IMC Unit 1 - Chapter 3

What are EU Directives

Issued under Article 58 of the European Treaty to HARMONISE LAWS across member states

How may EU directives be implemented

Primary legislation (new law)

Delegated legislation (amending existing law)

What if the directives aren’t implemented by the due date

Have ‘VERTICAL DIRECT EFFECT’, i.e. given precedence over national law

What are EU Regulations

Most direct form of EU law

IMMEDIATELY BINDING in all EU member state

What does a MiFID passport allow

Allows firms operate throughout the European Economic Area with a single authorisation (‘SINGLE PASSPORT’)

How may be MIFID passports be obtained

• Obtained from HOME state regulator

• HOST state conduct of business rules apply

What were the key changes to MIFID in 2018

Introduced OTFs

Strengthened transparency requirements

Position Limits in Commodity Derivatives

High-Frequency Trading (HFT) Regulation

Increased information on products and services

What does MifiD II distinguish between

• Investment services and activities; and

• Ancillary services

What are the core investment services and activities under MifiD II (Require authorisiation)

• Reception and transmissions of orders

• Execution of orders for clients

• Dealing ‘own account’

• Managing investments/portfolios

• Investment advice

• Underwriting

• Placing

• Operating an MTF

• Operating an OTF

What are ancillary services

These are services that support or are closely related to the main investment services and activities

cannot be authorised solely to provide ancillary services,

Mifid Ancillary services

• Safekeeping and administration of investments

• Granting credit (margin)

• Advice on capital structure and M&A

• FX services

• Investment research

• Investment and ancillary services relating derivative

underlying assets

What instruments are covered under MifiD II

Financial instruments:

• Transferable securities

• Money-market instruments

• Units in collective investment undertakings

• Derivative contracts relating to:

• Securities; currencies; interest rates or yields; emission allowances, financial indices

and commodities (physical or cash settled)

• Derivative instruments for the transfer of credit risk

• Financial contracts for differences

• Derivative contracts relating to:

• Climate, freight or inflation; or

• Other official economic statistics

Does Markets in Financial Instruments Regulation (MiFIR) need to be implemented into national law

No

What is MiFIR

Sets out reporting requirements fore disclosure of trade data to the authorities

Extending MiFID’s scope to cover more asset classes

What is the UCITS Directive

Creates a ‘single market’ for collective investment schemes in the EU

A collective investment scheme authorised in any member state of the EU can be marketed (WITHOUT further authorisation) in any other member state

Local tax and marketing laws apply

What did the UCITS III management directive do

Increased scope of passported activities under UCITS

Introduced the simplified prospectus

What did the UCITS III product directive do

Expanded permitted financial instruments for UCITS funds

What did the UCITS IV do

Introuduced Management Company Passport

Created procedures for Cross-border fund mergers

Key Investor Information Document (KIID) replaces simplified prospectus

What did the UCITS V do

Enhances rules on the responsibilities of depositories

What does AIFMD cover

Covers the management, administration and marketing of alternative investment funds (AIFs)

What does AIFMD focus on

The regulation of AIF managers (AIFMs) rather than AIFs themselves

AIFM need to seek authorisation from home regulator if AUM is above

100m if AIF uses leverage

500m if no leverage

What does AIFMD say about Brokers

Brokers selected by AIFMs should be regulated, financially sound and have necessary organisational structure to provide services

How often do AIFM regulatory report to the home state regulator

Quarterly

Semi-Annual

Annual

What does European Market Infrastructure Regulation (EMIR) do

Requires OTC derivatives trades to be reported and risk managed

What are EMIRs 3 requirements for OTC trades

Standardised trade reporting

Compulsory central counterparty (CCP) clearing

Risk management procedures

What is Foreign Account Tax Compliance Act (FATCA)?

A US law to prevent tax evasion of US citizens using offshore banking facilities

How does FATCA mean for non-US financial institutions

• All foreign financial institutions (FFIs) required to provide information about their US customers (reportable accounts)

What does failure to comply with FATCA result in

A 30% withholding tax on payments of US source income to non-US financial institutions

What is the Financial Policy Committee (FPC)

Committee of the Bank of England

Monitors the stability of financial system

Powers of direction over the FCA and PRA

What is the Financial Conduct Authority (FCA)

Overseen by the Treasury

Regulates of banks, insurers and investment firm

What is the Prudential Regulatory Authority (PRA)

Legal entity within the Bank of England

Promotes the safety and soundness of the firms it regulates

PRUDENTIAL regulation of banks, insurers and large investment firms

What does prudential regulation mean

Making sure financial firms — especially banks, insurers, and large investment firms — are financially safe and stable.

