FSA bans director for client money failings

The FSA has banned the director of a mortgage and general insurance firm from holding senior positions in the financial services industry, following his failure to comply with client money rules, which resulted in the loss of approximately £85,000 of his customers’ money.

Matthew Sixsmith failed to separate his customers’ money, intended to be passed on as insurance premiums, from that of the firm, as is required under Chapter 5 of the Client Asset Sourcebook. He maintained only one bank account, in the name of his firm, resulting in the loss of the customers’ money, when the firm went into liquidation.

Margaret Cole, director of enforcement at the FSA made the following comment: “Sixsmith was incompetent and his actions posed serious risks to customers who trusted him with their money and expected him to pass that money on to insurers. Individuals who look after client money must act in accordance with the rules. Where they fail to comply we will not hesitate to take enforcement action against them.”

This case emphasises the importance of this issue, as highlighted by the FSA in a recent letter sent to insurance brokers expressing it’s concerns over the handling of client money and assets.

This e-mail address is being protected from spam bots, you need JavaScript enabled to view it

 

FSA issues corporate governance consultation paper

The FSA has recently issued a consultation paper covering effective governance standards within firms, in particular proposals relating to significant influence functions and the Walker review.
As the proposals extend the scope of the approved persons regime, they may potentially have widespread effect, in particular for the following:
• regulated firms, the parents of regulated firms and those applying for authorisation,
• individuals who are approved persons and individuals who exert significant influence over regulated firms and
• those involved in recruiting employees for controlled functions and in overseeing, developing and administering processes for complying with the FSA’s approved persons regime.
The FSA considers that it has placed considerable emphasis in the past on good governance and the capability of individuals in governance roles. However, there is also recognition, in the light of the recent financial crisis, that the focus on the quality of governance and the intensity of its previous supervisory assessment of this, did not adequately reflect it importance. The current paper therefore sets out the latest in a series of initiatives taken by the FSA to correct this.
The proposals covered by the consultation include:
• a new framework of classification of significant influence controlled functions,
• other changes to the approved persons regime, including the scope and definition of some controlled functions,
• other changes to the approved persons regime, including the scope and definition of some controlled functions,
• some guidance on the FSA’s expectations in relation to non-executive directors and risk governance guidance and the FSA’s plans for other implementing measure in support of Sir David Walker’s recommendations.
Although not part of the consultation process, the FSA has also provided more information on the Significant Influence Function approval process.
Under the proposals, there will be nine new significant influence controlled functions, of which six will be governing functions and three systems and controls functions, the aim being to separate out key roles which currently fall within an existing significant influence function.
The existing CF1 (director) and CF2 (non-executive director) governing functions will be reduced in scope, following introduction of the following additional functions:
CF2a – Chairman
CF2b – Senior independent director
CF2c – Chairman of risk committee
CF2d – Chairman of audit committee
CF2e – Chairman of remuneration committee
CF00 – Parent entity SIF
The current CF28 (systems and controls) function will be replaced by separate functions covering finance, risk and internal audit.
Firms affected by these new controlled functions will be those with individuals who carry out these roles within their current approval, as one of the governing or systems and controls functions. The new CF2 controlled functions focus on the different roles performed by non-executive directors, an approach which has been adopted by the FSA to reflect the diversity of non-executive director roles within firms. The FSA is keen to stress that the responsibilities of these roles are broad and that they should provide a challenge for the executive. Greater emphasis will therefore be placed in future on the competence and capability of non-executive directors, both prior to appointment and on an ongoing basis.
The consultation paper also includes guidance on the need for some firms to establish board risk committees and appoint Chief Risk Officers. Although the FSA only specifies a requirement for listed banks and insurers, it goes on to say that the guidance may be also applicable to others, such as smaller firms, as a result of their risk profile or complexity.
The consultation paper is open for comments until 28 April 2010, following which the FSA will finalise proposals, with the aim of publishing the final rules during the third quarter of 2010.
This e-mail address is being protected from spam bots, you need JavaScript enabled to view it

