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SEC Outlines 2016 Examination Priorities
On January 11, the SEC’s Office of Compliance Inspections and Examinations issued its Examination Priorities for 2016. The examination priorities, which address issues across a variety of financial institutions, include (i) protecting retail investors, including those planning for retirement, by undertaking examinations to review exchange-traded funds (ETFs) and ETF practices, variable annuity recommendations and disclosure, and potential conflicts and risks involving advisers to public pension funds; (ii) evaluating market-wide risks by, among other thing, continuing to focus on cybersecurity controls at broker-dealers and investment advisers; and (iii) using enhanced data analytics to assess anti-money laundering compliance, detect microcap fraud, and complete reviews of excessive trading. Additional areas of examination priority for 2016 include (i) municipal advisors; (ii) private placements; (iii) investment advisers and investment companies that have not yet been examined; (iv) private fund advisers; and (v) transfer agents.
FINRA Releases 2016 Regulatory and Examination Priorities Letter
On January 5, FINRA released a letter regarding its regulatory and examination priorities for 2016. The letter focuses on the following three broad issues within the securities industry: (i) culture, conflicts of interest and ethics; (ii) supervision, risk management and controls; and (iii) liquidity. Regarding FINRA’s assessment of firm culture, the letter notes that FINRA “will focus on the frameworks that firms use to develop, communicate, and evaluate conformance to their culture,” assessing five specific indicators of a firm’s culture, including (among others) whether policy or control breaches are tolerated. In connection with supervision and risk management, FINRA will focus its examination efforts on the following four areas that continue to affect firms’ business conduct and market integrity: (i) management of conflicts of interest; (ii) technology; (iii) outsourcing; and (iv) anti-money laundering. Finally, in connection with liquidity, FINRA plans to review firms’ contingency funding plans as they relate to their business models, noting that the framework for FINRA’s reviews will be driven by the effective practices contained in Regulatory Notice 15-33. Additional areas of regulatory and examination focus for FINRA in 2016 will include but are not limited to: (i) protecting seniors and vulnerable investors from fraud, sales practice abuse, and financial exploitation; (ii) private placements and Regulation A+ public offerings; (iii) financial and operational controls concerning exchange-traded funds and fixed-income prime brokerage; and (iv) market integrity.
SEC Appoints New Head of Examination Program in Atlanta Regional Office
On September 29, the SEC named William Royer as the Atlanta Regional Office’s Associate Director of the examination program. Since June of this year, Royer has served as the examination program’s Acting Associate Director. In his role, Royer will supervise staff responsible for the examination of broker-dealers, investment advisers, investment companies, transfer agents, along with other SEC registrants. Prior to joining the SEC in 2013 as an Assistant Director within the Office of Compliance and Inspections and Examinations’ Office of the Chief Counsel, Royer worked as a securities attorney in private practice and served as General Counsel for two international investment management firms.
SEC Settles with Broker-Dealer over Market Access Allegations
On November 20, the SEC announced that a California based broker dealer agreed to settle alleged market access violations by paying a $2.44 million penalty. The SEC alleged that the broker-dealer failed to implement adequate risk controls before providing customers with access to the market. In addition to the penalty, two former senior employees agreed to settle allegations, without admitting or denying wrongdoing, against them for their alleged roles in causing the violations for a combined total of more than $85,000. Notably, the two employees were the first individuals the SEC had charged with violations of the market access rule.
Second Circuit Finds That Forum Selection Clauses Supersede FINRA Arbitration Rule
On August 21, the U.S. Court of Appeals for the Second Circuit held that forum selection clauses, requiring “all actions and proceedings” related to the transactions between the parties to be brought in court, supplant FINRA’s arbitration rule that would otherwise apply. Goldman, Sachs & Co. v. Golden Empire Schools Financing Authority, Nos. 13-797-CV, 13-2247-CV, 2014 WL 4099289 (2nd Cir. Aug. 21, 2014). Underwriters and broker-dealers of auction rate securities brought declaratory and injunctive relief actions against issuers, seeking to enjoin FINRA arbitration of their disputes involving the securities. The parties’ broker-dealer agreements contained forum selection clauses requiring “all actions and proceedings arising out” of the transactions to be brought in court. The district courts enjoined the arbitrations based on the forum selection clauses. The Second Circuit affirmed, holding that FINRA Rule 12220, which states that members must arbitrate a dispute if arbitration is requested by the customer, is superseded by the agreements containing a forums selection clause whose language is all-inclusive and mandatory. The Second Circuit’s decision accords with a similar ruling by the Ninth Circuit, but marks a split on the issue from the Fourth Circuit, which found that a nearly identical forum selection clause did not supersede the FINRA rule.