What is FSMA

“No person may carry on a REGULATED ACTIVITY in the UK, unless he is either AUTHORISED or EXEMPT”

What are the two types of FSMA authorisation (Financial Services and Markets Act 2000)

FSMA Part 4A permission

Person authorised in another EEA member state (under MiFID)

What are Criminal offences under FSMA

Unauthorised investment business

What are Criminal offences under FSA (Section 91)

Misleading a market or investors by making false or misleading

statements

What does the Regulated Activities Order define

Specifies which financial activities require regulation and authorisation by the FCA or PRA.

What are the specified investments under the Regulated Activities Order

All investment instruments and rights to those investments instruments, excluding physical assets

What are the regulated activities under the Regulated Activities Order (6)

Accepting deposits

Arranging a mortgage or other home finance transaction

Dealing, managing arranging, advising investments

Effecting or carrying out contracts of insurance as principal

Issuing electronic money

Operating MTF's and OTF's

What is an exempt person

Certain people or organisations that are not required to be directly authorised by the FCA to carry out some regulated activities

What are the exempt persons

Appointed representatives

Recognised investment exchanges (RIEs) and clearing houses (RCHs)

Members of the professions: member of a designated professional body (DPB) carrying on incidental investment business

Members of Lloyds

what is the payment systems regulator (PSR)

A new economic regulator for the payments system in the UK

Who chooses the payment systems under PSR

HM Treasury

What are the payment systems under PSR

BACS

• C&C (Cheque and Credit)

• CHAPS

• Faster Payment Services (FPS)

• LINK

• MasterCard

• Visa Europe

What does the Competition and Markets Authority (CMA) and the Department for Business, Energy and Industrial Strategy (BEIS)

Acts as an independent competition authority in the UK

Under the Digital markets, Competition and Consumers Bill when must the CMA investigate

• Target company turnover: £100m or more

• Merged company’s market control: >25% of UK market (called ‘share of supply test’)

• New acquirer test:

  • Acquirer already has ≥33% market share in UK (or big UK part)

  • AND has £350m UK turnover

  • Note: This test does NOT need an increase in market share after merger

• Competition safeguard:

  • If merger substantially lessens competition, the CMA can:

    • Block the merger OR

    • Impose remedies if merger already done

What about in exceptional cases

Where there are public interest issues - The Secretary of State for the BEIS will intervene and take decisions in place of the CMA

What does the takeover panel do

Operates and enforces the Takeover Code

Partially funded by the PTM levy

Referee of the FAIR CONDUCT OF TAKEOVER BIDS

What is fair conduct under the takeover panel

• Compulsory bid

• Offer must remain for at least 21 DAYS

• If a predator’s stake reaches 90% or more, the predator may force the remaining minority shareholders to sell

What is a compulsory bide under the takeover panel

• 30% or more of the voting rights

• Cash offer to all shareholders at the HIGHEST PRICE PAID IN THE PREVIOUS YEAR

Who oversees GDPR

The Information Commissioner’s Office (ICO)

What does GDPR require Data Controllers to do

Register with the ICO, and handle data In accordance with the following six principles:

What are the six principles

• Processed lawfully and fairly

• Collected for specified, explicit and legitimate purposes

• Adequate, relevant and limited to what is necessary in relation to the purposes for which it is processed

• Accurate and, where necessary, kept up-to-date

• Kept for no longer than it is necessary for the purposes for which the personal data is processed

• Processed in a manner that ensures appropriate security of the personal data, including protection against unauthorised or unlawful processing and against accidental loss, destruction or damage

What are the fines for breaches of GDPR

Greater of €20m or 4% of global turnover

Breaches must be notified to the ICO within 72 hours

What does the pensions regulator do

Regulates defined benefit occupational pension schemes

Increased the ability of pension trustees to act independently from employer

what must trustees do (pensions regulator)

Appoint their own actuary, auditor and financial advisers

Produce a statement of investment principles (SIP), reviewed every three years

What did the pensions act 2004 create (3)

• New regulatory body (the Pensions Regulator)

• New Pension Protection Fund (PPF)

• Scheme specific funding requirement

What is the pensions schemes act 2021

• Enhanced enforcement powers for the Pensions Regulator largely affecting DB schemes

• Civil penalties of up to £1 million

• Obligations to notify certain corporate activity to the Regulator and

trustees.

