Ignorance of the law is no excuse, and naivete will not insulate a Chief Compliance Officer from liability. When operating in a regulated industry, failure to retain competent regulatory advisers will result in a date with a federal judge.
Firms should use some third party (e.g. fund administrator, LPA committee) to calculate, or at least confirm calculations, of fees collected from clients. When management can exercise arithmetic discretion to pay itself, regulators will scrutinize the calculations.
Don’t engage in direct transactions with your clients. We do not believe any amount of disclosure could adequately mitigate such a significant conflict of interest and resulting breach of fiduciary duty.
The expansive MSD proposal includes any type of financial adviser, any type of customer, and any type of advice. If adopted, the MSD’s rule would set up a court case about whether Regulation Best Interest preempts state fiduciary rules.
Let’s rename this “The Compliance Officer Full Employment Act.” Compli-pros at broker-dealers will have to rework all of their Written Supervisory Procedures, revise client agreements, create disclosures, and eliminate all prohibited conflicts. Compliance offices at investment advisers must address the new Form CRS requirement and implement new client onboarding procedures while figuring out the changes required by the investment adviser fiduciary interpretation. And, we only have 12 months to get this all done.
It is unclear how much due diligence is enough, but an investment that promises a 1000% return likely requires more than a few phone calls. When financial professionals recommend a losing investment, they bear the burden of proving that their recommendations and due diligence satisfied their fiduciary and/or suitability obligations.
A private fund and CDO manager agreed to pay over $400,000 to settle charges that it facilitated an illegal cross-trade that benefitted one client over another. The SEC alleges that the firm sold securities held by its CDO client to its private fund at an artificially low price because the respondent failed to obtain required third-party bids. Instead, the SEC asserts, based on a record of a phone conversation, that the firm asked friendly firms to provide false bids with assurances that they would not have to purchase the securities. The private fund ultimately sold the securities at a significant profit. The SEC also charged the firm’s Chief Operating Officer (who was fined and barred from the industry) for arranging the transactions and personally benefitting through his investment in the private fund.
Firms should avoid client cross-trades. One side will always benefit, which gives rise to conflict of interest and favoritism allegations. A fiduciary on both sides of a transaction may not be able to cure the conflict with any amount of disclosure.
OUR TAKE: Compli-pros face an enormous challenges in large, global institutions to ferret out multi-lateral business relationships and ensure that the firm adequately observes its fiduciary obligations.