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FINRA/SEC Regulatory Hot Topics. SOUTHERN CALIFORNIA COMPLIANCE GROUP NOVEMBER 11,2014. Today’s Agenda. FINRA Regulatory Hot Topics and Examination Priorities SEC Hot Topics and Examination Priorities Looking Ahead to 2015 Questions.
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FINRA/SEC Regulatory Hot Topics SOUTHERN CALIFORNIA COMPLIANCE GROUP NOVEMBER 11,2014
Today’s Agenda • FINRA Regulatory Hot Topics and Examination Priorities • SEC Hot Topics and Examination Priorities • Looking Ahead to 2015 • Questions
FINRARegulatory Hot TopicsAs per the 2014FINRA Annual Regulatory and Examination Priorities Letter
Some Potential 2015 Focus Areas District Focus in 2014 • Selling Away • Outside Business Activity • Accuracy of U4s • New Supervision Rule • Comprehensive Automated Risk Data System (CARDS). • Retrospective Rule Reviews
FINRA Regulatory Hot TopicsSuitability • FINRA remains concerned about the suitability of recommendations to retail investors for complex products whose risk-return profiles, including their sensitivity to interest rate changes, underlying product or index volatility, fee structures or complexity may be challenging for investors to understand. These concerns are magnified when there is a strong incentive for the firm or registered representative to recommend the product because of its fee or compensation structure. Firms are urged to review Regulatory Notice 13-31 for practices that may enhance the effectiveness of their suitability determinations.
FINRA Regulatory Hot TopicsSuitability • Products FINRA remains concerned about: • Complex Structured Products • Private Real Estate Investment Trusts (REITs) • Frontier Funds • Interest Rate Sensitive Securities Mortgage-Backed Securities Long Duration Bond Funds Long Duration Bond ETFs Long Duration Corporates Emerging Market Debt Municipal Securities Baby Bonds
FINRA Regulatory Hot TopicsConflicts of Interest • In October, FINRA published its Report on Conflicts of Interest. The report highlights effective conflicts management practices and not necessarily regulatory requirements. In this regard, FINRA examiners will evaluate firms’ conflicts management practices to help further inform our view on industry practices by focusing primarily on actions taken by firms and the impact on their clients. Examiners will explore topics addressed in the report including firms’ approaches to identifying and managing conflicts as well as the participation of senior management in this process.
FINRA Regulatory Hot TopicsCybersecurity • Cybersecurity remains a priority for FINRA in 2014 given the ongoing cybersecurity issues reported across the financial services industry. In recent years, many of the nation’s largest financial institutions were targeted for disruptions through a range of different types of attacks. The frequency and sophistication of these attacks appears to be increasing. In light of this ongoing threat, FINRA continues to be concerned about the integrity of firms’ infrastructure and the safety and security of sensitive customer data. Our primary focus is the integrity of firms’ policies, procedures and controls to protect sensitive customer data. FINRA’s evaluation of such controls may take the form of examinations and targeted investigations.
FINRA Regulatory Hot TopicsDue Diligence • FINRA will examine firms’ private placement activity to ascertain whether firms are taking reasonable steps to validate that investors meet accredited investor standards. Also, the recent Regulation D amendments do not diminish a firm’s responsibility to conduct adequate due diligence on its offerings to ensure any recommendations to purchase securities in a private placement are suitable.
FINRA Regulatory Hot TopicsAnti-Money Laundering • In 2014, FINRA will focus on AML issues associated with institutional business. An emerging trend is utilization of executing broker-dealers by certain DVP/RVP (Delivery versus Payment/Receipt versus Payment) customers to liquidate large volumes of low-priced securities. Due to the nature of DVP/RVP customer relationship with the executing broker, the source of the low-priced securities is often masked unless the executing broker makes reasonable inquiry. Depending on the volume of shares and specific securities liquidated as well as the customer engaging in the activity, this business can raise red flags for AML.
