Today (just to note TR19/4 was published on 4/6), the Financial Conduct Authority (FCA) published its latest thematic review, TR19/4, which looks at money laundering (ML) risks in capital markets. The FCA visited 19 market sector operators, including investment banks, recognised investment exchanges, clearing and settlement houses, trade bodies, inter-dealer brokers, trading firms and a custodian bank.
The report noted that while the nature of some of the products and markets may be considered less attractive to launderers, due to entry barriers, levels of scrutiny and complexity of products, there are a number of capital market-specific ML risks of which the firms need to be more aware.
The FCA flagged that generally there is insufficient understanding of firms’ exposure to money laundering risks in capital markets. In particular, the first line of defence needs to take greater ownership and accountability of ML risks, rather than viewing it as an exclusive responsibility of the second line (i.e. compliance). Dedicated anti-money laundering (AML) training is too high level and not tailored enough to inform staff regarding the specific ML risks in capital markets.
The FCA considers the capital market-specific ML risks to be, in particular:
- Inadequate customer due diligence (CDD) – CDD should focus on effectively identifying the customer by adequately identifying their intended trading strategies. In secondary markets, there is often a long chain of transactions, with orders routed through different firms. In such case, the FCA expects all firms involved in such transaction chain to cooperate with each other for CDD purposes.
- Insufficiently robust AML risk assessment – firms should ensure that capital markets forms part of their AML risk assessments and that sufficient red flags are incorporated to inform this assessment. Such risk indicators are publicly available – see the latest Financial Action Task Force guidance on ML risks in the securities sector which is available here.
- Lack of visibility of underlying customers and ultimate beneficial owners – while the Money Laundering, Terrorist Financing and Transfer of Funds (Information on the Payer) Regulations 2017 (MLRs 2017) do not require firms to know their customers’ customer, each firm in the transaction chain has equal responsibility to monitor and prevent ML from occurring. Firms should factor-in their ML surveillance systems, the fact that other firms in the transaction chain may not have an AML surveillance system in place. Each firm must calibrate its automated surveillance system to the nature of its business and that of its customers.
- Enhanced due diligence (EDD) and source of assets – firms should remain particularly vigilant of movement of assets (free of payment) between different accounts, before being sold, e.g. a UK firm allowing a customer to transfer offshore securities into their UK trading account. For ongoing enhanced monitoring of high risk customers after onboarding, firms may wish to consider assigning this responsibility to dedicated relationship managers.
- Ineffective transaction monitoring – there should be a combination of automated and manual monitoring. Trade surveillance systems for AML and for market abuse monitoring should be sufficiently calibrated to allow firms to recognise the correlation between ML and market abuse risks.
The FCA expects firms to consider their approaches to identifying and assessing the ML risks they are exposed to in light of its report. Separately, the FCA is also considering its supervisory approach in response to this work.
Given the increasing regulatory focus on ML risks in capital markets, an increasingly globalised business environment, coupled with a growth in technology, firms should take note of the findings in this report (in conjunction with related guidance and associated typologies) to ensure their AML systems and controls reflect the latest standards.