Business model review: Three asks for smaller asset managers from the FCA

Do you find it challenging to understand the expectations from the regulators as a new or small asset manager in the UK? The UK regulations, which are mostly principle-based and less prescriptive than other jurisdictions, aren’t always easy to grasp. Luckily, the FCA has published its findings from its review on business models. So, what does this mean for you and what needs to be done next? 

What is the review in a nutshell?

The business model review aimed to show asset managers that are either new or small to medium-sized (AUM less than £1 billion) what sound risk management means in practice and what the FCA expects from them. The FCA summarised its findings after sending surveys to over 400 firms in the asset management sector in the last two years and further delved into certain topics with 60 of the respondents. 

What has the FCA found?

The review focused on three topics: high-risk investments, conflicts of interest, and consumer duty.

1. High-risk investments:

The FCA recognises that high-risk investments (HRIs), such as unlisted shares and bonds and unauthorised funds, may expose investors to significant harm if the risk of capital loss is not aligned with their risk tolerance. After strengthening the restrictions on financial promotions of HRIs in late 2022, the FCA has been tracking how firms comply with the latest requirements. It published a report setting out the good and bad practices since then.

In this review, the FCA found that some firms couldn’t explain the difference between restricted mass market investments (RMMI) or non-mass market risk investments (NMMI) and what it meant for the customer journey. This includes the use of cooling-off periods, appropriateness assessments and/or preliminary assessment of suitability.  It also flagged that some firms didn’t provide investors with adequate cost disclosures or proper explanations of investment returns.

Speaking of investors, categorisation was also one of the FCA’s concerns. Firms that would like to classify investors as high-net-worth, sophisticated, or restricted investors should ensure that their understanding is sufficient and that vulnerable investors are given adequate protections.

When opting up retail investors to elective professionals, some firms were found to have shortfalls in their qualitative assessments, such as the passing criteria being unclear, questions being limited, overly simplistic or merely confirmatory.

The FCA also found some smaller firms’ assessments of the investors’ knowledge and experience to have unclear scoring matrices or missed the relevant points. For instance, if you’re offering venture capital investments, you should assess the prospect’s relevant investment experience in that asset class (e.g. enterprise investment schemes).

2. Conflicts of interest:

The FCA appreciates that smaller firms tend to have more condensed business model arrangements given the limited number of staff. Firms with senior staff taking on more than one position should establish proper governance arrangements to effectively manage conflicts which cannot be mitigated.

Maintaining a conflicts register is a key tool in this aspect; however, not all firms managed to monitor this appropriately. Smaller firms should implement bespoke policies and procedures to identify, assess, mitigate, and monitor conflicts on an ongoing basis. Disclosure of conflicts is probably the last resort, so ensure this is done clearly to the investors.

Firms with fewer staff may also consider engaging with independent, external consultants to review and assess how conflicts are managed and whether their clients are being treated fairly.

3. Consumer Duty: 

Many asset managers aren’t subject to the Consumer Duty because they don’t have direct exposure to retail investors. Upon categorising investors as elective professionals, the opt-up process is subject to the obligations under the Duty. The FCA warned those firms which encourage customers to seek a professional categorisation in the hope of getting around the Duty will be acting in breach of the regulations. 

The FCA expects firms to review the nature of their relationship with financial products and services provided to consumers. Your governing body and senior management are responsible for ensuring Consumer Duty is properly embedded within the firm and must assess annually if your firm is delivering good outcomes for its customers in alignment with the duty. Such an assessment should be properly documented in a report, which some firms were found not to have adequately done according to the FCA’s findings.

What does this mean for me?

The FCA has made it clear that it’ll carry on with the review of the above-mentioned topics and, in particular, focus on its supervisory priorities set out in the Dear CEO letter published earlier this year. While you may not have received the past questionnaires or assessments, it’s likely you’ll get one in the future.

Digest the FCA’s findings and identify the gaps between your firm’s practices and the regulator’s expectations. Write up an action plan that’s been approved by your Board or managing body, and make sure to implement it effectively throughout your business.

How can Ocorian help?

Our compliance specialists provide tailored solutions to meet specific needs, ensuring you receive the appropriate level of support and guidance and remain informed about any developments.

We regularly conduct due diligence reviews, evaluate compliance environments, and provide customised training. Get in touch if you need help balancing the regulatory and commercial pressures of regulatory challenges.