Market Abuse Risk Assessments in Asset and Wealth Management

In this instalment of our Asset and Wealth Management thematic blog series, we are focusing on the challenges that can arise when completing market abuse risk assessments and how Deloitte can help you address them.

Market abuse risk assessments are a fundamental tool used by firms in the identification and management of market abuse risk. A firm’s ability to appropriately identify and mitigate the market abuse risks related to its business activities continues to be an area which draws the supervisory focus of regulators.

In this blog, we set out the key components of a market abuse risk assessment, flag the common pitfalls encountered when completing one, explain why it’s important to get the assessment right and how we can provide you with support.

Why is market abuse risk difficult to assess?

Market abuse risk is the risk that an individual, client or firm engages in behaviours amounting to insider dealing, unlawful disclosure of inside information and market manipulation.

The behaviour can be difficult to detect since it is likely to involve the deliberate circumvention of a firm’s policy and procedures, taking advantage of complicated booking models and trading strategies to conceal activities.

While the realisation of market abuse risk occurs rarely, when it does crystalise, it has the highest impact on the reputations of both firms and individuals often resulting in fines or costly remediation. As such, it is in every firm’s interest to assess the risk robustly.

What does a market abuse risk assessment entail?

The format, style and depth of the market abuse risk assessment will vary from firm-to-firm. In some firms it is a stand-alone assessment; in others it is included as part of a wider market conduct or compliance risk assessment.

A market abuse risk assessment will typically include the following components:

• A detailed inventory of market abuse risks and related behaviours that are relevant to the firm’s business. This should include front running, spoofing, wash trading, marking the close or the fix, circular trading, insider dealing, trading post-company visits or during closed periods etc.
• Inclusion of the risks specific to each asset class: equities, rates, credit, commodities, currencies (including crypto currencies) and private assets.
• Mapping of risks to relevant mitigating controls and identification of control gaps. For instance, standardised controls built into off-the-shelf surveillance systems often need careful calibration to be effective for trading in different asset classes.
• Inherent risk ratings based on the firm’s business activities, including a likelihood assessment and an impact assessment which reflects the higher risk products and portfolio management desks.
• Residual risk ratings based on consideration of the inherent risk and control effectiveness.
• Risk appetite levels for market abuse risks which are not preventable.
• Actions to remediate identified gaps and action trackers in the form of an on-going book of work.

While the components of a market abuse risk assessment are likely to be similar across firms, the effectiveness of the assessment is driven by the strength of the firm’s governance processes, collaboration between stakeholders and, training.

Why is it important?

Market abuse risk assessments are critical tools that help firms understand and monitor their level of risk, as well as detect any issues so that risks can be prevented from occurring. Completing these assessments also enables firms to meet their regulatory obligations.

Market abuse risk assessments allow firms to demonstrate the breadth and depth of their control environment. For many firms, the risk assessment output is one of the standard documents requested by regulators during their supervisory reviews. Market abuse controls also repeatedly feature as a priority area in the FCA’s (Financial Conduct Authority) Dear CEO letters and other publications.

The value that regulators place on effective and complete market abuse risk assessments is exemplified by the fines that have been issued in the past for incomplete coverage in the areas of surveillance and controls relating to the risks posed by firms. Consequently, firms that can demonstrate a proactive and robust approach, with well documented decisions and collaboration between key stakeholders, are more likely to be able to evidence the effectiveness of their market abuse control framework when challenged by regulators and governing bodies.

What are the common challenges?

The below list of common challenges faced by firms has been compiled by drawing on our experience of working with various firms across the financial industry to complete their market abuse risk assessments and combined with feedback contained in recent communications on this topic by regulators.

How can Deloitte help?

We have a well-established approach to designing, reviewing, and enhancing end-to-end market abuse risk assessment processes which we have successfully implemented for a number of our clients. The approach includes facilitating conversations between the lines of defence in order to identify the firm-specific market abuse behaviours, complex products or higher risk venues as well as establishing an effective governance structure to manage and oversee the assessment process. Furthermore, we can help develop and deliver bespoke training to stakeholders to ensure connectivity and consistency amongst the key assessment contributors.

Regulators appreciate that market abuse risk assessments will be different from firm-to-firm and will be largely dependent on the firm’s size and complexity. We tailor our approach so that it is appropriate and proportionate to your business. Our team have extensive expertise in market abuse risk management having undertaken reviews and assessments at both asset and wealth management firms of varying sizes.

If you would like to discuss the regulators’ expectations and your requirements further, please contact the authors of this blog.