Financial Conduct Authority  

What advisers can learn from the FCA's warning to principals

What advisers can learn from the FCA's warning to principals

The Financial Conduct Authority has threatened action against principal firms in the investment management sector after finding evidence of "significant shortcomings", and it warned the same could apply to advice firms.

In a report out on Monday (May 20) the regulator found a litany of issues from poor oversight of appointed representatives to miscalculated regulatory fees. 

It stated whilst its review had focused on the wealth and investment management sector its findings may also apply to principals and appointed representatives in the wider financial services industry, including the advice market. 

These are the City-watchdog's main bugbears adviser networks should look out for:

1 Capital buffer

The FCA found some companies did not hold adequate financial resources to support the risks arising from the activities of their appointed representatives, with principals miscalculating their capital and liquidity resources as a result.  

Principal firms are responsible for any liabilities arising from their appointed representative, but when the regulator reviewed companies' assessments of the adequacy of their financial resources more than 90 per cent failed the "use test" and were deemed not fit for purpose. 

The review also found many principals rely on professional indemnity insurance to mitigate risks arising from their appointed representatives. 

In its review of principals in the investment management market, the FCA warned whilst insurance formed part of an "appropriate risk mitigation" approach, it was not a substitute for maintaining "adequate financial resources in all circumstances".

The regulator pointed to a "significant" number of scenarios not being covered by PI insurance policies, due to limitations and exclusions, as threatening the assessment of a principal's financial adequacy. 

2 Regulatory fees

The review also 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 with the outstanding balance shouldered by other fee payers in the industry.

3 Generic contracts

During the on-boarding process the regulator found principals "lacked effective risk frameworks" and therefore lacked the ability to oversee prospective appointed representatives. 

The FCA stated this meant, once on-boarded, some appointed representatives could conduct activities outside their principal’s core areas of expertise and leading to inadequate oversight. 

The FCA criticised the use of generic contracts used by principal firms in the investment management sector which could lead to companies undertaking regulated activities "above and beyond" their business model. 

4 Oversight 

The FCA stated companies which accept responsibility for appointed representatives must ensure they comply with the relevant regulations, claiming most principals it assessed had not put in place "appropriate controls" to monitor the activities of those it was responsible for once onboarded.

The regulator stated in many cases monitoring was not "bespoke" to the business model of the appointed representative and the principal often relied on submissions from the former, without challenging the information or asking further questions.