On the 10th January, the FCA published its Sector Views for 2019, providing an analysis of the changing financial services landscape and the performance of various sectors within it.
It also serves to inform the FCA’s work on consumer protection, market integrity and competition.
To gain a greater understanding of how these markets and the firms within them interact with one another as well as with customers, the FCA chose to divide this year’s Sector Views by seven specific sectors:
- Retail banking and payments
- Retail lending
- General insurance and protection
- Pensions savings and retirement income
- Retail investments
- Investment management
- Wholesale financial markets
Taking a holistic view, the FCA also pulled out a number of key themes that make are driving change in most, if not all, of the above sectors, including:
How technology is driving change
Technology is driving ever more rapid change within financial services. The adoption of Application Programming Interfaces (APIs), Open Banking and the Second Payments Services Directive (PSD2) have all enabled “real-time money management”, allowing consumers and businesses to better manage their finances. This huge leap forward has been powered, in large part, by the data of the very consumers that are utilising the products.
While technology and data-sharing has opened the door to faster transactions and clearer comparison, it has also served to disrupt the traditional value chain that has kept incumbent players in positions of power for so long. Digitally-based banks, for example, have been able to enter markets previously fortified against challengers.
Of course, technological innovation can also disrupt the function of regulatory oversight. E-moneys have well and truly taken off in recent years, meaning more complicated lines of accountability and raised question around how best to protect consumers.
“The UK population is changing and so are its financial needs”, says the FCA. Life-expectancy is increasing, the population is aging, economic growth and real wage growth have slowed and the progress in terms of intergenerational wealth accumulation has stagnated.
The regulator is constantly seeking to deepen its understanding of the changing needs of society and, with this in mind, is continuing to review its conduct requirements. Firms will have to ensure they keep up-to-date with the regulatory change that goes hand-in-hand with societal change.
The potential impact of Brexit
The regulator continues to plan for a variety of possible scenarios that could emerge from the UK leaving the European Union, including a continuation of cross-border rights for firms that currently ‘passport’ between the UK and EEA. The regulator expects that regulatory obligations derived from EU law will continue to apply until at least the end of 2020.
The FCA has also planned for the possibility of a so-called ‘no-deal’ Brexit. It has worked with the UK Government to establish a temporary permissions regime to enable EU firms to continue to passport into the UK should the automatic right be removed.
The macroeconomic environment
Of course, the UK economy is not immune to ebbs and flows of the global macroeconomic environment. Various factors, ranging from the uncertainty around Brexit to manufacturing growth in China, can have an impact on all our daily lives.
The Bank of England predicts that global GDP growth will slow by up to 2% in 2021, driven, in part, by trade tensions between the USA and China. The current low interest rate environment here in the UK is also a point of concern for the regulator, as it could impact the financial performance of the firms that the FCA regulates and, ultimately, market stability.
In this environment, consumers seeking higher returns tend to make riskier investments, household finances suffer continued pressure and the reliance on credit and borrowing grows. All of this means that families and businesses alike could be less resilient to financial shock.
Retail banking & payments
73,600 payments are made every minute in the UK and 97% of adults have a personal current account. Retail banking is the lifeblood of the UK financial system – so it’s vital that the FCA regulates accordingly.
Change within this sector are driven by technological innovation and changing consumer preferences, with more and more digitally-savvy consumers moving to small, online- or mobile-only challengers. Trust in the responsibility and resilience of these firms, as well as service reliability remain central to consumers. There is also a concern that a shift away from brick-and-mortar branches towards online-only services could create barriers for vulnerable consumers.
Looking at both mortgage lending and consumer credit, the FCA’s overarching message is that borrowing remains a necessity, but customers could be more susceptible to being sold unsuitable products.
Around 39 million people have outstanding credit borrowing and 13.5 million have outstanding mortgages. Total lending is estimated to be valued at more than £1.5 trillion. The steady growth within this sector is driven by first-time home buyers and a high, but slowing, rate of consumer credit lending.
Importantly, the average mortgage term is increasing. 34% of mortgages are now on terms longer than 30 years, and 40% of borrowers who took out a mortgage in 2017 will be over 65 by the time theirs matures.
Declining home ownership and consumer resilience is of concern for the FCA, as is the fact that some products identified were sold in way that makes informed decision making more difficult. Hidden fees and features have the potential to cause great harm in this sector.
