Corporate Finance Regulation Ed14 PDF

Certificate in Corporate Finance Corporate Finance Regulation Edition 14, January 2024 This learning manual relates to syllabus version 19.0 and will cover exams from 11 April 2024 to 10 April 2025 Welcome to the Chartered Institute for Securities & Investment’s Corporate Finance Regulation study material. This workbook has been written to prepare you for the Chartered Institute for Securities & Investment’s Corporate Finance Regulation examination. Published by: Chartered Institute for Securities & Investment © Chartered Institute for Securities & Investment 2024 20 Fenchurch Street, London EC3M 3BY, United Kingdom Tel: +44 20 7645 0600 Fax: +44 20 7645 0601 Email: [email protected] www.cisi.org/qualifications Author: Philip Read, Chartered FCSI Reviewer: Dan Dinu, Chartered FCSI Rob Rattray, Chartered FCSI This is an educational workbook only and the Chartered Institute for Securities & Investment accepts no responsibility for persons undertaking trading or investments in whatever form. While every effort has been made to ensure its accuracy, no responsibility for loss occasioned to any person acting or refraining from action as a result of any material in this publication can be accepted by the publisher or authors. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without the prior permission of the copyright owner. Warning: any unauthorised act in relation to all or any part of the material in this publication may result in both a civil claim for damages and criminal prosecution. A learning map, which contains the full syllabus, appears at the end of this workbook. The syllabus can also be viewed on cisi.org and is also available by contacting the Customer Support Centre on +44 20 7645 0777. Please note that the examination is based upon the syllabus. Candidates are reminded to check the Candidate Updates area details (cisi.org/candidateupdate) on a regular basis for updates as a result of industry change(s) that could affect their examination. The questions contained in this workbook are designed as an aid to revision of different areas of the syllabus and to help you consolidate your learning chapter by chapter. Workbook version: 14.3 (May 2024) ii Important – Keep Informed on Changes to this Workbook and Examination Dates Changes in industry practice, economic conditions, legislation/regulations, technology and various other factors mean that practitioners must ensure that their knowledge is up to date. At the time of publication, the content of this workbook is approved as suitable for examinations taken during the period specified. However, changes affecting the industry may either prompt or postpone the publication of an updated version. It should be noted that the current version of a workbook will always supersede the content of those issued previously. Therefore, candidates should not attempt to study for the exam using outdated workbooks. Keep informed on the publication of new workbooks and any changes to examination dates by regularly checking the CISI’s website: cisi.org/candidateupdate Learning and Professional Development with the CISI The Chartered Institute for Securities & Investment is the leading professional body for those who work in, or aspire to work in, the investment sector, and we are passionately committed to enhancing knowledge, skills and integrity – the three pillars of professionalism at the heart of our Chartered body. CISI examinations are used extensively by firms to meet the requirements of government regulators. Besides the regulators in the UK, where the CISI head office is based, CISI examinations are recognised by a wide range of governments and their regulators, from Singapore to Dubai and the US. Around 50,000 examinations are taken each year, and it is compulsory for candidates to use CISI workbooks to prepare for CISI examinations so that they have the best chance of success. Our workbooks are normally revised every year by experts who themselves work in the industry and also by our Accredited Training Partners, who offer training and elearning to help prepare candidates for the examinations. Information for candidates is also posted on a special area of our website: cisi.org/candidateupdate. This workbook not only provides a thorough preparation for the examination it refers to, it is also a valuable desktop reference for practitioners, and studying from it counts towards your Continuing Professional Development (CPD). Mock examination papers, for most of our titles, will be made available on our website, as an additional revision tool. CISI examination candidates are automatically registered, without additional charge, as student members for one year (should they not be members of the CISI already), and this enables you to use a vast range of online resources, including CISI TV, free of any additional charge. The CISI has more than 40,000 members, and nearly half of them have already completed relevant qualifications and transferred to a core membership grade. You will find more information about the next steps for this at the end of this workbook. iii iv The Regulatory Environment in the UK............................ 1 1 The FCA Conduct of Business Sourcebook......................... 147 2 Corporate Governance and Business Ethics......................... 193 3 Takeovers and Mergers......................................... 217 4 Prospectuses................................................. 257 5 Equity Capital Markets......................................... 269 6 Glossary Multiple Choice Questions Syllabus Learning Map It is estimated that this manual will require approximately 80 hours of study time. What next? See the back of this book for details of CISI membership. Need more support to pass your exam? See our section on Accredited Training Partners. Want to leave feedback? Please email your comments to [email protected] v vi Before you open Chapter 1 We love a book!...but don’t forget you have been sent a link to an ebook, which gives you a range of tools to help you study for this qualification Depending on the individual subject being studied and your device, your ebook may include features such as: Watch video clips Read aloud A A Adjustable text size allows Pop-up definitions related to your function* you to read comfortably syllabus on any device* Highlight, bookmark Images, tables and Links to relevant End of chapter questions and make animated graphs websites and interactive multiple annotations digitally* choice questions * These features are device dependent. Please consult your manufacturers guidelines for compatibility The use of online videos and voice functions allowed me to study at home and on the go, which helped me make more use of my time. I would recommend this as a study aid as it accommodates a variety of learning styles. Find out more at cisi.org/ebooks Billy Snowdon, Team Leader, Brewin Dolphin ebook bw 18.indd 1 02/10/2018 12:01:33 Chapter One The Regulatory Environment in the UK 1. The Regulatory Infrastructure 3 2. The Role of the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA) 33 3. Company Law 82 4. Money Laundering, Counter-Terrorism, and Bribery 98 5. Insider Dealing 121 6. The Financial Services Act 2012 Part 7 126 7. Market Abuse 129 8. The UK Markets in Financial Instruments Directive (UK MiFID II) 140 This syllabus area will provide approximately 20 of the 50 examination questions 1 2 The Regulatory Environment in the UK 1. The Regulatory 1 Infrastructure 1.1 The UK Financial Services Landscape Learning Objective 1.1.1 Understand the UK financial services regulatory landscape The United Kingdom (UK) left the European Union (EU), following a referendum, on 31 January 2020. The EU (Withdrawal) Act (EUWA) 2018 and the EU (Withdrawal Agreement) Act (WAA) 2020 implemented the UK-EU withdrawal agreement. Automatic passporting rights for financial services firms (which meant automatic access to the others’ markets) no longer exists for UK and EU firms. The EU has not deemed the UK jurisdiction to be equivalent. This would – under existing EU legislation in relation to third-country financial institutions – enable continued access to EU markets by UK financial services firms. At the same time, EU firms can no longer passport their services and products into the UK; they will have to have a presence in the UK – either a branch or a subsidiary to continue to provide services and products to UK customers. The lack of an equivalence agreement for financial services is one of the most significant challenges facing UK and EU financial services firms. It has led to increased costs and complexity for financial services firms, and has made it more difficult for businesses and consumers to access financial products and services. Changes to UK financial services legislation and regulation were made by the UK government and regulators to replicate EU law and ensure continuity once EU law ceased to apply directly (this process is known as onshoring). This includes the EUWA. 3 The government also gave powers to the Financial Conduct Authority (FCA), Prudential Regulation Authority (PRA), the Bank of England (BoE) and the Payment Systems Regulator (PSR) to make amendments to EU technical standards to enable them to make their own rules. They were also provided with temporary transitional powers to phase the implementation of regulatory requirements, which would have applied for the first time. The UK established a temporary permissions regime (TPR) and a temporary recognition regime (TRR), allowing certain EU firms and other non-UK central counterparties (CCPs) to continue operating in the UK for a time-limited period – although, the TPR has now expired, meaning all EU firms wishing to provide products and services to UK customers must have a presence in the UK. The retained EU law versions of key financial services regulations (being brought into UK law with amendments) that continue to apply include the following: UK Benchmarks Regulation (UK BMR) UK Credit Rating Agency (CRA) Regulation UK Capital Requirements Regulation (UK CRR) UK Central Securities Depositories Regulation (UK CSDR) UK (European Market Infrastructure Regulation) EMIR UK Long-Term Investment Funds (LTIF) Regulation UK Market Abuse Regulation (UK MAR) UK Markets in Financial Instruments Regulation (UK MiFIR) UK Money Market Funds (MMF) Regulation UK Packaged Retail and Insurance-based Investment Products (PRIIPs) Regulation UK Single Euro Payments Area (SEPA) Regulation UK Short Selling Regulation (UK SSR) UK Securities Financing Transactions Regulation (UK SFTR) UK revised Wire Transfer Regulation (UK WTR). Wholesale Markets Review In July 2021, His Majesty’s Treasury (HM Treasury or HMT) published its long-awaited review of Wholesale Markets in the UK. Although the UK played a significant role in designing the Markets in Financial Instruments Directive II (MiFID II) framework, the UK government believed that the EU approach to regulation means that some regulation is not calibrated for the uniqueness of the UK markets. The regulatory framework underpinning secondary markets policy sits across both primary and secondary legislation (which is the government’s responsibility), and rules and guidance by regulators (primarily the FCA). The FCA has committed to undertake consultations about parts of the regime that fall within its rules and guidance that relate to these proposals; consultations were published in 2022 and 2023. The first consultation published in July 2022 focused primarily on the equities market. The second consultation paper published in September 2022 focused on the trading venue perimeter. In July 2023, the FCA published a consultation in relation to a consolidated tape for bonds. The first consultation published in July 2022 focused primarily on the equities market. The second consultation paper published in September 2022 focused on the trading venue perimeter. In July 2023, the FCA published a consultation in relation to a consolidated tape for bonds. 