Archive for January, 2014

SEC Issues Risk Alert on Advisers Using Alternative Investments

Thursday, January 30th, 2014

The SEC Office of Compliance Inspections and Examinations issued a Risk Alert on the due diligence processes that investment advisers use when they recommend or place client assets in alternative investments such as hedge funds, private equity funds and funds of funds.

According to OCIE Director Drew Bowden, the SEC issued the Risk Alert because “money continues to flow into alternative investments.  We thought it was important to assess advisers’ due diligence process and to promote compliance with existing legal requirements, including the duty to ensure that such investments or recommendations are consistent with client objectives.”

On the plus side, the alert describes the SEC’s observations regarding advisers’ due diligence trends.  They found that advisers are: i) seeking more information and data directly from alternative fund managers; ii) using third parties to supplement and validate information about the funds; and iii) performing more quantitative analysis and risk assessment of the investments.

The Risk Alert also points out some areas that the SEC feels advisers should be doing better, including: i) not reviewing their due diligence of alternatives, despite alternatives making up a large portion of assets managed; ii) providing misleading information about the depth of their due diligence; and iii) inconsistent due diligence disclosures.

The SEC publishes Risk Alerts where they believe there is an area that needs adviser focus.  The comments in the Risk Alert are not rules or regulations, but they are a good sign of where the SEC will focus their attention during examinations.

States Focusing on Activities of Banned Reps

Wednesday, January 29th, 2014

The Wall Street Journal published an article about how certain banned securities representatives are continuing to sell securities (typically promissory notes). According to the article, many of these banned representatives are able to convince investors to make the purchase because they are still properly licensed insurance representatives.  The article has quotes from many state securities regulators that conclude that investors don’t know the difference between securities and insurance licensing. It’s hard to argue against that conclusion.

The real takeaway from the article, however, is that states are starting to add automatic reciprocity of insurance and securities bans.  While this seems like a commendable idea to stop bad-guys from shopping regulators to find one that will give them a license, representatives must be aware of these changes.  Often times a representative will voluntarily agree to give up a license he or she doesn’t intend to use in order to get a better deal on an issue that may not have resulted in such a ban.  Representatives should be aware, however, that such a decision may result in losing a primary license going forward.

Firm Settles with SEC Over Claims it Hid Trade Errors and Improper Cross Trading

Wednesday, January 29th, 2014

Western Asset Management Co. (“WAM”) has settled with SEC regarding two issues that primarily took place during the financial crisis.

ERISA “Coding Error”

The first issue took place when WAM mis-coded an investment resulting in purchasing the security for ERISA clients that were not supposed to purchase it.  The private investment in question had plummeted in value by the time WAM noticed the issue.

WAM’s policies and procedures state that it will correct any “errors” and make the client whole.  After discovering the mis-coding, WAM did an internal investigation and determined that the purchase should not be deemed an “error.”  The firm did, however, acknowledge that it may concern ERISA clients because the security was not supposed to be held by ERISA accounts by requirement of the issuer.  When WAM looked into liquidating the positions, the security had no real liquidity.  WAM was able to liquidate the positions (at a loss) during the TARP program’s roll-out, but still didn’t notify clients of the ERISA issue.

The SEC claimed this was a breach of WAM’s fiduciary duty and its policies and procedures.  WAM agreed to settle with the SEC by making the ERISA clients whole (approximately ($10 million), engaging an independent consultant to help them redraft policies and procedures, and paying a $1 million penalty.

Cross Trade Violation

The other issue took place during the liquidity crisis for mortgage-backed securities.  Certain clients of WAM needed to sell their positions regardless of any market for them.  WAM found other clients with higher risk tolerances that were willing to take on the risk that the securities’ valuations did not represent the true long-term values.  The SEC took issue with the fact that WAM had another broker cross the securities at the bid price rather than an average between the bid and ask, therefore improperly allocating the full benefit of the cross savings to buying clients.

WAM agreed to settle this issue by making harmed clients whole ($7.4 million), engaging an independent consultant to address the violations, and paying a $1 million penalty in the SEC settlement and $607,000 in a Labor Department settlement.

Unfortunately, as is the case with settlements, we do not get to see whether the SEC’s claims would have been accepted by a court.  In particular, it would have been interesting to see whether WAM’s decision that the ERISA mis-coding was not an error was really a violation.  The SEC did not like WAM’s narrow interpretation, but it did appear that WAM had an argument that the purchases were not a true error.

@PLANADVISER Features MarketCounsel-Designed Succession and Business Continuity Program

Monday, January 27th, 2014

On January 24, PLANADVISER featured Global Financial Private Capital’s (@GFPC_SRQ) newly launched succession and business continuity programs for advisers, developed in conjunction with @AdvisorGrowth and designed by MarketCounsel.  Both programs include custom services for the sale and transition of advisers’ businesses:

“The programs, developed with Adviser Growth Strategies and MarketCounsel, help advisers receive fair market value for their business,” Frazier states. “Advisers can feel secure that their clients will continue to receive continuity of service, and making informed decisions will help protect the adviser’s clients, employees and families.”

Click here to read more.

@GFPC_SRQ Launches MarketCounsel-Designed Succession and Business Continuity Program

Friday, January 24th, 2014

Global Financial Private Capital announced today a new succession and business continuity program for its partner advisors, developed in conjunction with @AdvisorGrowth and designed by MarketCounsel, of course:

The program offers two unique programs from which advisors can choose the appropriate business continuity plan to protect the value of their advisory business. The first (“Advisor to Advisor Continuity”) helps advisors locate either an internal or external successor from the Global Financial network, with whom they subsequently create a continuity agreement through turnkey support provided by Global Financial’s partner firms. The second, called “Legacy Lock,” is an exclusive, new-to-market program within the financial services industry that offers advisors a compelling backstop program to protect their business, instead of having to find a successor and create an agreement themselves.

