The Alternative Investment Management Association

Alternative Investment Management Association Representing the global hedge fund industry

You are:

Outsourcing by asset managers - the FCA's "Dear CEO Letter"

By Alexander Brown, Partner

Simmons & Simmons

Q2 2013

On 11 December 2012, the UK Financial Services Authority (now the Financial Conduct Authority or FCA) sent a letter addressed to “the CEOs of asset managers” (the “Dear CEO Letter”).  In the Dear CEO Letter, the FCA expressed its concerns in relation to the risks associated with outsourcing by asset managers (“firms”) of operational activities to external service providers, a trend which it sees as on the increase, where the external service provider fails to provide service for any reason.

Recent engagement with the FCA has indicated that in addition to its concerns in relation to the risks associated with outsourcing, the FCA is more generally concerned at the inadequate nature of firms’ recovery and resolution plans.  It has therefore suggested that in order to address the concerns set out in the Dear CEO Letter and this more general point, firms should arrange for their Board of Directors to review relevant outsourcing agreements and their whole supply chain to their customers in order to satisfy themselves that there are adequate contingency plans in place for the firm as a whole.  Whilst no specific time limit has been set by the FCA, the FCA expects firms to engage rapidly to address its concerns.

The FCA has referred to “relevant” outsourcing agreements in the Dear CEO Letter.  The FCA is targeting a wide range of outsourcing agreements, but essentially the agreements covered are agreements which outsource regulated activities or activities “critical and important” to regulated activities.  In addition, the FCA refers to firms needing to ensure that their “recovery and resolution plans” are adequate.  Essentially, the FCA is referring to what can be variously described as exit, contingency, resilience or redundancy plans and it is seeking to ensure that measures are in place to address the failure of a service provider to continue providing relevant services as a result of financial distress, operational disruption or stressed market conditions, so in other words issues arising which relate specifically to the service provider, to the impact of a third party on the service provider or the impact of “force majeure” events on the service provider.  All three of these types of events need to be accounted for.

In addition to its general concern about ensuring arrangements with external service providers are in order, the FCA has drawn particular attention to the fact that a number of service providers are part of complex international banking groups and that the number of service providers able to provide these services is quite limited.  The FCA’s concern in respect of the former is that such banking groups may have balance sheet exposure at a group level to other activities which if they fail could have a knock-on effect on the services provided to firms.  The FCA has clearly stated that it does not view such banking groups as “too big to fail”, and so firms should not rely on this as an “adequate plan”.  In addition, on the second point, which the FCA describes as a “concentration risk”, if one service provider were to fail, it may be that there is no capacity to transfer to another provider, and so firms need to consider what to do in these circumstances.

Beyond the above two points, the FCA has expressed reservations about contractual provisions in outsourcing agreements which provide for:

  • the transfer of responsibility to another provider or to take it back in-house on the basis that this process could take too long (particularly where the firm does not have the requisite in-house expertise to take responsibility back in-house) and may not work where the service provider is in financial distress; or
  • step-in rights are being relied on as again the solution may not be sufficiently rapid and there may be difficulties in exercising those rights. 

The FCA is therefore seeking to ensure that firms have in place plans which are reliable, robust and realistic and which clearly define exit measures the firm will put in place.  The FCA considers that some firms have appropriate plans in place, but its own discussions and research have not seen great evidence on this. 

Firms should, therefore:

  • not assume that a banking group will not fail;
  • not assume that a service can be easily and rapidly brought in-house or transferred to another provider;
  • negotiate better contingency plans or move to another service provider; 
  • seek a “dual running” service from another service provider; and/or
  • encourage “ring fencing” of the service divisions of banking groups from other divisions in those groups which have balance sheet exposure to other activities which could impact upon the services provided to firms.

As mentioned above, the FCA has not set a specific time line for carrying out these activities, but it is clear that it expects rapid and effective action to address this concern.  Firms should be encouraged to seek advice on how best to proceed.  This can be obtained either from appropriately experienced legal advisers or from industry bodies such as the Investment Management Association which has set up a Working Group in response to the Dear CEO Letter itself.

