Insights from Winston & Strawn

On June 5th, the SEC charged a Utah-based brokerage firm with thousands of violations of Section 17(a) of the Securities Exchange Act of 1934 and Rule 17a-8 thereto. The Bank Secrecy Act (Currency and Financial Transactions Reporting Act of 1970, 31 U.S.C. §§ 5311-5330, as amended by the USA PATRIOT Act (Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, Pub. L. No. 107-56, 115 Stat. 296 (2001)), commonly referred to as the “BSA”) requires broker-dealers to file Suspicious Activity Reports (“SARs”) with the U.S. Treasury Department’s Financial Crimes Enforcement Network (“FinCEN”) for certain transaction activities that are flagged as suspicious. Each SAR must be filed within a specified period of time and contain a detailed narrative of what was suspicious, unusual or irregular about the transaction(s).

The SEC alleges Alpine Securities Corporation (“Alpine”), who act as a clearing firm for microcap over-the-counter stock transactions, cleared thousands of microcap securities deposits which were used as a part of stock manipulation and other schemes. The SEC acknowledges that Alpine had the necessary policies and procedures in place; however, it did not implement those policies and procedures in practice. As a result, the SEC alleges that Alpine routinely failed to identify and report suspicious activity and, when reports were filed, they often omitted the material information. This allowed illegal activity to take place for an extended period of time and evade the scrutiny of the U.S. regulators and law enforcement. The SEC argues that Alpine’s internal system did adequately flag certain activities as suspicious, yet the details of such activities were omitted in the SARs which the SEC alleges was an attempt to deceive regulators and law enforcement. 

Alpine was cited by FINRA and the SEC for the shortcomings in its SARs filings; however, it took no steps to meaningfully improve its process. Firms must ensure that all of their policies and procedures are compliant with current regulations, rules and guidance, and take all necessary actions to ensure such policies and procedures dictate the practices employed by all firm personnel.

Feature: Legislators Target Digital Currencies in Fight Against Money Laundering 

The Senate bill comes on the heels of legislation introduced in the U.S. House of Representatives that also targets digital currencies. On May 16th, Rep. Kathleen Rice (D-NY-4) introduced the Homeland Security Assessment of Terrorists Use of Virtual Currencies Act, which directs the Department of Homeland Security to complete an assessment of “the actual and potential threat posed by individuals using virtual currency” to finance and carry out terrorist activities. Rice pointed to the rapid rise in cyber-threats, including the recent WannaCry attack that demanded the payment of a ransom in Bitcoin to secure the return of victims’ data, to support the bill, noting that terrorist groups like ISIS may turn to digital currencies to increase their activities. Business Insider reported that, as the territory controlled by the Islamic State decreases, terrorist groups are searching for outlets to move their funds out of Iraq and Syria, turning to pre-paid cards and other digital currencies. The article notes that terrorists “are employing methods typically used by organized crime groups to launder their assets before investing the proceeds in legitimate business,” which puts smaller banks and financial services companies with less stringent AML controls at risk of serving as a conduit for these illicit funds.On May 25th, Senator Chuck Grassley (R-IA) and Senator Dianne Feinstein (D-CA) introduced legislation that would modernize and enhance criminal money laundering and counterfeiting statutes. According to a press release issued by Senator Grassley’s office, the Combating Money Laundering, Terrorist Financing, and Counterfeiting Act of 2017 includes a host of measures designed to strengthen current criminal money laundering laws, modify counterfeiting statutes to prohibit novel counterfeiting methods, and “promote transparency in the U.S. financial system.” Among these measures are requirements that would make it easier for government investigators to obtain foreign bank records to use as evidence in money laundering prosecutions, including allowing the government to seek civil penalties against a U.S. financial institution if it does not terminate a correspondent relationship with a foreign bank that refuses to comply with a subpoena. The bill also targets prepaid access devices, including stored value cards, by amending current law to include these funds within the definition of monetary instruments, making them subject to anti-money laundering (“AML”) reporting requirements. Underscoring the increased emphasis on the use of digital currencies in money laundering schemes, the legislation also directs the Government Accountability Office to produce a report that assesses the impact of the amendments on the prepaid access industry and the Department of Homeland Security to develop “a strategy to detect prepaid access devices and digital currency at border crossings and ports of entry.” Crowdfund Insider observed that “[t]he legislation directly challenges one of the most popular tenets of digital currencies: the fact it … currently can be managed beyond the reach of most governments.”