FSA issues Solvency II IMAP update
The FSA has published the second in a series of regular updates designed to assist firms preparing for Solvency II and the Internal Model Approval Process (IMAP). This update is specifically concerned with the pre-application process, applicable to firms who intend to use an internal model. Such firms will be allowed to commence the process from April 2010.
The FSA has stated its intention to write to all firms who have expressed their intention to use an internal model during February, asking them to complete a standard template, in order to assess the firm against the pre-application qualifying criteria. The template will need to be completed and submitted to the FSA at least one month before firms intend to start pre-application.
Also included in the update, is information on:
• progress on the FSA’s pilot programme, aimed to assist in developing and testing the planned approach to pre-application;
• progress on the FSA’s thematic review on key aspects of the use of internal models under Solvency II; and
• CEIOPS advice concerning internal models.
This update, the standard template and a Thematic Review Questionnaire can be accessed on the FSA’s dedicated webpage for Solvency II which can be found at http://www.fsa.gov.uk/pubs/international/imap_update.pdf
This e-mail address is being protected from spam bots, you need JavaScript enabled to view it

Solvency II – Final CEIOPS advice on Level 2 Implementing Measures
CEIOPS recently published the feedback received during the public consultation process for the third and final phase of Draft Level 2 Implementing Measures on Solvency II, comprising sixteen consultation papers. The consultation took place between 2 November 2009 and 11 December 2009 and attracted approximately 7,000 comments. Below is a summary of the major changes made to the Draft Level 2 advice as a result of this consultation process.
Overall comments
Many respondents commented on the limited time available for the consultation and also the split between the advice on the calibration (covered within the third set) and the structure and design of the risk modules (covered within the second set).
Respondents have also criticised CEIOPS for a lack of overall assessment of the impact on companies in its advice papers. CEIOPS maintains, however, that it has aimed at providing advice which is consistent between the different Pillars and risk modules.

SCR Standard formula
Own funds – treatment of participations (CP 67 )
The revised advice includes clarification of why CEIOPS did not recommend the ‘look through’ approach from parent to subsidiary company balance sheet, in determining the SCR (solvency capital requirement), as a number of respondents considered this to be a preferred approach. CEOPS considers that this approach would not have been consistent with the Level 1 text and would not have reduced the aim to mitigate double gearing.
CEIOPS has retained its advice to derecognise participations in financial and credit instruments, despite criticism from respondents, maintaining the appropriateness of this treatment. Similarly, it has maintained its original advice regarding the elimination of goodwill from the value of the participation, despite comments that goodwill has an economic value and should therefore have a value.
CEIOPS has provided clarification on the participations in intermediate holding companies. According to the revised advice, these should be treated as financial institutions. Where the participation is an insurance company, it should be treated as if it is an insurance undertaking.
Treatment of Ring Fenced Funds (CP68)
This paper sought to clarify the interpretation of ring-fenced funds, including questions to stakeholders as to their understanding. Having taken into account the views of respondents, the revised advice adopts a principles-based approach to capture the nature of ring-fenced funds. CEIOPS aims by this approach, to capture the variety of such funds across the EEA. A clarification has been included by the specific exclusion of unit-linked funds and reinsurance business.
Respondents offered to provide support in developing Level 3 guidance to identify specific structures and arrangements in Member States, which is welcomed by CEIOPS.
Design of the equity risk sub-module( CP 69)
In response to stakeholder comments that proposed requirements would be way over the 99.5% VaR, CEIOPS revised the volatility parameter (down from 60% to 50%) and have applied a correlation between the equity volatility and the equity risk.
CEIOPS decided against widening the ‘other equities’ bracket, as suggested by some respondents, and fixed the charge at 55% for other equities.
Calibration of market risk(CP70)
Acknowledging stakeholders’ concerns of capital charges being too onerous, CEIOPS changed the volatility shock formula from one that required a 95% upward/20% downward multiplication to one that requires a 12% upward/3% downward addition, thus changing the whole basis of the formulation.
CEIOPS revisited correlations, applying volatility and interest rate term structure correlations at zero.
CEIOPS have also removed their split of investment property between ‘city’ and ‘non-city’ and applied a 25% charge for all property types.

Calibration of non-life underwriting risk (CP71), Calibration of health underwriting risk (CP72) and MCR calibration(CP73)
CEIOPS have acknowledged that they had a lack of data when calibrating the above modules. CEIOPS have been collecting additional data and, with agreement from the Commission, will continue their analysis with a view to issuing calibration in time for the QIS5 exercise later this year.

Correlation parameters(CP74)
Respondents commented that until CEIOPS undertook a detailed analysis the factors should be left unchanged from QIS4 levels. CEIOPS has undertaken additional analysis. They currently estimate that the changes to the consultation will combine to increase the capital charge be some 21% above QIS4 levels, which is 4% lower than the proposal in the original consultation.
CEIOPS clarified that the intention was not to set a benchmark for internal models, thus made no amendments to take account of respondent’s suggestions, such as allowing a factor for geographical diversification, as a result undertakings using the standard formula will get no benefit for such diversification.

