Is conduct risk the ABC of regulation?

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Is conduct risk the ABC of regulation?

Mifid II is one of the most important and all-encompassing pieces of change that financial service companies have had to digest for some time.

However, it is equally important that firms do not forgot the rest of the cacophony of alphabet directives from the FCA: 

TCF; VfM; SYSC; FSF; FAMR, SMR, etc ...

All of them can be encompassed into a well thought out conduct risk implementation plan. The advantage of a conduct risk framework allows a business to be better joined up as links and trends can be seen working towards common goals and objectives.

By following a conduct risk framework good customer outcomes can be achieved while complying with the regulatory understanding to manage the business. The aim is about doing the right thing for customers by looking to reduce any client detriment, being open and transparent.

The idea is to create a culture of openness that facilitates the surfacing of bad news from the bottom up in an expedited manner. Matthew Priestley

It is no longer enough to talk about what governance structures firms have and show a nice slide deck, but to be able to show the FCA, in practice, how a process works and to focus more on the outcomes – the protection that clients receive.

Hence governance helps senior management to embed the various client protection rules and controls of TCF, Mifid, conduct risk, value for money, firm systematic framework and the senior managers’ regime.

The reason that outcomes are becoming more important than processes is to underpin the FCA’s delivery of its statutory consumer protection objective. The FCA expects customers’ interests to be at the heart of how firms do business.

To help with robust governance arrangements, there should be:

  • A clear organisational structure with transparent and consistent lines of responsibility.
  • Effective processes to identify, manage, monitor and report the risks a firm is exposed to.
  • Internal control mechanisms.

By following the above, firms can prove that:

  • The customer is at the core of how a firm conducts its business and
  • The firm is able to meet customers’ needs time and time again.

Conclusion

While implementing Mifid II, firms should look at how they carry-out their business and internal operations through a conduct risk framework.

Conduct risk can be viewed as any action or inaction by the firm that could lead to financial detriment or non-financial disadvantage to customers and counterparties or undermine market integrity. 

Firm systematic framework

The FSF is designed to allow the FCA to focus on key conduct risks in all types of firms. The FSF considers each conduct risk in the context of the potential harm to consumers and the impact a risk could have on the market.

The FSF assesses a firm’s business model, strategy, sales processes, post-sale, product design and governance culture to make sure that a firm is organised in such a way so as not to fail to identify customer detriment.

Senior management need to show that they are on top of what is happening across their institution. The idea is to create a culture of openness that facilitates the surfacing of bad news from the bottom up in an expedited manner.

The FCA is likely to ask firms to evidence that they have implemented a conduct risk framework to prove that fact.

From the FCA’s Firm Systematic Framework (FSF), it asks a simple question: ‘Are the interests of customers and market integrity at the heart of how the firm is run?’

Matthew Priestley is a Chartered FCSI