4 The Regulatory Environment in the UK In December 2023, the FCA published the last consultation papers, titled ‘improving transparency for 1 bond and derivatives markets’ and ‘reforming the commodity derivatives framework’. Financial Services and Markets Act 2023 Also, in July 2022, the government published the Financial Services and Markets Bill which, among other things, provides the powers and legislative structure for HM Treasury and the PRA/FCA to be able to proceed with the aims and objectives of the Wholesale Markets Review and implement the outcomes of the HM Treasury ‘Future Regulatory Framework Review’. The term ‘Future Regulatory Framework’ is no longer used as the Bill has now has received Royal Assent, the term now used by HM Treasury is ‘Smarter Regulatory Framework’ – which defines how the government (via HM Treasury, the PRA and the FCA) will achieve their stated objectives in overhauling the UK financial regulatory landscape to make it work better for the UK. The Bill received Royal Assent in June 2023, and is now known as the ‘Financial Services and Markets Act 2023’. The Act revokes retained EU law relating to financial services to enable HM Treasury, the PRA and the FCA to replace it with legislation designed specifically for UK markets in a way that builds on the UK’s existing approach to financial services regulation. In addition, the Act will enhance the UK’s existing regulatory regime by providing a new secondary objective for the PRA and the FCA to ensure a greater focus on long-term growth and international competitiveness. Both the government and HM Treasury have acknowledged that the revoking of EU retained laws and rules will be a lengthy process and will be undertaken in a phased implementation approach by the PRA and the FCA – rather than a ‘big-bang’ approach. The ‘Edinburgh Reforms’ In December 2022, the UK government via HM Treasury published a package of reforms to financial services regulation – they are being called the ‘Edinburgh Reforms’. These measures build on the UK government’s vision of an open, sustainable and technology-driven financial services sector. Together with the Financial Services and Markets Act 2023, they will set the UK regulatory agenda and focus for a number of years. Whilst not all the reforms are of relevance to this syllabus, the main reforms have been highlighted: Designing a new UK Short Selling Regime (SSR). Review of the Senior Managers and Certification Regime (SM&CR) HM Treasury has published a call for evidence on the legislative framework of the SM&CR – looking at the effectiveness, scope and proportionality of the regime as well as views on potential improvements and reforms. The FCA and PRA published a discussion on seeking a view on the regulatory aspects of the framework. Consultation papers are due to be published in H1 2024 by HM Treasury and jointly by the PRA and the FCA. 5 Enhanced remit for the FCA & PRA New remit letters for the PRA and FCA with clear, targeted recommendations on growth and international competitiveness. Both regulators have now received the ‘new’ secondary objective under the Financial Services and Markets Act 2023 – to promote the international competitiveness and growth of the UK economy; particularly, its financial services sector. Investment research An independent review into investment research was undertaken to assess the effectiveness of UK capital markets. Findings have been presented to HM Treasury, which are now being assessed and will be taken forward by the FCA in 2024. Reforming the Securitisation Regulation. Source: UK government website – https://www.gov.uk/government/collections/financial-services-the- edinburgh-reforms 1.1.1 The Work of the Financial Conduct Authority (FCA) The FCA is responsible for regulating conduct in retail and wholesale markets (including both exchange- operated markets and over-the-counter (OTC) dealing), supervising the trading infrastructure that supports those markets, and prudential regulation for those firms not prudentially regulated by the PRA. 1.1.2 The FCA’s Priorities for Work in the International Arena The main priorities of the FCA, for the next few years, will be: overhauling the regulatory landscape following Brexit, to make sure that retained EU laws and regulations are fit for the uniqueness and specifics of the UK market, and engaging with and helping to develop industry standards. Having said that, the FCA is also aware of the new UK regulatory landscape and outlook that will engage with and help to develop industry standards. So, the FCA and the PRA will spend more time engaging and assisting to develop policy, standards and best practices. 1.1.3 Better Regulation The FCA views better regulation as a strategic priority. It is committed to better regulation principles in the UK, by which it means: introducing new regulations only if there is a demonstrable market failure and where the cost of regulation can be shown to be less than that of allowing the market failure to persist integrating the economic assessment of the likely effects of legislative proposals into the policy- making process consulting at all stages in the introduction of new regulations always considering non-regulatory solutions such as competition or codes of conduct considering one-off regulatory interventions, such as thematic or catalytic work, rather than introducing new formal regulations, and subsequent evaluation. 6 The Regulatory Environment in the UK Legislation is often not the best tool to use, even if market failures can be shown to exist. This is because 1 legislation may be: inflexible and difficult to amend or repeal if it fails to have the intended results subject to political special pleading, and disproportionate and costly to implement if firms have to update systems to comply with new requirements. It, therefore, makes sense, if feasible, to consider first whether non-legislative action can better address market failures. In particular, there may well be a role for the FCA to use its powers to attack anti-competitive practices, abuses of dominant positions, or barriers to entry. In other areas, codes of conduct may have a useful role to play. Non-legislative approaches have recently been followed in the areas of clearing and settlement and enquiries into payments and business insurance. 1.2 The Financial Services and Markets Act 2000 (FSMA) Learning Objective 1.1.2 Know the regulatory infrastructure generated by: the Financial Services and Markets Act 2000 (FSMA), the Financial Services Act 2012, and Financial Services Act 2021; His Majesty’s Treasury (HMT); the Bank of England (BoE); the Financial Policy Committee (FPC); the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA) and between the FCA and the recognised investment exchanges (RIEs); recognised overseas investment exchanges (ROIEs); designated investment exchanges (DIEs); recognised clearing houses (RCHs); designated professional bodies (DPBs); regulated markets and multilateral trading facilities (MTFs); organised trading facilities (OTFs) The Financial Services and Markets Act 2000 (FSMA), which came into effect in 2001, introduced a new regime for the regulation of the financial services sector in the UK, replacing a number of self- regulatory organisations (SROs) with a single statutory regulator – the Financial Services Authority (FSA). The FSA had responsibility for both the prudential and the conduct of business regulation of firms within the financial services sector. It shared responsibility with the BoE and HM Treasury under a tripartite system of financial oversight. The failure of Northern Rock and the global financial crisis of 2007–08 signalled the start of the end of this system; the FSA subsequently introduced a more intrusive, outcomes-based approach to regulation, pending a more formal review of the regulatory system. In 2010, the Chancellor of the Exchequer announced this review and the need for changes to the UK financial regulatory structure and how firms would be regulated going forward. The outcome of the review was the commencement of the Financial Services Act 2012 (effective 1 April 2013), which created three new bodies: The Financial Policy Committee (FPC) The Financial Conduct Authority (FCA) The Prudential Regulation Authority (PRA). 7 The Financial Services Act 2021 (FS Act 21) is the UK primary legislation that amended the financial services legislative and regulatory framework following Brexit. It relates to the following: The Prudential regulation of credit institutions and investment firms – the Investment Firms Prudential Regime (IFPR) came into force in January 2022 and was derived from the EU Investment Firms Regulation and Investment Firms Directive This applied to MiFID investment firms who were not regulated by the PRA. It introduced a lighter prudential regime than the Capital Requirements Regulation/Capital Requirements Directive. Refocuses prudential requirements away from the risk firms face, to consider and look to manager, the potential harm firms can pose to consumers and markets. Access to financial services markets and the amendments to UK MiFIR, the Overseas Funds Regime (OFR), and the Gibraltar Authorisation Regime (GAR). Amendments of the Benchmarks Regulation and the granting of additional powers to the FCA to manage the wind-down of LIBOR and extend the use of third-country benchmarks. Insider dealing and money laundering (amending UK MAR), including increasing the maximum sentence for criminal market abuse from seven to ten years. 1.2.1 The Financial Policy Committee (FPC) The FPC is an official committee of the BoE. The BoE has the responsibility for financial stability, based on a statutory objective to protect and enhance the stability of the financial system of the UK. In support of this objective, the FPC is charged with identifying, monitoring, and taking action to remove or reduce systemic risks. The FPC has the power to make recommendations and give directions to the PRA and the FCA on specific actions that should be taken in order to achieve the FPC’s objectives. The BoE also has responsibility for the supervision of central counterparties and securities clearing and settlement systems, playing an increased role in coordinating financial sector resilience. 