While legislators look to prevent money launderers and terrorists from exploiting technology to carry out their schemes, banks are seeking to employ technological advances to strengthen their AML compliance protocols. Crowdfund Insider reported on the results of a survey of AML compliance professionals, conducted by SWIFT and Dow Jones Risk & Compliance, which found that more than half of these professionals plan to invest in RegTech to combat what they see as new challenges and risks presented by the “current geopolitical landscape.” Most of the survey’s respondents also indicated that technology has improved their ability to meet their AML and “know your customer” requirements. According to a report in Reuters, banking group HSBC Holdings Plc has enlisted the services of Ayasdi Inc., an artificial intelligence (“AI”) startup based in the Silicon Valley, to automate some of its AML investigations. The article notes that the technology developed by Ayasdi has allowed HSBC to reduce the number of investigations it conducts by 20 percent without an accompanying drop in the number of cases flagged for additional scrutiny. HBSC Chief Operating Officer Andy Maguire commented that the bank’s use of AI is “a win-win. … We reduce risks and it costs less money.”

Banking Agency Developments


Shortening the Settlement Cycle

On June 9th, the Office of the Comptroller of the Currency (“OCC”) announced its issuance of a bulletin to highlight actions that national banks and federal savings associations should take to prepare for the change in the regular securities settlement cycle for most U.S. securities transactions. The change becomes effective on September 5, 2017.

OCC to Host Risk Governance and Compliance Workshops in Ohio

On June 7th, the OCC announced that it will host two workshops in Cleveland at the Crowne Plaza Cleveland South, July 18-19, for directors of national community banks and federal savings associations supervised by the OCC. The Risk Governance workshop on July 18th will provide practical information for directors to effectively measure and manage risks. The workshop will also focus on the OCC’s approach to risk-based supervision and major risks in the financial industry. The Compliance Risk workshop on July 19th will combine lectures, discussion, and exercises on the critical elements of an effective compliance risk management program. The workshop will also focus on major compliance risks and critical regulations. Topics of discussion include the Bank Secrecy Act, Flood Disaster Protection Act, Fair Lending, Home Mortgage Disclosure Act, Community Reinvestment Act, and other compliance areas of interest.

Frequently Asked Questions to Supplement OCC Bulletin 2013-29

On June 7th, the OCC announced that it is issuing frequently asked questions to supplement OCC Bulletin 2013-29, “Third-Party Relationships: Risk Management Guidance,” issued October 30, 2013.

OCC to Host MDIAC Meeting

On June 7th, the OCC announced that it will host a public meeting of the Minority Depository Institutions Advisory Committee (“MDIAC”) on Tuesday, June 27, 2017, beginning at 8:30 a.m., Eastern Daylight Time. Federal Register Notice.

Termination of Federal Charter: Revised Comptroller’s Licensing Manual Booklet

On June 6th, the OCC announced the issuance of its “Termination of Federal Charter” booklet of the Comptroller’s Licensing Manual. This booklet incorporates termination procedures and requirements updated after the Office of Thrift Supervision’s integration with the OCC in 2011, and revised regulations that became effective in 2015, addressing termination of both national banks and federal savings associations.

Securities and Exchange Commission

Speeches and Statements

Bricker Emphasizes Auditor’s Role in Fostering Public Trust in Audits

In remarks before the 36th Annual SEC and Financial Reporting Institute Conference on June 8th, SEC Chief Accountant Wesley R. Bricker discussed several current issues that are integral to investors’ trust in financial reporting, including the standard-setting and inspection role of the Public Company Accounting Oversight Board (“PCAOB”); international collaboration;  internal control over financial reporting; auditor independence; and the impact of technological innovation on audit procedures. 

SEC Declines Request for Interpretation of Contract as a Swap

In a statement released on June 7th, the SEC declined to issue a joint interpretation with the Commodity Futures Trading Commission (“CFTC”), pursuant to Rule 3a68-2 under the Securities Exchange Act, as to whether two contracts labeled as  Reinsurance Participation Agreements (“RPAs”) executed by Breakaway Courier Corporation with Applied Underwriters Captive Risk Assurance Company Inc. are swaps, security-based swaps, or mixed swaps. The SEC cited the fact that the RPAs are subject to ongoing private litigation as the basis for declining Breakaway’s request for an interpretation.

Other Developments

Staff Announcement

The SEC announced on June 8th that Acting Director of the Division of Enforcement Stephanie Avakian and former federal prosecutor Steven Peikin will serve as Co-Directors of the Division of Enforcement. Reuters reported that Avakian and Peikin agree that cyber threats will be a “major enforcement priority” for the Division going forward.

