Learning Material Sample

Financial services, regulation and ethics

1. The UK financial services industry in its European and global context

Learning outcome 1 Understand the UK financial services industry in its European and global context.

The course material consists of:

11 chapters of study text including test your knowledge questions in most sections

Audiovisual presentations for many of the sections on the first 3 chapters only to help get your studies off to a flying start

Revision assessments for each chapter to help confirm your understanding.

Each chapter covers the l...

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...ion test close the revision test widow and continue with the course.

CPD credit

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By studying each chapter and then taking the end of chapter assessment this will create an entry on your CPD certificate containing:

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... could levy a fine on them, suspend them or even decide to remove their approved person status, although it could also agree to an action plan to be undertaken before reinstatement.

FCA monitoring

Firms are obliged to inform the FCA if any of their advisers fall below its competence or ethical standards.

The FCA collects information about individual advisers, such as the qualifications they hold and which accredited body they use. The FCA uses this database to help identify the highest risk individuals.

Course detail - This document (PDF) contains details of the course content.

Audiovisual presentations

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...ations that operate within the industry, the services they provide, and the impact of monetary factors such as inflation and interest rates on the services and products available in the market today.

In a modern economy, the financial services industry performs four main functions:

To provide a medium through which savings can be channelled into capital under management

To provide a means by which short-term deposits can be matched with the needs of borrowers needing long-term funds

To allow people and companies to insure against the risks that they do not wish to take, but that others are prepared to assume in return for payment

To allow investors to diversify risks across a number of asset classes and investment products

Short-term savings

Banks and building societies provide a safe and readily accessible home for individuals to deposit their surplus funds, whilst at the same time they are hbenefitting from being able to use the money deposited to make a return for themselves. Banks and building societies lend the money they receive from their savers to their borrowers.  The interest they charge their borrowers is higher than the interest they pay to their savers, and the difference (after operating costs) generates a profit for the bank’s shareholders or the building society’s members.

Some of the profit is distributed back to account holders in the form of better interest rates. A bank may also use the funds it receives to make its own longer-term investments, which are likely to generate higher returns. Provided the organisation has sufficient to allow the account holders to withdraw their balances as needed (not all of whi...

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...al’ rate of return)

Companies needed to raise money without always having to borrow it from banks

For these reasons, two different types of investment exist.

Shares represent part-ownership of a private or public limited company. By buying shares, the investor is able to benefit from any increase in the value of the company - which is reflected in its share price - and to receive some of the company’s surplus profits in the form of dividends . Some categories of shareholder are also able to vote on some of the company’s key decisions.

Fixed interest stocks (bonds) allow investors (individuals and corporate investors) to lend money to companies in exchange for a payment of interest. The interest received by the investors will be higher than that available from a bank or building society, due to the higher risk represented by such an investment (i.e. the risk that the company could default on the interest payments, or fail altogether with the risk that borrowed money is not repaid). This is a similar principle to that which applies to loans to the government in the form of gilts (mentioned above).

Although these investments can be purchased directly, they are also available through collective investments such as unit trusts, stocks and shares ISAs and investment and pension funds.

Test your knowledge - question: How does the government use the savings of individuals to meet some of its borrowing needs?

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The UK is an international financial centre, playing host to many overseas firms and home to financial markets which are an integral part of the global economy. London is the world’s largest and most diverse international marketplace and this means it is closely involved with the financial bodies of many other countries.

Key participants in the international markets

There are a number of European Union (EU) bodies and international committees that set regulatory standards for the financial services industry.

There are three European Supervisory Authorities (ESAs):

The European Banking Authority (EBA) 

The European Securities and Markets Authority (ESMA)

The European Insurance and Occupational Pensions Authority (EIOPA)

There is also the European Central Bank (ECB), which co-ordinates and controls monetary policy and interest rates in the EU states which use the Euro as their currency.

