FCA Interim Update - Asset Management & Alternatives Supervisory Strategy

In March 2024, the UK Financial Conduct Authority (FCA) released a Dear CEO letter interim update on the Asset Management & Alternatives Supervisory Strategy. The broad themes are driven by the market volatilities seen in 2023, where asset managers focused on cost cutting, consolidation, and resource division, at the same time as capital-raising or maintaining assets wherever possible.

As we stand in 2024, the geopolitical climate continues to be unpredictable, while the industry still faces various regulatory changes. Asset management firms will (or in our view, should) be reviewing business models, compliance programmes and operating in a more agile way that has never been as necessary as it is now. The times where fund managers assumed fund raising efforts and resource takes precedence over compliance robustness and risk management are well and truly over. The EU/UK regulatory environment is changing, the world in which we operate in is more connected yet also more susceptible to market volatility, and the demands placed on internal buy-side teams reinforces the need for risk management and good governance to weather storms. Ultimately all of this comes down to the FCA’s continued focus on protecting investors and customers from poor outcomes and upholding market integrity, as outlined in the FCA’s 2024/25 Business Plan.

Change management

The FCA’s focus on this area for the buyside centred on the embedded environmental, social, and governance (ESG) principles from 2023 and the regulator noted that firms still had work to do on information disclosure. Sustainability Disclosure Requirements (SDR) and Investment Labels will be implemented on a staggered basis starting in 2024, with the main message being that firms should not be exaggerating or making misleading claims around their ESG credentials. The FCA also recognises that firms under cost-cutting pressure may not be as adept at handling regulatory change.

At least to a degree, the FCA perceives that 2024 should be viewed in the context of several years of change since the pandemic, not just in respect of ESG, where regular rule updates, additions or removals post-Brexit are harder to keep abreast of, let alone implement. It’s no secret that investment firms on the “smaller” end of the industry, meaning a modest headcount compared to AUM, regularly declare that they will “wait and see” until the last minute before money, and mainly time, is spent on regulatory change projects. While we are sympathetic to the sector, waiting is not always helpful; however, neither is moving quickly and discovering a workstream needs multiple costly changes. As we have experienced in our own work, strategic balance rather than reactivity will be the key to success in change management.

Valuation practices for private assets

Most UK conferences and roundtables between 2022 to 2023 in the private equity space announced that capital markets were where the money was going as a result of higher interest rates and reduced bank lending - particularly to start-ups. This trend continues into 2024, with capital raising giving private credit firms plenty to do. The FCA noted that investors entering those private markets should be presented with more robust fund valuations and that managers should implement stricter risk management controls. Against the backdrop of market volatility, we agree that it makes sense that valuations should be accounting for such volatile or, in the FCA’s words, “all” conditions. In light of this, the FCA has used the interim update to announce that its 2024 multi-firm review will examine valuation practices for private assets across the buy side. The review will focus on valuation accountability, governance, and oversight.

Reducing and preventing serious harm

In keeping with risk oversight, the FCA will continue its work on market surveillance to identify where buyside firms have vulnerabilities to market stresses and will collaborate with overseas regulatory agencies to find liquidity mismatches, including large concentrated or highly leveraged positions. The FCA is widening the scope of its monitoring to beyond the UK markets and using more, or better, data sources.

Supporting innovation

Nodding to the advances made in technology and digital innovation, the FCA asks firms to consider safe implementation and risk management. The FCA also openly states it will work with global regulators and international “standard setters” so that any policy or approaches to technology’s uses (such as fund and asset tokenisation) are aligned with emerging regulation.

Promoting competition and positive change

The FCA wants to keep the asset management sector competitive in global markets.

Policy priorities

The FCA reminded firms that its handbook will be revised to include the “Smarter Regulatory Framework” to align or consolidate MIFID, AIFMD, and UCITS requirements. It is hoped that this will benefit firms that are subject to several Directives and ensure regulatory reports to the FCA are meaningful. In keeping with the desire to keep the UK’s asset management industry competitive and relevant in global markets, any FCA handbook changes will be “consistent with international standards”, accounting for rules in other markets so that firms can operate across multiple jurisdictions efficiently. Thankfully, the FCA uses the terms “effective and proportionate” when referring to its upcoming rule changes; therefore, if it simplifies or consolidates rules or guidance, it warrants little to no extra work from asset managers. The FCA has also discussed a replacement regime for PRIIPs, with the FCA expected to consult on new retail disclosure rules this year.

Modernising the fund authorisation process and enabling operation cross border

Transitioning away from the Temporary Marketing Permissions Regime (TPR) which ended on 30 December 2023, the FCA has enhanced its Fund Gateway to allow firms in the EEA to apply for their funds to be recognised for marketing into the UK. The FCA has made clear that it will support access for those funds from equivalent jurisdictions; this will support a wide range of funds for UK retail and “other investors”. The FCA considers that firms using the Fund Gateway will benefit from “an enhanced experience”, which we infer to mean an intuitive user experience and useful data interchange.

International engagement

The FCA will continue to involve itself in developing international standards wherever that relates to financial services, citing that its senior leaders are leading, co-leading, or chairing various working groups and committees on a range of issues including bond market liquidity, digital asset standards, and systemic risk. In our view, this reinforces the FCA’s global approach and underlines how important the UK’s international position is in financial services. The UK may have “brexited”; however, there is no “divergence for divergence’s sake” and, if anything, the FCA is holding true on its strategic goals and devoting its expertise to alignment with international standards so that the UK can benefit. For investment firms in the UK, it reinforces the need to operate under perceivably higher standards to remain competitive.

Final thoughts

When considering this interim update alongside the FCA’s 2024/25 Business Plan, it is clear that significant changes are afoot that should ultimately benefit the buy side. ACA’s take-home points are:

• The FCA will continue to focus on protecting consumers and investors through improving its financial crime monitoring and surveillance – better data, technology, and resources all included.
• Private markets will be exposed to FCA valuation reviews this year and, very likely as a result, the FCA will put forward best practice improvements to further protect investors in this rapidly growing area. The backdrop of market volatility cannot be changed; however, better risk management and governance will enable firms to surf the most turbulent of tides.
• Marketing and cross border activities from the EU to the UK, which are relying on UK equivalence with the EEA, will use the Fund Gateway, since the TPR ended in December 2023.
• The FCA is working with international regulatory bodies, working groups and standard setters to ensure that, where possible, the UK financial services sector is aligned to ensure a sector that is competitive while maintaining high regulatory standards.

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