Compliance Culture: Building an Approach on Three Core Values

Most firms find “compliance culture” an important, yet elusive, term that is difficult to define and even more challenging to shape and nurture. However, it’s clear that a compliance culture sets the basis of behavior, integrity and accountability across an organization. This in turn fosters employee and client trust and confidence.

But what are the core values that can help firms focus their overall efforts to build a compliance culture more effectively? And how should the investment management community embody these standards now and into the future?

What are the regulators saying?

In the run up to the December 2019 deadline for the implementation of the Senior Managers and Certification Regime (SM&CR) in the UK, there is going to be much discussion of just what the term “compliance culture” means, and how firms can achieve this.

For investment firms, the approaching SM&CR deadline is driving a need to better understand what the “right” compliance culture looks like. To help firms better understand what is required of them, the Financial Conduct Authority (FCA) published its SM&CR rules for solo-regulated firms, in early July.

In addition, the regulator issued a discussion paper entitled “Transforming Culture in Financial Services.” It serves as a call-to-action for industry participants “to engage in the debate about what constitutes a healthy culture and how to promote it.”

The regulator acknowledges that the “right” culture may vary from firm to firm – depending on the products and services each offers, the customer base it serves, and other environmental factors. In the discussion paper, the FCA says firms should be “fostering cultures which support the spirit of regulation in preventing harm to consumers and markets.”

Within that context, the regulator will focus on assessing four main drivers of culture as part of the SM&CR regime:

• A firm’s purpose
• Leadership
• Approach to rewarding and managing people
• Governance arrangements

Under the SM&CR regime, the FCA also provides five key statements that individuals should abide by, as well as four statements for senior managers. These require individuals to act with integrity and care, to treat customers fairly, and abide by market conduct standards – alongside other expected behaviors.

Core values

We believe there are three core values key to underpinning most successful compliance cultures: fairness, transparency and diversity

Fairness

Many of the compliance rules governing investment firms are geared toward ensuring fair outcomes across the range of stakeholders an organization may have. These stakeholders include investors, employees, firm owners, regulators, and the broader financial services ecosystem. The rules serve as recognition that the decisions a single employee makes can have profound consequences for the community as a whole. Examples of the kinds of rules and practices that focus on fairness include:

• Treating stakeholders fairly – While the phrase “treating customers fairly” is often considered in a retail context, asset management firms should think about how they treat their investors. Another key group to consider from a “fairness” perspective is employees. For example, does the firm provide “psychological safety” for employees to speak out about bullying or for whistleblowing?
• Managing conflicts of interest – Managing situations with potential conflicts of interest well is another way a firm can express its commitment to fairness. For example, having fairness in mind when obtaining and using research is a key area of focus for both regulators and the industry. Another way to express fairness is to actively monitor market abuse – this illegal practice can be deeply unfair to individual victims as well as the wider financial ecosystem. Firms should actively monitor their trading activity for signs of market abuse.
• Structuring remuneration – Compensation is an important way a firm communicates fairness. While in many investment management firms, remuneration structures seem to naturally align with the broader interests of investors and shareholders/owners, it can be a good idea to sense-check employee compensation, to determine if there are ways in which it may inadvertently cause employee behaviours to be in conflict with the principle of fairness.

In these areas and others, the concept of fairness shapes the regulator’s approach to setting standards. Firms can communicate fairness by how they approach the implementation of these types of rules, and also by considering the implications of fairness in their organization in more general terms.

Transparency

The term “transparency” translates into “honesty and openness” with which anyone who is representing a firm conducts themselves. While a great deal of formal compliance rulemaking focuses on mandating certain kinds of transparency – think of MiFID II trade reporting, Annex IV reporting for AIFMs, and public disclosure under Pillar 3 of the quantum and management of firms’ regulatory capital summarising the ICAAP Report – transparency is becoming an expectation in other areas too. For example:

• Communicating with investors – Today, investors seeking to place money with a firm demand a range of documentation, including compliance policies, IT security information and regulatory filings. To be competitive, firms need to be consciously transparent in these areas.
• Engaging with employees – Encouraging a culture of transparency – by maintaining clear and open lines of communication and encouraging a more collaborative working environment – promotes operational efficiency. A good culture of openness and honesty can also help reduce risk and improve internal audit outcomes.
• Working with regulators – A culture of openness and honesty helps build trust in relationships with regulators. One example of a good transparency practice is producing regulatory filings on time and in good order. Late or incorrect regulatory filings do considerable harm to this relationship.

In short, for firms to thrive, they must understand the importance of communicating openly and honestly across their range of stakeholders, to build trust and deepen relationship.

Diversity

The financial services industry is improving when it comes to creating working environments that foster diversity of all kinds. Today firms are more diverse than they have ever been, as leadership realizes that an open approach to recruitment can supply important talent, something actively encouraged by the FCA. In many ways, the financial services industry is moving towards a fairly successful meritocracy – those with talent, no matter where they hail from, have an opportunity to rise to the top.

Nonetheless, financial firms of all types, need to continue to work at fostering diversity – whether it is by bringing more women onto boards or hiring graduates from a wider array of backgrounds. Most firms realize today that it is in their interest to do so and investors regard it as evidence that the organization is fairer, open, and more honest.

Diversity actively improves the organization’s culture and a variety of different perspectives on key challenges can greatly enhance risk management as well as business strategy outcomes. It helps to banish “groupthink” and enables an organization to be nimbler and more thoughtful.

Defining what the “right” compliance culture looks like for an investment firm can seem like a difficult thing to do at first. Though experts may range in their opinions of what “good” looks like, we believe that can start with three key foundational concepts for shaping a compliance culture. Firms should consider their approach to enhancing their compliance culture in light of the current compliance policies and procedures they have in place. How does the current framework deliver on these concepts, and where do they need adjusting? For all firms, building a good compliance culture is about examining these issues and taking the right steps to deliver cultural change where needed.

For More Information

Contact us to learn more about training and preparation for the SM&CR. Our services include the creation of collateral, policies and procedures, as well as regulatory technical solutions to simplify your SM&CR challenges and responsibilities.