FCA Sets Out New Proposals to Restrict High-Risk Financial Promotions

 

On 19 January, 2022, the FCA published its consultation on strengthening its financial promotion rules for high-risk investments, including cryptoassets (CP22/2). The consultation proposes some fairly onerous requirements and we expect that many of our clients will want to respond to this paper. We’ve summarised some of the key changes being proposed below.

  1. Classification of high-risk investments.

Following feedback that the COBS 4 rules were challenging to navigate and understand, the FCA proposes to rationalise the COBS 4 rules as follows:

New category Investments included Mass marketing rules
“restricted mass market investments” (RMMIs) · non-readily realisable securities (e.g., shares or bonds not listed on an exchange);

· qualifying cryptoassets; and

· P2P agreements

Mass marketing will be allowed to retail investors subject to certain restrictions
“non-mass market investments” (NMMIs) · non-mainstream pooled investments (e.g., pooled investments in an unauthorised fund – such as an unregulated collective investment scheme); and

· speculative illiquid securities (e.g., speculative mini-bonds)

Mass marketing will be banned to retail investors

 

  1. Consumer journey into high-risk investments.

The FCA explain in the consultation that it is concerned that too many consumers are just “clicking through” and accessing high-risk investments without understanding the risks involved. The FCA’s existing marketing restrictions are intended to ensure consumers only access high-risk investments knowingly, however, the FCA state that consumer research shows this approach is not working as well as it could.

The FCA proposals include:

    • a ban on financial promotions for high-risk investments from containing any monetary and non-monetary benefits that incentivise investment activity (which include cryptoasset incentives);
    • for RMMIs (see definition above):
      • a new risk warning will be required, and a link must be provided for the customer to obtain further prescribed information regarding the risks of investing. The proposed risk warning is: “Don’t invest unless you’re prepared to lose all your money invested. This is a high-risk investment. You could lose all the money you invest and are unlikely to be protected if something goes wrong. Take 2min to learn more.”;
      • a personalised risk warning pop-up must be displayed for first time investors with a firm before receiving a direct offer financial promotion;
      • a 24-hour cooling off period for first time investors with a firm before the customer can receive the direct offer financial promotion;
      • consumers will be required to state why they meet the relevant criteria for an exemption (e.g., restricted investor, HNW investor, self-certified sophisticated investor (this exemption will not apply to cryptoasset products), or certified sophisticated investor). For example, this may require the customer to state their income to demonstrate they are high net worth; and
      • RMMI specific requirements on the appropriateness assessment must be complied with. The FCA proposes introducing stronger appropriateness tests (including restricting the number of retakes that a potential customer can have and restricting the guidance firms can provide to the customer during the assessment).

Cryptoasset firms should note that these new rules will also apply to promotions of qualifying cryptoassets.

  1. Strengthening the role of firms approving and communicating financial promotions.

Last year, the Treasury confirmed that it intends to amend the financial promotion approval regime by establishing a regulatory gateway for the approval of financial promotions made by unauthorised persons. The current financial promotion regime will be amended so that financial promotions made by unauthorised persons can only be approved by certain regulated firms that have been given permission by the FCA to approve financial promotions of unauthorised firms.

In addition to the new regulatory gateway, the FCA wants to strengthen the role of a section 21 approver (a regulated firm that approves financial promotions for others) as it believes that they play an important role in enabling unauthorised issuers of high-risk investments to reach consumers. The regulator states that it wants to develop a robust regime to complement the proposed section 21 gateway which, when implemented, will hold section 21 approvers to high standards. The proposals include:

    • a rule that will require firms to self-assess whether they have the necessary competence and expertise in an investment product or service before approving or communicating a relevant financial promotion;
    • a rule to require section 21 approvers to have a continuing relationship, with those for whom they approve promotions, for the life of the promotion and to actively monitor it after approval for any changes that might mean the promotion no longer complies;
    • extending the conflict-of-interest rules to cover the approval of financial promotions;
    • a rule that requires section 21 approvers to collect attestations of ‘no material change’ from clients with approved promotions every three months, and for the lifetime of the approved promotion; and
    • requiring firms when approving promotions subject to an appropriateness test, to check the compliance of appropriateness tests periodically, throughout the lifetime of a promotion.
  1. Applying financial promotion rules to qualifying cryptoassets.

Following the government confirming that it intends to extend the scope of the financial promotion perimeter to include qualifying cryptoassets, the FCA is consulting on how it will categorise these cryptoassets once they are brought into the financial promotion regime.

The FCA intends to generally apply the same rules to cryptoassets as currently applied to non-readily realisable securities and P2P agreements. However, it is important to note that the proposals state that it should not be possible for ‘direct offer’ financial promotions of qualifying cryptoassets to be made to self-certified sophisticated investors. Financial promotions relating to cryptoassets will need to comply with COBS 4.

The consultation closes for comments on 23 March, 2022 and the FCA intends to confirm its final rules this summer 2022.

Firms will have three months from the FCA publishing the final rules to comply with the new requirements for the consumer journey and for section 21 approvers. The cryptoasset promotion changes will apply from the date that qualifying cryptoassets are brought within the financial promotion regime.