Back to Listing

Main Menu

  1. Home
  2. About
    1. Our Core Objectives
    2. AIMA's Policy Principles
    3. Meet the team
    4. AIMA Council
    5. Global Network
    6. Sponsoring Partners
    7. Opportunities at AIMA
    8. AIMA’s 25th anniversary in 2015
  3. Join AIMA
    1. Benefits of Membership
    2. Membership Fees
    3. Application form
  4. Members
    1. AIMA Annual Reports
    2. AIMA Governance
    3. AIMA Logo
      1. Policy note
    4. AIMA Members' List
    5. AIMA Review of the Year
    6. Committees and Working Groups
    7. Weekly News
    8. Update Profile
  5. Investors
    1. AIMA Investor Services
    2. AIMA Members' List
    3. Investor Steering Committee
  6. Regulation
    1. Asset Management Regulation
      1. EU Asset Management Regulation
        1. AIFMD
        2. European Capital Markets Regulation
        3. MiFID / MiFIR
        4. UCITS
        5. European Venture Capital Directive
        6. Shareholder Rights Directive
        7. European Long Term Investment Fund Regulation
        8. Loan Origination Funds
        9. Capital Raising
        10. AIFMD-Related Events
      2. US Hedge Fund Adviser Regulations
        1. Registration and Reporting
        2. Incentive-Based Compensation
        3. JOBS Act
      3. Asia Pacific Asset Management regulation
      4. Other Jurisdictions’ Asset Management Regulation
      5. Private Placement Regime
        1. Canada
        2. Dubai
        3. Finland
        4. Germany
        5. Hong Kong
        6. Japan
        7. Saudi Arabia
        8. Sweden
        9. United Arab Emirates
      6. Systemically Important Financial Institutions ('SIFIs')
      7. Remuneration
        1. UK
        2. United States
        3. CRD IV and CRR
        4. AIFMD
        5. MiFID
      8. Shadow Banking
      9. Volcker Rule
      10. Other
      11. Systemic Risk Reporting
      12. Dealing Commission
      13. Corporate Governance
      14. Securitisation
    2. Markets Regulation
      1. Algorithmic and High Frequency Trading
        1. EU Automated Trading
        2. US Automated Trading
      2. Benchmarks
      3. Capital Markets Union
      4. Derivatives/Clearing
        1. BCBS - IOSCO
        2. EMIR
        3. Dodd-Frank Act Title VII
        4. Hong Kong
        5. MiFID II / MiFIR - Derivatives
        6. Singapore
      5. Market Abuse
      6. MiFID II / MiFIR
      7. Position Limits
        1. MiFID II - Commodities
        2. CFTC Position Limits
      8. Recovery and Resolution
        1. EU
        2. CPSS-IOSCO
        3. Financial Stability Board
      9. REMIT
      10. Securities Settlement
      11. SFT reporting & transparency
      12. Short Selling
    3. Tax Affairs
      1. Automatic Exchange of Information (AEOI)
        1. FATCA
        2. EU - AEFI
        3. OECD - Global Standard on AEFI
      2. Australia - Investment Manager Regime (IMR)
      3. Base Erosion - Profit Shifting (BEPS)
      4. FIN 48 and IAS 12
      5. Financial Transaction Tax (FTT)
      6. UK Investment Management Exemption (IME)
      7. UK Offshore Funds Regime
      8. Other
    4. AIMA's Policy Principles
    5. Search
    6. Resources
      1. Guidance Notes
      2. Jurisdictional Guides
      3. Noticeboard
        1. AEOI: FATCA and other regimes
        2. AIFMD
        3. Bank/Capital Regulation (including NSFR)
        4. BEPS
        5. CFTC Registration and Exemptions
        6. Corporate Governance
        7. Dealing Commission
        8. Derivatives
        9. FTT
        10. High Frequency Trading
        11. MiFID / MiFIR
        12. Other Hot Asset Management Topics
        13. Other Hot Markets Topics
        14. Other Hot Tax Topics
        15. Position Limits
        16. Trading
        17. UCITS
        18. UK Partnership Tax Review
        19. US State and Local Taxes
        20. Volcker Rule
      4. Hedge Fund Manager Training
      5. Quarterly Regulatory Update
      6. Webinar Programme
      7. Regulatory Compliance Association
        1. About the Regulatory Compliance Association
        2. RCA Curricula and initiatives for alternative investment firms
        3. Meet the regulators and Sr. Fellows
  7. Education
    1. Research
      1. AIMA Research
      2. Industry research
      3. Search research documents
    2. "The Case for Hedge Funds"
      1. Global Hedge Fund Industry Paper: The value of our industry
      2. The Value of the Hedge Fund Industry to Investors, Markets and the Broader Economy: Research commissioned by AIMA and KPMG
      3. The Evolution of an Industry: KPMG/AIMA Global Hedge Fund Survey
      4. Contributing to Communities: A global review of charitable and philanthropic activities by the hedge fund industry
      5. Beyond 60-40: The evolving role of hedge funds in institutional investor portfolios
      6. The Cost of Compliance: Global hedge fund survey by AIMA, MFA and KPMG
      7. Capital Markets and Economic Growth: Long-term trends and policy challenges
      8. Apples and Apples: How to better understand hedge fund performance
      9. The Extra Mile: Partnerships between hedge funds and investors
      10. Key articles by AIMA on the case for hedge funds
    3. AIMA Journal
      1. Recent issues
      2. Search AIMA Journal articles
      3. AIMA Journal Archive
    4. AIMA Guides to Sound Practices
    5. AIMA guides for institutional investors
    6. CAIA Association pages
      1. Fundamentals of Alternative Investments
    7. Regulatory Compliance Association pages
      1. About the Regulatory Compliance Association
      2. RCA Curricula and initiatives for alternative investment firms
      3. Meet the regulators and Sr. Fellows
    8. Certified Investment Fund Director programme
    9. Services to Start-up Managers
    10. Glossary
  8. Events
    1. AIMA Events
      1. AIMA Annual Conference
        1. AIMA 25th Anniversary AGM & Annual Conference
        2. AIMA 25th Anniversary Dinner
        3. 2015 Videos
      2. AIMA's Global Policy and Regulatory Forum
        1. 2015 Forum - Review
        2. 2015 Forum - Photos
        3. 2015 Forum - Agenda
        4. 2015 Forum - Sponsors and Supporting Organisations
    2. AIMA webinars
    3. Industry events
  9. Media
    1. Press Releases & Statements
    2. AIMA's blog
    3. Media Coverage
      1. Articles by AIMA
        1. Archive
      2. AIMA in the news
      3. Video interviews
      4. Industry news
    4. Media Contacts
    5. Press Materials
    6. Photos of Jack Inglis