FINRA Charges Firm With AML And Systematic Market Access Violations
On August 18, FINRA announced a complaint against a financial services and investment firm, alleging that the firm was responsible for systematic supervisory and AML violations in connection with providing direct market access and sponsored access to broker-dealers and non-registered market participants. Specifically, FINRA claims that from January 2008 through August 2013, the firm failed to “ensure appropriate risk management controls and supervisory systems and procedures,” thereby allowing its market access customers to “self-monitor and self-report” possibly manipulative trades. Moreover, FINRA asserts that during the relevant time period, the firm was made aware of these potential regulatory and compliance risks though numerous industrywide notices, disciplinary decisions taken against other industry participants, and multiple self-regulatory organization inquiries and examinations. The firm may request a hearing before the FINRA disciplinary committee. If FINRA’s charges stand, the firm could face suspension, censure, and/or monetary penalties.
FINRA Targets Brokers' Routing Of Orders
On July 8, FINRA released a targeted examination letter it sent to 10 firms to assess their compliance with requirements related to order routing and execution quality of customer orders in exchange listed stocks during the period of January 1, 2014 to present. The letters include numerous requests for information, including requests that each firm explain: (i) how it uses reasonable diligence to ascertain the best market for orders that the firm routes for execution to an exchange, or broker-dealer, so that the resultant price is as favorable as possible for its customer under prevailing market conditions; (ii) how the firm’s exchange order-routing decisions are made for customer non-marketable, customer market, and marketable limit orders; and (iii) how the firm reviews the execution quality of such orders. The letters also include requests related to each firm’s use of the “Smart Order Router.”
SEC Action Targets Unregistered Cross-Border Brokerage, Investment Advisory Services
On February 21, the SEC released an administrative order against a foreign financial institution that provided cross-border securities services to thousands of U.S. clients. The SEC asserted that the institution’s employees traveled to the U.S. to solicit clients, provide investment advice, and induce securities transactions despite not being registered to provide brokerage or advisory services. The order states that over a period of at least seven years, the institution served as many as 8,500 U.S. client accounts that contained an average total of $5.6 billion in securities assets. The institution admitted it was aware of federal broker-dealer and investment adviser registration requirements related to the provision of certain cross-border broker-dealer and investment adviser services to U.S. clients. After another foreign institution became subject to a federal investigation for similar activities, the institution began to exit the business, though the SEC order states it took years to do so. The order requires the company to disgorge more than $82 million, pay more than $64 million in prejudgment interest, and pay a $50 million civil penalty. In addition, the institution must retain an independent consultant to, among other things, confirm the institution has completed the termination of the business, and evaluate policies and procedures that could detect and prevent similar activity in the future.
SEC National Examination Program Outlines 2014 Priorities
On January 9, the SEC National Examination Program (NEP) published its examination priorities for 2014. The NEP’s market-wide priorities include (i) fraud detection and prevention; (ii) corporate governance and enterprise risk management; (iii) technology controls; (iv) issues posed by the convergence of broker-dealer and investment adviser businesses and by new rules and regulations; and (v) retirement investments and rollovers. The NEP also identifies priorities for specific program areas, including (i) investment advisers and investment companies; (ii) broker-dealers; (iii) clearing and transfer agents; (iv) market oversight program areas; and (v) clearance and settlement. For example, for the investment advisers and investment companies program area, the NEP plans to focus on certain emerging risks including (i) advisers who have never been previously examined, including new private fund advisers, (ii) wrap fee programs, (iii) quantitative trading models, and (iv) payments by advisers and funds to entities that distribute mutual funds.
FINRA Announces 2014 Examination Priorities
On January 2, FINRA outlined certain specific areas of concern the independent regulator intends to focus on in 2014. The topics are largely consistent with FINRA’s 2013 priorities and are grouped in several categories: (i) business conduct; (ii) fraud; (iii) financial and operational; and (iv) market regulation. Under business conduct, for example, FINRA explains that it remains concerned about the suitability of recommendations to retail investors for complex products whose risk-return profiles may be difficult for investors to understand. FINRA lists numerous specific products it intends to scrutinize with regard to suitability. FINRA also intends to focus on, among other things, conflicts of interest, cybersecurity, anti-money laundering, and senior investors.