As I travel the country lecturing at investment industry conferences, conducting compliance reviews, attending enforcement proceedings, playing too little golf, and realizing that outliving one’s frequent flyer miles is not necessarily a good thing, I am often amazed at the disparity of questions I am asked about the investment industry, its rules and regulations by a diverse cross-section of industry professionals at different stages of their individual careers. There are three common themes I divine from these disparate questions. First, that there exists far too much misinformation and misunderstanding about what is required to maintain regulatory compliance. Second, simply knowing the rules is far different from knowing how those rules may or may not apply to your business. Third, there is no such thing as a stupid question, unless you count those questions that are never asked and thus go unanswered.
Theme No. 1: Getting Informed
Where does the all-too-common amount of misinformation and misunderstanding come from? There are various sources, including: (1) “compliance consultants” whose practical knowledge of the industry is much more limited than you may appreciate; (2) study groups that serve to share or reinforce bad habits or perpetuate misinformation (i.e., seeking validation or comfort from others who may have no better understanding of the issues or rules than do you); (3) relying upon the content of “canned” documents rather than taking the time required to cull through such “one-size-fits-all” compliance approach to dissect what does and does not pertain to your firm’s advisory operations, thereby creating an unintended liability minefield during a regulatory exam or in the event of a client litigation or arbitration matter; (4) conference sponsors who may invite speakers based upon business relationships rather than expertise that is vital to its attendees; and (5) firm principals who fail to appreciate their ongoing role with respect to compliance, and the supervisory role they have with respect to the compliance officers that they may employ.
Misinformation Takeaway: It is incumbent upon a firm’s chief compliance officer to cull through information and misinformation. However in order to be able to do so, she must first have a solid understanding of the industry and how its rules apply to her firm’s operations.
Theme No. 2: Knowing the Rules
It is simply not enough to know the rules. Rather, knowing how the rules apply and do not apply to your advisory operations is the key to establishing an maintaining a cogent compliance program. Remember that rule 206(4)-7 requires that your firm’s compliance policies and procedures reflect your firm’s operations. That means your specific firm, not some generic outfit!
Do your policies and procedures indicate the applicable rule or procedure that you want your employees or representatives to be aware of so that they can understand the issues presented? Furthermore, do your policies and procedures indicate whether the rule or issue is currently applicable to the firm’s advisory operations? Here are some examples. Broker/dealer rules are not investment advisor rules; there are substantial differences between a fiduciary standard and a non-fiduciary standard. (This is, by the way, one of the major reasons I do not believe that FINRA should have regulatory responsibility for investment advisors.)
Too many purveyors of compliance materials are still stuck in the broker/dealer world. Moreover, too many compliance officers have a broker/dealer background and do not appreciate the differences between the rules and regulations applying to B/Ds and their firm’s “advisory” operations. Here’s a warning applicable in particular to firm principals: You do not discharge your responsibility by appointing compliance officers who do not have the requisite industry experience or understanding -You are ultimately responsible. You should be able to duplicate and understand whatever your CCO does in the event that the CCO is not present when regulators arrive. Finger pointing is not a winning strategy during a regulatory exam or client litigation/arbitration proceeding. The buck does stop with you!
For this reason, when I conduct compliance reviews, I ask that the chief compliance officer, his assistant, and his supervisor (the firm owners or principals) be present to understand the issues that will be presented during a regulatory examination. How can senior management evaluate or supervise its CCO if at least one member of said firm’s senior management does not have a good understanding of what the CCO’s functions and responsibilities are?