Consultative papers relating to the Financial Services and Markets Bill - the future regulation of inter-professional business

United Kingdom
FSA has issued a Discussion Paper to start the debate on the future, unified, structure of the regulation of inter-professional business. This is currently regulated either by FSA or, for listed money market institutions, by the Grey Paper regime. These two systems use entirely different methods of defining professional market users, although under both the essential nature of the regulation is that the 'caveat emptor' principle will apply to dealings between sufficiently sophisticated professional institutions, which do not need the protection of detailed conduct of business rules.

The FSA's conduct of business rules distinguish between 'market counterparties', 'non-private customers' and 'private customers'. The definition is therefore based upon the type of market user.

In contrast, the Grey Paper looks at the type of financial instrument and the size of the transaction when deciding whether a firm is sufficiently 'professional' to not require the benefit of regulatory protection.

The FSA has stated that it is currently minded to develop a new framework for inter-professional dealings which is defined primarily by the expertise and experience of the market user. This is closer to SFA's current approach. In addition, FSA is currently considering whether three categories of potential customers should be defined, to cover respectively (i) dealers, market markers and arrangers; (ii) institutions; and (iii) private clients. The FSA fears that, if there are only two categories, then either the boundary will have to be drawn so as to admit only a small number of counterparties who genuinely require no regulatory assistance, or it will be drawn so as to admit too large a number of counterparties to the professional group, some of whom may require protection in particular types of transactions. The FSA is also considering whether firms should be in different categories depending upon the type of instrument in which they are trading, and this would undoubtedly lead to uncertainty as to whether or not a firm was dealing with a 'professional ' in relation to any given transaction. The basic premise of the inter-professional market in the past has been that certain firms are both large enough to be expected to rely upon the 'caveat emptor' principle in relation to markets in which they regularly deal, and professional enough to understand the consequences if they deal in markets which they do not properly understand. If FSA allows firms to be categorised differently in relation to different transactions then this may cause confusion.

The Discussion Paper also proposes that the business which is currently covered by the Grey Paper regime, but will not be covered by FSA (such as wholesale deposits, bullion, and spot and forward commercial forex) should be traded in accordance with a code of conduct to be produced by the institutions which deal in those markets. It is not open to FSA to endorse any such code, as it can only do so in relation to business which it could itself regulate.

Comments on this consultation documentation were required by 31st January, and given its importance in ensuring that inter-professional business is not overregulated, FSA seems likely to have received a significant number of detailed submissions from current market users.