UK's Financial Services Authority Issues New Proposals On The Management Of Conflicts Of Interest And Analysts

All regulated firms who publish research, would be required to publish a policy explaining how they manage conflicts of interests in their business, says the Financial Services Authority in new proposals published today. Without such a policy firms would not be allowed to claim or even imply that they were producing objective, unconflicted research. This policy would apply to all research on designated investments, including shares, fixed income and derivatives. Senior managers of regulated firms would be responsible for developing and implementing appropriate conflict management policies.

Such policies would have to meet certain core standards, recently finalised by the FSA. A key standard is that analysts should not be involved in any activity that could conflict with their ability to produce objective research. In particular, analysts should not attend road shows or pitches. Other standards include not allowing someone with conflicting responsibilities to:

• Supervise an analyst; or
• to decide on the content of research; or
• to decide the remuneration of an analyst - for example, analysts should not remunerated from the proceeds of specific investment banking deals.

Gay Huey Evans, director of the Markets and Exchanges Division of the FSA, comments: "We and the regulated community agree that to preserve confidence in the integrity of the UK's financial markets, the standards applied to investment research and new issues of securities should be higher than they have been in the past. We have today finalised the standards we expect the industry to deliver and have published proposals that put the responsibility for delivering these standards fairly and squarely on the senior management of firms. For the industry, flexibility can be exercised in how exactly to manage conflicts of interest. But there will be no regulatory boxes to tick and senior managers will have to be able to demonstrate to us that their procedures are up to scratch. Flexibility is not the easy option."

The paper also includes final rules that limit the situations in which firms can deal ahead of publishing investment research. Analysts' personal dealings in investments they write about - and related investments such as derivatives - are similarly limited to dealing in accordance with their recommendations.

Conflicts of interest also arise during the process of issuing new securities. Such conflicts are also covered in today's paper, which gives guidance on how to deal with the allocation and pricing of securities.

The consultation period runs until 24 December 2003, with the aim that firms will have implemented the new rules by the summer of 2004. http://www.fsa.gov.uk/pubs/discussion/15/index.html

Background

1. Previous consultations on this issue, CP 171and DP 15 were issued in February 2003 and in July 2002 respectively. These showed that there had been positive bias in research recommendations where the companies covered were also clients of the investment bank. Feedback from the industry showed that clarification of the regulatory standards was desirable and this led to the proposals in CP 171. The current paper contains both final rules and new rules for consultation.
2. CP 171also included proposals on disclosures of firms' conflicts, their ratings systems and analysts' track records. It has since become clear that the detailed and specific disclosure requirements of the Market Abuse Directive (MAD) will apply to investment research and recommendations. However the detailed requirements of the MAD are still being finalised and so we will consider comments relating to disclosures when we consult on the implementation of the MAD during 2004. MAD has to be implemented by October 2004.
3. Research that does not hold itself out to be objective will remain subject to the current FSA Principles for Business and as well as the rules governing financial promotions where relevant. The most relevant Principles for Business in this context are: Principle 7, which requires communications with clients to be clear, fair and not misleading, and Principle 8, which provides that a firm should manage conflicts of interest fairly.
4. All the final and proposed new regulatory provisions are compatible with the recently published IOSCO principles, the main European initiatives as well as the US requirements on managing conflicts of interest.
5. The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000: maintaining market confidence; promoting public understanding of the financial system; securing the appropriate degree of protection of consumers; and fighting financial crime.
6. The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.