This podcast is part of the series “Market Conduct & PAD: How To Keep Up Controls In A Time Of Remote Working” which is sponsored by FIS.
Michelle. How has your day changed now? What’s your current day look like?
Well, very, very different in some ways, but actually very similar in other ways. So obviously, there’s no jetting out of the door the minute the nanny arrives. And one of the great things about lockdown, actually, has been eating three meals a day with the children. But in terms of calls, obviously, very call-based rather than meetings now. Although, I actually have done a couple of face-to-face meetings in my local area in parks and things, which has been really lovely.
Hello and welcome to this DerivSource podcast. I’m Julia Schieffer, the founder and editor of derivsource.com. You’re listening to the second of a three-part series on “market conduct, personal account trading, and how to keep up controls and compliance in a time of remote working.”
The first podcast in the series, as you may have already heard, really focused on culture and specifically the challenges firms face as they try to maintain culture during this pandemic. But we also talked about the value that culture has on firms and how it can help mitigate risks.
In this podcast, we’re taking a look at some of the legal risks that remote working introduces in the areas of personal account trading and market conduct, and of course, we’ll look at some of the regulation or regulatory guidelines around that. And in particular, we’re going to be looking at the guidelines and views expressed by the UK regulatory body, the Financial Conduct Authority in its recently published Market Watch 63. And with me to offer some legal views on these issues is Michelle Kirschner, Partner at Gibson Dunn in London. Michelle, welcome to the podcast.
Thank you. It’s great to be here with you all.
Looking broadly first, what are some of the general legal risks that you think firms need to be aware of in light of the pandemic, and specifically, with regards to remote working arrangements?
There’s a multitude of legal risks, which I suppose, actually in many ways, they’ve been there for a long time as people have been working remotely. So, many of them are not new, but they’re obviously very much enhanced in the current environment. And as I said, there is a multitude of those risks that need to be, in the first place, identified and that’s obviously the first challenge, and then obviously, appropriately managed and mitigated.
Many of the risks are not new risks per se, but obviously in the remote working environment, just the way in which we manage those risks is going to have to change. Obviously, the FCA have very much encouraged firms to be having a look at risks. And I think those risks are not just market conduct. Obviously, market conduct is a big area of risks that firms do need to absolutely be focused on. But there are lots of other risks that firms do need to be identifying such as non-financial misconduct, which is an area that the FCA has been very focused on recently. The remote working environment absolutely enhances potential for those risks – bullying, et cetera. And firms need to be very much alive to those and making sure that they are addressing them.
Other risks, which are very pandemic-related, obviously much of the workforce is now working at home. <any of those workstations at home will be inappropriate and firms assessing to what extent they are responsible for providing employees with a suitable work space, such as sending home relevant equipment, et cetera., is something that firms should absolutely be focusing on.
Other risks that firms need to be looking at and addressing at the moment are third party risks, where you’re outsourcing, et cetera, making sure that you are identifying what those risks are. Obviously, some of those third-party service providers may well find that they’ve got reductions in staff and firms need to work out what the implications of that for them is.
Another area of risk that’s being spoken about over recent months is cyber risk and the increased risk of cyber attacks, which again, is another area that firms should be focusing on.
So, focusing on the FCA Market Watch 63 in particular, let’s go through some of the highlighted areas or the themes expressed by the FCA in this message. For you, Michelle, what were the main areas highlighted there that firms should be aware of and might require changes to their controls or procedures to keep in line with the best practices from a market conduct perspective?
Sure. There’s two broad areas to Market Watch 63. There’s the comments that the FCA make that are really focused on issuers and what issuers need to be doing. Then there’s also the comments that the FCA make to all of the market participants – and it’s really those bits that we’ll focus on during the course of today’s session. And that session can be broken down into really market soundings and treatment of inside information, personal account dealing and short selling. I’ll touch on each of those shortly.
So, in terms of market soundings, now that regime is obviously something that’s been with us since implementation of the Market Abuse Regulation in 2016. And it was introduced really to give a safe harbour, to disclosing market participants from the offense of unlawful disclosure. Now, that safe harbour is obviously very useful for disclosing market participants, but it does require strict adherence to the criteria in order for that safe harbor to be available.
It’s highly likely that the policies and processes that firms designed in order to allow them to meet those strict criteria were designed for an office-based environment. And therefore, I think one of the first things that firms ought to have done or be doing is revisiting those procedures to make sure that they are still fit for purpose in a working from home environment. And a particular example of that is when you are doing a wall crossing the requirement for that to be done are either on a recorded line or by way of written minutes. Now, the vast majority of the market will use recorded lines. There may be some challenges to that in the working from home environment. And therefore, looking at that afresh is something that you would want to do because record keeping is very much front and central of what you need to be doing across the board within your compliance environment, but certainly when you are looking to rely upon this safe harbour. We’re all very familiar with the fact that the FCAs view will be, if you can’t show that something was done, then it wasn’t done. So, that is a very clear example of the need for firms to go back and look at those wall crossing procedures, to make sure that in the working from home environment, they can continue to meet those criteria in order to avail themselves of that safe harbour.