Undertaking specific parameters (CP75)
CEIOPS took on board respondent’s comments on the approval process criteria, and have sought to relax the approval process.
Simplifications (CP77)
No major changes have been made as a result of the consultation. CEIOPS have sought to clarify certain areas of the paper, including confirming that an exact quantification of model error would not be required, thus agreeing that this would negate all benefits of a simplified calculation.
Others
Repackaged loans investment (CP63)
Respondents had expressed concern around the requirements which state that the Insurer must ensure they review the suitability of the originator of such investments, as pseudo regulators and be unable to place any reliance on the banking regulators. CEIOPS decided against changing the advice, instead choosing to re-emphasise the need for undertakings to carry out thorough due diligence when making investment decisions.

Extension of the recovery period - Pillar II dampener (CP64)
Having received support from the majority of respondents CEIOPS has stuck with it’s recommendation of allowing a 30 month maximum extension period. CEIOPS also reiterated that an extension to the extension period is a tool for avoiding procyclical effects, and as such the definition of an ‘exceptional fall’ is deliberately onerous as this will only be applicable in rare circumstances.

Partial internal models(CP65)
While CEIOPS acknowledges that respondents who expressed a preference, felt that Option 3 should be the preferred option for the integration of partial internal models, it still recommends Option 2. CEIOPS has, however, also stressed that it is keen to work constructively with stakeholders on the Level 3 aggregation techniques, to ensure that these are feasible and adequate but also flexible.
Following questions by respondents regarding the application of the Use test to the Level 3 techniques, the CP has been amended to clarify that this test does not apply to integration techniques prescribed by the supervisory authority.

Group solvency for groups with centralised risk management (CP66)
Respondents had expressed the view that the requirements for groups with centralised risk management were extremely onerous and go beyond what is required for effective risk management. CEIOPS has responded by commenting that it considers all risk management systems, whether centralised or not, must be sufficient to achieve the standards set by the Level 1 text.
Clarification has been given that centralised risk management only applies to groups where the ultimate parent undertaking is located in the EEA , and to EEA subsidiaries of those EEA groups. CEIOPS has also included an explicit statement, following concerns by respondents, relating to the proportionality principle to highlight the requirement to maintain the necessary flexibility for the system of risk management.
Clarification has also been given to confirm that the option to carry out a single group ORSA (own risk and solvency assessment) or group SFCR (solvency and financial condition report) is not restricted to groups which apply for centralised risk management.
Technical Provisions – simplifications (CP76)
CEIOPS has taken on board respondents advice and has not introduced an exhaustive list of methods and techniques in level 2, suspending such guidance until level 3.
Simplifications for captives (CP79)
CEIOPS has not amended its definition of a Captive, despite respondents feeling the definition was too narrow. Therefore, within the scope of the simplifications, only legal entities within the group at the time of entering the contract can be beneficiaries of all insurance obligations.
This e-mail address is being protected from spam bots, you need JavaScript enabled to view it and This e-mail address is being protected from spam bots, you need JavaScript enabled to view it

Solvency II – first Level 3 guidance
CEIOPS has issued it’s first Level 3 guidance paper on the internal model approval process (CP-80 : Pre-application process for Internal Models). Stakeholders have until March 8th to provide their comments.
The paper provides detailed guidance for undertakings looking to apply for full models or partial models, whether at solo or group levels.
In this paper CEIOPS highlight that until transposition of Level 1 and Level 2 text amongst all European supervisors there is no agreed procedure on how the college of supervisors would work together to achieve a joint decision on the group internal model. This has implications for cross border groups seeking internal model approval, who should seek to engage their supervisors early to ensure there are no delays to approval of group full or partial internal models.
CEIOPS have also clarified that, where third countries obtain equivalence, European supervisors will not exercise group supervision, instead relying on the third country regulator to undertake group supervision, and will supervise the European undertaking only. Where equivalence is not obtained CEIOPS clarified that solo internal model applications will not be prejudiced.
The necessity for an independent review of the internal model has also been highlighted, which must be up to date and the supervisor is likely to assess what was reviewed, and any recommendations and related actions.
CEIOPS has given details of the actual process, including the fact that the supervisor’s approval process should include at lease one visit, as well as a thorough desk based review of the application.
Any undertaking looking to seek model approval should thoroughly review this document in order to begin preparation for model approval. In the UK the FSA plan to begin the pre application process during 2010.

This e-mail address is being protected from spam bots, you need JavaScript enabled to view it