Financial Regulation Weekly Bulletin - 31 October 2024

GENERAL

BANK OF ENGLAND

AI and financial stability - Bank of England publishes speech - 31 October 2024

The Bank of England (the Bank) has published a speech delivered by Sarah Breeden, the Bank’s Deputy Governor for Financial Stability, on the impact of AI on financial stability and how central banks and regulators should respond. Of particular interest, she suggests that, depending on how the use of AI evolves, the Bank may need to think about the adequacy of the regulatory perimeter and whether it might be necessary to apply some requirements on model providers. This would be the case particularly if AI starts to be used in a material way for trading or core risk assessment.

The importance of governance is also emphasised, as Ms Breeden reveals that only one-third of respondents to the Bank and the FCA’s most recent machine learning survey (the full results of which will be published soon) describe themselves as having a complete understanding of the AI they had implemented in their firms.

PRUDENTIAL REGULATION AUTHORITY AND FINANCIAL CONDUCT AUTHORITY

UK CRR, UK EMIR and FSCS eligibility - PRA and FCA publish policy statement (PRA PS17/24 and FCA PS24/13) - 31 October 2024

The PRA and FCA have published a joint policy statement (PRA PS17/24 and FCA PS24/13) containing amendments to the PRA Rulebook and the UK version of Commission Delegated Regulation (EU) 2016/2251 of 4 October 2016 (Binding Technical Standards (BTS) 2016/2251). The changes include:

• amendments to references to Article 92b of the UK Capital Requirements Regulation (575/2013) (UK CRR) in the PRA Rulebook following its revocation, which became effective on 1 January 2024;
• adding a new rule to the Policyholder Protection Part of the PRA Rulebook clarifying that individuals who become members of occupational pension schemes (OPS) while they are resident in the UK benefit from FSCS protection even if they move outside the UK before a life policy or pension annuity (linked to that OPS) is purchased following a buy-out; and
• consequential amendments to BTS 2016/2251 to reflect the expected changes to Article 4 and 11 of UK EMIR that will be made in the draft Securitisation (Amendment) Regulations 2024.

Following feedback, only minor amendments have been made to the changes as originally consulted on in April 2024, which do not alter policy. The implementation date for the rules covered in the policy statement is 4 November 2024. The amendments to BTS 2016/2251 will take effect on 1 November 2024 to align with the changes to UK EMIR.

FINANCIAL CONDUCT AUTHORITY

Non-financial misconduct - FCA publishes findings from wholesale financial services firms survey - 25 October 2024

The FCA has published the findings of its culture and non-financial misconduct (NFM) survey of over 1,000 investment banks, brokers and wholesale insurance firms in February 2024, which examined how firms detect and handle NFM incidents. Firms were asked about recorded incidents of NFM in 2021, 2022 and 2023, where ‘incident’ is described as an alleged or confirmed occurrence of NFM that was reported to or identified by the firm, including those that did not meet the FCA’s reporting threshold. Key findings include:

• the number of reported NFM incidents increased over the three years surveyed;
• bullying and harassment (26%) and discrimination (23%) were the most reported types of NFM across all sectors. However, the large 'other' group of concerns (41%) indicates how difficult it can be to categorise issues of personal misconduct;
• formal processes such as grievances and whistleblowing were the most prevalent methods of detection;
• the total number of confidentiality and settlement agreements signed by complainants fell over the three years surveyed; and
• in all sectors, action taken following NFM rarely resulted in adjustments to remuneration.

The FCA expects firms to use the survey data to reflect on whether their own processes, procedures and controls provide both robust detection and appropriate outcomes. The FCA then wants firms to discuss NFM at senior management and board level. The FCA intends to use the survey data to inform its own supervisory and policy work, and will not be making new best practice recommendations for firms at this time.

CrowdStrike outage and operational resilience - FCA publishes webpage - 31 October 2024

The FCA has published a webpage outlining its observations and key lessons following the CrowdStrike outage in July 2024. Since the beginning of 2023, the FCA has seen a continued trend of third-party related incidents, and these outages emphasise firms’ increasing dependence on unregulated third parties to deliver important business services.

Reflecting on the CrowdStrike outage, the FCA emphasises the importance of its operational resilience rules, highlighting that firms that had mapped their important business services (and the sources necessary to deliver these services) were able to prioritise getting key services back online to reduce the overall impact the incident had on their operations. Firms also benefitted from having tested scenarios that were severe but plausible, and having clearly defined and tested communications strategies.

The FCA provides further detailed observations on ensuring the resilience of infrastructure; third party management; and incident response and communications. The FCA encourages all firms, regardless of how they were affected by the CrowdStrike incident, to consider these lessons so that they can improve their ability to respond to and recover from future disruptions.

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BANKING AND FINANCE

OFFICIAL JOURNAL OF EUROPEAN UNION

CRR - Delegated Regulation postponing the implementation of FRTB standards published in Official Journal - 31 October 2024

A Delegated Regulation ((EU) 2024/2795) amending the Capital Requirements Regulation (575/2013) (CRR) with regard to the date of application of the fundamental review of the trading book (FRTB) standards for calculation of own funds requirements for market risk has been published in the Official Journal of the EU. The Delegated Regulation defers the application of the FRTB standards by one year, from 1 January 2025 to 1 January 2026. The Delegated Regulation will enter into force on 1 November 2024, and will apply from 1 January 2025.

HM TREASURY

Post-implementation reviews of secondary legislation on SME credit information and finance platforms published by HM Treasury - 30 October 2024

HM Treasury has published post-implementation reviews on the following secondary legislation as part of the Autumn 2024 budget:

• the Small and Medium Sized Business (Credit Information) Regulations 2015 (SI 2015/1945) which established the commercial credit data sharing (CCDS) scheme, requiring designated banks to share all their credit data on in-scope SME customers with designated credit reference agencies (CRAs), who are in turn broadly required to provide this information to other lenders; and
• the Small and Medium Sized Business (Finance Platforms) Regulations 2015 (SI 2015/1946), which established the bank referral scheme (BRS) requiring designated banks to refer SME customers that they reject for finance, with the SME’s permission, to platforms that can match the SME with alternative finance providers.

HM Treasury concludes that both CCDS and the BRS have generally met their stated policy objectives and have enhanced competition in the SME lending market. There are, however, opportunities for reducing the burden on businesses. For instance, feedback suggests that the CCDS may not be sufficiently flexible in responding to market changes such as the introduction of new products. HM Treasury intends to consult on possible enhancements to both regulations in spring 2025.

FINANCIAL CONDUCT AUTHORITY

FCA strategy for non-bank mortgage lenders and mortgage third party administrators, lifetime mortgage providers, retail banks and building societies in 2025 - FCA publishes portfolio letters - 25 October 2024

The FCA has published a series of portfolio letters sent to CEOs of non-bank mortgage lenders (NBMLs) and mortgage third party administrators (MTPAs), lifetime mortgage providers (LMPs), retail banks and building societies setting out its key concerns and priorities in 2025. In these letters, the FCA communicates its specific priority areas for each portfolio, which include the consumer duty, operational resilience and sustainable finance.

Of particular note, in its letter to LMPs the FCA highlights concerns that consumers who are facing financial stress may be more susceptible to the purchase of unsuitable later life products, and emphasises that LMPs must give appropriate consideration to the design and introduction of new products such as ‘hybrid’ style lifetime products. In its letters to retail banks and building societies, the FCA flags the growing provision and use of ‘banking as a service’ and ‘embedded finance’, which will present novel challenges around practical allocation of responsibilities or liabilities, and the design and day-to-day exercise of controls over conduct and other risks.

In each case, the FCA expects firms to consider the letter at board level and to prepare to show and explain the actions they have taken in response.

RECENT CASES

Breeze and others v TSB Bank plc [2024] EWHC 2427 (Ch), 25 September 2024

The Chancery Division of the High Court (the Court) has handed down its judgment determining two preliminary issues in Breeze and other v TSB Bank plc relating to the so-called “mortgage prisoners” litigation against TSB Bank plc (TSB). The case concerns a number of former Northern Rock mortgage customers (the Claimants) whose mortgages and/or unsecured loans were (or were alleged to have been) transferred to TSB under its Whistletree brand in July 2016, and who were charged interest rates based on a standard variable rate (SVR) which TSB describes as the ‘Whistletree SVR’. TSB also maintains and applies other SVRs to different categories of variable-rate mortgages, including its ‘Standard Variable Mortgage Rate’ (TSB’s SVMR) which it applies to a portfolio of variable rate residential mortgages that were applied for before 1 June 2010.

The Court found that TSB had not breached the express terms of the Claimants’ mortgage contracts by charging them interest rates based on the Whistletree SVR and not on the TSB SVMR. The Whistletree SVR should be regarded as the continuation of the original SVR originally operated by Northern Rock, and not as a new rate.

The Court further examined whether the Claimants were precluded from bringing themselves within the unfair relationship provisions in sections 140A to 140C of the Consumer Credit Act 1974 (CCA) and held that it would breach s.140A(5) CCA if the Court made an order to repay amounts paid under a regulated mortgage which was linked to an unsecured loan that had been offered alongside (and linked to) the mortgage. When it determines whether there is an unfair relationship, the Court may, however, have regard to the terms and conduct of such a regulated mortgage contract, and loss or damage arising under its terms, where it relates to another credit agreement that gives rise to a relationship between the borrower and a lender.

Marcus Gervase Johnson v FirstRand Bank Limited (London Branch) t/a Motonovo Finance [2024] EWCA Civ 1282, 25 October 2024

The Court of Appeal (the Court) has handed down its judgment in Marcus Gervase Johnson v FirstRand Bank Limited (London Branch) t/a Motonovo Finance [2024] EWCA Civ 1282, which was heard together with Andrew Wrench v FirstRand Bank Limited (London Branch) t/a Motonovo Finance and Amy Louise Hopcraft and Carl Hopcraft v Close Brothers Limited, allowing all three appeals. The appeals concerned claims made by motor customers who accessed motor finance through a car dealer, where the commission paid by the lender to the dealer for arranging the finance was not made clear or never disclosed.

The Court ruled that it was unlawful for car dealers to receive a commission from a lender providing motor finance to a customer unless it was disclosed to the customer and they gave informed consent to the payment. In coming to this conclusion, the Court found that, in all three cases, there was a disinterested duty owed by the dealers as credit brokers to the claimants which was sufficient to give rise to a primary liability in the cases of Hopcraft and Wrench, which were secret commission cases. In all three cases there was also a parallel fiduciary duty which was sufficient to found a claim against the lender for accessory liability in the Johnson case, and would have been sufficient in Wrench had it been a partial disclosure case. The Court further found that the relationship between Mr Johnson and FirstRand was unfair for the purposes of sections 140A-C of the Consumer Credit Act 1974 (CCA) on its facts, but stated that a relationship will not necessarily be unfair for the purposes of the CCA simply because a broker receives a commission from the lender and the borrower is not actually aware of that fact.

In a separate press release, the FCA stated that it is “carefully considering” the Court’s decision. The FCA has been in close contact with the firms involved, and emphasises the need for clarity on whether this is the courts’ final word on the issue given that the two lenders intend to appeal. The FCA is also considering expanding its pause to the time firms have to provide a final response to customers about motor finance complaints involving a discretionary commission arrangement, currently in place until 4 December 2025, stating that it understands the industry’s desire for time to take stock.

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ASSET MANAGEMENT

HOUSE OF LORDS FINANCIAL SERVICES REGULATION COMMITTEE

UK-listed investment company cost disclosures - response to FCA statements published - 31 October 2024

The House of Lords Financial Services Regulation Committee (the Committee) has published a letter sent to the Committee from Baroness Altmann concerning cost disclosure obligations imposed on London-listed closed-ended investment companies (LCICs).

The letter, which was produced in conjunction with industry experts and legal advisers, responds to (and strongly contests) FCA statements made in May 2024 regarding the nature and characteristics of LCICs in the context of their cost disclosure obligations. It further presents a legal argument setting out the basis for re-interpreting the existing UK version of Commission Delegated Regulation (EU) 2017/565 (the MiFID Delegated Regulation), so far as cost disclosure in respect of LCICs is concerned, and de facto forbearance allowing investors to stop including costs/expenses of LCICs in their own reportable costs.

HM TREASURY

Autumn Budget 2024 - introduction of reserved investor funds confirmed by HM Treasury - 30 October 2024

HM Treasury has confirmed as part of the Autumn 2024 Budget that it is proceeding with the introduction of the Reserved Investor Fund (Contractual Scheme), a new type of UK-based investment fund. Secondary legislation will be brought forward before the end of the tax year 2024-25.

FINANCIAL CONDUCT AUTHORITY

Growth of private markets - FCA publishes speech - 29 October 2024

The FCA has published a speech given by Nikhil Rathi, FCA Chief Executive, on the growth of private markets. Among other things, Mr Rathi observed that the FCA is open to ideas to make its new disclosure regime for consumer composite investments (on which consultation will open soon) more flexible and proportionate than the inherited EU packaged retail investment and insurance products (PRIIPs) regime. On the “thorny question of value and fees”, he states that the FCA has shown that it is open to a holistic discussion of what assessment of value really means through its consultation on the value for money framework for defined contribution pension funds (CP24/16). The FCA wants sufficient incentives to support investment in higher risk/higher long-term return products that could secure better outcomes.

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FINANCIAL CRIME

Financial Action Task Force

AML/CTF and financial inclusion - FATF launches consultation - 28 October 2024

The Financial Action Task Force (FATF) has published for consultation proposed revisions to its Recommendations regarding anti-money laundering and counter-terrorist financing (AML/CTF) measures to better align them with measures to promote financial inclusion. This is part of FATF’s programme of work to address the unintended consequences of AML/CFT measures, and the proposals seek to promote financial inclusion through increased focus on proportionality and simplified measures in the risk-based approach, and to give countries, supervisors, and financial institutions greater confidence and assurance when implementing simplified measures. The deadline for responses is 6 December 2024.

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