UK regulators initiate review of banks’ equity finance activities
13 December 2021 UK
Image: AdobeStock/EtiAmmos
UK financial regulators have written to banking organisations highlighting weaknesses in their equity finance businesses and pointing to significant cross-firm deficiencies that have become apparent in the wake of the default of Archegos Capital Management.
In a “Dear CEO” letter sent to selected banking institutions, UK financial supervisors indicate that it is “highly concerning” that lessons from the Global Financial Crisis have not been learned and that required changes to business and risk management procedures have not been integrated into firms’ operations.
Reflecting on losses of over US$10 billion sustained by bank equity finance and prime services divisions following the Archegos default — which has been analysed in detail in SFT Issue 284 and 289 — UK financial watchdogs point to a failure across banking organisations to manage risk across business units in a joined-up way.
This regulatory review is critical of ineffective and inconsistent margining approaches, particularly the use of static margining, applied to some client accounts.
Despite having well-established know-your-customer and financial crime policies in place, banks also failed to apply necessary rigour when evaluating reputational risk in new client relationships — and they failed to apply effective procedures to monitor and reassess these risks on an ongoing basis.
The letter, written by executive directors at the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA), working in cooperation with the Bank of England and international financial regulators, says that these shortcomings are typically symptoms of a broader root cause.
These problems, according to the letter, often arise from a risk culture where frontline business executives fail to take accountability for risks within their organisations and where the independent risk management function within the organisation is given insufficient importance and status.
The Archegos default, it says, illustrates the need for firms to invest in their risk management systems and controls infrastructure. This also highlights the need for senior management to create and maintain an effective internal risk culture.
On the back of these findings, the joint letter requires senior management in banking organisations to conduct a systematic review of their equity finance arms and their associated risk management frameworks.
They must report the findings of this analysis, along with a detailed remediation plan where relevant, to the PRA and FCA by the end of Q1 2022.
The letter proposes that future remuneration of senior executives should be linked to the firm’s performance in addressing these risk concerns and setting in place timely improvements.
This detailed internal review should focus on four primary areas: business strategy and organisation, onboarding and reputational risk; financial risk controls and governance; and liquidation and close out.
The risk controls and governance category has been subdivided to include documentation standards and contractual rights, margining strategy, ongoing due diligence and disclosures, and limit frameworks.
The joint letter is signed by PRA executive directors Nathanaël Benjamin and David Bailey, along with FCA executive director for financial markets Sarah Pritchard.
In a “Dear CEO” letter sent to selected banking institutions, UK financial supervisors indicate that it is “highly concerning” that lessons from the Global Financial Crisis have not been learned and that required changes to business and risk management procedures have not been integrated into firms’ operations.
Reflecting on losses of over US$10 billion sustained by bank equity finance and prime services divisions following the Archegos default — which has been analysed in detail in SFT Issue 284 and 289 — UK financial watchdogs point to a failure across banking organisations to manage risk across business units in a joined-up way.
This regulatory review is critical of ineffective and inconsistent margining approaches, particularly the use of static margining, applied to some client accounts.
Despite having well-established know-your-customer and financial crime policies in place, banks also failed to apply necessary rigour when evaluating reputational risk in new client relationships — and they failed to apply effective procedures to monitor and reassess these risks on an ongoing basis.
The letter, written by executive directors at the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA), working in cooperation with the Bank of England and international financial regulators, says that these shortcomings are typically symptoms of a broader root cause.
These problems, according to the letter, often arise from a risk culture where frontline business executives fail to take accountability for risks within their organisations and where the independent risk management function within the organisation is given insufficient importance and status.
The Archegos default, it says, illustrates the need for firms to invest in their risk management systems and controls infrastructure. This also highlights the need for senior management to create and maintain an effective internal risk culture.
On the back of these findings, the joint letter requires senior management in banking organisations to conduct a systematic review of their equity finance arms and their associated risk management frameworks.
They must report the findings of this analysis, along with a detailed remediation plan where relevant, to the PRA and FCA by the end of Q1 2022.
The letter proposes that future remuneration of senior executives should be linked to the firm’s performance in addressing these risk concerns and setting in place timely improvements.
This detailed internal review should focus on four primary areas: business strategy and organisation, onboarding and reputational risk; financial risk controls and governance; and liquidation and close out.
The risk controls and governance category has been subdivided to include documentation standards and contractual rights, margining strategy, ongoing due diligence and disclosures, and limit frameworks.
The joint letter is signed by PRA executive directors Nathanaël Benjamin and David Bailey, along with FCA executive director for financial markets Sarah Pritchard.
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