1.2.2 The Financial Conduct Authority (FCA) The FCA is responsible for ensuring that relevant markets function well and for the conduct regulation of all financial services firms. It is also responsible for the prudential regulation of those financial services firms not supervised by the PRA; for example, asset managers and investment firms (ie, not banks/ deposit takers). Firms that are dual-regulated, such as banks, insurers, and major investment firms, will therefore be supervised by both the PRA and the FCA. The FCA has a single strategic objective ‘to ensure that relevant markets function well’ and three primary operational objectives, which are: to secure an appropriate degree of protection for consumers to protect and enhance the integrity of the UK financial system, and to promote effective competition protecting the interests of consumers. Following the coming into effect of the Financial Services and Markets Act 2023, the FCA now has a secondary objective to ‘facilitate the international competitiveness of the UK economy and its medium to long-term growth (subject to international standards)’. 8 The Regulatory Environment in the UK The FCA have stated that the new objective will only apply when the FCA is advancing its existing 1 operational objectives (consumer protection, market stability and effective competition). The term ‘international standards’ means that the FCA will not take action or develop rules that would harm the UK’s reputation or standing in the international financial community. FSMA (as amended by the Financial Services Act 2012) gives the FCA and the PRA certain duties and objectives in relation to their roles as financial services regulators and establishes the legal powers to enable them to fulfil their roles. Broadly, the FCA is responsible for ensuring that financial markets work well so that consumers get a fair deal, while the focus of the PRA is on stability – the safety and soundness of deposit-taking firms, insurers, and systemically important investment firms. The regulators’ powers are over firms carrying on regulated activities, the exchanges that are used by many of those firms, and individuals carrying out particular functions for firms. In some cases, they also extend to those not currently authorised; for example, formerly authorised firms or firms that ought to have had authorisation, but which have been doing business without it. The FCA also has responsibility for: the Financial Ombudsman Service (FOS) the Payment Systems Regulator (PSR) operating the UK securities listing regime enforcing the unfair terms requirements in the Consumer Rights Act 2015 in financial services consumer contracts, and along with the PRA, it is responsible for the financial services compensation scheme (FSCS). The FCA and the PRA are funded entirely from fees paid by the firms which they regulate. The FCA is accountable to the government on how it carries out its functions, via HM Treasury which in turn is accountable to Parliament. Powers Provided to the FCA under the Financial Services Act 2012 Temporary Product Intervention The Financial Services Act 2012 provides the FCA with temporary rules (for up to a period of 12 months) to prohibit or ban any product that it considers is causing, or will cause consumer protection problems. The FCA’s style of supervision means that it will intervene earlier in a product’s lifespan and seek to address root causes or problems for consumers. Previous experience has taught the regulator that products designed for specific markets/consumers are routinely sold outside it. Therefore, the FCA will intervene directly by making product intervention rules to prevent harm to consumers – for example, by restricting the use of specified product features or the promotion of particular product types to some or all consumers. The key to the FCA using these new powers is consumer protection. The FCA has stated the instances when it feels that it will/could use the temporary product intervention rules include the following: Products being sold outside their target market or being inappropriately targeted. Products that would be acceptable, but for the inclusion or exclusion of particular features. 9 Products where there is a significant incentive for inappropriate or indiscriminate targeting of consumers. Markets where competitive pressure alone will not address concerns about a product, eg, where competition focuses on irrelevant features or exploits systemic consumer weaknesses such that market-based solutions will not address the concerns. Products that may bring about significant detriment as a result of being inappropriately targeted. In some particularly serious cases, products may be considered inherently flawed, eg, a product that has such disadvantageous features that the majority of consumers, or specified types of consumers, are unlikely to benefit. When a product provider is domiciled overseas, the FCA rules do not apply to the development of potentially harmful products by such firms. However, if products from overseas providers are sold by intermediaries based in the UK to UK consumers, then they would be subject to regulatory action by the FCA. Financial Promotions The FCA is permitted to ban misleading financial promotions, meaning that financial promotions can be removed immediately from the market or prevented from being used in the first place without having to go through a lengthy enforcement process. The use of this new power is determined by the specific promotion and not used against a firm as a whole. It can be used on its own or before the FCA takes enforcement action against a firm. This approach will work separately from existing disciplinary powers – which the FCA can and will use when firms fail to comply with the rules, and their overall systems and approach are poor. The FCA will give a direction to an authorised firm to remove its own financial promotion or one it approves on behalf of an unauthorised firm, setting out the reasons for banning it. The next step is for firms to make representations to the FCA if they think that it is making the wrong decision. The FCA will decide whether to confirm, amend or revoke its direction. If it is confirmed, the FCA will publish it – along with a copy of the promotion and the reasons behind its decision. Enforcement/Disciplinary Action The FCA is permitted to announce publicly that it has begun disciplinary action against a firm or individual. It can publish details of a warning notice proposing disciplinary action to signal the start of formal enforcement proceedings. However, the FCA has to consult with the recipient of the warning notice before publishing these details. FCA Powers The FCA has duties and objectives in relation to its role as regulator. To enable the effective discharge of this, its powers include the following: Authorisation – the process of assessing applications from firms wishing to carry on regulated activities, and determining whether to permit them to do so. Supervision – the process of monitoring firms’ activities, on an ongoing basis, to ensure that they continue to meet the FCA’s authorisation requirements and that they comply with the Handbook rules and other obligations. 10 The Regulatory Environment in the UK Discipline and sanctions – to enable the FCA to enforce its rules by punishing or limiting the 1 activities of firms which fail to comply. Enforcement – the FCA’s approach is to achieve credible deterrence in respect of FSMA, using enforcement strategy as a tool to change behaviour in the industry. It focuses on cases which it thinks can make a real difference to both consumers and markets. These regulatory powers extend over firms carrying on regulated activities, the exchanges that are used by many of those firms, and individuals carrying out particular functions for firms. In some cases, they also extend to those not currently authorised (eg, formerly authorised firms or firms which ought to have had authorisation but which have been doing business without it). FSMA requires the FCA to make rules in a number of areas. These rules, contained in the FCA Handbook, are discussed later in this workbook. In last year’s business plan (2022–23), the FCA also published their ’Strategy for 2022 to 2025’ and set out the three themes where they were strengthening their focus and 13 commitments to support these themes. The FCA noted that they have prioritised their work for 2023–24 to ensure they direct resources most effectively. While they will continue to deliver across all their commitments at a similar pace as Year 1 (2022), they have decided to invest even further in the most critical commitments over the coming year. The FCA noted that they have taken account of the impact of the challenges in the year ahead on the outcomes to their ‘strategy’ that they want financial services firms to deliver. With this in mind, the FCA noted that where additional resources are available, they will focus on these four commitments: Preparing financial services for the future – working with the Treasury to implement the new regulatory framework. Putting consumers’ needs first – improving consumer protection and standards for all consumers and ensure support for struggling consumers remains a priority. Reducing and preventing financial crime – prioritising this will also help protect consumers to an extent, and consumers in vulnerable circumstances specifically as they may be more susceptible to fraud, supporting the ‘Putting Consumers’ needs first commitment. Strengthening the UK’s position in global wholesale markets – helping to ensure that the UK continues to be seen as one of the leading global markets of choice and strengthening the FCA’s ability to respond to market volatility. In this year’s Business Plan (2023–24) they are focusing on three themes: Reducing and preventing serious harm. Setting and testing higher standards. Promoting competition and positive change. 11 1.2.3 The Prudential Regulation Authority (PRA) Following the BoE and Financial Services Act 2016, the BoE’s functions as the PRA are exercised by the BoE, acting through its Prudential Regulation Committee (PRC). The PRA is part of the BoE and is responsible for the prudential regulation of banks, building societies and credit unions (collectively known as ‘deposit takers’), insurers, and major investment firms. It shares the same regulatory processes as the FCA with regard to authorisation, supervision, enforcement, and discipline and makes rules for the firms that it regulates. As a prudential regulator, the PRA promotes the safety and soundness of these firms, seeking to minimise the adverse effects that they can have on the stability of the UK financial system, and contributes to ensuring that insurance policyholders are appropriately protected. The PRA’s objective to promote safety and soundness and the BoE’s financial stability objective are complementary. The PRA, as part of the BoE, with close links to the FPC (itself a committee of the BoE), allows the authorities to combine firm-specific supervision with work to protect and enhance the resilience of the financial system as a whole. The PRA cooperates closely with the rest of the BoE on the oversight of financial market infrastructure and works with the BoE’s special resolution unit (SRU), implementing resolutions of failing UK banks and building societies under the special resolution regime (SRR) established under the UK Banking Act 2009, while also working to improve the framework for resolutions. The PRA also cooperates closely with the FCA. The key principle underlying this cooperation is that each authority should focus on the key risks to its own objectives while being aware of the potential for concerns of the other. The separate mandates of the PRA and the FCA for prudential and for conduct regulation allow both regulators to apply more focus to their respective areas than under the former tripartite approach. Reflecting the international nature of the banking and insurance industries, the PRA has an active role with its counterparts globally and in the EU, assisting in developing and implementing prudential standards, and in supervising firms with international operations. 