UK/EU Investment Management Update (September 2022)

1. UK – FCA “Dear CEO” Letter to Alternative Asset Managers
2. UK – Market Abuse
3. UK – Investment Firm Prudential Regime (IFPR)
4. UK – SMCR
5. UK – London Interbank Offered Rate (LIBOR)
6. EU – ESG
7. EU – MiFID “Quick Fix”

1. UK – FCA “Dear CEO” Letter to Alternative Asset Managers

FCA emphasises the importance of adequate investor classification processes

On 9 August 2022, the FCA published a Dear CEO letter to alternative asset managers. The letter sets out the FCA’s Alternatives Supervisory Strategy and follows the FCA’s last Dear CEO letter from January 2020.

As the FCA notes, the alternatives sector encompasses a large and diverse group of firms, and not all issues raised will be relevant to all firms.

The Dear CEO letter covers conflicts of interest, market integrity and disruption, market abuse, culture, and environmental, social, and governance (ESG) investments, but, in particular, the FCA sets outs concerns that some hedge funds and private equity funds that have retail or “elective” professional investors are not adequately meeting their investor protection obligations in respect of such investors.

The Dear CEO letter is discussed in greater detail in our recent Sidley Update.

2. UK – Market Abuse

FCA fines Citigroup’s international broker-dealer £12.6 million for failures relating to the detection of market abuse

In a Final Notice published on 19 August 2022, the FCA confirmed that it has fined Citigroup Global Markets Limited approximately £12.6 million for its failure to properly implement requirements under Article 16(2) of the Market Abuse Regulation (MAR) to establish and maintain effective arrangements, systems, and procedures to detect and report potential market abuse. MAR requires firms that arrange or execute transactions in financial instruments to monitor both orders and trades to detect potential and attempted market abuse across a broad range of markets and financial instruments.

The FCA found that, for a period of 18 months following the introduction of MAR in 2016, Citigroup had failed to identify and assess the specific market abuse risks that its business may have been exposed to and that Citigroup therefore needed to be able to detect. This resulted in significant gaps in Citigroup’s arrangements, systems, and procedures.

The size of the fine (including a settlement discount of 30%) was calculated by reference to the seriousness of the failings, noting that MAR is a significant and well-publicised piece of legislation for which the FCA had issued clear advice, particularly in relation to Article 16, and that the breach of Article 16(2) had an adverse effect on markets that was serious because Citigroup is a globally significant broker-dealer that failed to have effective arrangements, systems, and procedures to detect and report potential market abuse for an extended period of time. The FCA also regarded as an aggravating factor that Citigroup did not begin preparing an Article 16(2) risk assessment until December 2017, despite the FCA’s having informed Citigroup in 2015 that it had concerns about the unsystematic approach to the prioritisation of risk in the firm’s expansion of its automated surveillance in nonequity markets and had advised Citigroup to incorporate a risk assessment into its future surveillance development plan.

FCA fines Sir Christopher Gent for disclosing inside information

On 5 August 2022, the FCA published a Final Notice to the former non-executive Chair of ConveTec Group Plc, Sir Christopher Gent, for unlawfully disclosing inside information in breach of Article 14(c) of MAR. Sir Christopher was fined £80,000.

ConveTec is a company admitted to the premium listing segment of the Official List and trading on the main market of the London Stock Exchange.

In 2018, while Chair of ConveTec, Sir Christopher had disclosed inside information concerning an expected public regulatory news service announcement to individuals in senior positions at two of ConveTec’s major shareholders before the information had been announced to the market.

The FCA did not find any evidence that Sir Christopher had traded on the information or that he intended to make personal gain, or avoid loss, from making the disclosures, but given his position and experience, the FCA found that Sir Christopher should have realised that the information he disclosed was, or may have been, inside information and that it was not within the normal exercise of his employment to disclose it. Accordingly, the FCA found that Sir Christopher had acted negligently in disclosing the information.

