Archive for January, 2015

SEC’s OCIE Publishes 2015 Exam Priorities

Tuesday, January 13th, 2015

Each year, the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) publishes a list of examination priorities for the coming year.  It’s imperative for investment advisers to be familiar with these priorities for a number of reasons.  First, and foremost, the list often contains new risks that advisers should  be aware of to protect clients and the firm.  Advisers should also be prepared to show compliance with each priority since it is certain that it will be tested during any examination.  Finally, the Staff of the SEC has often been more aggressive in enforcing areas that have specifically been listed as a priority.

This years letter is a bit more concise than in the past.  The letter is less than five pages, whereas the 2014 letter was eleven pages (although that letter included SRO priorities which have been removed).  Nothing in this letter should be new to advisers.  The letter addresses a four areas of concern and then drills down into specific concerns of each:

  • Protecting Retail Investors and Investors Saving for Retirement;
  • Assessing Market-Wide Risks;
  • Using Data Analytics to Identify Signals of Potential Illegal Activity; and
  • Other initiatives.

The following are the areas that are important to independent investment advisers and additional guidance on what advisers should consider, if applicable.

  • Fee selection and reverse churning.  “Where an adviser offers a variety of fee arrangements, we will focus on recommendations of account types and whether they are in the best interest of the client at the inception of the arrangement and thereafter, including fees charged, services provided, and disclosures made about such relationships.”
    • This is a follow-up on the emphasis the SEC has been placing on wrap brochures, but it is expanded to include any type of fee relationship.  Advisers need to ensure that the fee relationship is in each client’s best interest.  If, for example, the adviser has a wrap and non-wrap option, clients that have limited need for transactions may be best served in a non-wrap relationship.  A determination should be done initially and ongoing.
  • Sales practices.  The SEC will assess “whether registrants are using improper or misleading practices when recommending the movement of retirement assets from employer-sponsored defined contribution plans into other investments and accounts, especially when they pose greater risks and/or charge higher fees.”
    • This initiatives was included in the 2014 OCIE letter, but appear to make it more clear that the SEC’s focus on retirement accounts is primarily on those that are recommending (or selling) rollovers regardless of a client’s best interest.
  • Branch offices.  The SEC will focus on supervision of adviser representatives in branch offices.  This will include the use of analytics to identify branches that are deviating from the home office.
    • Advisers often have “branch offices” that are run somewhat autonomously.  The existence of additional offices is a risk that advisers need to consider.  Supervision, training and resources should be available to ensure that the culture of compliance is as strong at branches as the home office.
  • Cybersecurity.  The SEC will continue its cybersecurity initiative.
    • While not on the 2014 OCIE list, everyone is familiar with the SEC cybersecurity initiative.  As we’ve discussed before, this should be important to advisers for business and liability issues, not just regulatory concerns.
  • Recidivist representatives.  The SEC will continue to identify individuals with misconduct trackrecords and the firms that employ them.
  • Proxy services.  The SEC will examine select proxy advisory service firms that advisers may be hiring to vote proxies.  In addition, the SEC will examine investment advisers’ compliance with their fiduciary duty in voting proxies on behalf of investors.
    • This follows up on a question and answer release by the SEC in July, 2014 which put advisers on notice that firms must do initial and ongoing due diligence on third-party proxy firms.  See our summary here.

As mentioned above, none of these should be new topics to advisers.  Each, however, should receive specific attention to ensure compliance.  In addition, because this letter is less inclusive than in the past, advisers need to keep aware of other examination trends that develop or continue.

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Monday, January 12th, 2015

SEC to Conduct More Presence Exams

Thursday, January 8th, 2015

A few years ago, the SEC began doing what they call “Presence Exams” of newly registered investment advisers to hedge funds.  It was a way for the agency to show a presence in an area that had traditionally been unregulated.  Presence Exams were limited in scope and typically focused on specific areas of risk in the hedge fund industry (such as custody and valuation).

In last year’s annual priority list published by the Office of Compliance, Inspections and Examinations (“OCIE”), the SEC announced an initiative to examine investment advisers registered more than three years that had never been examined (characterized as “Never Been Examined” advisers).  At the time, the SEC announced that the scope of the examination would be up to each SEC branch office.

ThinkAdvisor reported on a speech by Andrew Bowden, Chief of the National Examination Program.  In the speech, Bowden said that the SEC will expand the use of Presence Exams to Never Been Examined advisers.  Mr. Bowden also said he expects this year’s OCIE priority list to published some time next week.  Limited scope examinations, such as Presence Exams, would appear to be a good use of resources by the SEC.  It allows them to get boots on the ground at advisers to determine if a more robust examination is needed and stop any frauds sooner than they may otherwise be detected.

Finra Publishes Priority Letter with Fiduciary Duty?

Wednesday, January 7th, 2015

FINRA published its tenth Regulatory and Examinations Priorities Letter.  It contains some standard and repetitive areas that are nonetheless important to broker-dealers.  There are 17 pages that discuss priorities, including areas familiar to advisers like cybsecurity and IRA rollovers, to product specific areas such as valuing non-high-quality liquid assets and private placements.

The most interesting part of the letter to advisers not subject to FINRA oversight is a series of five areas that FINRA believes contribute to firms and representatives compromising the quality of service provided to customers, as well as compliance and supervisory breakdowns.  The first area mentioned is “putting customer interests first.” Sound like a fiduciary duty?  The letter further explains that “[a] central failing FINRA has observed is firms not putting customers’ interests first…. Irrespective of whether a firm must meet a suitability or fiduciary standard, FINRA believes that firms best serve their customers—and reduce their regulatory risk—by putting customers’ interests first. This requires the firm to align its interests with those of its customers.”

The other four areas mentioned are:  i) firm culture, ii) supervision, risk management and controls, iii) product and service offerings, and iv) conflicts of interest (the section discussed recognizing and mitigating conflicts but did not mention disclosing).

While the SEC seems reticent to extend a fiduciary duty on brokers, partially because Congress seems intent on stopping them, FINRA appears to be moving the industry towards such a duty of care.  It’s hard to imagine that the duty would be the same as the one imposed on advisers through the Advisers Act, but a voluntary fiduciary adoption could appease regulators and those pushing for an Adviser’s Act fiduciary duty on brokers.

IRA Rollover Rules Effective Jan 1

Monday, January 5th, 2015

An article in InvestmentNews reminded advisers that as of January 1, 2015, IRA owners can only do one 60-day rollover of an IRA account per year.  The one rollover allowance is per individual, not account.  Therefore, a person with multiple IRAs can only move one account through a 60-day rollover.  The rule is based on a rolling 12 months, not a calendar year.

According to the article direct transfers, rollovers from retirement plans (such as a 401(k) to IRA or IRA back to a 401(k)), and Roth conversions, are not subject to the restrictions.  When coupling these changes with the SEC’s emphasis on adviser recommendations of retirement rollovers, advisers providing advice on clients’ retirement assets should be aware of these rules.