Conduct RiskWHAT IS CONDUCT RISK?

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Today’s Discussion Points

• What is conduct risk?

• What does FCA say about conduct risk?

• Defining conduct risk strategies and objectives

• How to make conduct risk a part of ERM framework?

• Role of technology in managing conduct risk unambiguously a part

of ERM framework

• Q&A

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Conduct Risk

What is Conduct Risk?

1. What is Conduct Risk ?

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Conduct Risk

What is Conduct Risk?

Conduct Risk is currently of concern not only to the UK Regulators, but regulators worldwide.

Due to repeated and wholesale mis-selling or market manipulation debacles in recent years, the whole question of market-place conduct has been brought into question.

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Conduct Risk

What is Conduct Risk?

Various initiatives have been tried across

the various jurisdictions, notably the

Treating Customer’s Fairly from the FSA

and the “Whistleblowing” incentive

scheme by the SEC in the USA, both in a

bid to combat poor behavior's.

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Conduct Risk

What is Conduct Risk?

Recent UK conduct risk issues examples (and we are not alone)

1: £22bn+ compensation bill for Payment Protection Insurance (PPI)

market Britain's five biggest banks – Lloyds, Barclays, Royal Bank of Scotland, HSBC and

Santander are responsible for about £19.6bn

2: CPP (Card Payment Protection) fined £10.5m and to pay redress of £14m

3: Restrictions to sale of “add-ons” for motor distributors consumers

might end up buying inappropriate or unsuitable products, or receive poor value for

money or both

4: Large-scale mis-sale of interest rate swap mortgages to Small and

Medium-sized Enterprises (SMEs)

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Conduct Risk

What is Conduct Risk?

PPI is Britain's biggest mis-selling scandal.

The amount set aside is almost double the

£11.8bn (US$18.65) bill for misleading

pension sales, and dwarfs the £2.7bn

(US$4.25) for mortgage endowments mis-

selling.

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Conduct Risk

What is Conduct Risk?

Common issues in the FS markets

Product design; Terms &

conditions; Mis-selling; Charging

practices; Servicing standards;

Complaints handling; Outrageous

Incentive schemes & pressure selling

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Conduct Risk

What is Conduct Risk?

Additionally Libor and other indices

manipulation has been covertly

conducted and now created new

issues for the markets and banking as

a whole.

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Conduct Risk

What is Conduct Risk?

In the same way that Fraud is not a

“Victimless Crime”, Conduct Risk

when crystallised has major

consequences and presents Solvency

and/or Liquidity Risk for all sizes of

financial firm.

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Conduct Risk

What is Conduct Risk?

The resources required to manage;

Complaints

Remedial Compliance work

Training & Competence

Additional monitoring

Senior Management Time; and

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Conduct Risk

What is Conduct Risk?

The cost of reparations is a constant

drain on any size of firm from small

adviser practices to international

banks.

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Conduct Risk

What is Conduct Risk?

However there is no actual definition

of Conduct Risk.

The UK regulators prefer each

company to define their own

meanings and act accordingly.

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Conduct Risk

What is Conduct Risk?

Checking in the FCA Handbook

Glossary …

Nothing can be found between

“COND” and “conflicts of interest

policy”.

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Conduct Risk

What is Conduct Risk?

From the various speeches and publications, a number of focus areas become evident and include;

Strategy & Business Model

Board Engagement

Risk Management & Controls

Operations and Regulatory Controls

Customer Journey

Incentives & Rewards

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Conduct Risk

What is Conduct Risk?

Certain areas the regulator could become involved or be interested in, could include;

Aligning business models to fair treatment of customers

Complaints handling

Product development and governance

Product Intervention

Outsourcing

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Conduct Risk

What is Conduct Risk?

Remuneration and reward policies

Financial Promotion withdrawal and

prohibition

Conflicts of interest

Incentives

Wholesale

Business Continuity

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Conduct Risk

What is Conduct Risk?

On January 24th 2014 Mark Carney, Governor of the

Bank of England told bankers at a meeting in Davos

that conduct is replacing capital as the key risk facing

the industry.