1.2.4 His Majesty’s Treasury (HM Treasury or HMT) HM Treasury is the department responsible for developing and executing the UK government’s public finance and economic policies. HM Treasury, to which the FCA directly reports, is responsible for financial services in the UK. HM Treasury is responsible for appointing the FCA’s board and chairman and has the power to dismiss members of the board. The FCA is required to submit a report to HM Treasury at least once a year, detailing matters such as the way in which it has discharged its functions, the extent to which its statutory objectives have been met, and any other matters HM Treasury may direct. This report is accompanied by a report from the FCA’s non-executive directors and is laid before Parliament. HM Treasury also has the power to commission reviews and inquiries into aspects of the FCA’s operations. Such reviews are conducted by an independent party and are restricted to considering the economy, efficiency, and effectiveness with which the FCA has used its resources in discharging its functions. Such inquiries may relate to specific, exceptional events occurring within the FCA’s range of regulatory responsibilities. Through Parliament, HM Treasury is able to change the nature of the FCA’s role, as it has already done twice. Initially formed as the Securities & Investment Board to regulate a number of SROs under the Financial Services Act 1986, it became the FSA and the statutory regulator under FSMA; then became the FCA under the Financial Services Act 2012. 12 The Regulatory Environment in the UK 1.2.5 The Bank of England (BoE) 1 The BoE performs all the functions of a central bank and has independence from government in respect of its monetary policy role. The most important of these is maintaining price stability and supporting the economic policies of the government, thus promoting economic growth. There are two main areas that are tackled by the BoE to ensure it carries out these functions efficiently: Monetary stability – stable prices and confidence in the currency are the two main criteria for monetary stability. The objective is to seek stable prices are maintained by making sure price increases meet the government’s inflation target (2% currently measured by the 12-month increase in the Consumer Price Index (CPI)). The BoE aims to meet this target by adjusting the base interest rate, which is decided by the Monetary Policy Committee (MPC). Maintaining financial stability involves protecting against threats to the whole financial system; these are detected by the BoE’s surveillance and market intelligence functions. The threats are then dealt with through financial and other operations, both at home and abroad. In exceptional circumstances, the BoE may act as the lender of last resort by extending credit when no other institution will. Financial stability entails detecting and reducing threats to the financial system as a whole. It is in the area of financial stability that the FPC and the PRA operate. In this respect and the relevance of financial stability, the PRA is responsible for promoting the safety and soundness of banks and other deposit-taking firms (building societies and credit unions), insurers, and systemically important investment firms. The PRA works closely with the FPC at the BoE. The BoE is also responsible for financial market infrastructures (FMIs) to allow the clearing, settlement, and recording of financial transactions. They enable millions of transactions to take place each day. The BoE supervise certain types of FMIs. These are: payment systems recognised by (HM) Treasury central securities depositories (CSDs), and CCPs. 1.2.6 Recognised Investment Exchanges (RIEs) and Recognised Overseas Investment Exchanges (ROIEs) Since a large proportion of trades in financial instruments are carried out through established investment exchanges, such as the London Stock Exchange (LSE), the FCA has the responsibility of recognising and supervising them. A recognised investment exchange (RIE) is an investment exchange which is recognised by the FCA under FSMA S.290. RIEs are recognised by the FCA if they meet HMT’s criteria in FSMA S.286; they are then supervised by the FCA, but they are exempt (under FSMA S.285) from requiring authorisation to undertake the regulated activities of managing investment exchanges (and, if applicable, clearing houses) which would otherwise be required under FSMA Part 4A. Any body, corporate or unincorporated association may apply to the FCA for an order declaring it to be an RIE. The FCA will seek to establish whether the applicant is fit and proper to operate as an exchange – including whether it has sufficient financial resources to carry out its activities properly. The applicant must be willing and able to share information with the FCA, and to promote and maintain high standards of integrity and fair dealing, including laying down rules for activities on the exchange. It must record, monitor, and enforce compliance with these rules. 13 Once recognised, these exchanges are subject to supervision and oversight by the FCA. Being granted recognised status replaces the requirement to be an authorised person to conduct financial services business. RIEs may be UK- or overseas-based; in the latter case, they are referred to as recognised overseas investment exchanges (ROIEs). (This term should not be confused with the definition of a recognised stock exchange (RSE) given in the Income Taxes Act 2007 S1005(1), which is for tax purposes only.) There are currently six RIEs based in the UK, offering membership and access to their market to UK firms: 1. ICE Futures Europe – this exchange is owned by a company listed on the New York Stock Exchange (NYSE) called InterContinental Exchange (ICE). It incorporates the operations of two long-standing, London-based exchanges: the International Petroleum Exchange (IPE) and the London International Financial Futures Exchange (LIFFE). It offers derivative contracts in a wide range of energy, commodity, and financial products. 2. London Stock Exchange (LSE) plc – operates inter alia the LSE Main Market (regulated), Alternative Investment Market (AIM), and Turquoise multilateral trading facilities (MTFs). 2. The London Metal Exchange (LME) ltd – this exchange provides trading in a variety of futures and options on base metals and some plastics. 4. Aquis Stock Exchange ltd (which acquired NEX Exchange (NEX) ltd from CME Group inc) – operates the newly renamed Aquis Exchange Main Board (a regulated market), Aquis Stock Exchange Growth Market, and Aquis Stock Exchange Trading Market. 5. CBOE Europe ltd (formerly BATS Trading ltd) – established in 2008 and previously an MTF, became an RIE in May 2013 for exchange-traded equities and exchange-traded funds (ETFs) that are listed on primary exchanges, such as the LSE. 6. International Property Securities Exchange (IPSX) – this gained FCA approval and recognised status in 2019. It is focused mainly on single asset issuers that own real estate (or multiple asset issuers with assets showing commonality), which are securitised and traded on the Exchange. 14 The Regulatory Environment in the UK An ROIE is an investment exchange, which is recognised by the FCA under FSMA S.292, and which has 1 neither its head office nor its registered office in the UK. Mindful that ROIEs are international, FSMA S.292 provides that, instead of meeting HMT’s recognition requirements for RIEs, the FCA must instead be assured that: investors are afforded protection equivalent to that which they would have had if the ROIE had met HMT’s criteria there are adequate default procedures the ROIE cooperates with the FCA, and the FCA can cooperate and share information with the ROIE’s domestic regulator. The object of recognising ROIEs, which become supervised by the FCA, is to enable overseas exchanges to offer regulated activities in the UK within the UK statutory regime, ie, they are exempt, under FSMA S.285, from requiring authorisation to undertake the regulated activities of managing investment exchanges (and, if applicable, clearing houses) which would otherwise be required under FSMA Part 4A. In 2018, the FCA clarified how EEA market operators (as defined by MiFID II) can apply to become an ROIE. This enables such operators to continue to provide their members based in the UK with access to their market should they no longer be able to rely on MiFID II passport rights. A number of market operators have since become ROIEs. As at November 2023, there are 32 ROIE’s on the FCA register, which include: Deutsche Börse AG BOE Europe BV Chicago Board of Trade (CBOT), and SIX Swiss Exchange AG. A list of all the ROIE’s can be found on the FCA’s website under ‘the financial services register’, https:// register.fca.org.uk/s/search?predefined=ROIE 1.2.7 Designated Investment Exchanges (DIEs) Designated investment exchanges (DIEs) are overseas-based exchanges, but they are not regulated or supervised by the FCA and are not permitted to undertake regulated activities in the UK. The designation indicates that an exchange is regulated and supervised to standards that the FCA believes are compatible with its statutory objectives, including that the DIE provides an appropriate degree of protection for consumers having regard to the relevant law, practice, and regulatory framework in the DIE’s home state, and the rules and practices of the DIE. The benefit of designation for DIEs is that, under certain rules, firms may treat transactions effected on a DIE in the same way as transactions on RIEs. There are currently 29 DIEs, including American Stock Exchange (AMEX), Australian Stock Exchange (ASX), CBOT, Minneapolis Grain Exchange (MGEX), NYSE, Singapore Exchange (SGX), Tokyo Stock Exchange (TSE) and Channel Islands Stock Exchange (CISE). Source: https://register.fca.org.uk/s/search?predefined=DIE 15 1.2.8 Recognised Clearing Houses (RCHs) In a similar fashion, clearing houses can be recognised to become recognised clearing houses (RCHs). Clearing houses facilitate the clearing and, sometimes, the settlement of trades. RCHs are supervised by the BoE rather than the FCA. An RCH is a clearing house which is declared by order of the BoE under FSMA S.290 and is exempt from needing FSMA Part 4A permission to undertake the relevant regulated activities. There are currently four recognised clearing houses in the UK. Of these, Euroclear UK & Ireland is not a recognised central counterparty – it is a recognised central securities depository: 1. LCH ltd – this acts as central counterparty (CCP) for trades executed on Euronext.LIFFE, the LME and ICE Futures, and for certain trades executed on the LSE. LCH stands for London Clearing House. 