Globally, other regulatory or supervisory bodies include:

The Financial Stability Board (FSB)

The Financial Action Task Force (FATF) which acts against money laundering

The International Organisation of Securities Commissioners (IOSCO)

The International Association of Insurance Supervisors (IAIS)

The Basel Committee on Banking Supervision (BCBS)

The International Swaps and Derivatives Association (ISDA) represents the participants in the privately negotiated derivatives industry

The Bond Market Association (TBMA) which represents firms active in the fixed interest securities markets

The International Securities Market Association (ISMA) which is a trade and self-regulating organisation (SRO) supervising markets in international debt and debt management

The EU has also established a European Systematic Risk Board (ESRB) to monitor and assess risks to the stability of the financial system as a whole, and a European System of Financial Supervisors (ESFS) for the supervision of individual institutions, consisting of a network of national financial supervisors. The Financial Conduct Authority (FCA) is the UK’s national supervisor (regulator).

UK financial services structure

Within the financial sector there are four key components:

Financial infrastructure

Financial markets

Financial firms

Financial sector authorities

Financial infrastructure

The success of the entire financial sector is heavily dependent on the payment, settlement, clearing and trading systems within it. The payment systems are important because they deal with high values and because they are widely used by customers. Their failure could impact from firm to firm, or from market to market, and this could impact on the normal economic activity of the country.

The payment systems in the UK are overseen by the Bank of England, its role being to monitor and facilitate the payments systems and Sterling money markets. The Payments Council, which has been replaced by the Payments Systems Regulator (PSR) (see below) provided the forum for the UK’s financial institutions to develop banking systems for the future and to facilitate deve...

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...ucts of one provider. This type of advice is also ‘restricted’

While it is not uncommon for customers to have the choice of either independent advice from one subsidiary or a tied option from another subsidiary, some banks have set up their own life assurance company and are known as bancassurers . The ability to offer both independent and tied services provides the widest opportunity to transact business and benefit from being both an adviser and product provider.

Due to changes in regulatory rules it is likely that there will be fewer companies in the tied advice category in the future, as it will become easier to operate as a multi-tied organisation, including products from other providers to fill gaps in the product range available. Most banks and building societies will either have a subsidiary offering a range of products from a limited number of providers or an arm offering fully independent advice across the whole market. If they are able to do both they will be in the best position to secure business and profit from being both a provider and an adviser.

Life assurance companies

Life assurance companies sell their products either through intermediaries (independent or restricted - multi-tied or tied) or their own sales teams. Some companies adopt specific policies to support one element of the advice sector.

Friendly societies

These organisations were established in the 19 th Century as mutual self-help groups, with all the profits after expenses being distributed to the groups’ members. Their self-help status was assisted by being granted an exemption from taxation. This allows them to offer tax-efficient savings plans to investors, although the nature and size of investments available are restricted by legislation.

Although still a part of the overall financial services industry, most societies are small and only a few actively sell tax exempt endowment-type savings plans, distributed either by independent advisers or the society’s own sales staff. They are also able to offer a small range of home service-type small industrial life policies.

The Friendly Societies Act 1992 has allowed them to apply for corporate status and extend their range of products to include unit trusts/OEICs and ISAs.

Multi-distribution organisations

Many large organisations with a well-established customer base (e.g. Marks & Spencer), have taken advantage of this in recent years by starting to offer their own limited range of financial services products, which frequently includes life assurance, unit trust/OEICs, ISAs and sometimes pensions. The introduction of CAT standards (Charges, Access, Terms) for ISAs in 1999 and the pension changes in 2001, allowed these organisations to expand their impact into the financial services market without the requirement for a qualified sales team. The ‘basic advice’ regime coming from the Retail Distribution Review will provide further opportunities.

Explain any differences between Whole of Market and Independent advice.

