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It is too soon to call the bottom of the current cycle, and financial market conditions are set to remain strained for some time, the Financial Services Authority warned an industry conference on Tuesday.
"I think we can expect uncertain and turbulent market conditions to continue for the foreseeable future," said Callum McCarthy, chairman of the FSA.
The FSA has for some time been warning of growing risks and said earlier this year that banks were navigating their choppiest waters since the early 1990s.
The banking sector was rocked last September by the near-collapse of lender Northern Rock, which the government has since been forced to nationalise, and insurers have also been left badly bruised by turbulent markets.
"2007 was undoubtedly a difficult year for firms, investors and regulators alike. In 2008 the operating environment remains tight, and it is likely that stressed financial conditions will persist for some time," FSA Chief Executive Hector Sants told executives at the regulator's annual insurance conference.
Sally Dewar, the FSA's head of wholesale and institutional markets, said it was simply too soon to say whether the recent spate of bank writedowns signalled that an end was in sight.
"Only time will tell if we have reached the bottom of the cycle," she said. "No one can guess what is going to happen."
The FSA warned continued turbulent conditions meant firms should do more to test their business models with "severe but plausible" scenarios and consider what it called the "ripple effect" of problems arising in apparently unrelated markets.
The FSA has tightened its supervisory efforts, and McCarthy said it would be keeping a close eye on liquidity, even for insurers, as once liquid assets like property turn illiquid.
McCarthy said the FSA would also be tightening its focus on methods used by firms to value these illiquid assets.
"Doubts about those lie at the very heart of many of the problems we are encountering at the moment in financial markets, and you must expect us to address them very seriously," he said.
The FSA is going through its most testing period since it was created almost a decade ago, coming under fire for its role in the crisis at Northern Rock. But Sants confirmed on Tuesday that market turbulence had reinforced the regulator's principles-based and risk-based approach to regulation.
"The key failure of the Northern Rock management was to fail to focus on the consequences of their actions and to fail to understand and mitigate the risks of their business model," he told industry executives.
The FSA published its internal review of its handling of the Northern Rock crisis last month, criticising its work as inadequate, in part due to staff shortages, high turnover and a lack of continuity in departmental heads.
Sants said the watchdog's overall turnover level was close to the industry average of 15 percent, though some key areas, including some banking groups, was higher.
Bringing that into line with the industry, Sants said, was a "reasonable" goal for the regulator.
"I would say that is a goal we can certainly achieve and already achieve in many parts of the FSA. It is something we have high confidence in establishing in the next year or two."
Reporting by Clara Ferreira-Marques