He said “Banks must recognise that only exemplary

behaviour can confer social license to global financial

capitalism,” Carney said. “For the system to operate

with integrity, penalties for misconduct cannot be

seen as a cost of doing business.”

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Conduct Risk

What does the Regulator say?

2. What does the Regulator say

about Conduct Risk?

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Conduct Risk

What does the Regulator say?

The Financial Conduct Authority (FCA) views Conduct Risk through the prism of their objectives:

– Consumers get financial services and products that meet their needs from firms they can trust.

– Markets and financial systems are sound, stable and resilient with transparent pricing information.

– Firms compete effectively, with the interests of their customers and the integrity of markets at the heart of how they run their business.

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Conduct Risk

What does the Regulator say?

Conduct Risk =

Risk of not achieving these objectives

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Conduct Risk

What does the Regulator say?

What about Sales of Products?

The regulators have always encouraged

compliance to work with marketing on

the design and management of products

for consumers

Relatively more involvement in sales

strategy and associated controls

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Conduct Risk

What does the Regulator say?

The regulators consider that weak

compliance and poor Senior

Management monitoring has lead to

high profile issues in recent years

involved mis-selling.

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Conduct Risk

What does the Regulator say?

In the mid-2000’s the FSA Introduced

the Treating Customers Fairly initiative

whereby certain desired outcomes

were declared.

These were …

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Conduct Risk

What does the Regulator say?

Outcome 1 - Consumers can be confident that they are dealing with

firms where the fair treatment of customers is central to the corporate

culture

Outcome 2 - Products and services marketed and sold in the retail

market are designed to meet the needs of identified consumer groups

and are targeted accordingly

Outcome 3 - Consumers are provided with clear information and kept

appropriately informed before, during and after the point of sale

Outcome 4 - Where consumers receive advice, the advice is suitable

and takes account of their circumstances

Outcome 5 - Consumers are provided with products that perform as

firms have led them to expect, and the associated service is of an

acceptable standard and as they have been led to expect

Outcome 6 - Consumers do not face unreasonable post-sale barriers

imposed by firms to change product, switch provider, submit a claim or

make a complaint

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Conduct Risk

What does the Regulator say?

Does The Old

“Treating

Customer’s

Fairly” (TCF)

Model Work?

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Conduct Risk

What does the Regulator say?

Do We Need

More Rules?

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Conduct Risk

What does the Regulator say?

Maybe The Old

TCF Model Doesn’t

Work?

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Conduct Risk

What does the Regulator say?

Do We Need

More Rules?

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Conduct Risk

What does the Regulator say?

To help answer that we would have to look at the

relevance of the TCF methods.

Did they work in changing the culture?

Can they, or a form of them, be adopted

universally?

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Conduct Risk

What does the Regulator say?

In Hong Kong. In November 2013, the Hong Kong

Monetary Authority (HKMA) issued its Treat

Customers Fairly Charter. The charter incorporates

five high-level principles and is primarily aimed at retail

consumers. It is based on the good practices promoted

under the G20 High-Level Principles on Financial

Consumer Protection, promulgated in October 2011. All

retail banks in Hong Kong have signed up to the

charter to pledge their commitment to implementing the

treating customers fairly principles.

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Conduct Risk

What does the Regulator say?

In Australia, ASIC has taken disciplinary action against a variety of

individuals who had made false statements to consumers or

provided unsuitable advice.

The Future of Financial Advice (FoFA) reforms came into force in

Australia in July 2013 and comprise an array of measures intended

to enhance the customer journey experience for retail consumers

when receiving financial advice.

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Conduct Risk

What does the Regulator say?

In the USA there is the SEC and FINRA along with other bureaus set

up through various legislation such as Dodd-Frank.

One of these is the "Consumer Financial Protection Act of 2010", that

establishes the “Bureau of Consumer Financial Protection”. The new

Bureau regulates consumer financial

products and services in compliance with federal law.

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Conduct Risk

What does the Regulator say?

More Rules?

• Between 2008 and 2013 the rules within the UK

regulators handbooks increased by 27%

• The majority of the mis-selling and market manipulation

occurred during this time

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Conduct Risk

What does the Regulator say?

Regulation

Do we really need more rules?

