The Investment Association – Written evidence (EGC0044)

About the Investment Association

The Investment Association (IA) champions UK investment management, a world-leading industry which helps millions of households save for the future while supporting businesses and economic growth in the UK and abroad. Our 250 members range from smaller, specialist UK firms to European and global investment managers with a UK base. Collectively, they manage £9.1 trillion for savers and institutions, such as pension schemes and insurance companies, in the UK and beyond. 49% of this is for overseas clients. The UK asset management industry is the largest in Europe and the second largest globally.

Our Response

The IA welcomes the opportunity to respond to the House of Lords Financial Services Regulation Committee (‘HoL FSRC’) Call for Evidence in respect of the FCA’s CP24/2 (Our Enforcement Guide and publicising enforcement investigations – a new approach) (the “CP”). The FCA proposals resulted in a significant level of IA member feedback and concerns, as representatives of investment management firms and investments funds, which we have sought to reflect in our response.

IA members support the FCA’s purpose of providing greater transparency about its enforcement work which could deliver several benefits – specifically educating the industry at an earlier stage and enabling them to consider whether the matters giving rise to investigations could be relevant to their own business, systems or controls; and providing greater information (and potentially reassurance) to consumers and the wider public about the matters the FCA is investigating.

However, we have serious concerns regarding the approach set out in the CP to deliver this objective by naming firms at the outset of investigations. We firmly oppose the FCA’s proposal to announce the initiation of investigations by identifying firms, as it could lead to considerable unintended consequences for companies, consumers, and the financial markets, potentially undermining the FCA's objectives of maintaining market integrity and consumer protection.

The FCA's goals of providing early insights into potential misconduct, enhancing market confidence, deterring regulatory violations, educating the industry, and ensuring accountability could be achieved, without publicly naming the firm under investigation. The FCA's proposals lack sufficient evidence or a solid rationale. They do not adequately consider the possible harm, impact on the industry and individuals of disclosing the names of firms under investigation, particularly when FCA own data shows that majority of investigations result in no further action.

We recognise that there may be situations where naming the subject of an investigation is necessary, such as informing consumers of ongoing harm or due to significant public concern. However, the FCA already has the powers and tools to announce specific firm investigations in such cases. Swifter action can be taken using its supervisory powers, which are publicly disclosed. Therefore, announcements should generally not name firms unless there are compelling reasons that outweigh the adverse consequences. The FCA's current powers to name firms in specific circumstances are sufficient without the need for broader changes.

The strategy described in the CP also overlooks the need to speed up and focus investigations, which falls within the FCA’s responsibilities. There is a real risk and concern that enforcement cases could become more prolonged. Whilst we accept that the FCA is committed to speeding up investigations, it needs to focus on achieving real and measurable improvements to the speed of investigations across its entire caseload as a preliminary to any changes.

In addition to improving the pace of investigations and using the powers already available to the FCA, we propose alternative methods that would allow the FCA to further fulfil its goals of transparency, deterrence, and accountability without naming firms, such as anonymous and aggregated reporting, thematic insights, and market watch communications. We are committed to collaborating with the FCA to develop an enforcement framework that is proportionate, fair and effective for the industry, our members, and the regulator. By fostering a cooperative environment, we can ensure that regulations not only protect consumers but also promote healthy competition and innovation within the market.

Lack of evidence and rationale for the proposal

The FCA's proposal to announce the commencement of investigations on a named basis marks a significant shift in its approach to investigations, which has been based on the principle of confidentiality and non-publicity, except in exceptional circumstances, for over 25 years.

Considering the significance of the proposed policy change, the FCA has neither presented data-driven justifications nor evidence-based reasoning for this change. It has not clarified how this change would better serve its operational goals compared to releasing anonymised details of enforcement investigations thematically. The FCA has not demonstrated that its current approach to publicising investigations is ineffective or inadequate, or that its proposed approach would be more effective or beneficial.

It is unhelpful to propose these changes without assessing their impact. Although a cost-benefit analysis is not required under section 139A of FSMA, the FCA's February 2024 policy states that one should be produced for general guidance if a high-level assessment identifies significant costs, which we strongly believe will be considerable in this scenario. The FCA has not conducted any impact assessment or consulted with relevant stakeholders to understand their views and the underlying costs to their proposals.

Finally, The FCA has not explained how its proposal aligns with its statutory duties of confidentiality or how it would ensure lawful, fair, and proportionate disclosures.

Potential harm and impact of naming firms under investigation

The FCA's proposal to announce the commencement of investigations on a named basis could have significant unintended consequences for firms, consumers, and the financial markets, and undermine the FCA's objectives of market integrity and consumer protection.  The proposals could disproportionately affect firms named in investigations, especially where investigations conclude with no further action, which is the case with 65% of historic FCA investigations based on FCA’s published data. This is further compounded with the often-lengthy duration of such investigations.

These proposals could undermine market's overall integrity by heightening compliance costs and disproportionate effects on firms, in particular smaller firms, notwithstanding consumer harm and confusion. This would be further compounded by insufficient critical review and enhancement of the regulatory framework. Furthermore, individuals, whether named or not, may suffer reputational damage through association with a publicised investigation. The severity of these impacts will depend on how long it takes for a firm or individual to be exonerated, if that is the outcome.