• Additional DB scheme funding requirements

• Changes to transfer rights

• New climate change risk governance requirements

• Legislative framework for collective money purchase pension schemes

How can the pensions regulator force compliance with climate change requirements

Fines of up to:

• £5,000 for an individual trustee

• £50,000 for a corporate trustee.

What is the strategic objective of the FCA

Ensuring relevant markets function well

What is the operational objective of the FCA

• Secure Consumer PROTECTION

• Promote effective COMPETITION

• Protect/enhance the INTEGRITY of the UK financial system

What is included in the FCA Handbook

Block 1 - High level standards

Block 2 - Prudential requirements (NOT relevant to IMC syllabus)

Block 3 - Business standards

Block 4 - Regulatory process

Block 5 - Redress

Block 6 - Specialist sourcebooks (e.g. COLL)

Block 7 - Listing, prospectus and disclosure rule

What are the principles for businesses

1. Integrity

2. Skill, care and diligence

3. Management and control

4. Financial prudence

5. Market conduct

6. Customers’ interests

7. Communications with clients

8. Conflicts of interest

9. Customers: relationships of trust

10. Clients’ assets

11. Relations with regulators

What does a breach in the principles for business result in

• Does not in itself give rise to discipline; but

• Will be taken into account for the purposes of discipline and

intervention

What is being implemented instead of principles 6 and 7

Consumer Duty - A firm must act to deliver good outcomes for retail

customers

Consider consumer’s characteristics and objectives

Provide evidence whether outcomes are being met in terms of:

• Products and services

• Price and value

• Consumer understanding

• Consumer support

What does SYSC stand for?

Senior Management Arrangements, Systems and Controls

What is the SYSC purpose

Encourage directors and senior managers to take appropriate, practical responsibility for their firm’s arrangements

• Amplify Principle 3 (Management and Control)

• Create a common platform of organisational systems and controls

What do firms in the UK apply to the FCA for

FSMA part 4A permission

What do applicants for FSMA part 4A permission need to satisfy

• Legal status

• Registered office

• Effective supervision

• Appropriate resources

• Suitability

• Business model of the firm

• Business to be conducted in a prudent manner

• Appointment of claims representative (insurance companies only)

What does the Senior Managers and Certification Regime 2016 change

• Focuses accountability on a narrower number of senior individuals

• Certification by firms of the fitness and propriety of certain individuals

• Conduct rules replacing the statements of principle and approved person code

What are the main types of responsibility under senior managers regime

1. Senior management functions (SMFs)

• Effectively replacing significant influence functions

• Pre-approved by regulators, assessed as fit and proper by the firm

and subject to the conduct rules

2. Prescribed responsibilities (PRs)

• Functions that would formally have been significant influence

functions that do not fall within the scope of the new SMFs; and

• Individuals in customer facing roles subject to qualification

requirements; and

• Anyone who supervises or manages the above

• Certified as fit and proper by the firm and subject to the conduct

rules

3. Key functions: important functions other than SMFs and PRs

• Other staff (except ancillary staff, e.g. security, catering, cleaning)

• Subject to the conduct rules

What are the individual conduct rules for relevant employees

1. You must act with integrity

2. You must act with due care, skill and diligence

3. You must be open and co-operative with the FCA, the PRA and othernregulators

4. You must pay due regard to the interests of customers and treat them fairly

5. You must observe proper standards of market conduct.

6. You must act to deliver good outcomes for retail customers’ where the activities of the firm fall within the scope of the consumer duty

What are the Senior Management Conduct Rules

Take reasonable steps to:

1. Ensure that the business of your firm is controlled effectively

2. Ensure that the business of your firm complies with the relevant requirements and standards of the regulatory system

3. Ensure that any delegation of your responsibilities is to an appropriate person and overseen effectively

4. You must disclose appropriately any information of which the FCA or PRA would reasonably expect notice

What are professionalism requirement for retail advisers

Since the retail distribution review (RDR), retail advisers have had to:

• Subscribe to a code of ethics

• Hold an appropriate qualification

• Carry out at least 35 hours of CPD a year

• Hold a statement of professional standing (SPS) from an accredited body

What are the recognised investment exchanges by the FCA

• London Stock Exchange (LSE)

• Aquis Stock Exchange (AQSE)

• London Metal Exchange (LME)

