Market Watch 79 – FCA Highlights Failures of Governance in Market Abuse Surveillance

Paul Cottee, Director, Regulatory Compliance, NICE
UK Financial Conduct Authority Market Watch 79

The UK Financial Conduct Authority recently published Market Watch 79 (MW 79), the latest edition of its newsletter aimed at the wholesale markets. In MW 79, the FCA discusses: 

  • failures of market abuse surveillance caused by issues with factors such as data and automated alert logic
  • their recent peer review of firms’ testing of front-running surveillance models 

The lessons contained in MW 79 are applicable globally (not just in the UK) and conformance would help ensure that any firm, anywhere, is well prepared when it comes to a visit or review by any regulator. In that sense, it forms something of a statement of best practice with respect to the governance of a surveillance program. I suspect this MW will be one of those which gets quoted for years to come. 

MW 79 opens by setting out the high-level requirement under UK MAR: firms must identify and report instances of potential market abuse and must therefore have effective arrangements, systems and procedures in place. These should be appropriate and proportionate to the scale, size and nature of a firm’s business activities. 

The FCA explains, this will necessarily include arrangements for the governance, testing and review of data and systems, and for the rectification of problems. 

Following observations over a period of years and a recent thematic review, the FCA has “become aware of problems with surveillance alerts not working as intended and assumed by the firm.” The FCA notes that such issues can arise in the context of both in-house-built and vendor-supplied surveillance systems. 

The paper outlines three main areas of concern, with examples:

  1. An entire section of a firm’s activity, such as a segment of business sent to a particular exchange, might not be monitored
  2. An alert scenario could be partially effective, generating alerts, but not for all instances where it is intended to do so
  3. An alert scenario for a specific type of market abuse could be completely ineffective, with alert generation impossible, due to inadequate testing before and after implementation 

As a result, the FCA was able to identify three main areas where a firm should put in place appropriate governance structures and ask itself hard questions, to ensure its surveillance arrangements are, and remain, fit-for-purpose:

  • Data governance: firms should ensure that all relevant trade and order data, for all products being traded, is being captured, is accurate and comprehensive and is regularly checked
  • Scenario testing: scenarios should be regularly and robustly tested
  • Implementation: what testing is done when implementing a new system, or changes to existing systems (including non-surveillance systems which might impact surveillance) 

Firms having shortcomings in surveillance arrangements is not a problem which is confined to the UK, and issues have indeed been observed elsewhere: in recent years regulators in several jurisdictions have sanctioned firms for failings in their market abuse surveillance programs, which can be traced back to a number of root causes, including some similar to the FCA’s findings. 

Further, while the scope of MW 79 is limited to trade surveillance, it’s not a stretch to think that the approach might be adopted across the FCA, in any activity firms are expected to carry out surveillance as much of this makes good sense anyway. 

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