Richard Ketchum, CEO of the Financial Industry Regulatory Authority, told broker-dealer compliance officers on Tuesday that while the regulator has noticed improvements among firms’ supervision and compliance programs, “heightened supervision” is still necessary when it comes to complex products.
During the Securities and Exchange Commission’s National Compliance Outreach Program for Broker-Dealers, held at SEC headquarters in Washington, Ketchum pointed to three areas that FINRA is focusing on—complex products, conflicts of interest and exams.
He also told BDs that the next step in FINRA’s “continuing efforts to integrate and merge surveillance with exams” was to increase the amount of data that FINRA gets from its member firms. Said Ketchum: “We are looking to download significant transactional information” from member firms. Ketchum also said he hoped guidance would be coming from FINRA by early summer on conflicts of interest.
As to conflicts, Ketchum noted that FINRA is now reviewing the comments it received on its controversial proposal under Regulatory Notice 13-02 to require that brokers’ recruitment compensation be disclosed when they switch firms, and “will soon decide on how to proceed.”
Said Ketchum: “When a broker moves to a new firm and calls a customer to say, ‘You should move your account with me because it will be good for you,’ the customer needs to know all of the broker’s motivations for moving. In some instances, recommendations to customers can be driven by direct and indirect compensation incentives to the financial advisor and the firm itself.”
Noting that FINRA’s concerns about complex products aren’t new, Ketchum said that FINRA continued to “see problems” with suitability and supervisory violations.
Ketchum first pointed to structured products, which he said were complex because they typically involve “unsecured debt and involve derivative strategies featuring payouts that are linked to a variety of underlying assets—which are sometimes highly volatile—such as a narrow or proprietary index or some other obscure benchmark.” He added that though firms “may market these products to retail customers based on attractive initial yields and, in some cases, on the promise of some level of principal protection, they often have cash-flow characteristics and risk-adjusted rates of return that are uncertain or hard to estimate.”
Other complex products include closed-end funds, private REITs, private placement securities and “exotic” ETFs that “have driven way too many enforcement cases,” Ketchum told BD compliance officers.