Financial Conduct Authority 

FCA threatens action against principal firms

FCA threatens action against principal firms

The Financial Conduct Authority has criticised principal firms for "significant shortcomings" in their dealings with appointed representatives, identifying "significant risk of harm" to consumers and the market. 

In a review of principal firms in the investment management sector published today (May 20) the regulator found most had "weak or under-developed" governance arrangements in place over their appointed representatives, including examples of "inherent" conflicts of interest. 

The City-watchdog also found principals were not assessing the risks to their business arising from the activities of their appointed representatives, with some companies not holding adequate financial resources as a result, including both liquidity and capital.  

The review focused on firms across asset management, such as alternative investment fund managers, wealth managers, contracts for difference providers, and fund advisers.

But the regulator stated the findings "may also be applicable to principals and ARs operating in other sectors of the UK financial services industry".

Principal firms are responsible for any liabilities that arise from appointed representatives, but where the FCA reviewed firms' assessments of their financial adequacy more than 90 per cent failed the 'use test' and were found to be not fit for purpose. 

Where many principals rely on professional indemnity insurance to mitigate financial risks arising from their appointed representatives, the FCA warned insurance was not a substitute for "maintaining adequate financial resources in all circumstances". 

The FCA found some principals were not following the regulator's requirements to include their appointed representatives’ revenues when submitting their fee tariff data. 

The regulator uses the tariff data to calculate annual FCA regulatory fees, meaning some principals were paying lower regulatory fees than they should have and the outstanding balance was covered by other fee payers.

The review also found most principals had not put in place appropriate controls to monitor their appointed representatives, often relying on a declaration from the latter firms themselves. 

As a result, the FCA found at one principal a number of appointed representatives were acting outside the scope of their principal’s permission. 

There are more than 1000 appointed representatives in the investment management sector for which authorised firms have accepted responsibility, with the FCA surveying 338 principals in its review - each with between one and 80 appointed representatives. 

The regulator visited 15 of these principal firms for a more detailed review. 

The FCA said it had intervened in relation to a number of principal firms in its sample, included agreeing requirements on their regulatory permissions to either remove or to stop on-boarding appointed representatives and asking principal firms to de-register their appointed representatives. 

In a "Dear CEO" letter published alongside the review this morning, Megan Butler, director of supervision - investment, wholesale and specialists division, warned principal firms they must address any shortcomings in relation to their appointed representatives, in light of the FCA's "significant concerns". 

Ms Butler said: "If, having taken these steps, you cannot demonstrate compliance with our Handbook and that the risks relating to the activities of the appointed representatives for which you are responsible are being adequately managed, you should consider ending your relationships with your appointed representatives."