Keeping on top of sanctions compliance presents banks, custodians and asset managers with a significant challenge. Fines have become eye-wateringly steep: in 2014, a record year, global banks collectively paid in excess of USD 9.3 billion for violating US economic sanctions. This staggering total includes fines and forfeitures ordered by the US Department of Justice in response to banks carrying out transactions with banned entities in Cuba, Libya, Sudan and Iran.
The scale of these financial penalties demonstrates just how risky it can be for firms to do business with sanctioned entities. Sanctions violations don’t just hit a firm's pocket hard: they can cause significant reputational damage to asset managers who find themselves facing criminal charges in court.
Ensuring adequate processes are in place to escape the regulator’s attention is therefore a high compliance priority. Financial institutions need to avoid buying, holding, trading or servicing sanctioned securities. Most financial institutions have robust processes to deal with know-your-customer and anti-money laundering directives. But, identifying sanctioned financial instruments is a thorny and multi-faceted challenge.
Firstly, asset managers must identify banned individuals and companies. Compliance requires matching entities and persons against sanctions lists issued by various political regimes. On a daily basis, firms must be able to get hold of a list of issuers and securities that are linked to the domiciles, companies and individuals sanctioned by national governments or international bodies. These can include the United Nations, the European Union, US Treasury Department OFAC, HM Treasury (UK) and the Hong Kong, Canadian and Swiss Sanctions Regime, illustrating the global scale that asset managers must take into consideration when planning data collection.
Internally, institutions must juggle collecting lists from the many sanctioning regimes and keep them up-to-date as regulators respond to political events. Significant data scrubbing effort is needed before banks can cross-check affected entities against them.
Next, firms need to identify securities that are issued by sanctioned companies. This is a cumbersome manual process that is more straightforward in theory than in practice. Derivatives and structured products with affected underlying securities are also in scope. Domestic and foreign subsidiaries or other holdings of at least 50% must also be uncovered. The exact percentage may vary depending how it is defined by the regulator in each jurisdiction, adding to the complexity.
Finally, to avoid doing business with sanctioned individuals, asset managers must also verify beneficial ownership. This is an awkward but critical step in compiling a firm’s list of ‘do not trade’ securities, indirect ownership structures make it difficult to get a clear overview of beneficial ownership. A beneficial owner may be sanctioned while the legal entity is not, but any securities issued by that company would still be affected.
Sanctions compliance is a complex topic that consumes significant internal resources. For a full picture of beneficial ownership, compliance departments need a reliable data service. Transparent data is crucial in tracing beneficial ownership back to the individuals behind entities. Institutions also rely on data to avoid being too cautious about adding securities to a ‘do not trade’ list. That way, they can maximize investment opportunities while minimizing the risk of hefty fines.
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SIX offers a Sanctioned Securities Monitoring Service that helps clients save time and money and avoid reputational damage. Find out more about the service here.