It also comes as the Financial Markets (Conduct of Institutions) Amendment Bill (COFI) winds its way towards implementation, after a hiatus for the election period. Banks and insurers, who will fall under the COFI regime, can benefit from some further clarity about the FMA's conduct expectations before that scheme is implemented.
The FMA's focus remains on “governance and culture" and it makes it clear that it expects regulated entities to have the same focus. As set out in the Statement of Intent, the FMA expects that:
Financial service providers demonstrate an appropriate customer-centric culture and improvements in governance, incentive structures, sales and advice processes and systems to mitigate conduct risk.
You can read our coverage on the FMA's earlier Statement of Intent here.
In general, the FMA considered that the problem areas identified were as a result of a “casual or careless approach to conduct and compliance" rather than deliberate misconduct. However, the FMA pointed out that such disregard can also lead to poor customer outcomes. In the FMA's view, governance and culture concerns were often an “afterthought" rather than being at the heart of the entities' decision making.
The FMA's CEO, Rob Everett, also indicated that enforcement activity will become “increasingly strong". This is especially important given the new COFI regime will extend the FMA's supervisory jurisdiction into previously untouched areas. To find out how financial services providers can best prepare for the COFI regime see The Big Picture: Financial Markets – are you prepared for a conduct regulation regime?
Governance and oversight
In the FMA's view, some directors do not have “a good understanding of corporate governance in general, and/or their entity's [specific] obligations". This issue was put down to the lack of formal induction and/or ongoing training and limited discussion of risk and compliance matters at board level. The FMA directed attention to its “Corporate Governance Handbook" (including sections on board composition and performance, and risk management) in order to help boards better comply with their obligations.
Another key area of focus was ensuring that financial market participants have appropriate risk and compliance frameworks and, crucially, devote adequate resources to implementing them. In particular, the FMA was concerned about entities not clearly allocating responsibility for managing risk and compliance, and not providing sufficient resources for these functions to ensure that the entity adhered to its obligations.
Conduct and culture
Conduct and culture has been an increasing focus for the FMA over the last couple of years, with the report making it clear that the FMA considers itself to be a “conduct regulator". The report acknowledged “the commitments and efforts of many entities to improving their conduct and culture", but also raised specific areas of concern. The FMA was concerned by entities with:
- A lack of commitment by boards to customers' needs and outcomes.
- No clear understanding of conduct risk, and mechanisms to identify inappropriate conduct.
- Poor complaints management processes including a lack of clarity about what constitutes a complaint and no appropriate escalation policies.
- Inappropriate sales incentives without adequate controls in place to address conflicts of interest posed by such incentives.
The FMA again drew attention to its Conduct Guide (published in 2017) to provide guidance to entities. It expects all entities to undertake and document an assessment of their business against the principles in the Conduct Guide and any other conduct guidance the FMA has issued and address any gaps. It also encouraged more proactive work by entities to develop and improve processes and policies (beyond the minimum legal and regulatory standards) to “champion business models focussing on client interests", without waiting for customer complaints or regulator interest.
The FMA noted (among other things) that Compliance Assurance Programmes need to be properly designed and updated, that internal policies and procedures need to be appropriate for the size and nature of the organisation, that staff ought to receive training on compliance and that compliance with licensing obligations is ongoing (and not just when you get your licence).
The FMA reserved perhaps its harshest criticism for derivatives issuers noting that for a “majority" of issuers, it found “significant weaknesses" in how they assessed customers' knowledge, experience and understanding of derivatives. The FMA noted that some issuers did not have sufficient information to conduct the necessary product suitability assessments or had poorly designed assessment processes. The need to “design robust processes to collect information about prospective investors" was emphasised as was the need for proper processes and policies for handling client money.
AFAs and QFEs
The FMA also had some specific critiques directed at Authorised Financial Advisers (AFA) and Qualifying Financial Entities (QFE). In particular, the FMA focussed on the required disclosure statements, including ensuring that they accurately describe the fee structures and are proactively provided to customers. The FMA found shortcomings here and thought the way some QFE processes operated made it difficult to provide personalised advice to customers in circumstances when personalised advice was appropriate.
The report provides an important reminder of the FMA's focus in the coming months as it emerges from the initial COVID-19 phase. The FMA continues to emphasise the importance of comprehensive policies and procedures that comply with the raft of financial regulations, and its focus on governance and culture continues to strengthen. It is a reminder to financial entities (whether or not currently regulated) to focus on so-called 'conduct risk' and put in place and document adequate systems and controls to ensure compliance with conduct regulation.
If you have any questions about the matters raised in this article, please get in touch with the contacts listed, or your usual Bell Gully adviser.
Disclaimer: This publication is necessarily brief and general in nature. You should seek professional advice before taking any action in relation to the matters dealt with in this publication.