FCA chief on artificial intelligence
The Financial Conduct Authority (FCA) is determined to harness the potential of artificial intelligence (AI) while ensuring appropriate regulations are in place to mitigate risks, according to a recent speech by the FCA’s chief executive, Nikhil Rathi. The FCA aims to make the UK the global hub for AI safety regulation in the financial services sector.
In a related feedback statement on Big Tech in Financial Services, the FCA has highlighted the need to address the role of Big Tech firms as gatekeepers of data and the potential risks associated with data-sharing imbalances. The statement also emphasised concerns regarding operational resilience, consumer manipulation, and market functioning posed by Big Tech companies.
The FCA plans to regulate Critical Third Parties, including cloud service providers, in collaboration with the Bank of England and the PRA. The aim is to set standards and ensure resilience in services, including AI services, provided to the UK financial sector.
The speech also stressed the importance of maintaining market integrity in the age of AI as the use of AI can introduce imbalances and risks, such as misinformation spreading through social media impacting global markets. The FCA highlighted the need for robust measures to address volatility, short-term trading, cyber fraud, cyber attacks, and identity fraud associated with AI adoption.
The issue of explainability of AI models was also raised, with the FCA acknowledging the desire of financial services firms to understand and explain the behaviour of AI systems. Rathi also touched on potential biases in data inputs and the comparison of human decision-making to AI models, highlighting the need for controls and checks in both cases.
The speech highlighted the potential benefits of AI in financial services, such as from improved productivity, crime reduction through generative AI and synthetic data, addressing the advice gap, hyper-personalisation of products and services, and enhanced fraud prevention and money laundering detection.
As for the FCA’s approach to AI, Rathi mentioned the recently launched Digital Sandbox for Fintech innovation, and the utilisation of AI methods for supervision and risk identification. He also emphasised the importance of collaboration and innovation on a global scale, with involvement in various international regulatory bodies and initiatives.
The issue of responsibility in AI was discussed, addressing accountability for AI systems between users, firms, and AI developers. Rathi proposed a debate on societal risk appetite and highlighted the need for proportionate regulation to foster innovation while ensuring trust and confidence in financial services.
The speech also referenced existing regulatory frameworks, such as the Consumer Duty and the Senior Managers & Certification Regime, which address consumer outcomes, accountability, and cyber-risk mitigation in the context of AI. The FCA expressed openness to innovation and testing boundaries before considering new regulations.
Concluding, Rathi noted the UK’s leadership in fintech, its talent pool, and commitment to skills development, along with the intention to support inward investment through pro-innovation regulation and international collaboration. The FCA aims to position the UK as a global leader in AI regulation and safety.
APRA welcomes independent recommendations
The Australian Prudential Regulation Authority (APRA) has welcomed the release of the Financial Regulator Assessment Authority (FRAA) review report, which focused on the effectiveness and capability of APRA’s supervision and resolution work in superannuation.
The FRAA is an independent statutory body tasked with assessing and reporting on the effectiveness and capability of the Australian Securities and Investments Commission (ASIC) and APRA.
The report makes five recommendations:
- APRA should enhance risk identification in superannuation, including emerging and systemic risks, for improved supervisory activities and recovery planning.
- APRA should prioritise staff recruitment, training, retention, and development initiatives to enhance skills, industry knowledge, and capability in managing and responding to emerging and systemic risks.
- APRA should maintain its investment in data and technology capabilities to enable timely insights, foster internal collaboration, and reduce regulatory burden related to data and information requests.
- APRA should provide trustees with annual plans of proposed supervisory activity.
- APRA should prioritise the development of its resolution capability and collaborate with the industry to increase awareness of recovery and resolution planning requirements.
APRA supports all the recommendations made by the Review
SEC acts against unregistered exchange
RSE Markets Inc has settled charges brought by the Securities and Exchange Commission (SEC), including a $350,000 fine, for operating as an unregistered exchange. The charges stem from RSE’s operation of the Rally Platform, a marketplace and trading platform that facilitated the buying and selling of securities, specifically equity interests in “collectible assets” such as valuable cars and watches.