Perhaps we need greater leadership and

personal responsibility instead?

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Conduct Risk

What does the Regulator say?

As We Know … The New Regulator

for Conduct in the UK is …

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Conduct Risk

What does the Regulator say?

A Change of Approach

New FCA supervision regime

New focus – “Conduct Risk” & “market integrity”

Change in approach ~ Reactive to Pre-

Emptive

“Intensive and intrusive” supervision

− Business model analysis; Additional information & reporting

− Increasing focus on thematic & event-driven visits; Deep-dives &

file reviews; CEO certification letters

− Continuing focus on “outcomes”

− Stronger intervention & enforcement

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Conduct Risk

What does the Regulator say?

New intervention measures, earlier in product

life cycle

E.g. Product bans; Trading restrictions; Permission

requirements

Already reflected in visits & outcomes

• Risk Mitigation Programs (RMPs);

• Skilled Person’s Reports (S166s) & “near S166s”;

• “Attestations” by accountable executives

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Conduct Risk

What does the Regulator say?

Conduct Risk

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Conduct Risk

What does the Regulator say?

Clive Adamson, FCA director of supervision, said in

March 2014, on the need to address conduct risk;

“Achieving an effective conduct - or customer-

focused culture is challenging for firms, particularly

for those whose focus has been primarily on

profitability and shareholder returns. …

From what we see, there are key drivers that set and

re-enforce this conduct-focused culture, with the

most important being clear and ongoing leadership

from the top of the organization …”

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Conduct Risk

Defining Strategies and Objectives

3. Defining Conduct Risk

Strategies and Objectives

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Conduct Risk

Defining Strategies and Objectives

Questions To Be Asked

What exactly is “Conduct Risk” – how

do we define it?

What are the regulator’s expectations?

What are the practical implications /

challenges for the business?

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Conduct Risk

Defining Strategies and Objectives

Questions To Be Asked

Is Conduct Risk on your/your firm’s agenda?

Why should you be concerned about Conduct

Risk?

Where does Conduct Risk sit in your Risk

Framework?

1. Operational Risk or as a discrete risk category?

2. Does it underpin or overlay other risk categories?

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Conduct Risk

Defining Strategies and Objectives

How do we fit “Conduct Risk” into our

existing TCF arrangements and Risk

Management framework?

What impact will CR have on the business?

Where will “Conduct Risk” be going under

the new FCA regulatory regime?

What should we be doing now and what

approach should we take?

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Conduct Risk

Defining Strategies and Objectives

How is each sector involved?

What does a good Conduct Risk management

framework look like?

What are the key obstacles to increasing

attention on Conduct Risk?

How should Conduct Risk appetite be

measured?

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Conduct Risk

Risk Framework

4. How to make Conduct Risk a

part of ERM Framework?

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Conduct Risk

Risk Framework

Firstly you have to decide the areas that Conduct Risk will impact and how best to measure it.

This needs to be considered from top to bottom and bottom to top. The high level ERM Framework, once defined, then has to create the relevant sub categories, which in turn lead to operational areas and functional dependencies at a granular level.

This then needs to be amalgamated and collated much the same as a balanced scorecard exercise.

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Conduct Risk

Risk Framework

An initial aim is to connect the risks, controls

and other framework elements to your

company’s organisation chart. From there,

you should determine risk capacity, your

company’s current risk profile and its risk

appetite.

Next you should measure your risk appetite

adherence.

Finally, you will need to align your risk appetite

with your company’s risk governance

framework.

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Conduct Risk

Risk Framework

Risks to Consider(FCA Risk Outlook )

- Products / services

– customer needs & interests

- Distribution channels

– transparency for consumers

- Payment and product technologies

– over reliance, oversight

- Funding strategies / structures

– innovative, complex or risky

- Understanding of risk and return

– customers taking too much risk

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Conduct Risk

Risk Framework

Board Engagement

Risk Management & Controls

Operational & Regulatory

Controls

Strategy & Business Model

Incentives & Rewards

Customer Journey

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Conduct Risk

Risk Framework

For each specific impacted area you

then need to assess the;

Conflicts of Interest that may arise

Communications with suppliers and

customers

Competence

Reward & Performance Management

Other Cultural Drivers

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Conduct Risk

Risk Framework

Conflicts of Interest

Communications

Other Cultural Drivers

Reward & Performance Management

Competence

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Conduct Risk

Risk Framework

Then across each business area you have to

apply the Conduct Risk drivers to identify the

potential risks for your specific business model.

