The Compliance Tsunami
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This research seeks to explore the ways in which wealth management firms have been shaped by the ‘compliance revolution’ – a period of unprecedented regulatory change in the financial services industry that began in 2011. To research the subject, ComPeer conducted 12 interviews with executive or senior managers at firms that are widely regarded as thought leaders in the wealth management industry. These are our findings.
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The Compliance Tsunami
- 1. The Compliance Tsunami Tuesday, 4th March 2014
- 2. Research Partner Contents A Tsunami – Really ? Industry Background Research Participants Methodology Findings Conclusions Questions
- 3. Research Partner Industry Background and Firms Interviewed • Record years for the wealth management industry! • However, costs are increasing and some firms are having particular difficulty • £60 billion of investment assets, 3200 staff • CEOs and Heads of Compliance
- 4. Research Partner Methodology • Comprehensive, 60 minute interviews • Covering 5 main topics • Governance • Strategy and Daily Operations • Compliance Costs • The Front Office • The IT Department and Compliance Technology
- 5. Research Partner Findings ‘How would you rate the pace and volume of regulatory changes across 2012 and 2013?’ “All the regulation is acceptable in my view. There‟s too much whinging going on.” 58% 33% 8% 0% 0% 0% 10% 20% 30% 40% 50% 60% 70% Very high High Normal Low Very low Percentageofparticipants
- 6. Research Partner ‘How would you rate the task of dealing with the regulatory workload during 2012 and 2013?’ 33% 33% 25% 8% 0% 0% 5% 10% 15% 20% 25% 30% 35% Very difficult Difficult About average Easy Very easy Percentageofparticipants “External help almost provides us with reassurance, b ut there has to be collaboration so we can compare notes.”
- 7. Research Partner ‘Have there been any material changes since the FSA split into the FCA and PRA?’ “They‟re trying to understand our business model. The FSA never did that.” 20% 80% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% No Yes - increased engagement and focus Percentageofparticipants
- 8. Research Partner ‘What difference, if any, have regulations introduced in the previous two years had on the way your business operates?’ Suitability Scalability
- 9. Research Partner ‘Do you have a defined compliance strategy in place and if so, can you describe it and its implementation?’ said, ‘no’ “…we don‟t have a strategy that is documented.” “Well, I suppose the strategy is to remain compliant at all times.”
- 10. Research Partner ‘For the compliance projects that take up most of your time, are you able to allocate what percentage of the work you would consider to be good business practice?’ 78% 83% 35% 45% 55% 65% 75% 85% RDR Suitability Averagepercentoftotalworkcitedas goodbusinesspractice “The FCA‟s mantra is, „if it‟s not documented, i t doesn‟t exist.‟”
- 11. Research Partner ‘What are the main factors driving your compliance department costs?’ 17% 58% 25% 0% 10% 20% 30% 40% 50% 60% 70% Business Growth The level of regulation Remuneration Percentageofparticipants “Regulation! The sheer weight of it hitting our sector is massive.”
- 12. Research Partner ‘How would you rate the level of your compliance department costs?’ 33% 33% 25% 8% 0% 0% 5% 10% 15% 20% 25% 30% 35% Very difficult Difficult About average Easy Very easy 8% 0% 75% 17% 0% 0% 10% 20% 30% 40% 50% 60% 70% 80% Much too high High Acceptable Too low Much too low Percentageofparticipants ‘How would you rate the task of dealing with the regulatory workload during 2012 and 2013?’
- 13. Research Partner • 1.8 front office professionals • Generating £500,000 revenue • Opportunity cost = £900,000 ‘To what extent do you feel the front office has been impacted by the regulatory environment?
- 14. Research Partner ‘How easy is it for your IT department to keep pace with regulations introduced over the past two years (both in terms of project and business-as-usual work)?’ found it ‘difficult’ or ‘challenging’ “Giving us six months notice is unacceptable – I.T. is a finite resource and there‟s only so much we can ask them to do.”
- 15. Research Partner ‘Do you use specialist compliance software to help with the management of compliance and if so, what advantages/disadvantages does it bring?’ had no specialist software “There‟s nothing out there to help with specific projects.”
- 16. Research Partner “It‟s pretty difficult to squeeze a risk warning into 140 characters.”
- 17. Research Partner ‘Is there a compliance ruling that you think ought to be introduced that does not already exist?’ • Level of individual’s compliance salary • Behavioural regulation • Super-clean share classes • Total Expense Ratio • Transparent Exit Charges
- 18. Research Partner Conclusions • FCA off to a good start • Belief in good business practice • Adaptability of firms – positive attitude • ...but the ‘tsunami’ is going nowhere
Notas del editor
- Among the 150 firms in our universe, they manage and administer £600 billion of investment assets and have broken new records for profit and revenues in 2011, 2012 and all signs suggest that 2013 will be another record year.Costs however, are also increasing and recent ComPeer research showed that firms were spending 10% of revenues and close to 50% of profits on compliance matters alone.Interviewsincluded firms with investment assets from just under £1 billion to in excess of £10 billion with the most heavily represented firms within the £1 billion to £2.5 billion bracket, reflecting the median level of investment assets across the sector. Total investment assets for the firms we interviewed amounted to over £60 billion pounds, with total staff of 3200, each of which constitute roughly 10% of the industry.