Click here to learn more.

Brian Hamburger Has a Tip for First-Time SEC Examinees @wealth_mgmt

Tuesday, January 21st, 2014

With the SEC’s new focus on “never-before examined advisers” in 2014, many are worried that they aren’t prepared what could be an unwanted surprise at their door. Brian Hamburger offers his advice on what compliance officers should be doing to gear up for an exam, such as updating their compliance manual:

Many investment advisers, especially one or two person shops, buy pre-packaged compliance manuals that outline polices for everything from disclosures to archiving e-mails. But these manuals typically do not align with a firm’s specific business model, says Brian Hamburger, president and chief executive of MarketCounsel, a compliance consultancy in Englewood, New Jersey.

For example, a firm that pursues a new type of business, such as advising an employer-sponsored retirement plan, should update the manual to include policies for complying with regulations in that practice area, Hamburger says.

Click here to read more.

Serious Consequences for Reps That Misrepresent Expenses

Tuesday, January 21st, 2014

InvestmentNews published an article that seems to imply that advisors at broker-dealers are getting in trouble for submitting certain small expenses to their firm that should have been personal expenses.  The examples given in the article, and an accompanying list of “8 expense account blunders – from the wacky to the mundane,” however, seem to be clear examples of theft.

The article mentions a Fidelity Investments advisor that is facing FINRA discipline for mislabeling general office supplies that included a “meat snack stick” and batteries worth $10.  When looking deeper, however, that advisor also tried to separately expense a digital video camera as paper supplies.  Another advisor is claiming that FINRA is being too tough in barring her from the industry for expensing two ipods at $740 that she bought for her niece and nephew as firm expenses.

The article is a good reminder to all employees and registered personnel that lying about expenses can be serious.  As we’ve discussed in the past, when a registered person is terminated for this type of activity, a line will often form made up of regulators, clients and designation boards ready to take the next action.  That being said, the infractions discussed in the article seem to be obvious lies and the repercussions should not surprise any advisor.

SEC to Streamline Exams for Some Advisers

Friday, January 17th, 2014

The SEC recently announced that it was making it a priority for 2014 to examine advisers that have been registered for at least three years but haven’t been examined.  The SEC was trying to add 250 examiners to conduct investment adviser examinations, but the recent budget approved by Congress may not allow for the hiring spree.

According to an article in InvestmentNews, the SEC is going to streamline its examination process for these unexamined advisers.  The exams will be like the presence exams done for newly registered hedge fund managers.  Examiners will concentrate on high risk areas like marketing, portfolio management, conflicts of interest, custody and valuation.  In a statement, the SEC said that the funding level for 2014 will “limit our ability to bolster our enforcement and examinations program.”  Jane Jarcho, the SEC’s national associate for investment adviser and investment company examinations told InvestmentNews that the streamlined examinations are “an attempt to reach out to more registrants even though we know our focus isn’t as comprehensive as it would be if we had more resources.”

Unfortunately, certain industry participants seem to feel that this budget shortfall is a reason to push for the user fee solution proposed by Representative Maxine Waters.  These streamlined exams may be more than adequate for periodic investment adviser reviews, while more robust examinations can be saved for riskier firms or those that haven’t had a full examination for a longer period of time.  Why aren’t the broker-dealer industry, investment company industry or others volunteering to help the SEC by paying for their examinations?

Exemptions to SEC “Cooling Off” Period Withdrawn

Wednesday, January 15th, 2014

Former SEC staff face a myriad of ethical requirements regarding whom they can work for and what they can do.  One traditional limitation has been a cooling off period that barred former high-level officials from communicating with SEC staff with the intent to influence them on behalf of any person for one year.

In 1991 and 2003, the SEC received permission to exempt some staff from the requirement.  The SEC’s claim was that it was hard to recruit for these positions with the cooling off period in place. The 1991 exemption covered senior litigation staff, including positions as high as Chief Litigation Counsel of the Division of Enforcement.  In 2003, the SEC received permission to exempt some staff that had received pay increases that made them eligible for the cooling off period.  The SEC claimed these attorneys, accountants, and analysts were just “quintessential middle management … that could not influence Commission policy…once they leave.”

Over the years, however, the SEC has been under pressure about these exemptions.  In February 2013 the Project on Government Oversight wrote a critical report about the influence these ex-staffers could have on policy.  Because of that pressure, or just coincidentally, she SEC said its recruiting difficulty had subsided and it no longer needed the exemptions.  On January 2, 2014, the Office of Government Ethics issued a final rule withdrawing the exemptions, which go back in to effect on April 2, 2014.

New Bill Would Force SEC to Release More Settlement Information

Wednesday, January 15th, 2014

Elizabeth Warren (D-MA) and Tom Coburn (R-OK) are sponsoring a bill that would require federal enforcement agencies, including the SEC, provide more information about settlements that they enter in to.  Warren claims that in many cases federal agencies brag about the dollar amount of a settlement.  The agencies, however, often neglect to disclose deductions and credits built in to the settlement, which have the effect of significantly lowering the dollar amount of the settlement.

According to the Lowell Sun, where Rep. Warren sits, the introduced bill would require all written public statements that reference the dollar amounts of settlements to explain how those settlements are categorized for tax purposes and whether payments can be offset by credits.  The bill would also require the agency to explain why confidentiality is justified.

According to the article, Warren pointed specifically to the 2013 settlement with 13 mortgage servicers accused of illegal foreclosure practices.  Warren said that regulators claimed the settlement totaled $8.5 billion, but $5.2 billion was in the form of credits for agreeing to modify or forgive loans.