UK: Transition Management/Regulatory Concerns

Last Updated: 19 June 2013
Article by Deloitte LLP

The Financial Conduct Authority (FCA) has not wasted any time in organising thematic visits to firms involved in the provision of transition management (TM) services. On 25 March 2013 the FCA published its Business Plan for 2013/14 in which it said that it would undertake a project to review TM practices; at around the same time it sent requests for information to various institutions providing this service as part of its investigation into whether the TM sector is treating customers fairly. According to the Financial Times, the FCA intends to review 90% of the firms providing this service and has begun to conduct site visits.

Background

The FCA is concerned that the institutional clients of the TM service providers may not fully understand the potential impact of conflicts and the costs of the service, and consequently incur unnecessary costs which ultimately reduce benefits for their own customers.

The value of good transition management is not in doubt. Without TM service providers it would be an excessively costly business for asset owners to manage a transition of their assets. In its Business Plan the FCA said that TM clients were usually unadvised and were often provided with complex legal and pre/post transition documentation. The FCA said that there was evidence that transparency and market conduct among TM service providers was not at the level required by the regulator.

Regulatory concerns

The approach taken by the FCA is another example of the regulator taking a closer look at the actual practices that firms employ rather than asking whether firms have complied strictly with the rules. TM is a valuable service for institutional clients and the industry has been aware of the transparency, conflicts and cost opacity issues for some time. In 2008 the National Association of Pension Funds welcomed the adoption of the 'T-Charter', a voluntary Code of Best Practice for transition managers which covered some of the same issues that concern the FCA today.

The regulator has previously shown its willingness to revisit aspects of business where firms had thought they were already in compliance as a result of long standing market practices, e.g. the recent concerns expressed over corporate access. In this case, the FCA appears to recognise that TM can result in improved performance and better risk management but it is likely to examine in detail the actual management of conflicts and cost structures within the TM sector; complicated legal disclosures are unlikely to be regarded as sufficient even to professional institutional clients. Firms should review their conflicts management and cost structures to ensure that:

  • Clients are provided with information (in a document) which clearly articulates the conflicts the firm faces and how it will manage them;
  • It is clear whether the transition fee includes all dealing charges or not;
  • Full details of the remuneration that will be received and how it will be calculated and collected are disclosed, e.g. revenue earned by trading foreign exchange; revenue earned by internal crossing; revenue earned from any affiliate acting in a principal capacity; and
  • The capacity in which the firm is acting is disclosed, i.e. agent or principal;

The review should be conducted so that a firm can fairly and properly say that its conflicts management and costs disclosure will be readily understood by a pensions fund trustee who will be able to make an informed decision. The FCA has clearly signalled that firms must comply with the spirit of the rules and reliance on disclosures that are strictly correct; impenetrable will not be tolerated. Firms may recall the case study in the Journey to the FCA published last October, where the regulator set out a range of actions it might take in a hypothetical wholesale conduct issue. The potential actions contemplated by the FCA included a requirement for a skilled person's report, formal enforcement action, changes to rules and issuing industry guidance. The FCA explained that its approach will be different from the previous supervisory approach because of its willingness to recognise differences in sophistication and expertise between parties despite the client being categorised as professional. This is not to say that professional clients will be totally absolved of their responsibilities when selecting a transition manager and trustees will still need to conduct appropriate due diligence. However, the FCA appears determined that firms will not be able to rely entirely on the 'caveat emptor' principle, particularly where that might lead to consumer detriment.

First published on the Deloitte website on 30 May 2013.

Kevin Quinlan
Kevin is a Director in Deloitte's Risk and Regulation Practice. Kevin specialises in providing regulatory risk advice to asset managers and has over eighteen years experience in financial services regulation. Before joining Deloitte, Kevin was Head of Compliance Consulting Services at the law firm, Norton Rose.  He has also been a manager/senior consultant at a leading asset management compliance consultancy and a manager in the Enforcement Division of the Financial Services Authority.

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