NSCP Annual Meeting – Investment Advisor Session

Regulatory Compliance sponsored and attended the National Society of Compliance Professionals (NSCP) annual meeting October 4 - 7 in Philadelphia. The meeting was well attended and, as always, had a series of experienced and knowledgeable panelists ranging from SEC and FINRA regulators to attorneys and industry consultants. Below are brief summaries of two of the sessions I attended.

Financial Crisis Brings OCIE Changes
John H. Walsh, Chief Counsel, Office of Compliance Inspections and Examinations (OCIE) U.S. Securities and Exchange Commission discussed areas of change that will be coming as a result of the recent financial crisis:

• OCIE will soon be sending examiners to perform “sweep reviews” of firms. Examiners will have particular expertise in the products and services offered by firms.
• OCIE has created a Senior Specialist Examiner position and will be looking for individuals who have specialized training with particular products so that when firms are examined, these individuals will be called upon to assist in the examination and offer insight into these particular products.
• OCIE has been enhancing training for its auditors. Currently, about half of the audit staff is participating in certified fraud examiner training.
• OCIE will reach out to third parties to confirm client assets. They will also reach out to the clients for that same purpose.
• OCIE has created an internal hotline for its examiners to use should they feel intimidated by individuals in firms they are auditing.
• OCIE encouraged registrants to speak with the superiors of examiners if they feel there is any issue or miscommunication during the audit process.

As registrants are required to review and keep their firm’s policies and procedures up to date, OCIE has also adopted this policy as its own and will do its own forensics tests on its internal policies and procedures. OCIE will create a new position dedicated to these ongoing internal reviews.

New Issues for SEC Examinations
Another session was dedicated to new issues for SEC examinations that firms need to be aware of so they may prepare for what examiners will be looking for during an audit. Current issues for the Office of Inspections and Examinations (“OCIE”) include:

Fraud and Harm to Investors, Including Valuation Issues and Custody Arrangements.  The concern here is with asset safety for clients. Regulators will be looking to be sure that client assets exist. They will check this by contacting a firm’s clients by letter and reaching out to a firm’s custodian for confirmation. Although they tell us client responses are voluntary, they will keep track of these responses to be certain there isn’t a pattern with clients of certain advisors not responding to these requests. 

Marketing and Performance Claims.  Regulators will look to the Internet to see if a firm is advertising and, if so, will confirm through the firm’s policies and procedures that the appropriate sign-off was received, be certain the Chief Compliance Officer was aware of the advertising piece, and determine if the risk disclosures were adequate.

Suitability and Due Diligence: Understanding Products and Recommendations.  Regulators will look to see how a firm concluded that a particular product is appropriate for a client’s portfolio. They will look for potential conflicts of interest between client holdings and the registrant; as well as documentation in client files for their individual investment objectives and requirements, to be certain the investments are appropriate for the client.

Financial Solvency: Risks to Clients Caused by Declining Assets under Management.  This issue is equally as important as custody! Regulators will look at a firm’s cash receipts and disbursements to check on the overall health of the firm. Particularly in this economic environment, this will be monitored closely by the regulators.

Market Manipulation and Insider Trading. Regulators will be looking at how firms generate returns. They may pull the top 10 profitable trades and look to see what has contributed to this profitability. Advisors or their portfolio managers need to keep their research files to back up the returns.

Disclosure Weakness: Conflicts of Interest and Exaggerated Claims. Advisors need to be careful that disclosures to all of their clients are consistent, and that brokerage allocations are being disclosed to clients if portfolio managers are investing in some of the same holdings as clients.

Quality of Compliance and Risk Management Program. Regulators will look to see if a firm’s compliance and risk management program is customized to how the firm operates.  They will want to see documentation that a critical analysis has been performed by the firm to ensure that any risks have been mitigated.

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