General insurance and protection
Technology is gradually changing this sector, as it is in all others, by enabling more flexible products. This change is most visible around the use of data, which is giving commercial advantages to many firms. However, there exists the risks of loss or misuse.
According to the FCA, “low understanding, inertia and behavioural bias can leave consumers vulnerable to harm from products that are poor value, or which do not otherwise meet their needs.”
Pensions savings and retirement income
Taking into account workplace and non-workplace schemes, products such as annuities or drawdown and administration services, the FCA has identified that there is a prospect that many consumers may lack an income in retirement that is adequate to meet their expectations.
Drivers for change in this sector include the ageing population, increased individual financial responsibility and the emergence of robo-advice that, again, could lock certain segments of the population out of the value chain if not made especially accessible.
This sector has seen steady growth in consumer numbers and volume of assets managed (topping £926 billion invested in wealth management, 2017). The low interest rate environment, regulator scrutiny, policy changes and technology are all morphing the landscape. The high levels of disparity in the intergenerational wealth gap in this sector have not closed, and do not seem as if they will any time soon.
Interestingly, high-risk cryptoassets remain popular but some customers may not realise that these assets are not currently within the FCA’s supervisory oversight remit. Without regulatory oversight, they could lose out on receiving compensation in cases of abuse or mismanagement.
Trust in UK financial advisers is lower than it could be, with only a third of all UK adults trusting them to work in the best interests of their clients.
The biggest drivers of change in this sector are largely the same as in retail investment, though Brexit will likely shape what form the sector will take, especially in terms of passporting between European countries and the UK.
The FCA is concerned that pricing and quality of services from providers is not working in the best interest of consumers. Increasing automation within this sector could mean that oversight will not be thorough enough for purpose in the future.
Wholesale financial markets
Covering transaction services, wholesale lending, advising, arranging, broking and more, this sector spans multiple asset classes and is particularly complicated from a regulatory oversight perspective.
Driving change here is new regulation, increasing competition and the as-of-yet unknown changes that may arise from Brexit. As the UK is one of the world’s most important financial centres, the breakdown of the wholesale market would send ripples across many other sectors.
The FCA has identified several potential harms in this sector, which they have divided into seven themes:
- Financial crime, especially cyber-enabled crime
- Market abuse
- Stability and resilience
- Conflicts of interest
- Market effectiveness
- Market power
- Information asymmetries
Regulatory reform in this space could reduce many of these potentially harms, though the onus is on data owners and managers to defend against the increasingly sophisticated threat of crime.
Sector Views are not normally open for consultation, but the FCA does welcome feedback, as this will inform future Sector Views and the FCA Business Plan.
CONSIDERATIONS FOR FIRMS
Across all sectors, the increasing use (and potential abuse) of technology reigns as one of the biggest drivers for change. The FCA will likely be increasing its oversight in this regard and requiring firms to explain exactly how they are using their technology to improve the lot of customers. They also want to know just what assumptions are being used to build automated services to ensure that they are being built accessibly and to the benefit of consumers rather than as just a cost- and time-saving measure. Technology will need to be intelligent enough to prevent consumers being sold unsuitable products and accessible enough so that vulnerable customers are not cut out of the value chain.
Firms will also have to invest in their compliance and control functions to protect against financial crime and the misuse of data.
It goes without saying that Brexit will have an impact on all regulated markets, and firms with complex and cross-border structures will need to be ready for both sudden and gradual change, as well as expecting more regulatory oversight. Importantly, firms will need to keep up with EU regulation until at least December 2020, throughout any potential transition period.
Across all sectors, the FCA also insists on the need for clearer information and / or literature around products and services sold and continues to raise concerns about information asymmetries between firms and customers.
Firms will have to ensure effective governance frameworks are in place, especially for their “pricing, sales and product design functions”. Mapping customer journeys can be key to determining whether firms are delivering fair outcomes to customers.
Although not a price regulator, the FCA is also increasing its focus on charging structures in a number of sectors, the latest being overdraft charges. Firms should be confident that their charges are fair and relevant disclosures are clear and transparent. Insurers, for example, are already expected to consider how they deliver value for money and other sectors will be required to do the same, including asset managers later in 2019.
Overall, the UK financial sector is undergoing an intense period of profound evolution. It is up to both firms and regulators to ensure that this change leads us to a landscape of better customer outcomes and more stable markets, rather than one threatened by financial crime, data misuse and instability.