Financial Services Review: Specials Magazine

Some key non-financial risk exposures of financial institutions active in the Wealth Management industry stem from incidents driven by significant employee misbehaviour and internal fraud. Insufficiently managed conduct risk in the wealth management industry continues to lead to significant financial losses, loss of reputation, and mandatory scrutiny for affected financial institutions. Large instances may even harm customers' trust in the financial services industry overall. Key regulators such as the UK Financial Conduct Authority (FCA) and others increasingly focus on this type of non-financial risk and require institutions to establish and maintain an effective framework to measure and manage employee conduct risk. It is important to establish an effective control framework capable of identifying deviations from the expected norm in employee behaviour. Many financial institutions focus on cultural initiatives to positively influence the behaviour of their employees. However, the impact of cultural initiatives on employees' actual behaviour is difficult to prove, including to which extent such initiatives reduce residual risk levels of employee misbehaviour and fraud. Culture is expressed by the actual behaviour of employees "when the lights are switched off", i.e., when employees know their behaviour is not supervised. Therefore, cultural initiatives do not necessarily impact the behaviour of employees who are already prone to misbehaviour and fraud, which might be due to financial pressure, their sense of superiority or having the "right" to do so. Therefore, focusing on Culture is certainly a good thing to do, but in isolation, it is insufficient to address conduct risk. Regulators expect financial institutions to develop their conduct risk definitions and strategies and put in place a tailored framework to address the specific conduct risks of their business areas. In Wealth Management, conduct risk is particularly driven by a close relationship between