We have further outlined and summarised some of the potential harms and impacts of early naming of firms under investigation below:

• Reputational damage to the firm. Publicising investigations can harm a firm's reputation by attracting unwarranted public concern and media speculation about the firm, its products, services, customers, and its compliance with regulatory standards. This is even if the investigation eventually does not imply any wrongdoing or culpability by the firm. This especially impacts small and medium-sized firms. Larger firms might withstand negative publicity, but smaller ones could face significant loss of consumer trust, risking closure of funds. Even if later cleared, the initial reputational damage to the firm may be irreparable.
• Loss of business and future revenue. The disclosure of an investigation could trigger substantial asset withdrawals, loss in current or future contracts, reduced new business prospects, and intensified competition, particularly impacting smaller firms. Negative Impact on smaller firms negatively impacts the broader ecosystem, as they frequently serve as the engines of innovation and progress. With regards to larger firms with an international presence, such an announcement could lead to more than just impact on the reputation or share price when a specific firm is named. Due to the FCA's current policies, some investment management agreements entitle institutional clients to terminate contracts and withdraw funds if an FCA investigation is publicly disclosed. Even in the absence of explicit termination rights, investors might still redirect their assets away from the investigated firm. Institutional investors may also face scrutiny from their own clients for continuing investments with a publicly investigated firm rather than opting for “clean” competitors.
• Impact on market liquidity and capital. The announcement of an investigation could affect the value of the firm's shares, bonds, or funds, or trigger market volatility or contagion effects, especially for listed firms or firms with a large market presence or exposure.
• Risk of identifying potentially accountable individuals. The proposal primarily restricts naming individuals, in ongoing investigations due to GDPR and the Data Protection Act 2018. However, it allows for disclosing names when it is both lawful and essential for the investigation or for the FCA to execute its statutory duties, such as encouraging witnesses to come forward or maintaining accountability to Parliament. Simply publicising an investigation into a firm might spark unfounded speculation or intrusive queries concerning specific individuals. In particular, given accountability brought through the Senior Managers and Certification Regime (SMCR) and the availability of information through the FCA register and public sources make it relatively straightforward for the media and others to infer which individuals might be accountable for areas under scrutiny.
• Risk of harm to investments and consumers. The announcement of an investigation could harm consumers in several ways. Including affecting the value of their investments in the firm or its products, causing confusion and misunderstanding, leading to a loss of trust or confidence in the firm or the sector, or prompting them to act rashly or irrationally, such as redeeming from a fund or switching providers before the outcome of the investigation (which might exonerate the fund) is known.
• Effects on the conduct of investigations. Publicly announcing an investigation might pressure the FCA to substantiate its disclosure by pursuing a case against the firm, potentially making the FCA more cautious or selective in starting investigations. It could also diminish firms' motivation to cooperate or settle with the FCA and might heighten the probability of litigation or third-party claims.
• Impact on resources. Announcing an investigation could heavily strain the firm's finances and administration, as well as the FCA's resources. They would need to handle media, public, investor, distributor, and regulator inquiries, plus potential lawsuits, all of which could divert attention from normal business or other regulatory goals.
• Impact on competitiveness. The announcement of an investigation could make the UK an outlier compared to other major financial services regulators, such as the US and the EU, who do not name firms at the start of investigations. This could undermine the UK's attractiveness and competitiveness as a global financial centre, especially for the investment management sector.
• Impact on whistleblowers. The announcement of an investigation could deter or discourage whistleblowers from coming forward, if they think that the FCA already has sufficient information or that their identity could be exposed. It may also encourage spurious or malicious complaints from disgruntled employees, ex-employees, or customers, straining the FCA's resources and capabilities.

We believe the FCA's proposal does not sufficiently take into account or address these potential harms and impacts, which we consider far outweigh any possible advantages of identifying firms under investigation particularly given the significant proportion of investigations which are closed without further action being taken.

Alternative ways to achieve the FCA's objectives

The FCA's objectives of providing early insights into potential misconduct, boosting market confidence, deterring regulatory breaches, educating the industry, and ensuring accountability could be met without the naming of the firm under investigation. More specifically, there are alternative paths to achieving the FCA's objectives without naming firms as detailed below, with only very exceptional circumstances for publicity using the FCA’s existing regulatory powers and tools:

• FCA to release more frequent, aggregated, and anonymised updates on its enforcement activities. This approach could involve monthly or quarterly summaries that detail the number of investigations started or concluded, the types of firms or sectors involved, and the general issues under scrutiny, without revealing the identities of the firms or individuals under investigation.
• FCA to publish thematic insights or good-and-poor practice guidance on the issues that trigger investigations, based on its engagement with multiple firms on a specific theme. This approach could involve drafting FCA guidance or issuing Dear CEO letters and reports on the FCA website, that highlight the common or emerging risks, the FCA's expectations and priorities, and the examples of good and poor practice that firms should follow or avoid.
• FCA to communicate via market watch or other bulletins on the issues that it is concerned about or monitoring, even if they are not widely recognised or investigated. This approach could involve documenting the FCA's observations and focal points, and verifying the instances where a firm has faced enforcement consistent with the market watch bulletins, thereby reinforcing the message and its preventive intent.
• FCA to improve the pace and focus of its investigations, and make quicker decisions regarding investigation outcomes, including closing cases early where appropriate. This approach could involve streamlining the FCA's investigation process, enhancing its resources and capabilities, applying a more rigorous and consistent public interest test, and providing more feedback and clarity to firms under investigation.

Finally, considering that a majority of FCA investigations conclude without any enforcement action, it is worrying that publishing case details is seen as crucial for holding the FCA accountable for its focus and speed in conducting investigations. Transparency regarding the FCA's accountability and the duration of its investigations can be maintained by continuing to publish information on the number of investigations initiated and completed, as well as their duration. This approach avoids causing unnecessary harm to consumers, firms, and the broader industry.

We also recommend that the FCA reassesses its strategy when proposing significant changes, ensuring that drawbacks do not outweigh benefits. One way to address this is by utilising the FCA's tools, such as a thorough Cost Benefit analysis.

We are committed to collaborating with the FCA to develop an enforcement framework that is proportionate, fair and effective for the industry, our members, and the regulator.

11 October 2024