Recent Developments Highlight the Importance of the CASS Resolution Pack

Introduction

The FSA regards the protection of client money and assets (CASS) as one of the fundamental issues facing the financial services industry.  The failure of Lehman Brothers and MF Global served only to force the subject of CASS compliance yet higher up the FSA’s list of priorities.  Two recent events have brought CASS issues back into the news and highlighted the importance of creating a robust and scalable solution to the issue of CASS Resolution Pack (CASS RP) maintenance, as well as the role which the CASS RP can play in ensuring general CASS compliance.

CP12/22: Client assets regime

On 6 September 2012, the FSA published CP12/22, a combined Consultation Paper and Discussion Paper on changes to the CASS regime necessary to comply with the segregation and porting requirements of EMIR as well as the wider review of the CASS regime which is currently under way.

Under current CASS rules, the failure of a firm triggers a “primary pooling event”, following which all client money held by that firm is pooled pending distribution.  In an effort to comply with the requirements of Article 48 of EMIR, which requires segregation of client assets so as to facilitate porting, the FSA intends to allow firms to operate multiple legally and operationally separate client money pools and sub-pools.  In the event of insolvency, each pool would be distributed rateably to its particular beneficiaries.  All client money not held in a pool would form part of a general client money pool, in accordance with current CASS rules.

The FSA believes that multiple pools would allow firms to insulate clients from other clients with a greater risk appetite, or from the risks associated with more complex business lines.  As such, clients could be protected from exposure to delays in the return of client money and the potential for shortfalls in the general client money pool.

It is intended that there should be a great amount of flexibility in the way in which the pools are created.  So, for example, a firm could establish pools by reference to a business unit, such as Prime Brokerage.  Alternatively, a clearing member could operate separate pools of client money comprising (i) the margin held for a client in a client account at a CCP, and (ii) the client money held for that client by the clearing member itself.  If the clearing member subsequently became insolvent, the pooling would allow an insolvency practitioner to make the margin held by the clearing member available in order to facilitate porting.

BlackRock Fined for Breaches of CASS Rules

On 11 September 2012, the FSA published a final notice relating to the £9,533,1000 fine it had imposed on BlackRock Investment Management (UK) Ltd for failure to adequately protect client money in the period between October 2006 and March 2010.  This fine included a 30% discount for early settlement by BlackRock.

The specific failings of BlackRock related to the requirement to provide notification and obtain acknowledge of the trust status of client money placed on deposit.  The net result was that an average daily balance of approximately £1.36 billion had been at risk with the banks at which deposits had been made.

Conclusion

It is anticipated that the pooling arrangements proposed within CP12/22 will be finalised early in 2013.  Thereafter, it is expected that there will be a strong demand for segregated pooling from clients.  A rapid and large increase in the number of client money pools implies a degree of cost and administrative burden on firms providing this service due to the fact that they will be required to ensure that the segregation provisions of CASS 7.4 and the record keeping and reconciliation (both internal and external) requirements of CASS 7.6 apply to the general pool and to each sub-pool created.  Given that these requirements also track into a firm’s CASS RP, and the aggressive deadlines which apply to the updating of the information contained within a CASS RP, it is important to implement a robust and scalable solution to the initial form of a CASS RP and ensure that an appropriate amount of resource is committed to its maintenance.

The FSA press release accompanying the publication of the BlackRock fine reiterated that the identification and protection of client money should be at the top of every firm’s agenda.  In this regard, a CASS RP represents both a risk and a benefit to firms.  Risk arises from the fact that a CASS RP provides a convenient snap-shot of the state of a firm’s CASS compliance, which can be requested by the FSA at any time.  As such, in future, it will become far easier for the FSA to identify failings such as those affecting BlackRock and levy fines accordingly.  However, benefits arise if firms view the CASS RP as an internal risk management tool, highlighting areas of weakness or non-compliance with respect to CASS issues.  Being relatively self-contained, the CASS RP regulations are fairly easy to implement and yet provide good protection with respect to both client assets and a firm’s reputation.  In an environment of shrinking budgets, it is tempting to view the CASS RP as being of secondary importance.  However, if the BlackRock affair highlights anything, it is the price that can be paid for failing to heed the repeated warnings of the FSA regarding the importance of client money issues and the need to implement robust procedures with respect to all aspects of the client money process.

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Webinar on CASS Resolution Packs Now Available to Watch Online

If you have an interest in Cass Resolution Packs and missed the Webinar which took place on 21 June with Derivsource, a video of the presentation is now online and available here.

The presentation provides a brief background to CASS RP and summarises the law in this area before explaining in detail the practicalities and challenges of creating a CASS Resolution Pack.  Template Cass Resolution Packs in MS Word and MS Excel are both shown, together with an online demonstration of a bespoke CASS RP database (for information on this, please see our CASS RP website).