Another issue that we need to address in relation to market soundings is obviously the treatment of inside information. And firms are regularly training their staff in relation to how inside information should be identified and how it should be managed when it is present within the firm with obviously lots of focus on the need to know principal. Working from home throws up a multitude of issues there. People may well be working in a shared working environment, alongside people who are perhaps less aware of market abuse and insider dealing. Obviously, if they’re using home printers, the security there. So, making sure that procedures are updated to take account of the homeworking environment and refreshing staff in terms of what the expectations are of them whilst they are working at home, particularly where they are in possession of inside information.
It’s really key. It’s easy to do. It’s an easy win. It’s a big tick in the box and firms should absolutely be refreshing that training, with a particular angle on the working from home environment. I think there is need at the moment to rollout training that is not just your standard market abuse insider dealing and training, but with a particular angle on the current environment.
I suppose those comments, to a large extent, apply to the disclosing market participant, the banks, et cetera. But similar comments apply in relation to the asset managers who are receiving market participants. Many of them use the gatekeeper approach in terms of accepting a market sounding. And the FCA has very much over time express the view that they like that approach without mandating it as a requirement. But buy-side firms, similarly, need to be having a look at their policies and procedures to make sure that they work equally well in the home working environment as they do outside. Bearing in mind, there may need to be enhanced scrutiny in terms of what is and what is not inside information. This apply to both sell-side and buy-side. Obviously, the markets are in a disrupted state and information that would perhaps not have been previously considered to be inside information in relation to a particular issuer may well be inside information in the current environment. And therefore, just being extra attentive to information that is in the hands of both buy and sell-side to ensure that inside information is being identified appropriately, that’s really key.
And what about personal account dealing, this wasn’t directly covered in Market Watch 63, what are your views on that?
Another big area that the FCA covered in Market Watch 63 is personal account dealing. Now this is by no means the first time that the FCA who’ve touched on personal account dealing. Indeed, Market Watch 62 was very much focused on personal account dealing and the concerns that the FCA have around the adequacy of controls that firms have in place. And therefore, this is an area that firms should very much be focused on, both before the pandemic, but also in the current environment.
I’ve had numerous conversations with clients over the last few months where they are seeing enhanced PA dealing requests, including from people who don’t usually trade, which has obviously sort of peaked concerns. And alongside that, they’ve also seen more breaches of PA dealing policies, essentially forgetting to get the approvals, which obviously need to be treated with appropriate seriousness and any repeat offenders obviously need to be dealt with appropriately.
PA dealing obviously throws up additional risks for a firm, regardless of what environment we are in. But particularly during a remote working environment there is an increased amount of inside information around. People are not in the office, there isn’t the ability to oversee what individuals are up to in quite the same way. And as I already alluded to, people are in shared working spaces, et cetera. So, there are enhanced risks around PA dealing at the moment. And understandably, individuals who do have a portfolio are wanting to manage that, that is probably their pension pot; it is their future. So, quite rightly, when markets are volatile, they need to take action to protect their assets. So, the fact that people are PA dealing is understandable, we just need to make sure that it is being done in a controlled manner.
And the FCA in Market Watch 62, for those of you who have read it, was very much focused on poor controls and the feeling that the FCA has that people don’t really understand what risks PA dealing poses to their particular business. Obviously, Market Watch 62 was a very good indicator of direction of travel that the FCA will be doing more work in this area in the future. And I think, particularly in light of the pandemic, that’s an absolute certainty. So, any firms that haven’t picked up Market Watch 62 and addressed the issues that the FCA raise in Market Watch 62 would be well advised to pick up Market Watch 62 and crack on with that work.
But obviously, it is key to look at what additional risk the current environment raises. So, Market Watch 62 was published in October, 2019 before the pandemic took hold. And so obviously, Market Watch 62 does not address any issues arising out of a homeworking environment. Firms very much need to have a look at that and see where the risks arise for them. And in terms of what I’m seeing firms doing, as firms are seeing enhanced PA dealing requests, firms are rolling out refresher training for their staff on the PA dealing so that actually no one has the excuse of, “Oh, I forgot.” And then obviously, further down the track, if you get any excuses of, “I forgot to get the PA dealing consent,” obviously, that’s then much more difficult for the individual to rely upon.
The third issue raised, which is relevant for all market participants by the FCA in Market Watch 63, is the short selling. And I think if you read between the lines of Market Watch 63, it is clear that the FCA is concerned that there is some abusive conduct going on in the market in relation to short selling at the moment. Obviously, the FCA reminds us that firms must comply with their obligations under the short selling regulation, in particular, of prohibition on naked short selling, and also the requirement to report net short positions. As I say, it’s very clear that the FCA does believe that there is some abusive behaviour whilst also acknowledging that short selling is a legitimate trading practice.
It is very likely, in my view, that the FCA will do some post-pandemic work in this area. And I do know that firms, largely as a result of the reports, that they are submitting in relation to net short positions, they are getting inquiries from the FCA during the pandemic in terms of what is this trading and what was the purpose and intention behind it? So, I think it’s very likely that the FCA will do thematic work in this area in the post-pandemic era. And to the extent that they do find that conduct didn’t meet with the required standards, was abusive, we can very much expect that the FCA will take enforcement action against firms and individuals where appropriate to do so.
