Routine FSA visit leads to £5.95m fine: Lessons to be learned

A routine visit by the FSA to Credit Suisse (UK) Limited ("Credit Suisse") in December 2009 has resulted in the imposition of a £5.95 million fine for systems and controls failings that may well be the first of several high profile actions within the wealth management industry which the FSA has openly stated to be in its sights.

The FSA found that there were a number of significant failings by Credit Suisse’s private bank with regard to its customers who had invested over £1 billion in structured capital at risk products (SCARPs), complex financial products that provide income to customers but also expose them to the risk of losing all or part of their initial capital. The failings related primarily to the bank’s inadequate:

• assessment of the customer’s attitude to risk;
• maintenance of documentary evidence of the nature of investment advice given;
• monitoring of staff giving such advice.

The FSA highlighted the following areas of concern that the wealth management industry, particularly on the advisory side, should consider when assessing the adequacy of their own systems and controls:

Documentary evidence that the overall portfolio has been considered must be available for each file: The FSA found insufficient evidence of consideration of the customer’s overall portfolio by Credit Suisse. Customer file notes did not demonstrate how the portfolio had been constructed by reference to the customer’s investment objectives and risk profile. This should act as a reminder that it is not enough to consider the portfolio, the fact of this evaluation must be recorded so as to satisfy the regulators that it has been undertaken. Too many complaints and claims are sustainable due to poor record keeping rather than any failings in the advice given.

Attitude to risk must be evaluated and recorded properly on an ongoing basis: The FSA found that Credit Suisse’s methods to determine and articulate customer’s attitudes to risk were inadequate:

• Wording in the organisation’s Client Acceptance Booklet regarding risk was unclear. It required a customer to score themselves between 1-5 on risk profiling and calculate an average risk, which corresponded to a profile ranging from ‘low’, ‘moderate’ ‘medium’, ‘enhanced’ and ‘high’. This gave “little practical indication to the customer of the level of risk which the relationship manager would consider acceptable when recommending products to them”.
• Attitude to volatility was not recorded: On some files there was no indication as to specific periods of time over which customers would be prepared to bear losses or what indicative losses might be incurred.
• Changes in risk profile were not evidenced: Credit Suisse should have taken reasonable care to ensure that the consumer’s risk profile continued to represent the level of risk that the customer was willing to accept from their overall investment profile. Where risk profile increased there was little or no documentary evidence to explain why this had been done. Merely getting the customer to agree to the increase of their risk indicator from say, level three to four was not enough without an explanation as to why the risk profile had changed. Despite one customer, for example, stating that its investment objective was "conservative/capital preservation and income", it was subsequently recommended a SCARP. There was no evidence to show whether the investment objective had changed, justifying this recommendation. This "active" approach to risk assessment is particularly worrying for the wealth management industry as it suggests relationship managers have a responsibility to regularly check and report whether the portfolio meets the initial objectives.

The rationale for leverage and levels of leverage must be considered and recorded: The FSA found that Credit Suisse had failed to put in place adequate systems and controls surrounding the recommendation for leverage. There was no evidence, for example, that the bank had considered whether the use of leverage was appropriate in light of their customers’ attitudes to risk. The rationale and appropriateness of the amount of leverage was not recorded and there was no evidence that the downside of the risks of leverage had been properly explained. Additionally, there was no formal mechanism to monitor amount of leverage within a customer’s portfolio.

Level of issuer and investment concentration should be reviewed and evidenced (i.e. level of portfolio comprising financial instruments from one issuer): The FSA considered that Credit Suisse had no adequate systems to monitor this and there was a lack of documentary evidence that this had been considered by the relevant relationship manager.

Failure to monitor staff to ensure reasonable care in suitability of advice: The FSA found that there were too many relationship managers per team leader or sector head. One sector head had 11 relationship managers and one team leader had 16 relationship managers reporting to him, thereby restricting effective monitoring. The firm’s internal review system was intended to demonstrate that management had reviewed the suitability of transactions, but it was clear that resulting reports were sub-standard in a large number of cases for reasons of poor sampling, limited use of documentary evidence to support the review and limited analysis of the review process itself.

The FSA accepted that the failings were not deliberate or reckless, but emphasised the deterrent effect of this fine, stating that "the firm’s practices set an example which is seen by other market practitioners and customers". Those in the industry should ensure information in relation to all customers is accurate and up to date. Documentary evidence of the rationale for advice is needed and staff monitoring needs to be effective.

The FSA considers the assessment of suitability of client portfolios and, importantly, the ability to demonstrate such assessment on a continuing basis, as a key area of risk in the wealth management industry and pledges that firms will continue to see "an ongoing and increasing focus on these issues". Tracey McDermott, acting director of enforcement and financial crime, has stated that the FSA’s recent "Dear CEO" letter to the wealth management industry made it clear that standards need to improve and this penalty should leave firms in no doubt of their "determination to make this happen".

Lawyers Laurence Lieberman, Julie Simpson Day