SEC officials recently discussed the priorities of the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) and the Division of Enforcement (“Division of Enforcement”) as they relate to the fund industry. At the Investment Company Institute’s Tax and Accounting Conference held September 11-14, 2011, Jaime Eichen, Chief Accountant of the Division of Investment Management, provided insight regarding potential areas of focus for OCIE and the Division of Enforcement, in particular funds’ use of derivatives and the fees paid to certain fund service providers.
Ms. Eichen noted that OCIE is focusing on funds’ increasing use of derivatives, and is investigating whether funds are employing personnel with the appropriate background to handle derivatives and whether a fund’s practices and procedures are adequate to monitor the risks associated with derivatives use. She stated that the Division of Enforcement is also focusing on funds’ use of derivatives, particularly when a fund’s investments in derivatives appear inconsistent with a fund’s goals as stated in its prospectus. This emphasis on derivatives by OCIE and the Division of Enforcement reflects the SEC’s more general interest in the topic, as further evidenced by the SEC’s recent concept release on funds’ use of derivatives. Ms. Eichen also discussed OCIE’s and the Division of Enforcement’s ongoing investigations regarding whether fees paid by funds to their service providers are appropriate. For example, Ms. Eichen noted that OCIE was reviewing whether transfer agents who outsource work are retaining a fee that is not reasonable in relation to the work performed. Ms. Eichen commented on several other priorities, noting that OCIE has raised concerns about certain disclosure and filing issues and the adequacy of board oversight of a large number of unaffiliated funds. She also noted that the Division of Enforcement is investigating a variety of issues, including fund boards’ oversight of the valuation of fund assets and the consequences of high risk products such as leveraged ETFs.
Separately, Julius Leiman-Carbia, Associate Director of OCIE, recently announced that OCIE is engaging in an effort to understand the effect of ETF valuations and discount brokers on market volatility. Mr. Leiman-Carbia noted with respect to ETFs that OCIE is studying whether providers are maintaining their portfolios’ net asset value in line with the value of underlying securities as part of its broader efforts to understand ETFs’ role in market volatility. He also explained that discount brokers are under surveillance because they have the capacity to create a material market impact in the event of an error or mishap. According to Mr. Leiman-Carbia, OCIE will create a group comprised of five to ten examiners who will focus on discount brokers and the processes they have in place.