FCA issues call to arms for asset managers and alternatives firms

Dear CEO Letter outlines the UK regulator’s focus for next year and helps to prioritize compliance to-do list.

The FCA’s comprehensive letter to chief executives of asset managers and alternatives firms shows the renewed focus on these sectors is not letting up. The letter outlines the regulator’s focus for the next year and is a useful way to prioritize the ever-growing compliance to-do list.

The interim update sent to firms in the asset management and alternatives sectors follows on from the Dear CEO letters published in February 2023 and August 2022. It sets out the regulator’s priorities over the next 12 months and its supervision strategy for these firms. Interestingly, in contrast to the earlier Dear CEO letters, the latest communication is addressed to both sectors, which is a welcome approach in view of the significant overlap between them.

Despite an avalanche of new regulations for firms in these sectors to get to grips with over the last two years (including IFPR, an enhanced financial promotion regime for high risk investments, Consumer Duty and now SDR, to name but a few), the FCA is pressing ahead with its objective to increase engagement with firms as a tool for establishing how well firms are responding to regulatory change and mitigating risks to consumers and the market.

The FCA’s priorities for these sectors over the next 12 months include the following.

Reviewing firms’ Assessments of Value and Consumer Duty implementation

Authorized funds are required to undertake Assessments of Value (AoV) to determine if funds are delivering fair value to investors, whereas managers of unauthorized funds are captured by the ‘price and value’ outcome under the Consumer Duty. The FCA considers these assessments to be crucial to delivering fair value to customers and will take action where an assessment is deficient and/or where a firm appears to be an outlier.

The multi-firm review of Authorised Fund Managers’ AoV carried out last year found that customer outcomes from these assessments were variable. Common failings included firms’ “tick-box” approach to the AoV and a lack of challenge by boards (particularly NEDs), many of which accepted AoVs at face value. Although this review was conducted in the context of authorized funds, the FCA’s findings read across to the price and value assessment required under Consumer Duty; so we recommend managers of unauthorized funds take note of the review’s findings. The regulator states its intention to carry out multi-firm reviews into the price and value assessments under Consumer Duty and reminds firms to continue preparing for the July 31, 2024, deadline in respect of closed products.

All too often, firms consider that Consumer Duty (and any new regulation) is purely a problem for its compliance function. The compliance team is unlikely to have the deep product knowledge integral to conducting a meaningful assessment of value and price that is fit for purpose. Identifying the right people to contribute to this exercise, with oversight from compliance, and ensuring buy-in from the governing body is imperative.

Valuation of private assets

Against the backdrop of heightened uncertainty due to changes in the external risk environment, coupled with higher interest rates and a tighter credit environment, the FCA understands there is pressure on the valuations of some private assets, such as real estate, PE/VC and infrastructure. Also, a higher proportion of fund assets globally are now held in private assets, and valuation practices for these assets aren’t as consistent and transparent as those for publicly traded assets.

Building on the work the FCA completed in 2023 on liquidity management, it finally confirmed its intention to conduct a multi-firm review examining valuation practices for private assets. This review would include looking at the personal accountabilities for valuation practices in firms, governance of valuation committees, the valuation information reported to boards and board oversight of the valuation process. The evaluation is a useful prompt to review your valuation framework and ensure that board oversight is embedded into the process, and that, where appropriate, a responsibility for valuations is allocated to a senior manager within their statement of responsibilities.

Market integrity and disruption

Highly leveraged funds and those with high concentration of positions in specific markets, or funds with significant liquidity mismatches, are of particular concern to the FCA. It expects firms to review the impact these funds can potentially have on the markets in which they operate during periods of stressed conditions, and address these issues in their risk management frameworks. Firms subject to IFPR should also ensure that these risks are reflected in the ICARA.

Change management and good governance

The FCA will work to establish firms’ preparedness for dealing with regulatory change – for example SDR – by assessing how firms’ governance and resourcing of change programmes consider and mitigate the risks posed by the changes. The FCA will focus on the implementation of SDR and for larger firms in scope of PS21/3, their approach to operational resilience. Firms should undertake an assessment of their resourcing to ensure they have the capability and capacity to deal with regulatory changes and challenges.

Promoting competition and positive change

The FCA has several regulatory enhancements planned this year for the asset management and alternatives sectors, including:

  • consulting on a replacement regime for PRIIPS;
  • making significant progress on implementing the government’s Smarter Regulatory Framework with a focus on the MiFID, AIFMD and UCITS regime;
  • ensuring that changes made to the UK’s asset management regime are effective and proportionate, consistent with international standards, foster innovation and meet the needs of domestic and international investors;
  • modernizing the fund authorization process to make it easier for offshore funds from equivalent jurisdictions to be recognised in the UK.

Next steps

The FCA instructs CEOs to discuss the contents of the letter with the governing body and consider what risks of harm included in the letter are present for their firm, adopting appropriate risk management strategies.

In any future engagement with firms, the regulator will look at whether a firm considered the letter and took appropriate action to prevent risks identified in it. This means it’s vital to document senior management’s consideration of each item in the letter, identify gaps and put in place remediation plans.

It’s clear that the FCA’s engagement with firms in these sectors is on the rise. Whether it’s part of a multi-firm review or a Section 165 exercise (which smaller asset managers and alternatives firms experienced recently in the form of the FCA’s Business Model Questionnaire), it’s crucial to make sure you are prepared.

Abi Reilly leads Bovill’s specialist Funds practice and Tracy Clarke is a consultant in the Funds team.