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IMC > Regulation of Financial Markets and Institutions > Flashcards

Regulation of Financial Markets and Institutions Flashcards

1
Q

What are the two ways in which the harmonization of financial services in Europe took place?

A
  1. EU directives
  2. EU Regulations
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2
Q

What are EU directives?
- How may they be implemented?
- What happens in the event that they are not implemented by the due date?

A

EU directives are issued under Article 58 of the European Treaty to Harmonise Laws across member states.

This may be implemented by:
- primary legislation or new law
- delegated legislation (amending existing law)

If directives are not implemented by the due date:
- they have a ‘vertical direct effect’ which means that they are given precedence over national law.

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3
Q

What are EU regulations?

A
  • The most direct form of EU law
  • Immediately binding in all EU member states
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4
Q

What is the difference between directives and regulations (EU)

A

Directives are issued to harmonize laws across a number of jurisdictions. They are not laws themselves, they are issued to direct laws.

Regulations are immediately binding.

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5
Q

What is MIFID (Markets in Financial Instruments Directive)?

A

The MIFID regulation was introduced to allow firms to trade within EEA with a single authorization also known as the single passport.

The authorization is obtained from the HOME state regulator which can be the FCA or PRA.

The HOST state conduct rules of business rules apply. e.g. different tax, and marketing laws.

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6
Q

Markets in Financial Instruments Directive II (MiFID II)
- When was it implemented
- What are the key 5 changes?

A

MIFID II was implemented in January 2018.

Key changes to MIFID II:
1. A regulated organised trading facility (OTF)
2. Strengthening the transparency requirements
3. Limiting the size of positions held in commodity derivatives
4. Rules to avoid potential risks and creation of disorderly markets from increased use of technology performed electronically at very high speed
5. Increased information regarding goods and services

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7
Q

MIFID II distinguishes between investment services and activities and ancillary services.

  • What do these mean?
  • What are examples of both
A

Investment services are defined as core services. Ancillary services are known as non-core services.

Investment services/core services (these can be passported on their own):
- Reception of transmission of orders
- Execution orders for clients
- Dealing with’ own account’, which is called principle
- Managing investments / portfolios
- Investment advice
- Placing
- Operating a ‘multilateral trading facility’ -: MTF
- Operating organised trading facility: - OTF

Ancillary services/non-core services (cannot be passported on their own):
- Safekeeping and administration services
- Granting credit (margin)
- Advice on capital structure and advice and services relating to M&A
- FX services
- Investment research
- Investment and ancillary services relating to derivative underlying assets

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8
Q

Markets in Financial Instruments Regulations (MiFIR)
- When was it implemented?
- What is the related regulation to MIFID II?

A
  1. MIFIR was implemented in January 2018.
  2. Related regulation to MIFID II:
    - Unlike MIFID II, it does not need to be implemented into national law.
    - Sets out a number of reporting requirements in relation to the disclosure of trade data to the public and competent authorities.
    - MIFIR extends MIFID’s scope to cover more asset classes, so more firms are caught under reporting requirements.
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9
Q

What is the UCITS Directive?

What are the three effects/features of the UCITS directive?

A

The Undertaking for Collective Investment in Transferrable Securities (UCITS) Directive gives automatic recognition in the UK to other collective investment schemes constituted in an EU Member State other than the UK.

  • Creates a ‘single market’ for the collective investment schemes in the EU.
  • A collective investment scheme authorised in any member state of the EU can be marketed without further authorisation in any other member state.
  • Local tax and marketing laws apply
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10
Q

Which regulatory body is responsible for recognizing UK schemes that fall under UCITS?

A

The Financial Conduct Authority (FCA).

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11
Q

What was introduced in the UCITS III directive (2):

A
  1. Management directive: this increased the scope of passported activities under UCITS and introduced the simplified prospectus.
  2. Product directive: this directive expanded the range of financial instruments permitted in the UCITS funds.
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12
Q

What was introduced in the UCITS IV directive (3):

A
  • a passport for management companies
  • passport for procedures for cross-border fund mergers
  • replacing the simplified prospectus with a key investor information document (KIID)
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13
Q

What was introduced in the UCITS V directive (1):

A

Enhances the rules of the responsibilities of depositories

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14
Q

Alternative Investment Fund Management Directive (AIFMD)

When was it introduced?