2. Euroclear UK & Ireland (formerly CRESTCo) – this firm is owned and operated by Euroclear, and offers the facility, via the CREST system – to settle trades in dematerialised form. It is mainly known for UK and Irish equity clearing, and also provides clearing and settlement for a variety of other equities, bonds and funds. 3. LME Clear ltd – launched in 2015 by the LME for its users. 4. ICE Clear Europe ltd – a recently formed subsidiary of the Intercontinental Exchange group of companies (ICE), a group that operates global electronic marketplaces for trading futures, options and over-the-counter (OTC) energy and chemical contracts. It acts as a clearing house and CCP specifically for contracts executed on, or through, ICE Futures. A recognised overseas clearing house (ROCH) is a clearing house which is declared by order of the BoE under FSMA S.292, which has neither its head office nor its registered office in the UK. The benefit of recognition for a ROCH is to enable overseas clearing houses to offer regulated activities in the UK, within the UK statutory regime. 1.2.9 Designated Professional Bodies (DPBs) As stated previously, it is a criminal offence for a firm to engage in regulated activities without being authorised by the FCA. Certain types of firms, such as accountants or solicitors, may well offer some financial services as an adjunct to their normal business. For example, a firm of accountants legitimately advising a client on how to organise their tax affairs might advise the sale of certain investments on which they have accumulated a certain level of gains. While the advice might be given with the aim of minimising the client’s tax bill, the ancillary effect is to advise them on their investments, which is a regulated activity requiring authorisation. Practising accountants must be authorised by their professional body, such as the Institute of Chartered Accountants of England and Wales (ICAEW). Given the standards required and levels of supervision exercised by bodies such as the ICAEW, a further layer of authorisation from the FCA is seen as unnecessary; instead, the ICAEW has been granted DPB status. This allows it to supervise its member firms in the code of conduct of some limited financial services businesses in addition to their normal accounting business. Firms which are subject to the requirements of a DPB are able to offer their clients these limited financial services without additional authorisation from the FCA. 16 The Regulatory Environment in the UK Under Part XX (20) of FSMA, firms are permitted to carry on regulated business under the supervision of 1 a DPB and are known as exempt professional firms (EPFs). The DPB status exists for ten bodies, covering the following five professions: 1. Accountants 2. Solicitors 3. Actuaries 4. Chartered surveyors 5. Licensed conveyancers. The Law Societies of England, Wales, and Northern Ireland (for solicitors); the Royal Institution of Chartered Surveyors (RICS), the Council for Licensed Conveyancers (CLC); and the Institute of Actuaries are all designated professional bodies (DPBs). The accountancy profession has a number of professional bodies that are granted designated status, including the ICAEW, The Institute of Chartered Accountants of Scotland (ICAS), The Chartered Accountants Ireland, and the Association of Chartered Certified Accountants (ACCA). 1.2.10 Regulated Markets and Multilateral Trading Facilities (MTFs) Later in this chapter, we will look in more depth at the impact of Markets in Financial Instruments Directive (MiFID) – a European directive that necessitated significant changes to the law and to the FCA Handbook, and which came into force on 1 November 2007, and was significantly updated in 2018 under MiFID II. A regulated market is defined, in the FCA Handbook, as: a regulated market which is a UK RIE a market situated outside the UK which is characterised by the fact that: it meets comparable requirements to those set out above, and the financial instruments dealt in are of a quality comparable to those in a regulated market in the UK. In other words, a regulated market is a UK RIE. Regulated markets may be managed by RIEs, such as the LSE’s Main Market and the Aquis Exchange’s Main Board. The market operator may be the market itself or the RIE managing it. The FCA lists the following six regulated markets (as at 6 October 2023): 1. London Metal Exchange (LME) 2. ICE Futures Europe 3. London Stock Exchange (LSE) 4. Aquis Exchange (formerly NEX Exchange) 5. CBOE Europe Equities Regulated Market 6. IPSX. One major change introduced by MiFID was the regulated activity of operating MTFs. 17 A UK MTF (as extracted from the FCA Glossary) means a multilateral system operated by a UK investment firm or market operator, which brings together multiple third-party buying and selling interests in financial instruments (in the system and in accordance with non-discretionary rules) in a way which results in a contract. It must comply with relevant applicable legislation. For the purposes of this definition, an investment firm or market operator is a UK investment firm or market operator if it has its registered office (or if it does not have a registered office, its head office) in the UK. An MTF has also been described as ‘exchange lite’, as they do not have a listing process or the ability to change the regulatory status of a security. MTFs can be operated by an RIE, for example, the Turquoise platform owned by the LSE, independent MTF operators such as LMAX Exchange, and large investment banks such as UBS. 1.2.11 Organised Trading Facility (OTF) MiFID II introduced a new category for trading venues, called organised trading facilities (OTFs). An OTF is a multilateral system that is not a regulated market or an MTF. Within an OTF, multiple third-party buying and selling interests in bonds, structured finance products, emission allowances or derivatives are able to interact in a way that results in a contract. Equities are not permitted to be traded through an OTF. MTFs and OTFs are similar multilateral systems that bring together third-party buying and selling interests in financial instruments in a way that results in a contract. The requirements that apply to OTFs and their transactions are generally the same as the requirements for MTFs. As with MTFs, OTFs must establish clear rules and processes around trading under MiFID. OTFs are also subject to the same transparency requirements as regulated markets and MTFs, and are required to establish and maintain effective arrangements and procedures to enable the regular monitoring of compliance by the members. OTFs are permitted to exercise discretion in either or both of the following circumstances: When deciding to place or retract an order on the OTF they operate. When deciding not to match a specific client order with other orders available in the systems at a given time. MTFs are not permitted to exercise discretion. Shares are not permitted to be traded on OTFs. In addition, OTF operators are permitted to engage in matched principal trading in bonds, structured finance products, emission allowances and derivatives (unless they have been declared subject to mandatory clearing under UK EMIR (UK European Market Infrastructure Regulation)), whereas an MTF operator cannot; and OTF operators will be required to comply with MiFID II investor protection obligations (information to clients, suitability, best execution and client order handling), whereas MTFs are not required to do so. 18 The Regulatory Environment in the UK The requirements that apply to OTFs and their transactions are generally the same as the requirements 1 for MTFs. As with MTFs, OTFs must establish clear rules and processes around trading under MiFID. OTFs are also subject to the same transparency requirements as regulated markets and MTFs, and are required to establish and maintain effective arrangements and procedures to enable the regular monitoring of compliance by the members. 1.3 Regulated Activities and the General Prohibition Learning Objective 1.1.3 Understand the implications of the general prohibition: the general prohibition offences; enforceability of agreements entered into with an unauthorised person 1.1.4 Know which regulated activities constitute designated investment business in the UK As we have seen, the FCA regulates trading venues (regulated markets, MTFs and OTFs). In addition, it regulates firms that operate in financial markets. To understand whether a person is in breach of the FSMA general prohibition, it is, of course, necessary to understand what the regulated activities themselves are. FSMA S.22 defines regulated activities as: 1. specified activities (such as dealing, arranging or advising), and 2. specified types of investment (such as shares, bonds, deposits, or contracts of insurance). Thus, a regulated activity involves performing one or more specified activities, but only in relation to one or more of the specified investments. A firm which wishes to carry out a regulated activity must be either authorised or exempt (see section 1.5 below for examples of exempt persons). A firm which seeks authorisation must apply to the FCA, which will grant it a specific Part 4 permission under FSMA in relation to each regulated activity it is authorised to conduct. The FCA’s register, shown on its website, lists all authorised firms together with their specific Part 4A Permissions. 1.3.1 Regulated and Prohibited Activities Part II of FSMA, Regulated and Prohibited Activities, includes the general prohibition, which simply states that no person may carry on a regulated activity in the UK, or purport to do so, unless they are either an authorised or exempt person. The specified investments and activities themselves are detailed in secondary legislation issued under FSMA – principally the Regulated Activities Order (RAO) 2001, as amended most recently in 2010. This clarifies precisely what these regulated activities are. You should note that the term ‘person’ means natural persons (ie, humans) and all other types of legal persons, such as incorporated bodies, partnerships, trusts and other types of unincorporated associations. The RAO defines regulated activities by reference to the activities a firm might carry on in relation to those investments and then also to the range of specified investments. 