WealthBriefing attended the AFME European Compliance and Legal Conference in London last week, where many regulatory problems that currently bedevil the region’s private banks and asset management firms were discussed.

Some themes that greatly concern HNWs and compliance departments at wealth management firms quickly emerged and dominated the conference throughout. Governments the world over are ordering financial regulators to enter a period of retrenchment with the aim of cutting red tape and boosting economic growth. The protection of investors from harm is high on the agenda, as is the need to adapt to new technology.

FCA priorities In the UK
The disciplinary cases which British regulators undertake against rule-breaking financial firms and executives are invariably "slow burners." Therese Chambers, one of the executive directors of enforcement at the UK’s Financial Conduct Authority, confessed that in 2023/24 it had taken her team a staggering average of 42 months to close their cases. She thought it impressive that seven recent cases had "reached a public outcome" within 16 months, commenting that this was a result of her drive to bring case times down.

Chambers cited the Metro Bank fine, which dates to three years ago, as a good example of the FCA avenging wronged HNW clients while also upholding the integrity of financial markets. The private bank's CEO and CFO knowingly published incorrect information that misled investors about its financial strength. Metro had to pay more than £10 million for breaching the FCA's listing rules. More recently, the executives have had to pay fines of their own in the hundreds of thousands.

The FCA also fined Metro Bank £16.7 million on 12 November 2024 for bad money-laundering controls in November last year. Between June 2016 and December 2020, Metro failed to have the right systems and controls to monitor more than 60 million transactions, representing £51 billion ($68.1 billion), for anti-money laundering purposes. It had automated its transaction monitoring at the beginning of that period, but made mistakes in the way it fed data into the system. Junior staff raised concerns, but to no avail. Metro did something to fix the problem in 2019 but this was inadequate. History does not relate whether it subsequently sued the software vendor.  

Chambers drew attention to another action that the FCA took this summer against Barclays Bank for failing to manage money-laundering risks properly when banking WealthTek. The FCA is now prosecuting John Dance, its  proprietor, for fraud and money laundering. Because Barclays co-operated extensively with the FCA's investigation and made a voluntary redress payment of more than £6.2 million to various HNW customers of WealthTek's, the regulators took mercy on the bank and reduced its fine to £3,093,600. Chambers added: "We always prioritise redress." Commenting on other cases, she added that insider dealing was "notoriously difficult to investigate and prosecute."

Last month, the FCA allowed the London Stock Exchange to operate a Private Intermittent Securities and Capital Exchange System (PISCES) platform – a new kind of market which will, when it opens, allow private companies to access a broader range of HNW investors. It will operate through a so-called sandbox, which TechTarget describes as an isolated testing environment that enables users to run programs or open files without affecting the application, system or platform on which they run. 

The FCA has set up a new online service called Firm Checker – a companion tool to the Financial Services Register, but designed especially for consumers. This is an easy, quick-fire way in which HNWs and their advisors can find out whether a firm is authorised. The regulator is also becoming more draconian in removing firms for not meeting its standards. Last year it cancelled more than 1,500 authorisations – one-fifth more than in 2023 and more than three times the figure for 2021.

Driving forces behind EU regulation
Private banks trade in great numbers on capital markets, offering a variety of investment products and services to their clients, including access to equities, fixed-income and other market-linked investments. Adam Farkas, the CEO of AFME who joined in 2020, interviewed Tanya Panova, the head of Securities Markets at the European Commission, on the subject. He asked her what the EU might do to increase trust among investors; she replied that quick execution (of trades) and best execution were the obvious methods. To this end, her organisation has designed a best-execution tool designed to "support investor confidence," adding that "what the tool will become, we don't know."

