reviews and another on proposed remedies to some findings of the CAMR.

The market reviews both focus on Mastercard and Visa (who account for 99% of UK debit and credit card payments), and will cover (1) card scheme and processing fees, (2) cross border interchange fees (IFs). With the reviews, the PSR is seeking to understand the rationale behind increases in IFs and scheme fees, and whether they are an indication the market is not working well.

The PSR also published a consultation on proposed remedies to the issues identified by the CAMR. They follow the PSR's earlier remedies consultation. The newly proposed remedies are (1) Summary boxes containing bespoke key price and non-price information, (2) Trigger messages to prompt merchants to shop around and/or switch to be sent, (3) A maximum duration of 18 months for Point of Sale (POS) terminal lease and rental contracts, and maximum 30 days' notice after any renewal.

The PSR intend to implement these remedies through specific directions, drafts of which are included in the consultation. These directions are intended to apply to the 14 most significant providers of card-acquiring services to the merchants so will have a material impact on the market.

HMT has published a consultation and call for evidence on the government's approach to reforms to the payments regulatory landscape, including the systemic payments perimeter of the BoE. It also sets out how the payments regulatory framework fits with the outcomes of the Future Regulatory Framework review and seeks views on exploring the scope of application of a SM&CR.

The FCA published a statement concerning its guidance on the fair treatment of customers in vulnerable circumstances highlighting, one year on from its introduction, the positive examples of firms supporting better customer outcomes but also areas where improvements are still required. In particular, the FCA cites its recent work with retail banks where it found inconsistent practice and identified areas for improvement and additional focus from firms. However, the FCA makes it clear that these findings are applicable to all firms.

The FCA has recently published a number of letters outlining its view of risks and its expectations of firms. The FCA expect firms in receipt of any of these letters to consider the areas identified and where necessary act upon them. Details of these letters are set out below.

The FCA published a Dear Chair letter outlining action firms need to take to ensure fair treatment of small and medium size enterprise (SME) customers when collecting and recovering debts, which it stresses is especially important due to the impact of the rising cost of living. The letter is a result of its multi-firm work with retail banks who provide SME lending services, which showed repeated instances of poor customer outcomes and failures to treat customers fairly. The FCA want all regulated firms offering lending to individuals and relevant recipients of credit (“RRCs”) to consider and act upon them.

The FCA also issued a Dear CEO letter setting out its expectations of the standards credit lenders should meet to support borrowers in financial difficulty or in vulnerable circumstances. The letter is in response to emerging findings from the FCA's review of outcomes for borrowers in financial difficulty, and rising concerns about the impact of the rising cost of living creating (1) a higher demand for credit despite higher interest rates and lower disposable income which may make borrowing less affordable (2) a wider group of customers in vulnerable circumstances.

The FCA has also written to two portfolios of lenders outlining its concern about the impact of the rising cost of living on the numbers of customers in vulnerable circumstances, and its view of the key risks these firms pose to their customers, The letters set out its expectations of the standards lenders should meet in response to these risks, many of which are sector specific although common to both is the concern around responsible lending:

• Portfolio letter: Mainstream Consumer Credit Lenders  
• Portfolio letter: FCA supervisory strategy for Lifetime Mortgage Providers

In addition, the FCA has written Portfolio letters to Debt Advice firms, Personal & Commercial Lines Insurance Intermediaries and Lloyd's and London Market Insurance Intermediaries (& Managing General Agents). For Debt Advice firms, the FCA is concerned about the risk of harm posed by insufficient sector capacity, poor quality advice, poor customer outcomes and insufficient financial resources. Whilst for insurance intermediaries, the key risk of harm identified are governance and oversight, pricing practices and value for money, product governance, and Client Assets/orderly wind down. Finally, for Lloyd's and London Markets the FCA cited harms relating to product suitability and price transparency, uncertainty of insurance cover, culture and resilience — both financial and operational. 

The Government announced plans to reform the Consumer Credit Act to modernise it to cut costs for businesses and simplify rules for consumers. A consultation on the direction of reform is expected to be published by the end of the year.

The FCA published a consultation on updates to its guidance on Branch and ATM closures or conversions in response to the failure of the existing guidance (in effect since Sept 2020) to slow the pace of branch closures  The proposals will require firms to assess the impact of changes to their service e.g before closing a branch's counter service or reduce opening hours. As part of the changes the FCA has widened the scope to include partial closures.

Lastly, the FCA has just finalised changes to strengthen its financial promotion rules for high risk investments and firms approving financial promotions. The FCA’s policy statement (PDF 1.86 MB) follows its January 2022 consultation paper (PDF 2.11 MB) that had proposed changes to its classification of high risk investments, the consumer “journey”, and to strengthen the role of firms in approving and communicating financial promotions. Based on feedback received, the FCA has made changes to several of its proposals. For example, clarifying that marketing restrictions do not apply to investments issued by local authorities, clarifying checks around client categorisation, and shortening its proposed risk warning. The rules relating to risk warnings for financial promotions of high risk investments will have effect from 1 December 2022. All other rules will have effect from 1 February 2023. The FCA notes it still considers cryptoassets to be high risk and will publish final rules for cryptoasset promotions once the relevant legislation has been made.

The Pensions Regulator (TPR) has laid its new code of practice for the authorisation and supervision of collective defined contribution (CDC) pension schemes before Parliament. This key step will enable the code to complete its legislative passage in time for trustees to apply from 1 August for authorisation to operate a CDC scheme. The code sets out how trustees can apply for authorisation and how TPR will assess schemes against the statutory authorisation criteria at the initial application stage and throughout ongoing supervision. CDC schemes will initially be limited to those set up by single employers, or two or more connected employers.

The Government published two post-implementation reviews and a forward-looking review of the UK's anti-money laundering (AML) and countering the financing of terrorism (CFT) regime. Taken together, these three documents provide a thorough evaluation of the role of the regulations in the UK's AML regime and set out the next steps to improve their effectiveness.

HMT also published a response to its consultation on Amendments to the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 Statutory Instrument 2022. HMT will make amendments to ensure that the UK continues meeting international standards set by the Financial Action Task Force — including its Travel Rule for cryptoassets.

The KPMG Financial Services Regulatory Insight Centre monitors and tracks the evolving regulatory landscape. If you would like to discuss any of the topics covered in more detail, please contact a member of the team below: