Last month, the UK’s Financial Conduct Authority (FCA) published its Policy Statement setting out improvements to the Appointed Representatives (AR) regime – which we outlined in our previous update. In this article, we’re focusing on regulatory hosting as an important sub-sector in the AR space.
All in all, the new rules – set to take effect on 8 December 2022 – will affect about 3,400 principal firms and more than 37,000 ARs. The regulatory hosting sector is a smaller but very important sub-set of this. The FCA identified in its 2018 thematic review approximately 1,000 ARs across a diverse range of business models, including asset management, promotion and management of alternative investment funds (AIFs), wealth management, fund advisory, corporate finance advisory and even contracts for difference providers.
We estimate that today there are around 60 dedicated regulatory hosting businesses in the UK with between 10 and 80 ARs each. These firms exist solely to offer hosting services and as such are likely to have invested in the processes, people and systems required to ensure effective oversight. There are also many authorised firms that have one or two (likely closely connected) ARs – for example, a large multi-strategy hedge fund manager may offer to host a successful investment team that wants to set up its own business.
A new notification requirement
Under the new rules, firms that intend to offer regulatory hosting as a business line must notify the FCA at least 60 calendar days before offering services.
Following feedback on its previous consultation paper, the FCA has refined the definition of ‘regulatory host’ to a firm that:
- Offers or provides a service by which unauthorised persons, whether or not in the same group as the firm, may become ARs of the firm
- Provides this service for remuneration with a view to profit
The notification will provide an accurate figure of the number of regulatory hosts but more importantly will allow the FCA to enhance its supervision of the regulatory hosting sector. Following the Greensill Capital scandal, hosting is regarded as the riskiest part of the principal sector, especially hosts that allow ARs to provide products and services to retail clients and investors. We expect further supervisory activity in late 2022 and 2023 to assess the adequacy of governance and effectiveness of monitoring.
ARs, are your principals prepared? Key points to check
Following its 2018 thematic work, the FCA criticised the sector for inadequate governance and failing to manage conflicts. Therefore, we recommend ARs review the FCA register to check their hosts do not have the same individual fulfilling the CEO (SMF 1) and Compliance Oversight (SMF 16) roles, as there is a conflict between maximising profitability and the compliance costs of meeting FCA standards.
The FCA also focused on Market Abuse Risk (MAR) monitoring, but we believe current elevated levels of sanctions risk are more likely to be a focus of supervisory investigations in the near term. We recommend ARs check their hosts have a dedicated individual fulfilling the MLRO role (SMF 17) and have invested in technology that allows daily screening of sanctions lists so that new additions can be identified and remediated promptly.
All responsible ARs should challenge their principal firm about levels of expert staff hires and investment in best-in-class technology so that they can meet these new requirements.
Although being an AR allows entrepreneurial firms to get off the ground more rapidly than direct authorisation and gives them time to build their infrastructure before being directly regulated, it is not a shortcut around doing the right thing by customers and markets. Choosing a responsible principal is therefore critical for all firms wanting to offer regulated services.
IQ-EQ is the leading provider of regulatory hosting solutions and AR services in the UK. Find out more and get in touch.