This should also be linked and enhance a

firm’s existing Treating Customer’s Fairly (TCF)

management practices.

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Conduct Risk

Risk Framework

Board Engagement

Risk Management & Controls

Operational & Regulatory

Controls

Strategy & Business Model

Incentives & Rewards

Customer Journey

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Conduct Risk

Risk Framework

Main Product Areas for Consideration

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Conduct Risk

Risk Framework

When you have decided the areas

that will be impacted and what

management information can be

obtained, the relevant controls and

risk appetite, you can start to build

your bespoke framework.

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Conduct Risk

Risk Framework

The purpose of this part is to satisfy

the cyclical need to embed the

process and provide a clear

relationship between evidencing your

actions, providing good outcomes and

the resultant good culture.

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Conduct Risk

Risk Framework

1.Evidence

2. Outcomes

3. Culture

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Conduct Risk

Risk Framework

FSA/FCA expectations of firms – pro-active engagement with Conduct Risk management

Pro-active response

Board / senior management lead

Action – determine approach & develop framework to manage CR

Robust approach – with measurement

Detailed framework – business-specific

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Conduct Risk

Risk Framework

Key• Board & Committees

• Executive Management

• Control Functions & Oversight

• Conduct Risk Management

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Conduct Risk

Risk Framework

Strategy & Business Model

Identification & Assessment

Appetite & Tolerance

Control Measures

Monitoring & MI

Issue Escalation and Management

Reporting & Recording

Governance

& Control

Measures

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Conduct Risk

Risk Framework

The key to all of the Conduct Risk Framework effectiveness is

the correct monitoring and accurate reporting of data from all

parts of the business to inform the management, senior

management and executive management structures precisely

what is going on.

Accurate Key Results Indicators, Well defined Performance

Indicators, Key Performance Indicators and ultimately the

Pertinent Risk Indicators are vital to the success of this

framework and the provision of comfort to the board that things

are working well.

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Conduct Risk

Risk Framework

Once your risk identification process is completed then you

should be able to provide a clear picture of the …

As well as demonstrate that the

key governance is effective and

controls the firm with a positive

and workable culture firmly embedded

into the entire operation.

1.Evidence

2. Outcomes

3. Culture

Key• Board & Committees

• Executive Management

• Control Functions & Oversight

• Conduct Risk Management

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Conduct Risk

Risk Framework

This will provide you with a fully workable and scalable model

that should be fully understood and trained out to your staff.

A simplistic view of your

framework could be;Board

& Exec

Head of Division

Head of Function

Head of Region/Division

Team, Department or Local Manager

Conduct Risk How To Establish Risk Appetite

Lee Werrell Chartered FCSI FISMMOwner – Compliance Consultant

– Lee has been involved in risk & compliance work for; Inter-

dealer Brokers, Retail Banks, Investment Banks,

Stockbrokers, Building Societies other Distribution channels.

– Much of our business at Compliance Consultant is

conducted under NDAs as it involves remedial and corrective

work.

– Lee was appointed a Skilled Person in 2012 by the FSA.

Call us on 020 7097 1434

Conduct Risk How To Establish Risk Appetite

Conduct Risk – How to Establish Risk

Appetite

Lee Werrell Chartered FCSI FISMM

Owner of Compliance Consultant

Contact me on 020 7097 1434

info@complianceconsultant.org

Conduct Risk How To Establish Risk Appetite

• Why Not Buy Your

• Compliance Manual

• From Us ….

• Many Firms Already Have.

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Conduct Risk How To Establish Risk Appetite

Thank You For Your Time

Lee Werrell Chartered FCSI FISMM

Contact me on 020 7097 1434

info@complianceconsultant.org

uk.linkedin.com/in/leewerrell

facebook.com/ComplianceConsultant

@complianceconst @s166reports

Conduct RiskTHANK YOU FOR YOUR TIME