In terms of what firms should be doing, obviously lots of firms in order to comply with the prohibition on naked short selling, will have cover arrangements in place. What we are seeing is firms going back and just checking that those cover arrangements remain valid and that they are in place and that they are achievable. And obviously to the extent that the conclusion is reached given the volatility of the markets, that those arrangements are no longer there, obviously new arrangements will need to be put in place in order to avoid the prohibition on naked short selling.
So, we’ve looked at Market Watch 63 at a high level. This is obviously very important for market participants in the UK. And this, as you said, has covered short selling, market sounding, including the management of inside information. But was there something that wasn’t explicitly covered in this Market Watch that you think firms should be aware of in terms of maybe needing to instigate some kind of control or making sure that the controls that they already have in place address the remote working situation that we’re in?
And as I sort of mentioned at the beginning of this podcast, there are a multitude of risks that arise during the pandemic, but actually something that I think is really worth mentioning and something that addresses a multitude of those risks is record keeping and how firms are going about that. And the particular type of record keeping I’m thinking of is in terms of telephone recording or recording of conversations. Many firms have opened up Zoom rooms or other social media chat rooms where teams are on these rooms throughout the course of the day. Now that actually answers many of the risks that I mentioned early on, such as bullying, et cetera. It just enables managers to keep an eye on what is going on. It helps with that oversight.
Many of the firms that I speak to thought about, well, should we or should we not record those Zoom rooms or what other platform it is that they are using. And many of them came to the conclusion that no, they wouldn’t because actually what they wanted to encourage was full and frank discussion amongst the team during the course of the day. The downside to not recording means that many conversations, which strictly under the rules ought to be recorded and in the ordinary course in an office environment would have been recorded in other ways, the opportunity for recording those are missed through that Zoom or the social media platform.
Now, I am aware that some firms have raised this with the FCA and to my knowledge, the FCA haven’t sort of reacted to it or provided any feedback. But it does mean that there is a risk out there that actually many firms will not be recording conversations that they should under the rules be currently recording. And that may well just be a risk that you’re currently happy to run. Obviously, very early stages of the pandemic, the FCA did say, “Look, if there are aspects of the rules that you are very much struggling to comply with, tell us about it.” So, there is that avenue and many firms will have gone down that track. But that is another issue for firms to be having a think about in terms of what is it that we are not complying with today that we would have just been automatic and would have just happened in the office environment. And that recording of conversations record keeping is absolutely one of those areas not covered in Market Watch 63, but I think worth bringing up and discussing for firms to have a think about.
And finally, Michelle, just to kind of share with our audience, what takeaway or advice would you give our audience before we end?
I think what I would say to that is do the best that you can. The position you always want to get yourself into with the regulator is being able to sit across the table from the regulator and say, “Well, what more could I reasonably have done?” And regardless of what the situation is, if you can look a regulator in their eye and say that, you’re in a decent position.
And obviously, to the extent that it hasn’t already been done, I think the first thing to do is to ensure that you have revisited all of your risk registers and identified any new and emerging risks or risks that are arising in a different way, given the home working environment. Looking at the controls that you’ve put in place around those risks -are those controls still adequate, do they still actually meet the needs of the business? Making sure that you are doing enhanced monitoring and particularly where you’ve got enhanced volumes, you’re seeing additional breaches, really around where the risks are that you see that are arising, making sure that you are monitoring those and dealing with anything that crops up as a result of that monitoring.
And then going forwards, making sure that you are doing look back reviews on particular issues, because it’s absolutely certain that the FCA will do look back reviews on a thematic basis. So, obviously you can be ahead of the curve there.
And something that I’ve mentioned a few times during the course of the podcast is really refresher training on various different issues. And that’s obviously an easy win. It’s very easy to do and once you’ve done it, it puts you in really good stead should something go wrong, at least you can say, “Well, the staff were trained.” And from the senior manager’s perspective, obviously they will be very interested to know that the staff have been updated with training, they will be interested to know where the risks are and that they are being controlled appropriately. So, you can also expect senior managers, in light of the Senior Managers Regime, to be more interested in what’s going on.
Michelle, thank you for sharing your insight with us today in this podcast.
My absolute pleasure.
Staying ahead of the curve is always a good strategy. And with the FCA Market Watch 63 and to some extent Market Watch 62 on personal account dealing, firms have some insight into what controls need to be in place as they continue to operate, albeit differently, with their teams working remotely and for the foreseeable future during this pandemic. If you haven’t read these Market Watches, we will include links to this in our show notes page on derivsource.com as well as any other additional resources we think might be useful to you.
Hopefully, this podcast has shed some light on the main takeaways to consider. Join us for our next and final instalment of this series, where we are going to be talking about the role of technology in addressing some of the challenges highlighted so far and of course, as they pertain to working during these unprecedented times.
Thank you for listening. Join us next time.