Farkas, who holds a master’s degree in computer-based simulation and modelling from Sunderland University, noted that the EU was in the middle of implementing DORA, its Digital Operational Resilience Act, which applies to more than 22,000 financial entities and ICT (information and communication technology) service providers that operate in the EU. This is related to technological advances that have brought plenty of opportunities and innovations into the system but have also created new types of risk. DORA is a key priority for financial institutions. Farkas asked Panova about the role of compliance in ensuring that the system remains financially resilient.

"We've done...a lot of regulatory reforms, (especially) after the crisis (of 2008). The bulk of our legislation is focused on dealing with financial risks, so ICT risks or risks that are driven by technology are something that we didn't really look at. DORA was the first attempt by the EU lawmakers to address the issue and come up with some harmonised framework to identify incidents, to report incidents, to ensure that there is some proper testing, so it was a very important step forward.

"As technology evolves, it creates new opportunities but also poses new risks, so I think it very important to ensure those risks are timely understood. The purpose is going to be to keep track of all those developments and technology and to ensure that our regulatory [policy] is sufficiently agile that it moves along at the same speed as the technological innovation."

Farkas dubbed artificial intelligence "the topic of the day," noting that AI tools are being introduced or experimented with in such sensitive areas as trading, risk management and customer-facing functions at institutions, including wealth managers. He asked Panova whether the EU had any policymaking intentions for the financial system in terms of how to use AI appropriately, or in a compliant way. Her answer was broadly negative.

"Well I'm not going to tell you that we're never going to come forward with new rules on AI! The AI Act represents a horizontal way of dealing with the AI concept across the wide spectrum of different services and products. It is being understood as very much product-focused. It doesn't always translate fully in the services space. It captures some financial services but those are very limited and those that are considered to be closely affecting the human freedoms, e.g. essential access to services like credit-worthiness or health insurance and things like that.

"As the use of AI in financial services evolves, I think those questions would be asked more and more. Supervisors are looking at the current deployment of AI in financial services, including the provision of services directly to retail clients, e.g. robo-advice. Is it offered on the basis of AI solutions a lot? I think those issues are being looked at.

"Considering the broad horizontal aspect, whether this will lead to us putting forward some Lex Specialis, something very specific to financial services, I think we need to see. But at this point in time, I think it's very important to focus on the implementation of the AI Act and to see how it actually interacts with the financial framework."

Regulatory 'simplification' in the age of Trump
Governments the world over are telling the regulators who work under them to lighten the burden that their rules place on financial firms. The prime mover of this trend is US President Donald Trump, but in many countries including the UK, this imperative predates his second presidency, which began in January. One delegate asked Panova what the European Commission's priorities were in this regard. Her reply was interesting.

"Simplification should not be understood as deregulation. That's very important. It's about achieving the same outcomes perhaps in a more efficient way. How can we get the same outcome while bringing potentially the cost of compliance down?

"So far, the commission has been focusing on reporting, including sustainability reporting. We're going very quickly on our sustainability objectives and reporting always was understood as an important element of it. We want to enhance the Omnibus Simplification Package (a proposal aimed at streamlining corporate sustainability reporting while maintaining the EU’s sustainability goals). Another one is focusing on the definition of SMEs and defining, perhaps, small mid-caps."

Speakers throughout the rest of the conference echoed her point that simplification was definitely not the same thing as deregulation. Many speakers, however, pointed out that market participants in various areas – HNW investors among them – did not need to receive as much reported information as at present.

Mention was made of the 28th regime, an EU proposal to offer an optional, unified set of rules that startups and scaleups might use to operate in all EU member states simultaneously, bypassing the complexities of national legislation. The concept aims to provide companies with a single set of rules for corporate law, insolvency, labour and tax, thereby driving down the costs associated with operating in the EU. Final rules are a long way off.

Farkas looked forward to some simplification of the rules of MiFIR (the Markets in Financial Instruments Regulation, aimed at protecting investors) and EMIR, the European Market Infrastructure Regulation. 

"Sometimes the industry feels that they have been created with a legitimate policy objective and legitimate supervisory expectations but they were not co-ordinated horizontally and therefore overlapping requirements emerged, nearly inevitably, between the different major pieces of law."