What does it cover?

What is the focus?

What are the main requirements?

A

Was introduced in 2013.

  • Covers the management, administration, and marketing of alternative investment funds (AIFs).
  • Focus: regulation of AIF managers (AIFMs) rather than AIFs themselves
  • Main requirements:
    Regulation of an AIF is required by their home state regulator where the AUM exceeds EUR100m for AIF using leverage OR EUR500m for AIF not using leverage.

Brokers selected by AIFMs should be regulated, financially sound, and have the necessary organizational structure to provide services.

Quarterly, semi-annual, or annual regulatory reporting by AIFMs to their home state regulator

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15
Q

The European Market Infrastructure Regulation (EMIR)

  1. When was it introduced?
  2. What is it responsible for?
  3. What are the three requirements of OTC trades?
A

The European Market Infrastructure Regulation (EMIR) came into force on 16th Aug 2012.

EMIR covers over-the-counter derivatives, central counterparties, and trade repositories. EMIR requires anyone who has entered into a derivatives contract to report and risk manage their derivative positions.

The three main requirements of OTC trading are:
- standardized trade reporting
- compulsory central counterparty clearing (CCP)
- risk management procedures

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16
Q

What is the Benchmarks Regulation (BMR) and when was it introduced?

A

The Benchmark Regulation (BMR) was introduced in 2018 to address the risk that benchmarks were susceptible to manipulation (as demonstrated by the EURIBOR and LIBOR scandal)

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17
Q

What is the Foreign Account Tax Compliance Act (FATCA)?

Under which circumstances will it apply to non-US financial institutions?

A

The Foreign Account Tax Compliance Act (FATCA) is the US law to prevent tax evasion by US citizens by US citizens using offshore banking facilities.

Applies to non-US financial institutions:
- 30% withholding tax on payments of US source income to non-US financial institutions.
- All foreign financial institutions (FFIs) are required to provide information about their US customers (reportable accounts).

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18
Q

What are the Common Reporting Standards (CRS) and when was it developed?

A

The Common Reporting Standard (CRS) is an information standard for the automatic exchange tax and financial information on a global level, which is developed by the Organisation for Economics Co-operation and Development (EOCD).

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19
Q

Who are the three regulatory bodies in the UK and what are their overarching responsibilities?

A

The Financial Policy Committee (FPC): responsible for macro-prudential (systemic) regulation of the financial system.
- Committee of the Bank of England
- Monitors the stability of the whole financial system
- Has powers of direction over the FCA and PRA

The Financial Conduct Authority (FCA): responsible for regulating the conduct of businesses (will also PRUDENTIALLY regulate the smaller and mid-sized financial firms)
- Overseen by the treasury
- Role: CONDUCT regulation of banks, insurers, and all investment firms

The Prudential Regulatory Authority (PRA): responsible for the prudential regulation banks, insurers, and systemically important investment firms.
- Legal entity within the Bank of England
- Core objective: is to promote the safety and soundness of the firms it regulates
- Role: PRUDENTIAL regulation (monetary regulation) of banks, insurers, and large investment firm

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20
Q

What are the 3 operational objectives of the FCA:

A
  1. The consumer protection objective
  2. The integrity objective
  3. The competition objective
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21
Q

Who is an exempt person according to the FCA objectives and high standards?

A
  1. Appointed representatives (aka tied agents)
  2. Recognised investment exchanges (RIEs) and clearing houses (RCHs)
  3. Members of professions: member of a designated professional body (DPB) carrying on incidental investment business.
  4. Member of Lloyds of London
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22
Q

What is the Payment Systems Regulator (PSR)

A

It is an economic regulator for the payments system in the UK. It regulates systems designated by HM Treasury.
- BACS
- C&C (Cheque and Credit)
- CHAPS
- Faster Payments Service (FPS)
- LINK
- MasterCard
- Visa Europe

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23
Q

What is the Competition and Markets Authority (CMA) and in which instance will the CMA intervene.

A

The CMA acts as an independent competition authority in the UK.

The CMA must intervene where:
- The merged company will control over greater than 25% of the UK Market.
- The target company will have a turnover of £70m or more

24
Q

What is the Department of Business, Energy and Industrial Strategy (BEIS) and when will they intervene in the market.

