FSA Warns Brokers to Disclose Conflicts of Interest

November 28, 2005

The U.K.’s Financial Services Authority (FSA) has issued a warning to the brokerage community that it may require full disclosure of commissions and fees, unless greater attention is paid to the rules regarding conflicts of interest.

The FSA sent a letter to brokers on Nov. 18, and published it on the financial regulator’s Website – www.fsa.gov.uk – on Thursday Nov. 18. The FSA wrote: “The management of conflicts is an important factor in the business of insurance intermediaries, and has been the subject of greater focus by regulators around the world, particularly in the United States. The outcome of our review into existing market practice suggests that firms have work to do in order to ensure that they identify and mitigate conflicts of interest more effectively. Our study consisted of a series of visits to firms in the wholesale and retail sectors, comprising interviews with senior management and reviews of systems and controls. We visited 38 firms, in addition to the work we undertook with firms during the course of formal risk assessments. The findings are set out in detail in the attached Appendices but the main points may be summarised as follows:

— The process for identifying and mitigating conflicts of interest is not, in most firms, sufficiently developed at present. Senior management should be engaged fully in all aspects of conflicts identification and management and take a broad view of the risks posed to their business. This means that responsibility for conflicts identification and management is allocated clearly to accountable individuals, and that controls to mitigate conflicts are reviewed on a regular basis. Relevant management information should be available to support this process.
— Firms often perceive conflicts of interest in too narrow a manner, and some firms consider conflicts to be solely about remuneration. Senior management are responsible for ensuring that the broad spread of conflict risk to which their firm is exposed is addressed, including latent and emerging conflicts. They should also make informed judgements about the materiality of the conflict risk. This should take place within a business culture that supports the management and mitigation of conflicts of interest.
— While avoiding conflicts is linked with observation of the duties of agency, intermediaries should also ensure that they consider the wider issue of dealing with clients in a manner that is fair and seen to be fair. We expect firms to take a critical view of how conflicts may affect the fair treatment of clients and to respond accordingly, consistent with our Treating Customers Fairly (TCF) initiative. Clear guidance should be in place for staff on how to recognise a potential issue and when to escalate matters to senior management. More information on TCF, including a case study on conflicts management, is available at: www.fsa.gov.uk/tcf.

While the FSA said it recognized that a number of brokers have taken steps to address the problem, it also indicated that more work is needed, and that it will continue to monitor the problem during 2006.

In light of its finding the FSA said it expected “the following actions to take place at all firms:
— Boards should review the current and potential conflicts to which their firms are exposed;
— a formal conflicts policy should be put in place or, where already in place, reviewed, with firms setting out clearly how they propose to mitigate the conflicts identified; and
— firms must tell their FSA supervisory contact the outcome of the above steps by Friday 20 January 2006.

The FSA did indicate: “In line with the guidance issued during February 2005, we do not believe that there is currently a quantifiable market failure in this area which requires regulatory intervention.” But it warned that, “our view is clearly linked to how much we are able to rely on the rigour of conflicts management processes within intermediary firms.”

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