Supreme Court Ruling May Prompt SEC to Hasten Investigations

Institutional Investor reported on June 6th that the U.S. Supreme Court’s decision in Kokesh v. Securities and Exchange Commission may force the SEC to speed up their investigations of securities law violations to meet the five-year statute of limitations for pursuing disgorgement. 

SEC Report Evaluates Its Internal Supervisory Controls

On June 5th, the SEC released the annual report it submitted to the Senate Banking Committee and House Financial Services Committee on its internal supervisory controls over staff who conduct examinations of registered entities, enforcement investigations, and reviews of corporate financial securities filings. The report describes the scope and methodology used to evaluate the SEC’s internal supervisory controls and identifies any significant deficiencies in these controls.

Commodity Futures Trading Commission

Acting CFTC Chair Worried About Swaps Clearing Worldwide After Brexit Is Complete

On June 8th, Reuters reported that J. Christopher Giancarlo, Acting Chair of the Commodity Futures Trading Commission (“CFTC”), expressed his concern about how swaps will be cleared after Brexit is complete. Giancarlo cited the possibility that the EU could decide to ban offshore clearing of euro-denominated swaps, thereby hurting global financial markets.

Federal Rules Effective Dates

June 2017 – August 2017

Click here to view table. 

Exchanges and Self-Regulatory Organizations

Chicago Board Options Exchange

CBOE Proposes Changes to Disaster Recovery Rules

On June 5th, the SEC requested comments on a proposed rule change filed by the Chicago Board Options Exchange Incorporated (“CBOE”) that would amend its rules related to disaster recovery to provide CBOE authority to take additional steps necessary to preserve its ability to conduct business in the event that CBOE’s primary and/or back-up data center(s) become unavailable for use due to a significant systems failure, disaster or other unusual circumstances and make clear in the Rules the intermediary steps that CBOE may take to disable certain systems and users’ connectivity while continuing to operate its primary data center. Comments should be submitted on or before June 30, 2017. SEC Release No. 34-80857.

CBOE Withdraws Proposed Changes to Open Outcry Trading Rules

On June 5th, the SEC provided notice that CBOE has withdrawn its proposal to amend its rules regarding responsibility for ensuring compliance with open outcry priority and allocation requirements and trade-through prohibitions. SEC Release No. 34-80859.

SEC Initiates Disapproval Proceedings for CBOE’s Proposed Changes to Rules on Unusual Market Conditions

On June 2nd, the SEC instituted proceedings to determine whether to approve or disapprove CBOE’s proposal to amend its rules regarding the circumstances in which CBOE Floor Officials may declare a “fast” market and the actions those Floor Officials may take when a fast market is declared, including the ability to suspend the duty to systemize a non-electronic order prior to representing it in open outcry trading. Comments should be submitted on or before June 29, 2017. Rebuttals are due on or before July 13, 2017. SEC Release No. 34-80854.

Financial Industry Regulatory Authority

FINRA Research Examines Securitized-Asset Liquidity

The Financial Industry Regulatory Authority (“FINRA”)  announced on June 8th that its Office of the Chief Economist published new research on liquidity in structured products. The research analyzed real-estate securities and asset-backed securities to identify positive and negative market developments, including the continued reduction in number and volume of new issues of securitized assets since the financial crisis; decreased trading volumes for most securitized asset categories; and a decrease in bid-ask spreads across asset categories.

FINRA Explains Rule Changes Related to Disruptive Quoting and Trading Activity

In a Regulatory Notice published on June 7th, FINRA offered guidance to firms regarding two rule changes on disruptive quoting and trading activity, which became effective last December. The first rule change adopted new supplementary material to Rule 5210 (Publication of Transactions and Quotations) to explicitly define and specifically prohibit two types of quoting and trading activity that are deemed to be disruptive. The second rule change amended the FINRA procedural rules regarding temporary cease and desist orders to create a process for FINRA to issue, on an expedited basis, a permanent cease-and-desist order against a respondent that engages in a frequent pattern or practice of disruptive quoting and trading activity.     

Fixed Income Clearing Corp.

SEC Takes More Time To Consider FICC’s Proposal on Access to Cash and Collateral to Address Losses

On June 7th, the SEC designated July 27, 2017, as the date by which it will approve, disapprove, or institute disapproval proceedings regarding the Fixed Income Clearing Corporation’s (“FICC”) proposal to amend the Mortgage-Backed Securities Division rules concerning the use of clearing fund cash and collateral for losses, liabilities or temporary needs for funds incident to the clearance and settlement business. SEC Release No. 34-80879.    