- The interviews were all face-to-face, lasted an hour, and were structured in a way that would yield a picture of how regulation was dealt with by the firm we spoke to. We wanted to explore how they monitored risks and dealt with those risks, how high or low they thought their compliance costs were, how the revenue generating front office had been affected and how the IT department were coping with the changes, since IT is of course such an inherent part of a modern wealth management firm.
- You’ll see – unsurprisingly – that ‘low’ and ‘very low’ were not mentioned by any of the people that we spoke to. Of the people we interviewed, 91% said that it was high or above and I’d guess that a similar percentage of people in this room would agree. What’s interesting however, was that firms seemed to be adapting very quickly and were already considering the future. Many managers mentioned that if the pace of change was replicated in the following two years, they would be unlikely to again rate the level of regulation as high, since they would by that point consider the environment to be a ‘new normal’. The attitude of the wealth managers that we interviewed could actually be described as confident, as seen in the quote here from one of the chief executives that we spoke to.
- The biggest problem here was not the inherent difficulty in understanding Policy Statements from the FCA, and – as we’ll see later – not even any major shortfall in resources. Interestingly, it was the prolonged time and effort needed to get a grasp on a given interpretation of the policy. Add the difficulty of interpretation to the sheer volume of regulation and you have what can turn out to be a very frustrating endeavour. The result is that the FCA leaves itself open to regulated firms that are compliant only on grounds of varied interpretations. So what’s the solution? Well, the overwhelming suggestion was that collaboration was needed between the firms themselves and the FCA, and the trade bodies were all praised for their work in this area.
- I think this 80% here is great news for the industry and in fact, the 20% who answered ‘no’ carry positive connotations too. The 80% that answered ‘yes’ show that the FCA are doing exactly what they’ve promised. And if we wanted to look at this optimistically, the remaining 20%, rather than contradicting the other interviewees, may simply be those firms that have historically had a positive experience, suggesting that the transfer of power has been smooth. I think actually that the FCA ought to be commended in this area since a number of firms that we spoke to – more than 20% of them that said ‘no’ – were those that dealt with the FCA through the contact centre and did not have a supervisor. What this means is that the FCA’s intention to increase engagement with our industry, is reaching even those firms that do not have direct contact with a supervisor. There may be a way to go before we see whether this increased engagement leads to increased collaboration, but we mustn’t forget that the FCA’s head of wealth management Robert Taylor, is new to a position that was only recently created and so we can for now, give the FCA the benefit of the doubt.
- What has happened is that regulation hitting the UK that ought only to act as a framework within which firms operate, has actually become a reason that firms have changed their service provision. The relationship between the two is an interesting one. Two ways in which this has happened has been FATCA and Suitability. While there could be a debate as to whether FATCA constitutes a regulatory matter, what’s clear is that it has had an effect on service provision. Almost a third of interviewees mentioned that FATCA had resulted in them curtailing the provision of services to U.S clients. The U.S. clients however, haven’t gone anywhere and so this could possibly open up opportunities for other firms to grab market share in this niche area. With Suitability, we saw that the huge amount of effort required to match investor risk tolerance with investment portfolios meant that firms were turning to ‘ready-to-go’ investments in order to ease the burden associated with Suitability. The result was that they now had more scalable business models and with recent ComPeer research showing that only 2% of firms were able to achieve scalability between 2009 and 2012, this can only be a good thing. So here we see how FCA regulation may have helped firms not only to conduct themselves better, but also to possibly achieve greater profitability as the business grows.
- What’s quite interesting is firstly that firms did not really think of compliance as a strategic tool and secondly, if it was strategic, there were no clear ideas on how it could be harnessed. For me, there’s a bit of a conflict here and that’s between the earlier slide showing the vast amount of regulation that firms have to deal with, and the fact that there is no strategy to deal with it. In fact 83% of interviewees said that regulatory measures touched every part of the business.
- Numerous interviewees initially had difficulty understanding the question since a) it wasn’t easy to pinpoint the compliance projects that took up most of their time, and b) it’s an inherently difficult concept to delineate the amount of work currently being done from the work that would be done if the FCA didn’t exist. To rephrase the question, ‘how much of the current work would you continue to do if the need to remain compliant disappeared tomorrow?’ RDR and Suitability were the two projects mentioned most often as those that took up large amounts of our interviewee’s time. What can be read from this chart is that both measures are inherently good for the business, because firms estimated that on average, around 80% of the work on each project would be done without the FCA forcing them to do it, which is an incredible confirmation of the FCA’s intent. Unfortunately the 20% gap between the responses and 100% mean that the FCA have some way to go before they alleviate the pressure on regulated firms to simply ‘tick boxes’, since it was box-ticking and form filling that was the most often cited reason as to why interviewees did not think that all of the work was inherently good business practice. All other projects mentioned by interviewees varied wildly in how close to good business practice they were rated and were thus well behind RDR and Suitability in terms of their justification.