CFPB Proposes Mortgage Servicing Changes to Prevent Wave of COVID-19 Foreclosures

 

On April 5, the Consumer Financial Protection Bureau (CFPB) proposed rule changes intended to prevent avoidable foreclosures as emergency federal foreclosure protections put in place due to the global pandemic expire. The rules aim to assist both borrowers and servicers to navigate an expected surge of borrowers exiting forbearance. The proposed rules (1) provide a pre-foreclosure review period that generally prohibits servicers from starting foreclosure until after December 31, 2021; (2) permit servicers to offer certain streamlined loan modification options to borrowers with COVID-19-related hardships based on the evaluation of an incomplete application; and (3) update required servicer communications to keep borrowers informed of their options. Release.

Federal Reserve Board Publishes FAQs on Certain Long-Standing Regulations

 

On March 31, the Board of Governors of the Federal Reserve System (Federal Reserve Board) published six sets of responses to Frequently Asked Questions (FAQs) consisting of existing legal interpretations regarding Regulations H, K, L, O, W and Y. Additional FAQs will be released periodically and posted to the agency’s website as part of an ongoing effort to increase transparency and enhance accessibility to Federal Reserve Board legal interpretations. ReleaseFAQs.

Federal Bank Regulators Issue Rule Supporting Treasury’s Investments in Minority Depository Institutions and Community-Development Financial Institutions

 

On March 9, federal bank regulatory agencies announced an interim final rule that supports the Treasury Department’s implementation of a program established by Congress to make capital investments in minority depository institutions and community-development financial institutions. The Treasury Department’s Emergency Capital Investment Program (ECIP) will support the efforts of these financial institutions to provide loans, grants and forbearance to small businesses, minority-owned businesses and consumers, especially in low-income and underserved communities, which may be disproportionately affected by COVID-19. Release.

Federal Reserve Board Announces it will Extend its Paycheck Protection Program Liquidity Facility

 

On March 8, the Federal Reserve Board announced it will extend its Paycheck Protection Program Liquidity Facility (PPPLF) by three months to June 30, 2021. The Commercial Paper Funding Facility (CPFF), the Money Market Mutual Fund Liquidity Facility (MMLF) and the Primary Dealer Credit Facility (PDCF) have not had significant usage since last summer and will expire as scheduled on March 31. Release.

FHFA Extends COVID-19 Forbearance Period and Foreclosure and REO Eviction Moratoriums

 

On February 25, the Federal Housing Finance Agency (FHFA) announced that Fannie Mae and Freddie Mac (the Enterprises) are extending moratoriums on single-family foreclosures and real-estate-owned (REO) evictions until June 30, 2021. Moratoriums on single-family foreclosures apply to Enterprise-backed, single-family mortgages only, while moratoriums on REO evictions apply to properties that have been acquired by an Enterprise through foreclosure or deed-in-lieu-of-foreclosure transactions. The FHFA also announced that borrowers with a mortgage backed by Fannie Mae or Freddie Mac may be eligible for an additional forbearance extension for three additional months for up to 18 months. Further, COVID-19 Payment Deferral for borrowers with an Enterprise-backed mortgage can now cover up to 18 months of missed payments. Release.

Federal Reserve Board Clarifies Guidance as it Relates to Definitions for Minority Depository Institutions

 

On March 5, the Federal Reserve Board clarified guidance as it relates to definitions for minority depository institutions (MDIs) by expanding the MDI definition to include women-owned financial institutions, and highlighting resources available to MDIs through its Partnership for Progress (PFP) program. Release.

OCC, Board of the Federal Reserve and FDIC Publish Final Rule Implementing Net Stable Funding Ratio

 

On February 24, the Office of the Comptroller of the Currency (OCC), the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation (FDIC) published a final rule in the Federal Register implementing the net stable funding ratio. The rule implements a minimum stable funding requirement for covered institutions, with the intention of reducing the likelihood that disruptions to a covered institution’s regular sources of funding would affect such institution’s liquidity position in a way that could lead to systemic stress. The covered institutions include U.S. depository institution holding companies, depository institutions or U.S. intermediate holding companies of a foreign banking organization with more than $100 billion in total consolidated assets that meet certain asset size and risk factor requirements. Bulletin.

 

Board of the Federal Reserve Announces Final Rule Amending Regulation EE

 

On February 18, the Board of the Federal Reserve announced a final rule amending Regulation EE, which is intended to reduce risk and increase efficiency in the financial system. The final rule applies netting protections to a broader range of financial institutions. The expanded definition of financial institutions now includes swap dealers and security-based swap dealers, nonbank systemically important financial institutions, foreign banks and qualifying central counterparties, among other new additions. The final rule also made minor clarifications to the existing activities-based test in Regulation EE, which clarify the application of the test following a consolidation of legal entities. Release.

SEC Charges Rating Agency Morningstar with Failures of Disclosure and Internal Controls in CMBS Rating Model Adjustments

 

On February 16, the Securities and Exchange Commission (SEC) filed a civil action in federal district court in the Southern District of New York against the former credit ratings agency, Morningstar Credit Ratings LLC, regarding alleged failure to disclose and maintaining internal control provisions in violation of federal securities law in its CMBS ratings practice. The complaint alleges that, in 30 transactions rated by Morningstar between 2015 and 2016, Morningstar failed to disclose that its rating criteria permitted analysts to adjust property cash flow and valuation stresses on a “loan-specific basis,” which resulted in lower expected losses on CMBS classes and the assignment of credit ratings and failed to adequately maintain a system of internal controls to ensure adherence to its ratings criteria. The complaint alleges violations of the Securities Exchange Act of 1934 against Morningstar and seeks injunctive relief, disgorgement and civil penalties. Release.