FCA sets out findings from IFPR liquidity risk management review

The FCA has set out findings from its multi-firm review of liquidity risk management at wholesale trading (sell-side) firms, particularly brokers, in scope of the Investment Firms Prudential Regime (IFPR). The review focussed on 26 larger firms prudentially supervised by the FCA.

The FCA noted various stress events on the sector in the past few years, including the COVID-19 pandemic, the Russia-Ukraine war, the nickel price spike, energy price volatility, the ION outage and failures at Credit Suisse and Silicon Valley Bank.

Overall, the review identified a range of approaches to liquidity risk – some adopted appropriate models, but other firms had weaker approaches that were not commensurate with their size, complexity and the instantaneous nature of their liquidity risks. Often, such firms had not updated their assumptions in light of the events of recent years, and in general:

• failed to identify the full range of liquidity risks they were exposed to, especially idiosyncratic risk requirements;
• under-estimated the quantum of their exposures;
• over-relied on having immediate access to liquidity facilities to mitigate instantaneous liquidity requirements;
• had inoperable contingency funding plans (CFPs), many of which lacked action triggers, or a range of contingency actions designed to mitigate liquidity stresses.

All firms in the review identified intra-day (T-0) and inter-day (T-1) stressed cash outflows as their primary liquidity risk, with firms modelling – on average – 80% of their stressed liquidity outflows occurring on these days. Common features in firms with well-functioning frameworks were:

• at close of business each day, firms dynamically calculated their immediate term BAU and liquidity stress liquidity requirements. Focusing their forecast on, T-0 next day, T-1 the day after that, and thereafter the short-term contractual and potential behavioural and stressed cash inflows and outflows;
• promptly identifying when a stress was likely to crystallise and assessing the likely impact; and
• being prepared to take mitigating actions promptly in advance of a possible stress or, if that was not possible, in a timely manner as soon as they were impacted by a stress event – proactively forecasting and being prepared to respond to potential stresses; reinforced by monitoring trade flows and operational processes across the day and reacting promptly as anticipated and occasionally unanticipated issues emerge.