- So here we can see that our interviewees thought that the external factor of regulation was the major driver of costs. Again, we’re seeing ways in which the passive supervisor (the FCA) is actually becoming the active agent in this instance by causing business costs to increase. This next slide outlines the relationship between resources needed and the difficulty of the task, possibly with a contradictory outcome.
- The answers weren’t against other firms – for that you’ll have to see ComPeer about our benchmarking reports – they were from within the business. So the 17% on the left who rated costs as ‘too low’ are simply indicating that more resources are needed to meet the regulatory workload. On the right we see the earlier chart that answers the question about the difficulty in dealing with regulation. What this says to me, is that if the majority rate the difficulty in dealing with compliance as high or above and a majority rate their costs as acceptable, then the implication is that resources match the task and the current high level of regulation can be sustained in future.
- The overwhelming response was that the front office had been hugely impacted by regulation. Some firms said that they had tried to shield the front office from compliance, where possible, but that inevitably they had a responsibility to take care of measures like Suitability because they were so close to the client and were better able to gather the required data. Some firms actually used the front office as the first line of defence. Most firms agreed that the work being done on compliance by the front office was actually good business practice. We found that the average wealth management firm had 1.8 front office staff that was working solely on compliance, and in fact this year’s research backed that up, with numerous firms stating that portfolio managers had been moved away from their normal tasks to focus on regulatory matters. Now according to our benchmarking data, the average front office professional brings in £500,000 of revenue per annum and with 1.8 of them now leaving revenue-generating duties aside, that’s almost £1 million in lost revenue. Extrapolating for the industry, that’s approximately 3% of lost revenue. Views may vary on whether that 3% is anything to worry about, but loss of revenues can never be discarded without analysing the implications for profits.
- 90% of respondents said that it was challenging, but again, we saw the confidence shining through as many also said that they saw the requirements as an opportunity for general updates to their systems. A warning to the FCA here though, was that they had to be mindful of introducing rulings that would require updates to IT to be performed within a 12 month period because many firms – especially those within larger group structures – had to keep to within stringent budgetary constraints and would find it difficult to remain compliant if new regulations meant that the scarce IT resource was now going to be spread more thinly across the business.
- We also asked if firms used specialist compliance software to help with the management of compliance, but 60% said that they did not use specialist software and in fact, no two people mentioned the same software package. This could be that the sheer complexity of the task means that a catch-all package simply isn’t suitable for managing compliance, or, it could point to a gap in the market for service providers to integrate their products with the new reality of the current volumes of regulation.
- Rounding up the section on IT was the question as to whether social media was of any use to our wealth managers and whether FCA policy had discouraged firms from using it. The response was that no specific discouragement was made, but that wealth management firms were still broadly unsure about how to harness the power that social media could bestow. The regulator is due this month to issue official guidelines on how social media should be used, so there could be an opportunity to really grasp the idea of social media, but only if the FCA guidelines carry the clarity needed to give firms the confidence to do so. The firms that we spoke to were broadly split between embracing social media and laughing it off as a superficial non-starter.
- The question received the expected heads-in-hands response but rather surprisingly, also brought forward some interesting suggestions. In fact an almost cheerful optimism ran through the leaders of the industry as they began to cogitate on what was needed to improve things further. The boot was on the other foot and they were imagining what it would be like to be behind a desk at the FCA. One interviewee suggested that it was important to try and find a metric that would enable the level of staff compliancy to be measured and used as a barometer for remuneration. Linked to this is the idea that compliance must permeate the whole business. It must, as one CEO said, ‘be at the very heart of what we do’. The idea of building compliance into the culture of a firm was picked up by other participants too. One suggestion was that the FCA needed to try and find a way to measure the type of behaviour that a firm exhibited. Other ideas were the prevention of super-clean share classes, a standardised Total Expense Ratio as well as more transparency on exit charges in order to fight the accusation that prohibitive costs were being introduced to keep clients on board.
- So from ComPeer’s 2014 compliance research we can conclude that,Firstly, the FCA has started well with the creation of a wealth management group and a widely respected, high-level appointment. Secondly, firms believe that much of the regulation aligns with the concept of good business practice, but that there is also a danger of having to deal with too much box-ticking compliance. Lastly. there has been a marked change from two years ago, with firms adapting their attitude and their processes to the new normal. However, the volume of regulation – especially those measures emanating from Europe – will remain high and firms cannot relax just yet.