SEC Inspection Priorities

On 13 January 2015, the Office of Compliance Inspections and Examinations (“OCIE”) of the United States Securities and Exchange Commission (the “SEC”) released their 2015 Examination Priorities.

The SEC Examination Priorities identify OCIE’s high priority examination areas for 2015. For SEC-regulated firms, whether Exempt Reporting Advisers or full SEC-registrants, these priorities provide guidance for developing firms’ compliance monitoring programmes for 2015 and provide insight into the SEC’s perception of high risk areas.

The examination priorities focus on issues involving investment advisers, broker-dealers, and transfer agents and focus on three thematic areas:

  1. Examining matters of importance to retail investors and investors saving for retirement, including whether the information, advice, products, and services being offered is consistent with applicable laws, rules, and regulations;
  2. Assessing issues related to market-wide risks; and
  3. Using the SEC’s evolving ability to analyze data to identify and examine registrants that may be engaged in illegal activity, such as excessive trading and penny stock pump-and-dump schemes.

Many of the 2015 exam priorities focus on recurrent areas from the past examination priorities and recent risk alerts. Areas of focus in the 2015 Examination Priorities that have appeared in past examination priorities and risk alerts are:

  • Fee Selection and Reverse Churning– Where an adviser offers a variety of fee arrangements, the SEC will focus on recommendations of account types and whether they are in the best interest of the client at the inception of the arrangement and thereafter, including fees charged, services provided, and disclosures made about such relationships.
  • Sales practices– The SEC will assess whether registrants are using improper or misleading practices when recommending the movement of retirement assets from employer-sponsored defined contribution plans into other investments and accounts.
  • Suitability– The SEC will evaluate registered entities’ recommendations or determinations to invest retirement assets into complex or structured products and higher yield securities, including whether the due diligence conducted, the disclosures made, and the suitability of the recommendations or determinations are consistent with existing legal requirements
  • “Alternative” Investment Companies– Pursuant to a January 2014 Risk Alert, the SEC will continue to assess funds offering alternative investments and using alternative investment strategies. So called “liquid alt” funds.
  • Clearing Agencies– The SEC will continue to assess market wide risk by conducting annual examinations of all clearing agencies designated systemically important.
  • Cybersecurity– Following on the heals of a April 2014 Risk Alert, the SEC will continue its initiative to examine broker-dealers’ and investment advisers’ cybersecurity compliance and controls
  • Microcap Fraud– The SEC will continue to examine operations at broker-dealers and transfer agents for activities that indicate they may be engaged in, or aiding and abetting , pump-and-dump schemes or market manipulation.
  • Anti-Money Laundering
  • Never-Before-Examined Investment Companies– The SEC will continue to conduct focused, risk-based examinations of selected registered investment company complexes that have not been examined.

The new areas of focus in the SEC 2015 priorities should come as no surprise to SEC-regulated firms as many have been touched on in speeches or flow directly from new regulation. Areas like (a) Fees and Expenses in Private Equity and (b) Fixed Income Investment Companies are a natural extension of the recurring priorities given that a many new advisers have come under the SEC’s purview with the implementation of Dodd-Frank and the current economic and investment environment.  Additional examination priorities include:

  • Branch Office supervision by registered entities
  • Large Firm Monitoring
  • Potential Equity Order Routing Conflicts
  • Recidivist Representatives
  • Excessive Trading
  • Municipal Advisers
  • Proxy Services

Conspicuously missing from the 2015 Examination Priorities is Safety of Assets and Custody which has appeared in each of the last two years’ releases. Despite its omission, the SEC will undoubtedly be interested  in firms’ compliance with Rule 206(4)-2, the “Custody Rule”.

Firms subject to SEC Inspection, including Exempt Reporting Advisers and SEC-registered firms, should read and carefully assess the applicability of the priorities to their business.

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