19 This means that when an activity (listed in section 1.3.3) is not carried on in relation to one of the specified investments, it is not a regulated activity. However, not all of the activities can be related to all the investments – some are specific to just one type; eg, effecting a contract of insurance (activity) relates only to contracts of insurance (investment). It is also quite normal for a firm to be doing multiple regulated activities, even in relation to a single business line. For example, a life insurance company may well be effecting contracts of insurance, managing investments, and safeguarding/administering investments, all in relation to offering an investment-based life insurance savings policy. In such a situation, the firm requires authorisation for each activity it will undertake. 1.3.2 The General Prohibition FSMA 2000 C.8, Part 2, S.19 of the FSMA provides the ‘general prohibition’ whereby carrying on regulated activities by way of business, or purporting to do so, without first being authorised by the FCA, or being subject to one of the exemptions available, is prohibited and is a criminal offence. The offence is punishable by a maximum penalty of two years in prison and/or an unlimited fine on conviction in the Crown Court. It may be a defence, however, for a firm to show that it has taken all reasonable precautions and exercised all due diligence to avoid committing the offence. Any agreements made by a person in contravention of the general prohibition are unenforceable by that person against the other party to the agreement. This is also the case for agreements made as a result of the activities of someone who was contravening the general prohibition, even if that person was not a party to the agreement. The other party is entitled to recover any money or property transferred under the agreement and to compensation for any loss suffered. Example Mrs X buys shares in ABC plc. The purchase is made following the recommendation of a firm of brokers, UNA ltd. Mrs X subsequently discovers that UNA was not authorised under FSMA. Mrs X now has a choice: She could simply keep her shares in ABC and take no action against UNA. She could sue UNA for the recovery of her money and damages (handing back her shares in ABC) because UNA has breached the general prohibition. The relevant staff of UNA have also committed a criminal act and, on conviction, are liable to imprisonment for up to two years, plus an unlimited fine. In practice, this operates as a particularly effective deterrent. 20 The Regulatory Environment in the UK 1.3.3 The Specified Activities 1 The key specified activities are as follows: 1. Accepting deposits – mainly the preserve of banks and building societies, but other firms may find themselves caught under this activity. (Note that deposit-takers are usually also regulated by the PRA.) 2. Issuing electronic money – ie, acting as the issuer of electronic money (e-money), as it is described below in section 1.3.4. 3. Effecting or carrying out contracts of insurance as principal or insurance risk transformation – this essentially applies to insurers, and covers both life and general insurance. 4. Dealing in investments as principal or agent* – this applies to only certain of the specified investments. Dealing is buying, selling, subscribing for, or underwriting the investments concerned. If the firm deals as principal (ie, on its own account), it applies only to those investments that are: securities – shares, debentures and warrants, or contractually based investments, such as options, futures, contracts for difference (CFDs), and life policies. If the firm deals as an agent (ie, on behalf of someone else), it applies to securities or relevant investments. Relevant investments include contractually based investments (as for dealing as principal) and additional rights under pure protection and general insurance contracts. 5. Arranging deals in investments* – this covers: bringing about deals in investments – that is, the involvement of the person is essential to bringing about/concluding the contract, and also making arrangements with a view to transacting in investments (which may be quite widely interpreted as any arrangement pursuant to transactions in investments, such as making certain introductions). The arranging activities relate only to specified investments which are: securities (eg, shares, debentures or warrants) relevant investments (eg, options, futures, CFDs, and rights under insurance contracts) underwriting capacity of Lloyd’s syndicate or membership of Lloyd’s syndicate, and rights to or interests in any of the above. A typical example might be a broker making arrangements for its client to enter into a specific insurance contract. 6. Arranging home finance transactions – the arranging and making of arrangements in relation to mortgages, home reversion or home purchase plans, and regulated sale and rent-back agreements are captured in the same way as arranging deals in investments. 7. Operating an MTF* – Operating an MTF is undertaken by an investment firm or a market operator and brings together multiple third-party buying and selling interests in financial instruments. MTFs can be assimilated into alternative trading exchanges, providing additional pools of liquidity to their members (usually banks, major mutual funds, and large insurance companies). 8. Operating an OTF* – an OTF is a multilateral system that is not a regulated market or MTF. Within an OTF, multiple third-party buying and selling interests in bonds, structured finance products, emission allowances, or derivatives are able to interact in a way that results in a contract. Equities are not permitted to be traded through an OTF. 9. Managing investments* – this applies in respect of investments belonging to someone other than the manager and where the manager exercises discretion over the management of the portfolio. The portfolio must include, or be able to include, securities or contractually based investments. 21 A typical example is a portfolio manager. Non-discretionary management (if the firm does not make the final decision) is not covered under this heading. Instead, it is captured under the separately defined regulated activities of dealing in investments and advising on investments. 10. Assisting in the administration and performance of a contract of insurance* – this is the activity carried on by an intermediary after the conclusion of a contract of insurance (eg, loss assessors). 11. Safeguarding and administering investments* – again, this applies in the context of securities (eg, shares, debentures) and contractually based investments (eg, options, futures, CFDs, qualifying insurance contracts). The firm must be holding the assets for someone else, and it must be both safeguarding and administering the assets to be caught under this heading. A typical example is a custodian bank, which might hold title documents to investments, hold dematerialised investments in its name and administer the collection of interest/dividends or the application of corporate actions. 12. Sending dematerialised instructions* – this covers firms which operate systems that allow for the electronic transfer of title in certain investments (again, securities and contractually-based investments) and those which cause instructions to be sent on those systems. An example of such a system is CREST. 13. Establishing, operating, and winding up a collective investment scheme (CIS)* – this activity captures persons who set up, operate/administer and wind up any type of CIS, whether an authorised scheme or an unregulated scheme. This includes undertakings for collective investment in transferrable securities (UCITS), alternative investment funds (AIFs), authorised unit trusts (AUTs), open-ended investment companies (OEICs), hedge funds and investment trusts. It also includes acting as a manager, trustee, or as the depository of either a UCITS or AIF, which are also separate regulated activities. 14. Establishing, operating, and winding up a pension scheme (stakeholder scheme and personal pension scheme)* – this activity captures those who set up, operate/administer and wind up stakeholder pension schemes and personal pension schemes. These activities may be carried out by the scheme trustees and/or the scheme administrators. 15. Advising on the conversion or transfer of pension benefits* – this covers advising people on the transfer of funds from occupational pension schemes. Note that advising on transfers from personal or stakeholder pension schemes would be covered under other categories. 16. Providing basic advice on stakeholder products* – this is a special regulated activity for those who advise only on stakeholder products. Stakeholder products conform to certain criteria for cost and accessibility. 17. Advising on investments* – this covers giving advice on securities and relevant investments. It does not extend to giving advice about deposits, occupational pensions schemes, nor generic advice (eg, ‘invest in the US, not in Europe’). Nor does it extend to giving information – facts, which are not tailored to constitute a recommendation – instead of advice. This is now only required as a separate regulated activity if a firm is giving personal recommendations or has no other authorised activities. 18. Advising on home/land finance transactions – advising on the merits of entering into, or varying the terms of, a regulated mortgage, a home reversion plan, a home purchase, a regulated sale, and rent-back agreement or a regulated credit agreement for the acquisition of land, are all regulated activities. 19. Lloyd’s market activities – in addition to those mentioned above under arranging investments, there are three further Lloyd’s-related regulated activities, which are: advising on syndicate participation managing underwriting capacity as a managing agent, and arranging deals in contracts of insurance at Lloyd’s. 22 The Regulatory Environment in the UK 20. Entering into a funeral plan contract – a firm that enters into funeral plan contracts as provider (ie, 1 being the person to whom the pre-payments are made) is conducting a regulated activity. 21. Entering into and administering home finance transactions – this captures the activity of regulated mortgage lenders, home reversion providers, home purchase providers and regulated sale and rent-back agreement providers. 22. Dormant account fund operator (reclaim funds) – the activities of meeting repayment claims and managing dormant account funds, carried on by dormant account fund operators, are regulated activities. 23. Agreeing to carry on a specified activity* – is itself a regulated activity (and so a firm should not agree to carry on a regulated activity until it is properly authorised, notwithstanding that it may not intend to actually carry out that activity until it has its authorisation). 