Among continual regulatory change, the FCA’s Client Assets Sourcebook (CASS) is comparatively constant and stable. But at times it can be ambiguous – could you benefit from clearer regulations and a more explicit approach to CASS regulation?
Last month we hosted a roundtable event discussing key compliance issues and areas of the regulation which are potentially unclear. You should consider the key discussions points below and review your existing practices to identify where you may need additional clarification.
So what are the grey areas?
Our event brought together senior investment management representatives from across the South West, with our CASS advisory and assurance specialists. We discussed best practice CASS application (including oversight, the impact of SM&CR and common audit findings under the FRC Assurance Standard), including those areas which are seemingly open to interpretation.
So as to not stifle open debate, the event was held under Chatham House rule, so the reflections below are not attributable to any particular firm or person.
‘Trade’ versus ‘settled’ basis
The session kicked off with the most keenly debated topic in the CASS community at present – ‘trade versus settled’. Delegates discussed the convention that custody assets should be recorded and reconciled on a ‘settled’, rather than a ‘traded’ basis. This debate cuts through to the very heart of the regime – what is the most appropriate basis to ensure customer protection on a firm’s insolvency?
It is evident that a number of firms and industry groups have engaged with the FCA on this subject. And perhaps quite rightly, many are frustrated that there hasn’t been a full consultation on the matter. For instance, while it seems intuitive that an asset is only ‘held’ once the purchase trade has ‘settled’, there is nothing in the rules that strictly spells this out. This may have seemed implicit to the FCA when establishing the rules, but this nuance isn’t necessarily obvious from a diligent reading of the rulebook’s 300 or so pages. Firms are only now realising the full implications.
Compliance with this intended meaning brings significant practical challenges and additional knock-on queries over interpretation:
- how should firms interpret the meaning of ‘held’?
- the notion of a ‘paid’ transaction may differ across products, markets and business models
- cash settlement may not be an appropriate basis in all cases.
The implications of the above interpretation may require costly systems and procedural changes that are far from trivial. For example, customer statements for mutual funds are not normally prepared using the same convention so the practical change for firms can be significant.
Ultimately, widely held principles and common sense must prevail. For example, normally a customer cannot hold both the asset and the related money that facilitated that trade purchase. But do firms’ records and reconciliations consistently reflect this economic reality? And if a firm has systems and controls and management information to monitor and manage failed or failing trades (including those under contractual settlement), then is any potential risk to customers (eg counterparty concentration) sufficiently mitigated?
You should consider analysing various settlement scenarios to demonstrate their compliance and set a consistent policy - including for the treatment of related shortfalls. This debate and firms’ responses will no doubt continue for some time. Industry collaboration has an important role to play here.
Oversight and outsourcing
The continuing regulatory focus here was apparent from a lively discussion and firms’ oversight models in respect of outsourced providers appear to vary considerably. This begs the question whether some form of standardisation would be sensible or is indeed a commercial necessity for the industry in the longer term.
Firms are generally clear that they can’t delegate their regulatory responsibilities. They are becoming increasingly intrusive and demanding of their third party administrators (TPAs) at all organisational levels, and rightly so. SM&CR will provide a further catalyst to this trend. Ultimately, firms need to fully engage with their TPAs, understand the money and asset flows (as if they are their own) and determine how procedural expectations or rule interpretations might vary.
Prudent segregation and pre-funding
Our discussion indicated that firms’ approach to funding (whose purpose is to preserve the client money pool for investors) can vary significantly. Whilst prudent segregation is intentionally well-defined in the rules, terms such as pre-funding and transactional funding are not. Despite sound intentions, this has led to a disparity in interpretation amongst firms and auditors. Good documentation is part of the solution, but firms should carefully reflect on how their practices align to the rules.
The mandate rules
In the broader context of CASS, many firms were concerned that CASS 8 (mandates) is relatively neglected by both firms and their auditors. Some fundamental questions were raised, including:
- Is the current definition of a mandate clear and commonly understood?
- Has the business identified all forms of mandates in operation?
- How should the requirements be interpreted when third parties are privy to mandate instructions and processing?
- Are regulatory breaches in connection with mandates being consistently reported and investigated (eg dealing errors; CASS versus COBS)?
The requirement for firms to have appropriate internal controls around mandates lacks any prescriptive detail. With so many areas open to debate, additional clarification from the regulator would be welcomed by the industry.
What should you do now?
Clarity over the CASS rules is essential to achieving effective compliance. You should keep up to date with any regulatory consultations, gather peer-based insight and engage with your auditor and the FCA on key areas requiring clarification. Any subsequent decisions should be fully documented and supported. Ultimately, a proactive approach should reduce the likelihood of nasty surprises during audits and FCA visits, and also give you the peace of mind that your firm understands both the intent and the spirit of these detailed and challenging requirements.
If you would like to discuss any of these topics or attend our next CASS round-table event, then please contact Paul Staples.