FCA follows up capital markets thematic
23 October 2019
The FCA’s scrutiny of money laundering in capital markets is showing no sign of letting up. A number of firms have reported receiving questionnaires from the regulator this month. The questionnaire, which focuses on market abuse, include considerations of some of the issues raised by the thematic.
The thematic review on money laundering in capital markets, which was published in June, came hot on the heels of the Dear CEO letter to wholesale markets. The report contains some useful examples of potential risks and outlines areas to prioritise. While the regulator is taking such close interest in the sector it makes sense to look at your money laundering controls sooner rather than later.
As part of the thematic review, the FCA visited a variety of firms including investment banks, recognised investment exchanges, inter-dealer brokers, trade bodies, clearing and settlement houses, trading firms and a custodian bank, focusing primarily on the secondary markets.
The FCA noted that firms were generally in their infancy in understanding money laundering risks and should enhance their understanding of potential exposures. Most of the participants had used the 2017 Deutsche Bank Final Notice to inform and drive their risk assessments.
While the regulator noted that some of the products and markets may be less attractive to money launderers due to entry barriers, complexity of products and levels of scrutiny, there are several areas capital markets firms should consider:
- Insufficient Customer Due Diligence (CDD) – the participants advised the FCA that an assessment of the customer’s intended trading strategy and business model is key in forming their understanding of the business. Adequate CDD is key in capital markets as it forms a basis in determining whether the customer’s trading activity may be suspicious.
What you should do: Assess the quality of CDD you currently hold, focussing on anticipated activity – such as trading strategies at onboarding – versus actual activity throughout the relationship.
- Inadequate AML firmwide risk assessments – some firms had not ensured that their financial crime risk assessment took into account the risks and red flags specific to capital markets. In 2018 FATF published guidance on money laundering risks in the securities sectors that included examples of such red flags.
What you should do: Review existing AML risk assessments to ensure capital market-specific red flags and scenarios from the thematic report are adequately considered.
- Lack of visibility of underlying customers – most participa nts had limited visibility of their customers’ customers or the ultimate beneficial owner of traded assets. While there is no requirement under the Money Laundering Regulations 2017 to know your customer’s customer, the FCA observed issues with over reliance on other firms in the transactional chain to perform checks as well as oversight of delegated access from firms with Direct Electronic Access (DEA).
What you should do: Make sure due diligence checks and beneficial ownership procedures capture adequate information on the relationships. Ensure KYC is revisited periodically as well as after trigger events such as submitting suspicious activity reports.
- Limited Suspicious Activity Reporting (SARs) – participants’ focus was generally the reporting of market abuse with limited reporting on money laundering. This was primarily due to lack of understanding that market abuse can also constitute suspicion of money laundering and may require dual reporting to both the FCA as a STOR and to the NCA as a SAR. Insufficient knowledge, together with lack of capability in identifying suspicions of money laundering in the capital markets, were also key factors in the limited SARs submitted to the NCA.
What you should do: Make sure robust training is in place to help employees identify suspicious activity. Policies and procedures should include guidelines on how staff escalate their suspicions.
- Enhanced Due Diligence (EDD) and source of assets – participants carried out EDD where higher risk situations were identified. The FCA observed good examples of source of wealth and fund verification together with supplementary adverse media checks. The movement of assets (free of payment) between different accounts before being sold, was identified as a higher risk scenario, indicating that EDD should be performed.
What you should do: Ensure due diligence procedures include red flags and step-by-step guidance relating to the movement of assets and appropriate levels of EDD required.
- Accountability and ownership of money laundering risk – front line must increase their ownership and accountability of money laundering risks rather than relying on second line compliance functions as risk and control owners.
What you should do: Ensure risk management frameworks identify risks, controls and accountability across first (front office), second (compliance) and third (audit) lines of defence.
- Risk-based training – participants must provide role specific training to staff, to help them recognise money laundering risks relating to capital markets.
What you should do: Provide tailored and risk-based training to staff, enhancing understanding and ability to identify money laundering risks in capital markets.
- Transaction monitoring – the FCA identified most firms had off-the-shelf and/or well-developed market abuse monitoring solutions. But few had considered how to leverage them for money laundering scenarios monitoring areas such as ‘free of payment’ asset transfers or long-term position reversals.
What you should do: Make sure manual and automated transaction monitoring arrangements assess both market abuse and money laundering scenarios.
The thematic review concludes by providing a list of typologies. These are illustrated with examples to help firms identify potential vulnerabilities and the red flags to look for.
If your firm operates in any part of the capital markets, you’d be well advised to review how you manage money laundering risk against these eight points. The findings from the FCA’s thematic review should work as a basis on which to protect your firm from both financial crime and regulatory scrutiny.
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