• ICE Futures Europe

What are the recognised clearing houses by the FCA

• ICE Clear Europe

• LME Clear

• LCH.Clearnet

• CME Clearing Europe

What is ICE Futures Europe

A Recognised investment exchange (RIE)

with an Electronic order matching system

Market participants

• Traders

• Brokers

How is the regulation of derivatives exchange in the UK

RIE status granted to exchanges by the FCA

Detailed trading rules governed by the exchange

How is the regulation of derivatives exchange in the US

• Regulation of exchange traded derivatives

• Split between the Securities and Exchange Commission (SEC) and the Commodities Futures Trading Commission (CFTC)

• Regulation of OTC derivatives

• Dodd-Frank

Clearing and settlement on UK derivatives markets (ICE Clear Europe)

• Central counterparty (CCP) to derivatives trades

• No involvement with member/client relationship (separate ‘back-to-back’ contract

Clearing and settlement on UK derivatives markets (Margin)

• Initial margin

• ‘Goodwill deposit’

• Ensures an exchange member can satisfy the conditions of the contract

• Variation margin

• Daily payment of gains/demanding of losses

What was the impact of MiFID and EMIR

 MiFID

• Brought commodity derivatives into the list of regulated investments

 EMIR

• Clearing of OTC derivatives largely moved to central counterparties

What is a ‘per se’ professional client

Entities that require authorisation/regulation to operate in the financial markets

• National governments, central banks, supranational organisations

What 3 conditions must MiFID business ‘large undertakings’ meet

• €20m balance sheet total

• €40m turnover

• €2m own funds

What conditions must Non-MiFID business ‘large undertakings’ meet

Called up share capital or net assets at least £5m OR

• Two of the following three:

• €12.5m balance sheet total

• €25m turnover

• 250 average number of employees

What is the qualitative test for a ‘Elective’ professional client

assess expertise, experience and knowledge. Gain

assurance that the client is capable of making his own investment

decisions and understanding the risks involved

What is the quantitative test for a ‘Elective’ professional client

• At least 10 transactions per quarter on the relevant market, over the last four quarters

• Client’s portfolio exceeds €500,000

• At least one year’s professional work in the financial sector

What are the additional conditions an ‘Elective’ professional client must meet

• Client must agree in writing

• Firm must give written warnings of protections lost

• Client must state (separately) in writing that they are aware of the consequences

What is a ‘Per se’ eligible counterparty (ECP)

• Entities that require authorisation/regulation

• National governments, central banks, supranational organisations

• ONLY in relation to ‘eligible counterparty business’

• Execution of orders on behalf of client

• Dealing on own account

• Reception and transmission of orders

• (NOT advice or fund management)

What is an Elective’ eligible counterparty

A firm may treat an undertaking as an elective eligible counterparty if the client:

• Is a per se professional client

• Is an elective professional client and requests the categorisation

How can clients gain higher levels of protection

• Following a client request or written agreement:

• A per se eligible counterparty may ‘opt down’ to professional client or retail client status

• A per se professional client may ‘opt down’ to retail client status

What are the rules for client agreements

BEFORE entering into an agreement, or providing any services, relating to designated investment business with a RETAIL CLIENT and MiFID business with regard to a PROFESSIONAL CLIENT, a firm must provide that client with:

• Terms and conditions

• Information about the firm and its services

 (May be provided AFTER the client is bound if the agreement is via a distance communication)

What are the rules for Record keeping

• The LONGER OF five years, or duration of the relationship

• (Indefinitely for pension transfer, opt-out or FSAVC)

What is the FSMA Section 21 restriction

• It is ILLEGAL to communicate an invitation or inducement to engage in investment activity (a ‘financial promotion’) unless:

• It is issued by an authorised person; or

• The content is approved by an authorised person

How can a firm achieve compliance with FSMA Section 21

• Make it clear if capital is at risk

• For quoted yields, give a balanced impression of both the short- and long-term prospects

• For complex charging structures, include sufficient information

taking into account the needs of the recipients

• Names the FCA as its regulator

• For packaged products or stakeholder products not produced by the firm, give a fair, clear and not misleading impression of the producer or manager of the underlying investments

What are the rules for communication with Retail Clients

• Includes the NAME OF THE FIRM

• Does not emphasise benefits without giving an indication of risks

• Is likely to be understood by the average member of the group it is

directed at

• Does not disguise, diminish or obscure important statements or

warnings

What are the rules for communication with Retail Clients (Comparisons)

must be meaningful and balanced, and the

source of information must be included

What are the rules for communication with Retail Clients (Tax Treatments)

that the treatment depends on individual

circumstances must be prominently displayed

What are the rules for communication with Retail Clients (Past Performance)

• Include at least the immediately proceeding 5 yrs (or the whole period if product life less)

• Prominent warning that past performance is not a reliable indicator of future performance