According to the SEC’s findings, RSE operated the Rally Platform, including its website RallyRd.com and the Rally App, between July 1, 2018, and November 20, 2021. The platform targeted retail investors in the United States, allowing them to engage in the purchase and sale of securities. Secondary market trading for these securities exclusively took place on the Rally Platform during specified trading windows provided by RSE.
RSE employed an algorithm to match orders from buyers and sellers based on price and time priority. The company calculated a final clearing price at which the matched orders would execute and required confirmation from both parties involved in the transaction to ensure their willingness to proceed at the final clearing price. The SEC’s order noted that the trading interests accepted by RSE were firm orders, as evidenced by representative data showing a high rate of confirmed and executed trades. Despite marketing the Rally Platform as a stock exchange, RSE failed to register it as a national securities exchange or operate it under any exemption from registration.
Tejal D Shah, the Associate Regional Director of the SEC’s New York Regional Office, commented on the case, stating, “RSE operated and marketed its platform as an exchange but failed to comply with the SEC’s registration provisions.” Shah stressed that operating an unregistered trading platform, as RSE did, denies investors important protections afforded by securities laws, such as mandatory disclosures and the maintenance of certain books and records.
SEC proposes changes to Customer Protection Rule
The Securities and Exchange Commission has proposed amendments to Rule 15c3-3 (the Customer Protection Rule) to require certain broker-dealers to increase the frequency with which they perform computations of the net cash they owe to customers and other broker-dealers (known as PAB account holders) from weekly to daily. Net cash owed to customers and PAB account holders must be held in a special reserve bank account.
The proposal would require carrying broker-dealers with large total credits (generally the amount of cash owed to customers and PAB account holders) to increase the frequency of their customer and PAB reserve computations from weekly to daily. Specifically, the proposal would require carrying broker-dealers with average total credits equal to or greater than $250 million to make the relevant computations daily, as of the close of the previous business day.
CFTC fines digital asset exchange $12m
The Commodity Futures Trading Commission (CFTC) has announced a permanent injunction against Adam Todd and his four controlled companies – Digitex LLC, Digitex Limited, Digitex Software Limited, and Blockster Holdings Limited Corporation. The Commodity Futures Trading Commission (CFTC) made the announcement today.
Todd and his companies operated a digital asset exchange called “Digitex Futures” and engaged in activities that aimed to manipulate the price of the Digitex Futures native token DGTX, which is considered a commodity in interstate commerce. They also offered futures transactions on a platform that was not a designated contract market, failed to register with the CFTC, and neglected to implement customer information programs, know your customer policies, and anti-money laundering procedures.
Todd has been ordered to pay $3,912,220 in disgorgement and a $11,736,660 civil monetary penalty. This resolution concludes the CFTC’s enforcement action against Todd and Digitex Futures.
ISDA report on climate scenario analysis in the trading book
The International Swaps and Derivatives Association (ISDA) has published a conceptual framework for climate scenario analysis in the trading book, marking a major step forward in efforts to understand and manage the impact of climate-related events on traded assets. Summing up the conclusions to the paper:
- Climate scenario analysis is a tool used by financial institutions and regulators to understand the climate-related risks faced in the financial sector.
- To date, climate scenario analysis has focused on measuring the long-term effects of climate change. The report focuses on the short-term effects of climate change and how they could impact trading book assets.
- The paper provides a stock take of the approaches currently used or in development at financial institutions to undertake climate scenario analysis in the trading book.
- It uses these insights to develop a blueprint for an end-to-end conceptual framework for climate scenario analysis in the trading book.
- The paper identifies two key areas of focus for both financial institutions and regulators in developing approaches to climate scenario analysis:
- The calibration and modelling of climate-related shocks.
- The quality and quantity of available macro-financial data.
- The paper concludes by outlining plans to develop approaches to climate scenario analysis in the trading book and provide support in the practical implementation of those approaches across the industry.
In short, the paper provides a comprehensive overview of climate scenario analysis in the trading book and identifies key areas for future development.
A selected summary of key developments for regulated financial institutions
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