The global regulatory landscape
At the start of this calendar year, the City law firm of Linklaters identified three main compliance themes for the year: (i) the need for each country's regulatory regime to promote economic growth, (ii) the protection of investors (from their own inexperience and/or sharp practice) and (iii) responses to technological change.

Those three things, the audience heard, have brought about a great deal of 'divergence,' a term first heard during Brexit to describe the anticipated drifting of British and European rulebooks away from one another. Throughout the world, emerging ESG (environmental, social and governance-related) rules are diverging from each other greatly at present.

Charles Canonne of the EU delegation to the UK took a discursive look at the main political driving forces in the regulatory landscape and the part that divergence might play.

"Divergence has a role to play in shaping regulators' intentions...politics as well. Growth is front and centre, but not everything in terms of international thinking at the moment is about growth.

"If you think about financial intermediation, private markets and the need to do more about crypto, you'll know that there is still consensus on a number of emerging risks to be taken into account, together, globally. Risk is not dead and international is not dead."

"Of course there's plenty of warming up in all jurisdictions towards a more-growth-and-competitiveness agenda. There's a simplification agenda in the EU. Sometimes it's about pursuing growth through productive investment. In the UK it's the whole debate on the secondary objective. In the US, it's pressure on the vice chair of the Fed, Michelle Gorman, on the need to unravel the post-crisis rules."

According to the British Financial Services and Markets Act 2023, the Financial Conduct Authority's "secondary objective" (the first being to ensure that markets work well, among other things) is to facilitate the international competitiveness and growth of the UK's economy in the medium to long term, in line with international standards. Meanwhile, in the US, Michelle Bowman is thinking of stripping away some of the provisions of the Dodd-Frank Act and other laws that the US Congress passed to bolster the financial system after the disaster of 2008. Since that distant date, she has claimed, the rules that banks must follow have “increased dramatically” and many are “backward looking – responding only to that mortgage crisis – not fully considering the potential future unintended consequences or future states of the world.” Her aim is to cut red tape and allow banks more leeway to do business.

Two cheers for regulatory convergence!
Cannone told the audience that he was a great believer in regulatory convergence between countries. More often than not, he said, international standards and international standard setters were actually helping jurisdictions to pursue economic growth. 

"Take Basel, for example. In the US, there's been a massive campaign about the endgame [see below]. It seems to me that the emerging discussion is on re-litigating some elements of domestic experimentation, on supervision and stress tests especially, because they also understand that convergence in the rules helps level playing fields. International standards are not just about prudential rates [but] also about level playing fields, so it helps the globalist agenda."

The Basel III Endgame refers to the final phase of a set of international banking regulations, agreed upon in 2017, to strengthen bank capital requirements and risk management through capital buffers and other devices. It was scheduled to come into force everywhere in the world by 1 January 2023, but countries have delayed it and/or changed parts of it to suit themselves. In the words of the Atlantic Council: "The trend over the last 17 years toward national competitiveness gaining ground over co-ordinated regulations – most noticeable in the United States – could fragment the...global financial regulatory framework."

Investor protection
One panel noted that there was a crisis of confidence amongst retail investors which the FCA wants to fix. One way to assuage their fears is to improve regulations that protect investors from sharp practice or their own misjudgments. Delegates drew attention to the Mansion House speech that Chancellor Rachel Reeves delivered in July.

In it, she said that she was delivering the most significant reform to the Financial Ombudsman Service (much used by HNWs) since its inception – this includes "proposing to limit for 10 years for claims." This, she said, would speed up the time it takes for retail customers to obtain redress for their complaints and would return the FOS to its original purpose as a simple, impartial arbitration service that no longer acts as a quasi-regulator.  The FOS is much used by HNWs, despite its upper coverage limits of £445,000 for acts or omissions on or after 1 April 2019, and £200,000 for acts or omissions before that date.

