FINRA and the SEC recently released their respective annual examination priorities, identifying topics that will receive additional regulatory scrutiny. Both the SEC's and FINRA's priorities focus on retirement investments and rollovers, branch supervision, excessive trading, recidivist brokers, cybersecurity, and best execution and order routing duties, indicating that these issues may receive the most scrutiny from both regulators in the coming year. Firms should take heed of the regulators' message and themes by assessing their compliance and supervisory systems in light of these priorities.
FINRA's 2015 Regulatory and Exam Priorities Letter is lengthier this year, with a repeat focus on certain issues while adding new products and issues to its list. FINRA included an introductory emphasis on five themes: (1) acting in a way that puts clients' interest first; (2) having an ethical firm culture; (3) implementing strong supervisory and risk management procedures; (4) practicing sound due diligence and sales practices; and (5) managing conflicts of interest. It is against this backdrop that FINRA’s specific priorities should be considered.
FINRA divided its priorities into the categories of sales practices (particularly relating to complex or new products, senior investors, rollovers and "wealth events," new supervision rules, exception reporting, recidivist brokers, municipal advisor registration, and anti-money laundering), financial and operational (particularly pricing and valuation of certain investments, supervision of certain short positions, cybersecurity, outsourcing, and U4/U5 reporting), and market integrity (reminding firms that they serve as the "first line of defense" and focusing on the use of technology as it relates to matters such as order routing, market manipulation, and the use of algorithms). Of those, it is noteworthy that FINRA will continue to focus its efforts on several priorities it has identified over the past couple of years, for example, suitability related to complex products, retirement assets and rollovers, senior investors, cybersecurity, algorithmic trading, and recidivist brokers. Finally, FINRA highlighted what it sees as a growing problem: members failing to timely respond to inquiries requesting information in connection with examinations and investigations. Thus, it is likely that examiners will be more aware of any perceived inadequate or late responses. The best approach when presented with regulatory requests is to establish an open and candid line of communication with the examiners, which may increase the likelihood that they will accommodate requests for extensions of deadlines and/or narrowing of requests to a more manageable and relevant set of documents or information.
The SEC's Office of Compliance Inspections and Examinations ("OCIE") examination priorities for investment advisers, broker-dealers and transfer agents is more concise this year, and similarly included a thematic emphasis focusing on protection of retail investors and those saving for retirement, market-wide risk issues, and the use of data analytics to identify potentially illegal activity. OCIE's investor protection priorities are consistent with FINRA's, with a focus on risks to investors associated with new higher yielding products and retirement investments. Additionally, SEC examinations will focus on the appropriateness and disclosures of advisory fee arrangements (with an eye to identifying "reverse churning"), suitability of retirement investment recommendations, and sales practices used in recommending rollovers or movement of retirement assets. OCIE also will evaluate firms' supervision of branch offices and how firms are using data analytics to identify compliance problems. Within its market-wide risks theme, OCIE is focused on cybersecurity compliance, monitoring of large firms to identify developing industry trends and examinations of clearing agencies. As with FINRA, equity order routing also will be a focus, with the intent of identifying conflicts with best execution duties. Finally, OCIE has enhanced its own data analytics to identify potential fraudulent or illegal activity, with a focus on some of the same issues FINRA has prioritized, i.e., recidivist brokers, market manipulation, excessive trading, and anti-money laundering programs. In comparing the priorities to prior years, complex or structured product sales practices to retail investors, retirement assets and rollovers, advisory fee arrangements and cybersecurity are some of the recurring issues on which OCIE remains focused.
While FINRA and the SEC have provided separate lists of priorities for 2015, the overriding message of both lists is that firms should put their clients' interests first (perhaps reflecting efforts to move toward a fiduciary standard) and prioritize developing and maintaining effective supervisory and risk management systems, particularly through the use of data analytics and risk-based approaches. These releases remind firms to assess whether their policies and procedures are reasonably designed to achieve compliance with the prioritized issues, and if not, to implement or revise policies and procedures and develop systems to address shortcomings. By addressing the 2015 priorities before an examination is conducted (and, if necessary, taking proactive corrective action), firms will be better prepared for examinations and may be better able to avoid the possibility of sanctions.