A

The BEIS is an independent competition authority in the UK.

The Secretary of State at the BEIS may intervene where there are ‘public interest’ (national security) issues.

25
Q

What is the Panel of Takeovers and Mergers (PTM) and when do they intervene in the market?

A

The Panel of Takeovers and Mergers monitor mergers and acquisitions from the perspective of shareholders.

  • They are funded by the PTM Levy (£1 on purchases on £10k)
  • Acts as a referee for the FAIR CONDUCT OF TAKEOVER BIDS:

The PTM is careful not to favour wither the offeror or offeree by applying the principle of fairness to shareholders. It investigates fair conduct when:
- A compulsory bid: triggered by 30% or more of the voting rights or cash offer to all the shareholders at the highest price paid in the previous year.
- Any offer must remain open for at least 21 days.
- If any predator stake reaches 90% or more, the predator may force the remaining minority shareholder to sell. e.g. a squeeze out.

26
Q

How do the information commissioners office (ICO) govern information / data?

A

GDPR require data controllers to register with the ICO, and handle data in accordance with the following 6 principles:
- processed lawfully and fairly
- collected for specified, explicit and legitimate purposes
- adequate, relevant and limited to what is necessary in relation to the purposes for which it is processed
- accurate and where necessary up t date
- kept for no longer than it is necessary for the purposes for which personal data is processed
- processed in a manner that ensures appropriate security of the personal data, including protection against unlawful processing and accidental loss, destruction or damage

27
Q

What is the value of GDPR breach fines and during which time period must breaches be notified to the ICO

A

Fines for breaches in relation to the GDPR can be up to EUR 20M or 4% of global annual turnover (whichever is greater)

Breaches must be notified within 72 to the ICO within 72 hours

28
Q

What is the Trustee Act and what does it apply to.

What does the trustee Act 2000 NOT apply to?

A

The Trustee Act 2000 allows trustees to make any kind of investment provided they:
- obtain and consider proper advice
- have regards to standard investment criteria: suitability & need for diversity.

Trustee Act of 2000 DOES NOT apply to:
- Occupational pension schemes
- Authorised unit trusts
- Certain schemes under the Charities Act

29
Q

What is the function of the Pensions Regulator and how do they work with trustees

A
  • Regulates the final salary (defined benefit) occupational pension schemes.
  • Increased the ability of pension trustees to act independently from the employer.
  • Trustees must:
    • Appoint their own actuary, auditor, and financial advisors.
    • Produce a Statement of Investment Principles (SIP), reviewed every 3 years.
30
Q

What is the Pensions Act of 2008

A
  • Implemented in 2012
  • Main requirement is that eligible workers are automatically enrolled in their employers’ scheme or a new savings vehicle (NEST)
  • An eligible worker is between 22 and requirement age, and not in a workplace s
31
Q

What is the Pensions Act of 2008

A
  • Implemented in 2012
  • Main requirement is that eligible workers are automatically enrolled in their employers’ scheme or a new savings vehicle (NEST)
  • An eligible worker is between 22 and requirement age, and not in a workplace scheme.
32
Q

Pension Flexibility was introduced in 2015, explain the 3 benefits that this introduced.

A

Lump Sum payment: is money that can be withdrawn from the accumulated fund (up to 25% tax free)

Purchasing a lifetime annuity with some or all of the accumulated that will pay a income with until death. This option was previously available and pension commencement lump sum (PCLS) of up to 25% of the fund can still be accessed before the annuity is purchased.

Flexi-access drawdown: accumulated fund can be out in a draw-down fund (commencement lump sum up to 25% tax free/drawdowns taxed as income)

33
Q

Define the Pensions Schemes Act of 2021

A

Enhanced enforcement powers for the pensions regulator (including new criminal offences) largely affecting defined benefit schemes.
- Civil penalties can be up to £1million
- Obligations to notify certain corporate activity to the regulator and trustees.

Additional defined benefit scheme funding requirements

Changes to transfer rights

New climate change risk governance requirements:
- The regulator will have powers to enforce compliance, with fines of up to £5000 for an additional trustee, or £50,000 for a corporate trustee.

Legislative framework for collective money purchase pension schemes.

34
Q

The FCA Handbook has 7 key ‘blocks’ what are these?