Reeves also said that she was introducing new targets for the FCA and PRA to cut times on authorisations and approvals and had ordered the FCA to assess the efficacy of the Consumer Duty – especially on the issue of whether it unduly effects wholesale activity – the panel fervently believed that it did. Reeves also announced a desire to streamline the Senior Managers and Certification Regime, reducing the burdens it imposes on firms by 50 per cent and slashing approval timelines "so you can bring in talent to your business more quickly."

The FCA's ring-fencing regime requires the UK's largest banks to separate their core retail banking services from riskier investment banking activities, creating a legally distinct "Ring-Fenced Body" (RFB) within each group. The aim, according to one consultant who spoke to WealthBriefing, is to "keep people's insurance policies and bank accounts away from the spivs." The Chancellor is proposing to reform this regime, "while retaining the aspects of the regime that...protect consumer deposits." In her speech she also said that HM Treasury was working with the FCA to introduce a brand-new type of targeted support for consumers before the beginning of the new financial year.

Surveillance
The FCA requires compliance departments at financial firms to take part in surveillance activities to monitor compliance, detect financial crime (such as traders committing market abuse and insider dealing) and prevent regulatory breaches. Compliance departments oversee monitoring plans and use automated and manual tools to track communications and transactions. Theoretically, their purview takes in all employees, all third parties, temps and interns.

In the past, surveillance concentrated on controls and not especially on the data. The world has since changed and firms are now obsessed with the quality of data and the controls that surround it. Robert Mangham, a technical specialist at the FCA, was asked what made for good data governance. He said that it was a hard and complex job to do and required good planning and good logistical work. Within a firm, he thought, surveillance is a joint enterprise with many internal "stakeholders" who ought to work together and co-operate instead of each working in his own little empire or fiefdom.

The FCA makes a distinction between data producers (who 'own' the data and are responsible for bringing it into the firm) and data consumers (the ones who use it). The so-called "first line of defence," which could be an IT department, typically owns the data and decides who sees it. The law firm of BDO has described the "first line" as "operational management who own and manage risks." Compliance departments (and "compliance surveillance") are among the key data consumers. Both sides are responsible for checking and verifying it. Compliance departments have to keep assessing the software that they obtain from vendors to do their side of the job.

Mangham remembered: "We did a visit a couple of years ago where the head of surveillance was asked 'what do you do about data?' He said 'IT handle that. I've no idea.' It didn't go well."

An American panellist observed: "Firms have moved into the cloud to host a lot of this stuff. A long time ago you'd have a tech team. You would know who the guy was. If something was missing you'd go to the guy and he'd say oh, it'll be there in a few days, we're working on it." Now they're relying on vendors and the channels are more complex. People could accommodate a lot more risk because they knew who was dealing with it, but no more." Another panellist observed that surveillance was "as much a compliance issue as an IT issue." He added that the complexity and volume of data was "insane."

Mangham concurred: "If we hear a firm saying 'we've got no data problems, ever, then that's a big red flag that's going to end in complete failure. It just can't be true if you're looking in the right places. We expect there will be data outages. [Firms ought to be] spotting them quickly, having procedures and then having a playbook on what you do when it happens. We're seeing more and more big firms putting data experts within surveillance, and at a quite senior level, alongside the data guidance manager. It is that important."

Stablecoins – a modern success story
High net worth individuals are increasingly using stablecoins as part of their wealth management strategies. This is because their price volatility is low and they behave efficiently during transactions. They also offer liquidity and the diversification of assets. Their issuers are companies or organisations that manage the underlying assets. Nick Bradbury, a partner at A&O Shearman, explained the reasons for the rise of these currencies.