24. Certain activities relating to entering forms of consumer credit as lender (regulated credit agreements – credit broking’) – rights under any contract under which one person provides another with credit and contracts for hire of goods – rights under a contract for the bailment or hiring of goods to a person other than a body corporate. Note that this and the following three categories came under the FCA’s remit as part of the Financial Services Act 2012, which saw the transfer of regulation of consumer credit from the Office of Fair Trading: Providing credit reference services – furnishing persons with information that is relevant to the financial standing of persons other than bodies corporate and is provided to that person for that purpose. Providing credit information services – taking steps on behalf of a person other than a body corporate in connection with information relevant to that person’s financial standing that is or may be held by a regulated person. Certain other activities relating to consumer credit are regulated including credit broking, debt adjusting, debt counselling, debt collecting and debt administration. 25. Specified benchmarks – providing information, administration and the determining or publishing of a benchmark or publishing connected information. 26. Bidding in emissions auctions – the trading of carbon credits under the EU greenhouse gas emission scheme. 27. Operating an electronic system in relation to lending* – this is the operation of peer-to-peer (P2P) lending platforms for both personal and business lending. Note that the operation of P2P platforms in relation to investments into shares and bonds is covered by the broader ‘arranging deals in investments’ category. 28. Activities in relation to debt – debt adjusting, debt counselling, debt collecting and debt administration. A full list of the list of specified activities and specified investments can be found in the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 (Parts II & III). Activities marked with an asterisk (*) are classified as designated investment business (DIB), although there are certain exemptions to this when they do not relate to designated investments. Broadly, DIB is a subset of regulated activities, which excludes commercial banking, lending and general insurance activities. You will see later that certain rules (such as the Conduct of Business Sourcebook (COBS rules)) apply only to firms carrying out DIB, while others (such as the general prohibition) apply to all regulated activities. 23 1.3.4 The Specified Investments Learning Objective 1.1.5 Know which designated investments are covered by FSMA 2000 Part II, Regulated Activities Order (RAO) 2001 (as amended) The following are defined as specified investments within the Regulated Activities Order (RAO): 1. Deposits – that is, money paid by one person to another, with or without interest being earned on it, and on the basis that it will be repaid when a specified event occurs (eg, when a demand is made). The obvious example is deposits held with banks and building societies. For clarity, the RAO sets out certain exclusions – for example, electronic money (covered separately below in point 2), money paid in advance for the provision of goods or services, and money paid as a security deposit. 2. Electronic money (e-money) – this is a monetary value (as represented by a claim on the e-money issuer) which is stored on an electronic device, issued on receipt of funds and accepted as a means of payment by third parties. In effect, it is an electronic substitute for notes and coins. 3. Rights under contracts of insurance – includes both long-term insurance contracts (eg, life assurance, endowment policies) and general insurance (eg, motor, building insurance). The FCA gives guidance on identifying a contract of insurance (since this is not always as simple as you might think) in the Perimeter Guidance (PERG) Sourcebook. (*Life insurance and long-term care insurance policies are designated investments unless they are pure protection policies.) 4. *Shares – defined widely as shares or stock in any company (wherever or however incorporated) or in any unincorporated body formed outside the UK. The RAO definition excludes shares in OEICs, since an OEIC is a CIS and is captured under a separate definition. It also excludes some building society and credit union shares, since these can behave like – and are, therefore, captured under – the definition of deposits. 5. *Instruments creating or acknowledging indebtedness – this includes debentures, debenture stock and loan stock and, as a ‘mopping-up’ clause, specifies also ‘any other instrument creating or acknowledging debt’. Again the definition is wide, so the RAO provides for some exclusions – eg, trade bills, cheques and other bills of exchange, and (because they are separately captured) contracts of insurance and government and public securities. 6. *Alternative finance investment bonds/alternative debentures – a form of Shariah-compliant bond or sukuk. 7. *Government and public securities – eg, gilts and US Treasuries, local authority loan stocks. Again, certain instruments are excluded, such as trade bills issued by government bodies and National Savings & Investments (NS&I) deposits and products. 8. *Instruments giving entitlements to investments – essentially, warrants and similar instruments entitling the holder to subscribe for shares, debentures, government and public securities at a set price and on or between set date(s) in the future. 9. *Certificates representing certain securities – this item covers certificates and the like which confer rights in (but are not themselves) other instruments such as shares, debentures, gilts, and warrants. It includes, for example, American depositary receipts (ADRs), which typically give holders rights over a certain number of a non-US company’s shares. These ADRs are designed to offer the – typically, US-based investor a more convenient way to invest in non-US company shares, because they are dealt in, and pay dividends in, US dollars. Also covered here are other depositary receipts (DR), such as global depositary receipts (GDRs). 24 The Regulatory Environment in the UK 10. *Units in a CIS – this covers holdings in any CIS, whether it is an authorised scheme or an 1 unregulated scheme. For example, it covers units in an AUT or shares in an OEIC – which you may also see described as an investment company with variable capital (ICVC). This is why OEICs are specifically excluded from the heading of shares (above). Unregulated schemes can also take other legal forms, such as limited partnerships, and so limited partnership interests are included under this heading. 11. *Rights under a pension scheme (stakeholder and personal) – stakeholder pensions are pension schemes set up under the Welfare Reform and Pensions Act 1999, which have to meet certain criteria and be run in a particular way. Personal pensions are designed for individuals who do not belong to a company scheme and/or who wish to take control of their own investment decisions for their pension provisions (eg, self-invested personal pensions (SIPPs)). A wide range of investments may be held within a personal pension scheme. 12. *Options – options (the right, but not the obligation, to buy or sell a fixed quantity of an underlying asset for a fixed price on or between fixed dates) are covered only if they relate to: securities or contractually based investments (eg, stocks, shares, bonds, or futures on similar instruments) currencies certain precious metals, including gold and silver, or options on futures contracts and other CFDs (see point 15 below). 13. *Futures – that is, contracts for the sale/purchase of an asset when delivery and settlement will be made at a future date, at a price agreed upon when the contract is made. The RAO excludes futures agreed for commercial purposes as opposed to those made for investment/speculative purposes, so a contract to buy cocoa at an agreed price at some future date is not caught if it is carried out by a chocolate-maker to help them secure a certain price for the raw materials needed. 14. *CFDs – eg, spread bets, interest rate swaps. These are contracts in which the investor’s aim is to secure a profit (or avoid a loss) by making money by reference to fluctuations in the value of an index, or to the price of some other underlying asset. The RAO excludes futures and options since these are separately caught. 15. Lloyd’s syndicate capacity and syndicate membership – this relates in the main to the activities of Lloyd’s members’ agents and managing agents. 16. Rights under a funeral plan contract – ie, certain plans under which the customer pays for benefits which will pay for their (or someone else’s) funeral. 17. Rights under a regulated mortgage contract – ie, mortgage loans secured by first legal mortgages on property, at least 40% of which is to be used for the borrower’s, or some related party’s, dwelling. This specified investment also includes lifetime mortgages, a type of equity release transaction. 18. Rights under a home purchase plan – home purchase plans are alternatives to mortgages, which allow people to buy their homes while complying with Islamic principles (financing via an interest-bearing mortgage is not permitted under a strict interpretation of these principles). 19. Rights under a regulated sale and rent-back agreement – whereby a person sells all or part of qualifying interest in land/property but remains in occupation of at least 40% of the land/property. 20. Rights under a regulated home reversion plan – in which the customer sells part or all of their home to the plan provider in return for a lump sum or series of payments; they retain the right to stay in their home until they die or move into residential care. 21. Greenhouse gas emission allowances – these involve the right to admit certain greenhouse gases under EU rules that may be traded in an official auction process. 22. Emission allowances – consisting of units recognised for compliance with the requirements of the emission allowance trading directive. 25 23. Credit agreement (including 36H Agreement) – this covers certain consumer credit arrangements as lender and exercising the lender’s rights and duties under a regulated credit agreement. 24. *Consumer hire agreement. 25. Rights to or interests in investments. Among these specified investments, those marked with an asterisk (*) are classified as designated investments. These exclude banking and general insurance-related contracts. 1.4 Excluded Activities Learning Objective 1.1.6 Know which are excluded activities in relation to designated investment business in the UK The FCA provides a number of exclusions from the requirement for authorisation within the FCA’s Perimeter Guidance Sourcebook. Those who meet the terms of the exclusions do not need to obtain authorisation to carry on the regulated activities in question. Some key examples of exclusions in relation to DIB in the UK are listed below. 