A

Block 1 - High level standards,
Block 2 - Prudential Requirements
Block 3 - Business Standards
Block 4 - Regulatory Process
Block 5 - Redress
Block 6 - Specialist Sourcebooks
Block 7 - Listing, prospectus and disclosure rules.

35
Q

What is the purpose of Senior Management Arrangements, Systems and Controls

A
  • Encourage directors and senior managers to take appropriate, practical responsibility for their firm’s arrangements.
  • Amplify Principle 3 (Management and Control).
  • Create a common platform of organisational systems and controls for firms subjects to either or both MIFID or CRD.
36
Q

What are the 8 threshold conditions required to apply to the FCA and FSMA

A
  1. Legal status: must be an incorporated firm (but not a limited liability partnership), a registered friendly society or a member of Lloyds of London.
  2. Registered office: Head office must be be in the UK.
  3. Effective supervision: structure of the group and close links (shareholders with more than 20% holding) must not inhibit supervision.
  4. Appropriate resources: FCA authorised firms will need to hold resources appropriate to the regulated activities undertaken.
  5. Suitability: the firms affairs must be conducted in an appropriate manner with regard to the interests of consumers, the integrity of the UK financial system the need to minimise the extent to which businesses carried on by a firm can be used for a purpose connected with financial crime.
  6. Business model: The firm’s strategy for doing business suitable for it’s regulated activities.
  7. Business to be conducted in a prudent manner: requires firms to have an appropriate financial and non-financial resources
  8. Appointment of claims representatives: relates to insurance companies.
37
Q

What changes came about from the Senior Managers and Certification Regime (SMCR) from 2016 for dual regulated firms.

A

New senior managers and certification regime from March 2016, for dual regulated firms with changes including:

  • New ‘senior managers regime’ focusing accountability on a narrower number of senior individuals.
  • Certification by firms of the fitness and propriety of certain individuals.
  • Conduct rules replacing the statements of principle and approved person code
38
Q

What are the three main types of responsibility under the senior managers regime.

A
  1. Senior management functions (SMFs)
    - effectively replacing significant influence functions
    - pre-approved by regulators, assessed as fit and proper by the firm and subject to the conduct rules.
  2. Prescribed responsibilities (PR):
    - Functions that would formally have been significant influence functions that do not fall within the scope of SMF
    - Individuals in customer facing roles subject to qualification requirements
    - Anyone who supervises or manages the above
    - Certified as fit and proper by the firm and subject to conduct rules
  3. Key functions: Important functions other than the SMFs and PRs:
    - Other staff (except ancillary staff)
    - Subject to conduct rules
39
Q

Professionalism requirement for retail advisors

A

Since the retail distribution review (RDR), retail advisors have to:
- Subscribe to a code of ethics
- Hold an appropriate qualification
- Carry out at least 35 hours of CPD
- Hold a statement of professional standing (SPS) from an accredited body

40
Q

Regulation of Investment Exchanges

Which recognised investment changes are recognised by the FCA

A

London stock exchange (LSE)

Acquis Stock Exchange (AGSE)

London Metal Exchange (LME)

ICE Futures Europe

41
Q

Regulation of Clearing Houses

Which recognised clearing houses are recognised by the Bank of England

A

ICE Clear Europe

LME Clear

LCH.Clearnet

CME Clearing Europe

42
Q

ICE Futures Europe

What is their exchange status, trading system and market participants

A

Exchange houses:
- Recognised investment exchange (REI)

Trading System:
- Electronic order matching system

Market Participants:
- Traders: act on their own (‘locals’) or their company’s behalf
- Brokers: acts for clients

43
Q

What are the regulation of derivatives exchanges in the UK and the US

A

UK:
- Regulated Investment Exchanges (RIE)
- Detailed trading rules governed by the exchange

US:
- Regulation of exchange traded derivatives: Split between the securities and exchange commission (SEC) and the common futures trading commission (CFTC)

  • Regulation of OTC derivatives: Dodd-Frank regulation which governs OTC derivatives and their handling
44
Q

What is ICE Clear Europe

A

Central Counterparty (CCP) for derivative trades. It has no involvement with member/client relationships and has a separate back-to-back contract

45
Q

What are margins used for by clearing houses?

What are initial margins?

What are variation margins?

A

The clearing house protects itself from risk by taking margins.

