By Carly Phillips-Jones

In a portfolio letter dated 23 March 2022, the FCA set out its supervision strategy for custody and fund services firms. The letter covers the key risks that custody and fund services firms need to manage in order to protect investors and the integrity of the markets in which they operate. The FCA emphasised its expectation that firms take the necessary action to ensure these risks are appropriately mitigated.

The four principal areas of harm were identified as follows:

• Disruption to consumers and market participants, or the loss, compromise, or lack of availability of data, due to insufficient operational resilience or weak cyber controls.
• Sub-standard oversight and control of client money and assets leading to financial losses for investors and/or an inability to recover assets efficiently.
• Inadequate depositary oversight of fund managers, and failure to take reasonable care to ensure an authorised Collective Investment Scheme (CIS) is managed in accordance with applicable rules and solely in the interests of the CIS and its unitholders.
• Inadequate oversight of business linked to high risk, illiquid or speculative investment products sold to retail investors, and failures to consider related consumer outcomes.

In terms of these areas of harm, the FCA reminded firms that they are responsible for ensuring that appropriate people within the firm understand the rules and ensure that the firm complies with them. In light of this, the FCA set out its supervisory priorities:

• Operational resilience and cyber – the FCA referred to its Policy Statement PS21/3 and final rules on building operational resilience which come into force on 31 March 2022.
• Protection of Custody Assets and Money (CASS) – the FCA expects firms to be appropriately prepared for technological developments and management of disruption caused by such change.
• Depositary oversight – the FCA may seek evidence that firms have an appropriate level of access to a fund manager’s operations, adequate resourcing and ask firms to demonstrate that they have been able to challenge fund managers effectively in investors’ and unitholders’ interests.
• Speculative and illiquid investments – the FCA has emphasised the importance of conducting adequate due diligence when dealing with firms in this sector and ensuring that they are effectively considering consumer outcomes.
• Market and regulatory changes – the FCA expects firms to keep on top of market developments and regulatory change, in particular, it highlights that firms should understand how the new standards within the Investment Firms Prudential Regime (IFPR) apply to them.