As the wholesale broker market breathes a collective sigh of relief at the closure of the FCA’s market study, it should not overlook the improvements still required.

Commencing fifteen months ago the market study sought to investigate anecdotal concerns about competition in the wholesale broker sector. Market power concentration, barriers to entry, pay-to-play, broker-insurer agreements, conflicts of interest and co-ordination all went under the microscope in the regulator’s “significant and in-depth analysis”. Yesterday’s unprecedented early closure and final report, citing the “exceptional circumstances” of finding “a lack of material evidence of harm and need for regulatory intervention”, has been widely interpreted as a clean bill of health for the sector.

It is tempting to close the book and move on, but wholesale brokers should pay close attention to the three areas for improvement highlighted by the FCA:

  • Conflicts of interest management
  • Commission disclosure
  • Agreements between brokers and insurers.

Having gathered information from 73 brokers and 49 insurers the regulator knows precisely which firms in its sample were falling short, and it reasonably expects all firms in the sector to take prompt action to close any gaps between their own practices and the expectations set out in the report.

Conflicts of interest management

Only half the brokers sampled identified a reasonable range of conflicts in their conflicts of interest policies, and of these only half articulated the conflicts with sufficient description and explanation of the risk. In other words, around 50 firms need to rewrite their conflicts policy to make it much more comprehensive and descriptive. This needs to articulate the conflicts inherent in the firm’s particular business model and operating structure as well as the approaches taken to manage them.

The regulator also noted that brokers often lacked procedures, controls and management information to support their conflicts policies. Firms must ensure that sufficient thought is devoted to how all the elements of their policies are implemented in their day-to-day processes and how adherence is monitored.

For example, where a broker has the option of placing business under facilities or in the open market there must be robust processes for governing this, including:

  • clear guidance for staff,
  • escalation routes for concerns or borderline cases,
  • checks to ensure appropriate client choice and disclosures; and
  • use of reliable management information to oversee this with clear roles and remits to intervene if necessary.

Similar implementation thought should be applied to all the other aspects of brokers’ conflicts policies to ensure intention is translated into reliable action.

Brokers’ conflicts logs also often fell short, either by focusing solely on personal conflicts or by being largely empty. Conflicts logs should be living documents that demonstrate the active identification and management of potential conflicts in day-to-day operations. This requires ongoing encouragement for staff to bring potential conflicts to the log and is a great indicator of the firm’s culture. In particular conflicts logs should demonstrate that as new services and revenue streams are being developed there is adequate consideration of conflict potential and management at an early stage.

Commission disclosure

One-third of the brokers sampled said they disclose the amount of commission as a matter of course, and half said they disclose the nature of the remuneration received, but only disclose the amount if the customer specifically requests it. By deduction it would appear that the remaining brokers must be disclosing neither nature nor amount of commission. The study also found inconsistencies in what types of remuneration brokers say they include in such disclosures such as subscription market brokerage or profit commissions. The FCA concludes that “commission disclosure is not generalised or consistent” and reiterates its high level principle that “a firm must pay due regard to the information needs of its clients, and communicate information to them in a way which is clear, fair and not misleading”.

The FCA appears to have based its conclusion on survey responses rather than an audit of actual disclosures so it is perhaps not unsurprising that it saw inconsistency there. The detailed FCA rules say that for anything other than reinsurance or contracts of large risks brokers must disclose the nature of their remuneration, and for commercial customers also the amount on request. Such disclosures must include all types and sources of remuneration, including that which is not guaranteed or is contingent. Therefore many brokers will have different FCA rules applying to different parts of their book. Some may have chosen to go beyond the minima prescribed by the rules.

To both ensure and demonstrate compliance brokers should have a clear policy articulating how they interpret and apply the commission disclosure requirements (both high level and prescriptive) across their business, clear guidance to their staff, and robust monitoring of adherence. This could be supplemented with client feedback.

Agreements between brokers and insurers

The FCA found some clauses in a small minority of agreements between brokers and insurers, mostly facilities, which restrict insurers and could harm competition. These are clauses akin to most-favoured-nation clauses and client exclusivity clauses. The FCA is concerned by such clauses and will follow up with individual firms which have them and is considering what action to take more broadly.

Brokers and insurers should ascertain whether they are party to agreements containing such clauses and if so whether they wish to remain so. They would also be well-advised to update their governance framework for broker-insurer agreements to take this into account (this may form part of their product governance framework), and if they do not have such a governance framework they should seriously consider installing one.

Next steps

The FCA has said it will address its concerns within its usual supervisory processes. Regulated firms are expected to take a pro-active approach to compliance so rather than waiting for a knock on the door it is far better to consider these issues now in the context of your own firm and put plans in place to address any shortcomings.

If you have any aspects of your own processes which you would like to discuss in complete confidence, please do contact myself or Kenneth Underhill.

 

Jason Jones
Director
Implement Compliance Solutions & Resources

Advisory | Resourcing | Training