Webinar on CASS RP: 21 June 2012

With the 1 October 2012 deadline for CASS RP beginning to loom large, DRS, in association with Derivsource, is giving a free webinar on the law and practice relating to CASS RP on 21 June 2012 (10 am EST / 3pm BST).  We will be looking at such topics as:

  • Background to CASS RP (CP11/16 and PS12/1)
  • The challenges of creating a CASS RP
  • Maintaining a CASS RP
  • The links between CASS RP and RRP.

You can register for the event here:

https://deriv.webex.com/mw0306ld/mywebex/default.do?nomenu=true&siteurl=deriv&service=6&rnd=0.32208606094562064&main_url=https%3A%2F%2Fderiv.webex.com%2Fec0605ld%2Feventcenter%2Fevent%2FeventAction.do%3FtheAction%3Ddetail%26confViewID%3D660867327%26%26%26%26siteurl%3Dderiv

CASS Resolution Packs: The 1 October 2012 Deadline Looms

Introduction

Any UK firm which is subject to CASS 6 (custody rules) and/or CASS 7 (client money rules) is obliged to have a CASS Resolution Pack in place by 1 October 2012.

CASS Resolution Packs form part of the FSA’s wider review of the client assets regime in the UK and represent the point where the client money rules meet resolution planning.  The rules require a firm to collate certain information regarding its handling of client money and safe custody assets that would be of use to an insolvency practitioner in the event of the firm’s failure.  The purpose of the rules is to facilitate the return of client money and safe custody assets to clients more quickly than is currently the case.

Creating a CASS Resolution Pack

In theory, a CASS Resolution Pack should be relatively straightforward to produce.  Broadly speaking, the exercise breaks down fairly neatly into four main areas:

  • analysis of the institutions with which client money or safe custody assets have been placed by the firm;
  • analysis of the documentation in place with the firm’s clients;
  • identification of the employees of the firm who are critical or important to the performance of the firm’s CASS obligations; and
  • third parties and systems on which the firm is reliant for performance of its CASS obligations.

Practical Issues to Bear in Mind

Although the theory behind CASS Resolution Packs is easy to understand, the reality of CASS Resolution Pack creation is sometimes rather different.  Some firms are currently unaware of the location of all of the documentation required as part of a CASS Resolution Pack – a necessary first step in preparing the pack itself.  In addition, the CASS Resolution Pack rules require firms to have arrangements in place to ensure that electronic systems which are important to CASS compliance remain operational and accessible following the firm’s failure.  As such, all such contracts will require review and it may be necessary to approach the vendors of any such systems with a view to renegotiation of contractual terms – a process which often proves protracted.

Questions also remain as to the form the CASS Resolution Pack should take.  PS12/6, the FSA’s Policy Statement on CASS Resolution Packs, is silent on this issue.  CASS Resolution Packs in both Word and Excel formats exist, and databases designed specifically for the task of creating a CASS Resolution Pack are being developed.  All formats have their pros and cons.  The key factors to consider in choosing the form of a CASS Resolution Pack are:

  • size of the firm – the larger the CASS operation of the firm the more robust the CASS Resolution Pack needs to be due to the sheer volume of documentation which must be assimilated into the pack itself and the requirement for collaborative input from multiple users in order to bring the pack together;
  • ease of maintenance – any change of circumstances which renders the content of a document forming part of the CASS Resolution Pack inaccurate must be corrected within 5 Business Days.  In reality, CASS Resolution Packs for Large CASS firms are likely to be in a constant state of updating and any solution chosen by such firms must be robust enough to accommodate this;
  • flexibility – it seems likely that the rules on CASS Resolution Packs will have to be amended in the future to accommodate any changes resulting from the FSA’s general review of the UK CASS regime.

Cass Resolution Packs in Word are relatively quick and cheap to create.  However, they are not well suited to collaborative working in terms of data input and suffer from issues associated with maintaining data integrity.  I wouldn’t recommend using Word for any but the smallest firms.  Excel is definitely a step forward as data can more readily be filtered and analysed.  Again, however, the problems associated with sharing of Excel workbooks is well known and data validation is difficult to maintain over time and between multiple users.  Bespoke databases do not suffer from these problems but clearly entail greater expense and a longer lead time to develop.  However, on balance, I believe that they are the most appropriate solution, at least for CASS Large firms.

The FSA has made clear in its 2012-13 Business Plan that the protection of client assets sits right at the top of its agenda and it will be increasing scrutiny of firms in this area, particularly those that are systemically important.  Following the MF Global fiasco, one can only assume that regulatory oversight in this area will increase yet further.  As such, there is clear value for firms in getting CASS Resolution Pack planning right.  With just over four months left until the rules come into force, there is still enough time to complete the process, but please don’t expect this to be something that can just be cobbled together at the last minute.

The FSA’s policy statement on CASS Resolution Packs can be downloaded via this link:

http://www.fsa.gov.uk/static/pubs/policy/ps12-06.pdf