ICE Clear Corp.

SEC Approves ICC’s New Price Submission Process

On June 5th, the SEC issued an order approving ICE Clear Credit LLC’s (“ICC”) amended proposal to modify ICC’s End-of-Day Price Discovery Policies and Procedures to implement a new price submission process for Clearing Participants. SEC Release No. 34-80858.     


SEC Approves Changes to LCH SA’s CDS Margin Framework

On June 2nd, the SEC approved a proposed rule change filed by LCH SA to amend its CDS margin framework to replace an algorithm-based approach to pricing credit default swaps (“CDS”) in the event extreme spread curves cause the International Swaps and Derivatives Association Standard Model for pricing CDS to fail with an approximation-based method. SEC Release No. 34-80849.

SEC Grants Approval to LCH SA’s Proposal on Its Risk Recovery Margin

On June 2nd, the SEC issued an order approving LCH SA’s proposal to revise its margin methodology with respect to CDS by eliminating the recovery rate risk charge as a component of the margin methodology as it applies to index CDS. SEC Release No. 34-80848.


Nasdaq Withdraws Proposal on Information Provided to Stabilizing Agents for Follow-On Offerings

On June 2nd, the SEC provided notice that The NASDAQ Stock Market LLC (“Nasdaq”) has withdrawn its proposed rule change to adopt Rule 7017 to increase the level of information provided to a member acting as the stabilizing agent for a follow-on offering of additional shares of a security that is listed on Nasdaq. SEC Release No. 34-80852.


NYSE Proposes to Change Listing Standards for Closed-End Funds

On June 6th, the SEC requested comments on a proposed rule change filed by the New York Stock Exchange LLC (“NYSE”) that would amend NYSE’s listing standards for closed-end funds. Comments should be submitted within 21 days of publication in the Federal Register, which is expected the week of June 12, 2017. SEC Release No. 34-80867.

Judicial Developments

Disgorgement Collected by the SEC Is Subject to Five-Year Statute of Limitations on Civil Penalties

In 2009, the SEC alleged that petitioner violated securities laws by hiding the misappropriation of $35 million from four companies from 1995-2009. After a jury found that petitioner’s action violated securities laws, the district court held that 28 USC §2462, which es­tablishes a five-year limitations period for such an action, did not apply as dis­gorgement is not a “penalty” under §2462. On June 5th, the Supreme Court reversed, holding that disgorgement operates as a “penalty” and so any claim for disgorgement in an SEC enforcement action must be commenced within five years of the date the claim accrued. Kokesh v. Securities and Exchange Commission.

Industry News

Financial Choice Act Passes in House, But Is Unlikely to Become Law

On June 9th, The Wall Street Journal reported on the House’s vote for an extensive rewrite of the rules governing Wall Street. The House bill would, among other things, relieve healthy banks of some regulatory requirements and repeal the Volcker rule restricting banks from speculative trading. While this marks the first time Republicans have been successful in passing broad legislation aimed at replacing the Dodd-Frank Act, the bill is not likely to become law as it is not expected to garner enough support to advance in the Senate. According to The New York Times, although this bill is not expected to pass in the Senate, vital portions of it could pass through the budget reconciliation process. The Times suggested that, even if the bill dies, it exposes a Republican Party that is focused on doing away with reform “based on a false narrative of the crisis, largely to the benefit of the financial sector.”     

Portions of DOL Fiduciary Rule Became Effective on June 9th

ThinkAdvisor reported that certain portions of the Department of Labor’s (“DOL”) fiduciary rule became effective on June 9th, when financial professionals and their companies must proceed to conform in good faith to the rule’s requirements. Many other provisions will become effective on January 1, 2018. The DOL released guidance showing that the agency will focus on compliance efforts, instead of enforcement, during the transition period between June 9, 2017 and January 1, 2018.     

Why U.K. Regulators Do Not Reward Whistleblowers

On June 2nd, Bloomberg reported on the U.K.’s reasoning for not rewarding whistleblowers. A 2014 U.K. Financial Conduct Authority/Bank of England study rejected financial incentives for whistleblowers, finding that this sort of program would be too expensive and complex and would create a “moral hazard” by encourage rogue employees to fabricate offenses. The report said it found scant evidence that the U.S. system of rewarding whistleblowers leads to more disclosures or better information.