The financial crisis has undoubtedly put a stronger focus on regulation in the securities industry. As financial professionals and organizations plot their course for 2009, many are wondering what they should be focusing on in terms of compliance. A recent list compiled by the Securities and Exchange Commission (SEC) provides guidance.
According to Lori Richards, director of the Office of Compliance, Inspections and Examinations, the SEC is gearing its investigations to ensure financial professionals do not lose sight of "their obligations to investors -- for an advisor, the fiduciary obligation to clients, and for a broker, the obligation to follow just and equitable principles of trade."
Richards laid out the SEC's examination agenda near the end of 2008, reminding those in the industry that the SEC takes its job as enforcer very seriously.
Here are some of the issues on her list that directly impact a firm's customers and accounts. It's important to note that the SEC's complete list has more than a dozen areas of focus that examiners will be paying close attention to. Some are obvious, while others are not, but they all are important.
- Portfolio management -- Sometimes market actions cause portfolio managers to react to protect their portfolios; a quick knee-jerk reaction could inadvertently be counter to the disclosures, causing legal or regulatory problems later. The SEC will ensure managers don't take an approach to investment decisions that is inconsistent with the disclosure about that portfolio, either out of fear or to make up for losses.
- Suitability -- Suitability and appropriateness of investments for clients is another priority. Examiners will be looking at whether securities recommended and investments made for clients are consistent with disclosures and a client's investment objectives, with an extra focus on interactions with senior customers. They'll also be looking at structured products and other complex derivative instruments, variable annuities, niche ETFs, managed pay-out funds and 130/30 funds.
- Safety of customer assets -- Examiners want financial firms and their employees to implement and follow policies and procedures that help protect their clients' assets from theft, loss and misuse. They're also concerned about controls for compliance with Regulation S-P, which levies requirements on financial firms for protection of customers' privacy information.
- Valuation -- This has long been an issue on regulators' agendas and has recently become even more important. Now, SEC investigators will look into the controls and procedures firms have in place, and whether firms are using only one broker/dealer quote to price their offerings. Firms should use multiple sources for valuation. Afterward, they should find out what the actual price was and investigate if there was a significant gap between the two.
Financial professionals need to pay attention to other areas as well. Regulators will also examine controls that prevent insider trading and successful monitoring of employees' personal trading. Disclosures, the use of soft dollars, corporate governance, the effectiveness of branch office audits, and how the branch treats customers are concerns.
The country's financial and economic crisis is prompting everyone to look at our current regulatory system and ask, "What can we do better?" While the regulatory structure as a whole will likely be reviewed soon, this is also the time for financial organizations, compliance officers and financial advisors to review their own practices.
David Thetford is securities compliance principal analyst with Wolters Kluwer Financial Services.