3. UK – Investment Firm Prudential Regime (IFPR)

FCA clarifies “significant SYSC firm” / “Enhanced Scope” SMCR issue

On 16 August 2022, the FCA published a statement on its website confirming that only firms that would have been both “significant IFPRU firms” and “IFPRU investment firms” under the pre-IFPR arrangements fall within the new definition of “significant SYSC firm” (introduced in conjunction with the IFPR in January 2022) for the purposes of the “Enhanced Scope” senior managers and certification regime (SMCR).

This statement responds to concerns that, by replacing the “significant IFPRU firm” concept with that of a “significant SYSC firm,” the FCA would increase the number of firms that would fall within the “Enhanced Scope” SMCR framework.

The FCA confirms that this was not the intention and plans to consult on necessary changes to clarify this in the rules. In the meantime, firms that have unintentionally come under the “Enhanced Scope” SMCR framework as a result of the definitional changes above do not need to take any action.

4. UK – SMCR

Prudential Regulatory Authority (PRA) and FCA conclude investigations into senior managers in relation to the 2008 failure of HBOS plc

On 26 August 2022, the FCA confirmed that it has closed its joint investigation with the PRA into certain former senior managers of HBOS plc relating to their conduct in the years before the failure of HBOS in 2008. The joint investigations considered whether the individuals should be prohibited from performing certain roles within the financial services industry, but the FCA and PRA will take no further action against the individuals.

Since the 2008 financial crisis, fundamental changes have been made to the UK regulatory regime and the requirements for senior managers of firms authorised by the FCA (and the PRA). The SMCR was introduced in 2016 in an attempt to embed greater accountability for individuals by requiring firms to allocate clear responsibilities to key decision-makers.

5. UK – London Interbank Offered Rate (LIBOR)

FCA encourages market participants to continue transition of LIBOR-linked bonds

In a statement published to its website on 16 August 2022, the FCA has sought to strongly encourage issuers of remaining LIBOR-linked bonds (or those that may have a future LIBOR-linked dependency) issued under English or other non-U.S. laws that make consent solicitation practicable to schedule consent solicitation processes for conversion to fair alternative rates.

The FCA also encourages holders of bonds that lack mechanisms to remove LIBOR to engage with the relevant issuers to request that they initiate these conversion processes (noting that responsibility for initiating this process lies with the bond issuer).

6. EU – ESG

New Markets in Financial Instruments Directive (MiFID) II ESG Suitability Preferences

On 2 August 2022, new rules for EU — but not UK — MiFID firms (under Commission Delegated Regulation 2021/1253) came into effect requiring an assessment of clients’ “sustainability preferences” to be undertaken when providing portfolio management services or investment advice.

“Sustainability preferences” is defined to mean a client’s preference to invest in financial products that exhibit:

• a minimum commitment to EU Taxonomy alignment;
• a minimum commitment to investing in “sustainable investments” (as defined in the Sustainable Finance Disclosure Regulation); and/or
• a commitment to comply with the regime for principal adverse sustainability effects of a product’s underlying assets.

In January 2022, the European Securities and Markets Authority (ESMA) issued a consultation on draft guidelines on the changes that EU MiFID firms will need to make to their suitability assessments. However, ESMA’s final report in response to the consultation has not yet been published, creating some uncertainty as to how firms should apply the new requirements. Nonetheless, firms are still expected to comply with these requirements immediately (as confirmed for Luxembourg MiFID firms by the Commission de Surveillance du Secteur Financier in a communiqué from 2 August 2022).

Although UK (and other non-EU) firms are not in scope of these new rules, it is likely that there will be a knock-on effect on firms whose products are invested by EU asset managers, or which are distributed via EU financial advisers, because such firms will require information as to the sustainability characteristics of non-EU firms’ products.