An initial margin is also known as a ‘goodwill deposit’, which ensures an exchange member can satisfy the conditions of the contract.

A variation margin is a daily payment of gains/demanding of losses. At the end of each day, the daily valuations are marked to market with any gains and losses attributed.

46
Q

What was the impact of MiFiD

What was the impact of IFRS 9

What was the impact of EMIR

A

MiFiD brought commodity derivatives into the list of regulated investments

IFRS 9 requires derivatives to be measured at fair value and changes in value to be recognised in the accounts

EMIR is clearing of the OTC derivatives, which has largely moved to central counterparties.

47
Q

FCA Business Standards: Accepting Customers

What are the tests and requirements for accepting ‘Elective’ professional clients?

A

Qualitative test 1: to assess expertise, experience, and knowledge. One can gain assurance that the client is capable of making their own investment decisions and understanding the risks involved.
&
Qualitative test (at least two of the following three criteria):
- At least 10 transactions per quarter on the relevant market over the last 4 years
- Client portfolio exceeds EUR500,000
- At least one year’s professional work in the financial sector

Additionally:
- Client must agree in writing
- Firm must give written warnings of protections lost
- Clients must state separately that they are aware of the consequences.

48
Q

FCA Business Standards: Accepting Customers

What are the tests and requirements for accepting ‘Per se’ professional clients?

A

Per se clients are entities that require authorisation / regulation to operate in financial markets. These include national governments/central banks, supranational organisations.

The following criteria apply to MifiD business ‘large undertakings’ (meet at least two of the following):
- EUR 20M balance sheet total
- EUR40M turnover
- EUR2M own funds

The following apply to Non-MifiD business ‘large undertakings’
- Called up share capital or net assets of at least £5M OR
- Two of the following three:
- 12.5M balance sheet total
- EUR25M Turnover
- 250 average number of employees.

49
Q

What are ‘per se’ eligible counterparties and what are their requirements?

A

‘Per se’ eligible counterparties (ECP) are entities that require authorisation / regulation, these include national governments, central banks, and supranational organisations .

What are the requirements for Eligible counterparty business:
- Execution of orders on behalf of clients
- Dealing on own accounts
- Reception and transmission of orders
- Do not deal in advisory or fund management

50
Q

What must be provided to a client before entering into an agreement?

A

Before entering into an agreement or providing any services relating to designated investment business with a retail client and MiFID business with regard to a professional client, a firm must provide the client with:
- Terms and conditions
- Information about the firm and its services

These MAY be provided to a client after entering into an agreement if the agreement is via distant communication

51
Q

Regarding record keeping for client agreements, how long must these records be stored for?

A
  • The LONGER OF five years, or duration of the relationship.
  • Indefinitely for pension transfers, opt-out or FSAVC (free-standing additional voluntary contribution)
52
Q

Financial Promotions:

According to the FSMA 21 restriction, what is it illegal to do

A

It is illegal to communicate an invitation or inducement to engage in investment activity (a financial promotion) unless:
- it is issued by an authorised person
- the content is approved by an authorised person

53
Q

Fair, clear and not misleading for financial promotions.

What must firms to to achieve compliance to this rule

A
  1. Make it clear that capital is at risk
  2. For quoted yield, give a balanced impression of short-term and long-term prospects for the investment
  3. For complex charging structures, include sufficient information, taking into account the needs of the recipients
  4. Names the FCA as it’s regulator.
  5. For packaged products or shareholder products, not produced by the firm, give a clear and not misleading impression of the producer or manager of the underlying investment.
54
Q

Communication with retail clients:

When communicating with retail clients, what must the firm ensure that they do?

A

When communicating with retail clients, the firm should ensure that the information:
- Includes the name of the firm
- Does not emphasize the benefits without highlighting the risks
- It is likely to be understood by the average member of the group that it’s directed at
- Does not disguise, diminish, or obscure important statements or warnings.

55
Q

When firms are communicating with retail clients, how must they treat comparisons, tax treatments, and past performance?

A

For comparisons:
- they must be meaningful and balanced, and the source of information must be included.

For tax treatments:
- the treatment depends on individual circumstances must be prominently displayed

Past performance:
- should include at least 5 years performance (or the lifetime of the product if less)
- must include a clear warning that past performance is not an indication of future performance

IMC (4 decks)

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