FINRA Regulatory Hot TopicsBest Execution • FINRA introduced new surveillance patterns to monitor best execution in equities and fixed income securities. For equities, FINRA introduced a surveillance scenario that more closely evaluates the execution prices market participants obtain for customers on exchange markets. FINRA will focus 2014 Regulatory and Examination Priorities Letter more closely on firms’ practices to ensure compliance with their best execution obligations with respect to limit orders in equity securities. We are also introducing a new fixed income surveillance pattern to more closely assess the execution price a customer receives from a firm relative to other recently executed customer transactions on the same side of the market by the firm. With respect to options, we will review situations where a firm potentially ignores a favorable price on one options market and executes a trade on another market to the detriment of their customer. FINRA also reiterates that firms have a duty to conduct a regular and rigorous review of execution quality to assure that order flow is directed to markets providing the most beneficial terms for customers.
FINRA Regulatory Hot TopicsSelling Away and Outside Business Activity • FINRA’s Southern California office has typically included these topics within their examinations as priority. Emphasis by the staff has included written documentation regarding notification and approval prior to engaging in any form of outside business activity. Staff also has focused on supervisors reviewing such activity to ensure it is not a private securities transaction and could therefore be viewed as selling away. Staff has also looked to ensure any sort of private securities transaction is recorded in the firm’s books and records and that the activity is supervised.
SEC Regulatory Hot TopicsAs per SEC National Examination Program Priorities for 2014 Letter • Fraud Detection and Prevention • Corporate Governance, Conflicts of Interest, and Enterprise Risk Management • Technology • Dual Registrant • New Laws and Regulation • Retirement Vehicles and Rollovers
SEC Regulatory Hot TopicsFraud Detection and Prevention • Our Nation’s capital markets are built on trust. Scams, theft, unfair advantage, and other fraudulent conduct erode that trust and adversely affect investors and the efficient functioning of our markets. As part of its risk-based approach to targeting registrants and business practices, the NEP will continue to utilize and to enhance its quantitative and qualitative tools and techniques to seek to identify market participants engaged in fraudulent or unethical behavior.
SEC Regulatory Hot Topics Corporate Governance, Conflicts of Interest, and Enterprise Risk Management • The NEP will continue to meet with senior management and boards of entities registered with the SEC, including their affiliates where appropriate, to discuss how each firm identifies and mitigates conflicts of interest and legal, compliance, financial, and operational risks. This initiative is designed to: (i) evaluate firms’ control environment and “tone at the top,” (ii) understand firms’ approach to conflict and risk management, and (iii) initiate a dialogue on key risks and regulatory requirements.
SEC Regulatory Hot TopicsTechnology • The capital markets are experiencing a decades-long revolution in technology, and the increasing complexity, interconnectedness, and speed fostered by technology continues to challenge market participants and regulators. The NEP will continue to examine governance and supervision of information technology systems, operational capability, market access, information security, and preparedness to respond to sudden malfunctions and system outages.
SEC Regulatory Hot TopicsDual Registrants • The convergence among broker-dealer and investment adviser representative activity continues to be a significant risk. For example, representatives of dual registrants, i.e., registrants that are both broker-dealers and investment advisers, and affiliated advisers and broker-dealers may influence whether a customer establishes a brokerage or investment advisory account. This influence may create a risk that customers are placed in an inappropriate account type that increases revenue to the firm and may not provide a corresponding benefit to the customer. The NEP will continue to examine the significant risks to investors of migration and other conflicts this business model presents. The NEP will also continue to examine the impact to investors of the different supervisory structures and legal standards of conduct that govern the provision of brokerage and investment advisory services.
SEC Regulatory Hot TopicsNew Laws and Regulation • The staff will review general solicitation practices and verification of accredited investor status under newly adopted Rule 506(c) under the Securities Act of 1933 to the extent conducted by a regulated entity; generally will review, monitor, and analyze the use of Rule 506(c); and will evaluate due diligence conducted by broker-dealers and investment advisers for such offerings. As regulatory requirements for crowdfunding offerings and entities become effective, the NEP also expects to examine industry developments and compliance with such new rules.