1.4.1 Exclusions when Dealing as Principal Absence of Holding Out Dealing in investments as principal is a regulated activity, such that persons dealing on their own account in order to make profits are normally required to be authorised or exempt. However, this regulated activity is restricted to those persons who are holding themselves out to be, and acting as, market makers and who regularly solicit the public with the purpose of inducing them to deal. A person buying shares solely on their own account does not need to be authorised or exempt unless they are holding themselves out to be a dealer in the investments. This means that: firms that are professional dealers, such as market makers, and which hold themselves out as such, are carrying on a regulated activity and require authorisation, but individuals or companies which are not in the business of dealing in investments, and which only invest for themselves in the hope of making a profit, are exempt from requiring authorisation. This exclusion relates to dealings in securities (shares and bonds) and contractually based investments (futures, options and CFDs) as long as they are entered into by an unauthorised person. Other Exclusions There are other exclusions where dealing as principal is not classified as a regulated activity: 1. A bank providing finance to another person and accepting an instrument acknowledging the debt (note this exclusion does not apply in relation to regulated housing finance and consumer credit activities). 26 The Regulatory Environment in the UK 2. A company or other organisation issuing its own shares, warrants or debentures, or purchasing its own shares in accordance with certain provisions of the Companies Act 2006. 1 3. Using options, futures, and CFDs for corporate risk management purposes, as long as the company’s business is mainly unregulated activities and the sole or main purpose of the deals is to limit identifiable risks. 4. Entering into transactions as principal for, or in connection with: the sale of a body corporate transactions between members of a group or joint enterprise the sale of goods or supply of services while acting as bare trustee (nominee in Scotland) in connection with an employee share scheme an overseas person, and acting as an insolvency practitioner. 1.4.2 Exclusions when Providing Advice in Newspapers There is a particular exclusion from the regulated activities of advising on investments that is available to newspapers and other media such as Investment Week and Citywire. If a newspaper includes investment advice and that advice is not the principal purpose of the newspaper, it is excluded from the regulated activity of advising on investments. The existence of money and city pages or subsections within a newspaper does not make the principal purpose of the paper anything other than the provision of news, so there is no need for authorisation. If the principal purpose of a publication is the provision of investment advice with a view to encouraging investors or prospective investors to undertake investment activity, authorisation is required. This is the case for periodicals that tip certain investments and which are often sold on a subscription basis. They are often referred to as tipsheets and include publications like Warrants Alert (highlighting warrants that offer good value to the investor). The FCA recognises the impact of social media; it published guidance in 2014 (‘social media and consumer communications’), which highlighted that digital and, in particular, social media are now becoming the media of choice in many cases for customer communications and specifically for financial promotions, noting the positive benefit from using social media but highlighting that this has to be based on compliance. The purpose of the guidance is to: clarify and confirm the approach to the supervision of financial promotions (as defined in the legislation) in social media help firms understand how they can use these media and comply with the rules remind firms that the rules are intended to be media-neutral to ensure that consumers are presented with certain minimum information, in a fair and balanced way, at the outset of firms’ interaction with them, and set out specific areas that firms need to consider, and provide some solutions and illustrative examples. In July 2023, the FCA published a ‘guidance’ consultation on how the financial promotions requirements apply to promotions on social media – this was to ensure that the existing guidance (noted above) is still appropriate, or it is updated where necessary. 27 The consultation considered a number of issues, including: The different types of social media platforms and how they are used for financial promotions. The risks associated with financial promotions on social media, such as the potential for misleading or deceptive information. The ways in which firms can comply with the financial promotion requirements when promoting financial products and services on social media. The consultation closed on 11 September, the FCA indicated that they would publish updated guidance later in 2023. At the time the workbook was published, the FCA had not published its finalised Guidance. 1.4.3 Trustees, Nominees and Personal Representatives There is an exclusion from the need for authorisation if the person carrying on a regulated activity is: acting as representative of another party not generally holding themselves out as carrying on regulated activities, and not receiving additional remuneration for providing these investment services. This exclusion can apply to the following types of designated investment businesses: Dealing in investments as principal. Arranging deals in investments and making arrangements with a view to transactions in investments. Managing investments. Safeguarding and administering investments. Sending dematerialised instructions. Advising on investments. Assisting in the administration and performance of a contract of insurance which is a life policy. It is important to note that this exclusion is not available where the person is carrying on, dealing, arranging or advising activity in connection with a contract of insurance. 1.4.4 Employee Share Schemes Companies may wish to set up schemes enabling their employees to hold shares in the company they work for. There is an exclusion available from the requirement to be authorised to operate such schemes that is available to the company, any company in the same group, or any trustee who holds certain types of securities or debentures under the scheme. However, this exclusion is not available to third parties who may be involved in operating the scheme, such as third-party administrators. The exclusion covers four types of activity: 1. Dealing in investments as principal. 2. Dealing in investments as an agent. 3. Arranging deals in investments and making arrangements with a view to transactions in investments. 4. Safeguarding and administering investments. Source – FCA website – PERG sourcebook (PERG 2.9.13) 28 The Regulatory Environment in the UK 1.4.5 Overseas Persons 1 There are a number of exclusions for overseas persons carrying on regulated activities, providing that they do not do so from a permanent place of business in the UK. These exclusions apply only if the business is carried on through an authorised, or exempt, UK person, or if they are the result of a legitimate approach, such as when a UK client makes an unsolicited approach to an overseas person. The exclusions mainly cover the following types of designated investment business: Dealing in investments as principal. Dealing in investments as an agent. Arranging deals in investments. Advising on investments. Agreeing to carry on the regulated activities of managing investments, arranging deals in investments, safeguarding and administering investments, or sending dematerialised instructions. Operating an MTF. Source – FCA website – PERG sourcebook (PERG 2.9.15) 1.5 Exempt Persons Learning Objective 1.1.7 Know who constitutes exempt persons in relation to designated investment business in the UK In certain circumstances, specific types of persons carrying on regulated activities may be exempt from the requirement for authorisation. The relevant provisions are found in FSMA and in the statutory instrument FSMA Exemption Order 2001. This order provides an exemption for the BoE and other central banks. These exemptions generally relate to specific regulated activities and may be restricted to certain circumstances or subject to certain conditions. An example of an exemption being restricted to certain circumstances might be if some other authorised person has accepted responsibility for the regulated activities (such as an appointed representative). An example of an exemption being subject to certain conditions might be a requirement that the regulated activity is not carried on to make a profit. Exempt persons can be split into two groups, namely: those specifically described as exempt persons under FSMA (such as RCHs and RIEs), and those that are not described as exempt persons under FSMA, but who may nonetheless be exempt from the requirement to apply to the FCA for authorisation – such as a member of a DPB carrying on the regulated activities in particular circumstances (see section 1.2.9 on DPBs). This distinction is significant; certain legal provisions apply only to transactions involving exempt persons, and not to non-exempt persons who are only free from the need to apply for authorisation because of the specific circumstances of their activity. 29 The classes of exempt persons set out in PERG 2.10 are discussed further in sections 1.5.1 to 1.5.4: Two groups of exemptions Exempt persons under the Act, eg, RCHs Others, eg, designated and RIEs professions 1.5.1 Appointed Representatives An appointed representative is a representative of an authorised firm who is not an employee of that firm nor under a contract for services for the firm (self-employed). It can be any type of person (ie, as an individual or a business entity). It must be a party to a contract with an authorised person that allows it to carry on certain regulated activities, and the authorised person must have accepted responsibility in writing for the conduct of these regulated activities. The FCA rules do not apply directly to appointed representatives because they are not authorised persons in their own right. Instead, any business conducted by the appointed representative for whom the authorised person has accepted responsibility will be treated as having been conducted by the authorised person. The authorised person: must itself have permission (authorisation) to perform the regulated activities undertaken by its authorised representatives, and is potentially liable for the actions of its representatives and is subject to FCA discipline. Note that, although appointed representatives do not themselves need to be authorised, the individuals involved may require approval from the FCA (under the Approved Persons Regime (APER)) if they are fulfilling controlled functions (CFs) at an appointed representative firm. These are persons performing governing functions (directors, partners) and individuals who will be dealing directly with clients. The FCA expects authorised firms to conduct thorough reviews of the suitability and conduct of their appointed representatives. The exemption from authorisation that appointed representatives enjoy (S.39 of FSMA and the FSMA Appointed Representatives Regulations 2

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