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The UK joined the European Economic Community (EEC) on 1 January 1973. It is now known as the European Union (EU). The aims of the EU are to promote peace, prosperity and freedom in a fairer and safer world. There are a number of benefits that come from being an EU member. These include:

Free trade between member states, which removes the barriers of import duties, quotas and levies

The ability to move freely between EU countries to live, work or study

A single currency for countries that have adopted the Euro, meaning there is no need to exchange currency and competitive prices

The UK voted to leave the European Union in a referendum on 23 June 2016. The full effect of the UK’s withdrawal from the EU is unknown, but in the meantime the FCA issued the following guidance:

“The FCA is in very close contact with the firms we supervise as well as the Treasury, the Bank of England and other UK authorities, and we are monitoring developments in financial markets.

Much financial regulation currently applicable in the UK derives from EU legislation. This regulation will remain applicable until any changes are made, which will be a...

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... Treasury.

The two pieces of legislation governing the regulation and conduct of business of the financial services industry are the Financial Services and Markets Act (FSMA) 2000, and the Financial Services Act 2012.

The current regulatory framework in the UK includes:

The Financial Policy Committee (FPC) – within the Bank of England

The Prudential Regulation Authority (PRA) – part of the Bank of England that has responsibility for the authorisation and prudential regulation of larger firms, such as deposit-takers (banks) and insurers.

The Financial Conduct Authority (FCA) – which authorises smaller firms such as financial intermediaries and mortgage brokers, and has conduct and market responsibilities for all authorised firms.

This model means that banks, building societies, insurers and other large organisations have two supervisors, the PRA focusing on matters relating to solvency, capital adequacy and risk management, and the FCA focussing on conduct. All other smaller firms are supervised by the FCA only.

State the three objectives of the Financial Services Action Plan.

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The government regulates and participates in finance through its role in maintaining the economic stability of the country, fulfilling its electoral mandate of protecting the interests of UK citizens.

Taxation within the UK

Taxation, also known as fiscal policy, is the way the Chancellor raises money for the government to run the country. The forms of taxation which exist in the UK and the amounts charged have a major impact on the country’s economy and the financial services industry. Changes in taxation not only affect individuals’ disposable income, but also affect trade and the economic activity of the country and impact on the financial services industry. The money raised through taxation is used to provide services, such as the NHS, and to redistribute wealth from those most affluent to the poorest members of our society through social security benefits and payments.

An increase in taxation can lead to a reduction in disposable income for taxpayers. This will impact on people’s spending decisions and may affect their willingness to purchase financial products. However, a reduction in taxation will give people more money to spend, therefore stimulating the economy by injecting more funds into the system.

The Chancellor uses tax concessions to encourage people to invest and the following list gives examples of products offering tax concessions:

Individual Savings Accounts (ISAs), and Junior ISAs (JISAs)

Pension schemes (including personal pensions and stakeholder pensions)

Qualifying life assurance policy proceeds

Friendly society savings plans

Capital gains on ...

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...d to continue to work to support ourselves. The government are trying to encourage more people to take out personal pensions by introducing auto-enrolment and NEST (National Employment Savings Trust). At the same time, growing numbers of employers are finding that they can no longer run their final salary pension schemes due to extra costs, such as changes in accounting regulations and the removal of dividend credits.

The number of beds available for state funded long-term care for the elderly and infirm is also reducing, and the costs of private provision are frequently high. Although there are policies available to fund this need, there is currently no tax benefit from doing so and few people see the expense as essential, often meaning that a family home needs to be sold to meet the costs.

As the population ages alongside a declining birth rate, there are fewer working taxpayers supporting the system for those retired or claiming benefits and a continually worsening situation. Possible actions that the government could take to relieve the situation include::

Laws requiring compulsory contributions to pensions by employers and employees (partly addressed through the introduction of NEST)

Compulsory private medical insurance

Tax breaks for pensions, health insurance, medical insurance and long-term care insurance

All these could help to relieve the situation, but current arguments against them focus on the costs involved in their introduction.

What action is carried out by the Monetary Policy Committee to assist in achieving the government's inflation target?

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NOTE - These questions are designed for revision purposes only and are therefore not written in an exam style. If you require exam style que...

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...the R01 exam. Note that the number of questions in the R01 exam for each learning outcome is an estimate and can vary by plus or minus 2 questions.

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