"There was a period of perhaps two or three years when people were thinking about how to structure stablecoin-like instruments. People were looking at tokenized deposits, e-money instruments, those in the EU and the UK, at the e-money regime available, and stablecoins. There was this sort of decision as to how to structure these instruments. All have very similar legal and commercial features. I think it's fair to say that, probably over the last 12 months or so, stablecoins have really emerged as the chosen global instrument type for digital money and digital payment transactions.

Dina White, the general counsel for Zodia Markets, also thought this to be true and explained why.

"We've seen, certainly in cross-border payments...that is one of our strongest use cases that we're seeing...people want to make payments as instantaneously as they do with other things – with information, or with streaming music. Money is still held back by the correspondent banking systems. So stablecoins are a safe yet flexible form of money to allow that.

"Central bank digital currencies are really confined to countries. They're not as easily interchangeable across borders as stablecoins. Tokenized deposits obviously work very well for banks but again, they are confined within the banking system. Stablecoins allow users to make cross-border payments within minutes, or even seconds, and that really gives three advantages to the users. 

"Number one, flexibility. The certainty that the money will arrive when they want it to. There are much lower transaction costs, because they're not going through a number of stages, a number of different banks with different costs, cut-off times, FX rates, etc. And then there's also the capital advantage, because your capital isn't being tied up for two, three, four, five days. If capital movement is instantaneous, then you can do something else with the money that would have been tied up in that period." 

Bradbury noted that one of the features of most stablecoins, in line with new rules in the UK, Hong Kong and the US, is the fact that interest cannot be paid on them. White did not think that this was going to make them less viable in future.

"Across the US, the EU and the UK, all of the stablecoin regulations, whether they are in place now or forthcoming...none of them allows interest payments to users, or certainly it is doubtful that they will. But it's the flexibility that [users] are looking for. The majority of stablecoin holdings are not [held as] an investment, as an asset to buy and hold. In cross-border payments, it's just one use case, but it's the use case that we're seeing most prevalently at the moment. And when you're making payments in minutes and seconds, there's absolutely no reason to be earning interest. 

"Obviously, that's from the user's perspective. From the issuer's perspective, they also don't need to apply interest, because first the users will want it for flexibility and other advantages. But for the issuers, they, on the whole, will be able to earn a yield on the reserves. So, from the user and issuer perspective, I don't think that should be any kind of inhibitor."

When asked what flexibility was appropriate for regulatory rules that govern the assets in a reserve, White thought that central banks would be interested in monetary stability and the certainty that the reserves back the stablecoins fully. She thought that, for the users (very many of them HNWs) and issuers, this would be less of a concern. Their concern, she thought, would be usability and the application of a modicum of “safety governance etc over the assets, and that there are sufficient disclosures around them that help safety.”

In terms of the assets themselves, White made a case for greater flexibility. 

“You want the majority of the assets to be high-quality liquid assets, able to be liquidated if there's some bank run or any other issue – but allowing a small proportion to be held in slightly longer-term assets or bank loans”.

Bradbury thought that most stablecoin regulations in the world obliged the issuers of those coins to use models based on trust law to protect the reserve. He thought that this made perfect sense in a common law jurisdiction such as the UK and expected it to become the market's legal mechanism of choice. 

He did, however, suspect that a trust might be too inflexible for such a global phenomenon and means of cross-border payments. 

“That is the mechanism for achieving bankruptcy protection that regulators desire for a reserve, but why not have [something] more than outcomes-based in the sense of...as long as you have a mechanism that uses any legal structure to achieve protection for the investors? Surely that outcomes-based approach is better than prescribing a trust, particularly for a very, very global international product. In some jurisdictions they don't even have trust law and that could give rise to cross-border uncertainties and issues. Perhaps it’s too late, because these rules are already out there, or even finalised, but I do think that's an area where flexibility in a way that the reserve operates legally would be really welcome.”

Elsewhere at the conference, delegates thought that many regulators still saw crypto-currencies as "scary," hence their stringent rules. Meanwhile, one expert noted that the EU's AI rules were quickly becoming the global standard.