In addition to these changes to the MiFID II suitability assessment rules, from November 2022, changes to the MiFID II product governance rules for product manufacturers and product distributors will come into effect. Again, these changes will also not typically apply directly to non-EU firms, but EU product distributors are likely to request information as to how non-EU firms consider target market assessment factors in sustainability preferences. In June 2022, ESMA published a consultation paper on draft guidelines for MiFID II product governance requirements, which is open for responses until 7 October 2022.

ESMA responds to European Financial Reporting Advisory Group (EFRAG) consultation on European Sustainability Reporting Standards (ESRS)

On 8 August 2022, ESMA published a response to the EFRAG consultation on the first set of draft ESRS, which will ultimately apply (once adopted in final form by the European Commission and the EU) to corporates that are in scope of the EU’s forthcoming Corporate Sustainability Reporting Directive (CSRD) (which is expected to be published in the EU Official Journal in October 2022).

In its response, ESMA emphasised the following points:

• the ESRS should promote disclosure of material sustainability information of high quality;
• the ESRS should be conducive to consistent application in terms of both content and format; 
• the ESRS should be consistent and interoperable with other EU legislation; and
• the ESRS should, to the greatest extent possible and taking account of the EU sustainability requirements and objectives, promote interoperability with relevant international standards.

For further information on the CSRD and its application to UK and U.S. corporates, please see our Update EU Corporate Sustainability Reporting Directive — What Do UK- and U.S.- Headquartered Companies Need to Know?

ESMA responds to the European Commission’s consultation on the review of the Benchmarks Regulation

On 12 August 2022, ESMA published a response to the European Commission’s consultation on the review of the Benchmarks Regulation.

As well as some broader observations regarding the operation of the Benchmarks Regulation, including in relation to third-country benchmarks, and strategic EU benchmarks, ESMA stated its agreement to the introduction of an EU ESG benchmark label as a means of enhancing the quality of ESG benchmarks.

In particular, ESMA notes that the only regulatory requirements applicable to ESG benchmarks currently are in relation to disclosure requirements (including for EU Paris-aligned Benchmarks (PABs) and EU Climate Transition Benchmarks (CTBs)), whereas ESMA believes that these disclosure requirements are not sufficient to ensure an adequate level of harmonisation among the different ESG benchmarks provided. Accordingly, ESMA considers that it is necessary to specify minimum standards for harmonisation of benchmark methodologies to ensure a quality label and a high level of consumer and investor protection.

ESMA also makes the suggestion that to better identify EU PABs and EU CTBs, benchmark administrators should be required to include a predefined prefix in the naming of the labelled benchmarks (e.g. EUBMR-CTP, EUBMR-PAB).

7. EU – MiFID “Quick Fix”

On 15 August 2022, the following EU MiFID “Quick Fix” Regulations relating to commodity derivative position limits came into force (having been published in the EU Official Journal 20 days earlier):

• Commission Delegated Regulation (EU) 2022/1299 with regard to regulatory technical standards (RTS) specifying the content of position management controls by trading venues;
• Commission Implementing Regulation (EU) 2022/1300 laying down implementing technical standards (ITS) with regard to the format of position reports by investment firms and market operators; and
• Commission Delegated Regulation (EU) 2022/1302 with regard to RTS for the application of position limits to commodity derivatives and procedures for applying for exemption from position limits (the European Parliament published a motion for a resolution objecting to this RTS on 30 June 2022).

The MiFID II Quick Fix Directive mandated ESMA to develop the RTS/ITS set out in the Commission Delegated Regulations referred to above (please see our May 2022 Update for further detail regarding the content of the RTS or the application of position limits to commodity derivatives).

In March 2021, the MiFID II Quick Fix Directive was published to make certain targeted amendments (referred to as “quick fixes”) to the EU MiFID II framework. EU Member States were required to adopt national laws necessary to comply with the MiFID II Quick Fix Directive by November 2021, with such amendments applicable from 28 February 2022 (see our March 2021 and January 2021 Updates for further detail of EU MiFID II quick fixes that are of most relevance to investment managers). These include quick fixes to research unbundling provisions and to certain client information requirements.