FOREX FAILINGS: THE LESSONS FOR FIRMS

In November 2014 six banks were fined £2.6bn by UK and US regulators over their traders’ attempted manipulation of foreign exchange rates. Of the £2.6bn, £1.1bn was levied by the Financial Conduct Authority (FCA) on five banks – the largest fine that it or its predecessor (the Financial Services Authority) had ever imposed.

Regulators are focussing on conduct

These large fines follow a 13-month investigation by regulators into claims that the foreign exchange market – in which banks and other financial firms buy and sell currencies between one another – was rigged. The size of the fines is certainly a massive step up and is leaps and bounds above what we have historically seen in the equities market. This reinforces the growing and continued focus of regulators, particularly the FCA, on conduct.

Unlike retail markets, wholesale markets (including forex) have traditionally been viewed as being relatively free from oversight. This is because the market participants are large institutions that are adequately padded out from significant losses by the sheer nature of their size. However, it is now abundantly clear that abusive behaviour in wholesale markets can harm consumers as well.

Simon Appleton

In addition to acknowledging the wrong-doing of the banks, these fines highlight the sophistication of the regulators, who have begun to look into more complex areas by implementing better technology, deploying higher calibre experts and collaborating across jurisdictions. This case is the most significant collaboration between the regulators and follows a long line of market conduct scandals.

This enforcement case has shown the industry that regulators are not only reviewing trading activity, but are expanding the scope of their investigations to include communication with clients and other market participants via channels such as Bloomberg.

The lessons for firms

So what is the lesson here for firms? First, risk assessments specific to market conduct need to be seen as a priority. In addition, it is necessary to leverage e-communication archiving and surveillance tools to complement existing trade and order monitoring systems.

Firms also need to be doing more than just wondering whether they are keeping pace with their competitors. Instead, they need to work closely with software developers and other market conduct experts to be proactive in how they reduce and oversee conduct risk exposure.

This means firms should run risk assessments on themselves to identify which products, asset classes and desks are most exposed. This can be achieved by developing an action plan that not only builds strong controls, but also embeds advanced monitoring of communications, trades and transactions. And all of this must be done with a global approach as firms are under more global scrutiny then ever before.

Often firms are not raising suspicious transaction reports quickly or often enough to the regulator and as a result can find themselves nursing substantial losses. Here pre-emption is the name of the game and firms need to be monitoring for red flags against the products and scenarios that they are trading. Comprehensive monitoring programmes are therefore no longer a matter of compliance, but are an essential function in capturing a competitive advantage and maximising business value.

Given the increasing awareness of how abusive market activity can impact institutions and consumers alike, it is expected that market abuse and market conduct issues, like the forex failings, will continue to be a focus for regulators globally. Indeed, nearly half (44%) of senior executives surveyed in our Global Regulatory Outlook 2015 survey cited market abuse as one of the key areas they think regulators would prioritise in the coming year.

Mitigating market abuse risk at the firm level will require a significant commitment of resources, both from a personal and technology point, but such an investment is critical to success for the business. The public expects individuals operating in the financial services industry and employed by regulated firms to act with integrity and in the consumer’s best interests. It is therefore the obligation of those firms and employees to maintain market confidence by adopting the appropriate internal monitoring framework and controls.