SEC’s Office of Compliance Inspections and Examinations has issued a Risk Alert
citing transfer agents for deficient safeguards and lost securityholder
procedures. Reporting on 75 transfer
agent examinations over three years, OCIE observed misappropriation of
shareholder funds and theft of physical certificates, inadequate account
reconciliation processes, commingling of funds, and failures to secure physical
access. OCIE also observed failures to
adequately search for lost securityholders including neglecting to send written
notices. OCIE recommends heightened
policies and procedures, fund segregation, frequent reconciliations, locked vaults,
video cameras, periodic audits, and controls around lost property. OCIE published the Risk Alert “in order to
encourage TAs to review and strengthen their applicable policies, procedures,
and controls related to their paying agent operations.”
This is the regulatory warning shot for transfer agents. Expect sweeps and enforcement actions to follow. This Risk Alert also puts registered funds and their Boards and CCOs on notice that they should consider oversight procedures.
Today, we offer our “Friday List,” an occasional feature summarizing a topic significant to investment management professionals interested in regulatory issues. Our Friday Lists are an expanded “Our Take” on a particular subject, offering our unique (and sometimes controversial) perspective on an industry topic.
Christmas came early this year as the SEC’s Office of Compliance Inspections and Examinations (OCIE) released its 2019 priorities, which in prior years came out in January or February. OCIE has expanded its activities under the new Administration, boasting that it completed over 3,150 exams during the past year. OCIE increased investment company exams by 45% and reviewed 17% of investment advisers, making good on its prior commitment to double adviser exams. The Exam Priorities letter is long (12 single space pages) and covers many topics. To help synthesize the data, we offer the Top 10 OCIE Priorities for 2019:
Top 10 OCIE Priorities for 2019
Fees and Expenses: OCIE will review disclosure and calculation of fees charged to clients.
Portfolio Management: The staff will scrutinize how firms allocate investment opportunities and whether assets are managed according to stated investment objectives.
New Advisers: OCIE continues to focus on never-before examined advisers and advisers that have not been examined in many years.
Mutual Fund Share Classes: The SEC will focus on which mutual fund share classes are recommended and whether reps have a financial incentive.
Wrap Fee Programs: Firms must monitor wrap programs to make certain that the bundled fee is the best deal for clients.
Affiliated Products/Services: OCIE will examine the use of affiliated services or products for undisclosed conflicts of interest.
Senior Investors: The regulators are concerned about unsuitable recommendations to senior investors and supervision of reps.
ETFs: The staff has prioritized ETFs with custom indexes, limited secondary market trading, and risky assets.
Digital Assets: Concerned about the volatile cryptocurrency markets, the SEC remains vigilant about the sale, trading, and management of digital assets.
Cybersecurity: OCIE wants firms to identify and manage cybersecurity risks including devices, governance, and policies and procedures.
The SEC’s Office of Compliance Inspections and Examinations has announced a sweep of certain mutual funds and ETFs. The OCIE staff will target smaller ETFs and funds/ETFs that use custom indexes, allocate to securitized assets, exhibit aberrational underperformance, or employ inexperienced managers or private fund sponsors that manage a similar mutual fund. The SEC will assess compliance policies and procedures and fund oversight of risks and conflicts, disclosures to shareholders and the Board, and oversight processes. Among some of the issues of concern to the OCIE staff include bid/ask spreads for secondary market trading of smaller ETFs, portfolio management for underperforming funds, the effect of unexpected market stresses on securitized assets, and side-by-side allocations for private and public funds. OCIE is encouraging fund sponsors and boards “to consider improvements in their supervisory, oversight, and compliance programs.”
Compli-pros and fund lawyers should mobilize to review policies and procedures for affected advisers and boards, consult about changes, and implement enhanced oversight and processes. We recommend taking action before the OCIE staff arrives for its examination.
OUR TAKE: OCIE is fairly transparent. Now that the staff has identified these issues, compli-pros should expect a heavy focus during examinations. Compliance departments should review policies and procedures and testing to get ready.
OUR TAKE: Compliance with the Advisers Act is not intuitive. It requires a thorough knowledge of the specific requirements of the statute and all its rules. Firms must hire a regulatory professional or a compliance services firm to assist with compliance or face significant exam deficiencies or an enforcement action.
The staff of the SEC’s Office of Compliance Inspections and Examinations has released the 2017 Examination Priorities, which focus on retail investment products, retirement advice, FINRA supervision, and private funds. The staff’s retail initiatives will include a focus on robo-advisers (compliance programs, suitability, data protection); wrap programs (suitability, trading away), ETFs (exemptive relief compliance, creation/redemption processes), and newly-registered advisers. As part of its emphasis on retirement products, the SEC will scrutinize variable insurance and target date funds and assess how pension plan advisers satisfy their fiduciary obligations. The staff will continue to target private fund advisers and cybersecurity. As part of its obligation to assess market-wide risks, OCIE will enhance oversight of FINRA, including assessing the quality of broker-dealer exams. OCIE’s Director advised registrants to “evaluate their own compliance programs in these important areas and make necessary changes and enhancements.”
OUR TAKE: Many of these areas – wrap, ETFs, variable insurance, target date funds, cybersecurity – continue longstanding initiatives. Others – robos, private advisers, FINRA – are more recent regulatory objectives. Compliance officers should use this exam priorities letter as a tool to upgrade their own compliance programs.
The staff of the SEC’s Office of Compliance Inspections and Examinations issued a Risk Alert announcing its “Multi-Branch Adviser Initiative.” The Alert expresses concern about the “unique risks and challenges” for advisers operating through branch offices geographically separate from the principal place of business. The Initiative will focus on compliance program elements including the supervision structure, the role and empowerment of compliance personnel, and implementation of policies and procedures. The staff will also review investment recommendation oversight, conflicts of interest, and allocation of investment opportunities. The OCIE staff will assess how multi-branch firms exercise oversight and supervision of branch office activities.
OUR TAKE: The SEC is catching up with FINRA, which has longstanding prescribed oversight obligations for OSJs and branches. For compliance officers, oversight of far-flung operations creates additional information and supervision challenges that often exceed current resources.