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SEC and FINRA Examination Priorities and Alts

by Brandon Raatikka

Last week, the SEC published its 2018 examination priorities. In January, FINRA published its 2018 examination priorities letter. Each year, we review both examination letters to determine how regulatory focuses may impact our clients’ alternative investment-related practices. Although neither the SEC nor FINRA mentions ‘alternative investments’ by name in this year’s priorities, it’s clear that AI considerations are lurking not too far under the surface.

The SEC began its list of priorities with matters related to protection of retail investors, especially seniors and retirement savers. Not surprisingly, the SEC noted disclosure of fees and conflicts of interest as points of emphasis. The SEC’s publication also stated that it would review how broker dealers interact with senior investors, and what controls they have in place to prevent financial exploitation of seniors.

Of course, with new/amended FINRA Rules 2165 and 4512 going into effect this month, financial exploitation is squarely on FINRA’s radar as well, as explicitly noted in its 2018 examination priorities. In fact, FINRA’s publication mentions sales practices related to vulnerable or senior investors in two places in its letter—in its review of dangers that high-risk brokers pose to these investors, and its discussion of mandated suitability analysis. On the latter, the letter says:

FINRA will pay particular attention to suitability determinations in those situations where registered representatives recommend complex products to unsophisticated, vulnerable investors.    

Of course, many illiquid or esoteric alternative investments are deemed to be complex products by regulators. FINRA guidance over the past few years has made it clear that due diligence and education are critical to minimize the risk of doing business with complex products. FINRA’s examination letter notes that:

As part of the [product] vetting process, firms should identify the risks associated with a product and include those risks in their product training so that registered representatives can appropriately evaluate them prior to recommending the product to a customer.

While the SEC and FINRA have set unique priorities for their own examiners, other themes common to the two sets of examination priorities include:

  • Cybersecurity
  • Anti-money laundering
  • Best execution
  • Crypto-currencies and initial coin offerings

On ICOs, both regulatory bodies have promised to exercise regulatory oversight over these products where they constitute securities. One gets the sense that both the SEC and FINRA view these assets as securities in the vast majority of cases.

Finally, as with the SEC’s priorities last year, it will again focus on FINRA’s operations, including “the quality of FINRA’s examinations” of BDs and municipal advisors.


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Filed Under: Legal and Regulatory