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Last year, the FCA conducted a multi-firm review into how principal firms in the investment management sector oversee their appointed representatives. The regulator found that most principal firms had weak governance and risk management frameworks in place.
The FCA clearly has significant concerns with umbrella firms that provide regulatory hosting solutions or act as incubators to new fund managers, with ‘host AIFMs’ singled out for particular scrutiny in the FCA’s findings.
If you are a principal firm you need to be able to demonstrate proper oversight of your appointed representatives to avoid unwelcome scrutiny.
What do principal firms need to do to have adequate oversight of appointed representatives?
Given that principal firms are fully accountable for the conduct of their appointed representatives, inadequate oversight by principals is an enormous compliance risk.
The FCA set out its expectations of principal firms in the investment management sector in a Dear CEO letter to principal firms following its review. The key points are set out below.
Before appointing an AR, principal firms should be able to demonstrate that they have considered the risks associated with the activities undertaken by prospective ARs, and whether they have the necessary resources and expertise to oversee them effectively. The solvency of the AR and the fitness and propriety of its owners and senior managers must also be considered.
Principal firms should establish a tailored risk-based monitoring programme for each of their ARs and ensure that they have adequate resources to put these programmes into practice. The FCA’s review found that many firms had not put in place sufficient oversight arrangements. In particular, the FCA was unimpressed with standardised and formulaic questionnaires and controls based around attestations.
As part of its multi-firm review, the FCA sent a questionnaire to principal firms that made clear that principals should consider the risks posed by their ARs as part of their ICAAP and, if necessary, hold more capital against certain identifiable risks arising through the business of their ARs. 90% of the ICAAPs reviewed by the FCA were “not fit for purpose” and many firms had not considered liquidity risk at all.
Sufficient non-financial resources were also an important theme of the FCA’s findings. Many principal firms did not have appropriately skilled and experienced staff overseeing their ARs.
How can Bovill help?
We work with a number of principal firms to ensure that they are not exposed to excessive risk as a result of the conduct of their appointed representatives. Services we offer include:
- AR due diligence – Before you take on an AR, we can assess the risks that its business poses, the fitness and propriety of its senior directors and the level of ongoing oversight that is likely to be required.
- Compliance monitoring – We can undertake regular compliance monitoring of your ARs on your behalf or work with you and your ARs to prepare a risk-based monitoring and oversight programme
- AR control framework review – As well as looking at your ARs, we can review your own firm’s due diligence and oversight framework for your ARs to determine whether it meets the FCA’s standards and recommend improvements.
- ICAAP review – Our specialist prudential team can review your ICAAP to ensure that all of the risks that arise as a result of your AR relationships are captured. We can also advise on whether you should be holding any additional capital.