That is the question that the SEC has essentially posed for registered investment advisers in a National Exam Program Risk Alert. In doing so, the SEC has stated that it will be “examining compliance oversight and controls of registered investment advisers that have employed or employ individuals with a history of disciplinary events . . . .”

The SEC will essentially be examining the investment advisers business and compliance practices, particularly focused on higher risk individuals. Does this mean that you should not hire or retain someone who may have a disciplinary past?Core Values

Of course, not. Instead, this alert should be telling you that such people, if you do decide to hire (or retain) them, should come under some form of heightened supervision for a period of time, if not forever. But be forewarned that the SEC is going to check up on you by reviewing certain information, including the following:

  1. Your compliance program , including the practices surrounding the hiring and ongoing reporting obligations of investment adviser representatives.
  2. The firm’s disclosures (i.e., Form ADV) that it makes to its customers to ensure that they are accurate.
  3. The conflict of interest that the firm discloses.
  4. The firm’s marketing.

By reviewing these areas, the SEC believes that it can better understand how firms are handling and representing advisers with a past to their customers. If you decide to hire or retain such advisers, you should focus on what you are saying to the public about them through your words and actions before you are in the SEC doghouse following an examination.

Core ValuesThe SEC recently commenced an enforcement action against an investment advisory firm and its principal in connection with the failure to disclose material conflicts of interest in connection with new mutual funds that the firm recently created and managed. The SEC is seeking disgorgement and an injunction against the firm and its principal.

Clients of the firm paid a fee for investment advice. Initially, the clients were invested in an ETF program. The firm subsequently created its own mutual funds that it managed for a fee.
Without disclosing that it would be paid both an investment advisory fee and fees for managing the mutual funds, the firm moved its clients into the mutual funds, which mirrored the investments in the ETF program. So why did the SEC take issue with this?

For one, the firm did not disclose the conflict of interest associated with this new strategy. The conflict of interest is that the firm is going to be paid two fees for an investment program that was the same as the prior program for which clients were only charged one fee.

Interestingly, the SEC in its complaint does not contend that the charging of two fees is per se improper. Instead, the issue is the fact that the firm did not disclose the conflict to its client before shifting the investment program. So what does this mean?

It all comes down to disclosure. If you disclose all conflicts of interest in sufficient detail, you may be able to avoid these types of enforcement issues.

Those famous words of the immortal Yogi Berra hold true when it comes to the SEC exam priorities for 2016. Among those at the top of the list are two familiar friends; protecting retail investors and investors saving for retirement.

It is clear that the SEC is looking in particular toward how retail firms are dealing with their older clientele since it is fair to assume that older client are those most likely preparing for retirement. So what does the SEC want to know?whistle

The SEC is looking at retirement services being offered, focusing on whether there is a reasonable basis for recommendations, conflicts of interest, supervision and compliance controls, as well as marketing and disclosure practices. If you compare these priorities to FINRA’s exam priorities, you will see the overlap.

The overlap of these priorities should sound alarms bells off in your head. The SEC and FINRA have told you twice what your regulators will analyze during your next exam. You have a choice.
You can ignore these areas and not take prophylactic measures to make sure that your policies and procedures in these are consistent with current industry standards, or you can take a serious look at what your firm is doing for your clients who are focused on retirement investing. Something tells me that taking the path of least resistance will not win you any awards with your regulators.

So take affirmative steps and give your policies and procedures in these areas will deep thought. Do you have any policies and procedures in place? If so, do they go far enough and are they consistent with current industry trends and practices? FINRA and the SEC are doing some of your work for you, don’t miss out on the free advice they are giving you.

Ernie Badway and I have prepared a series of podcasts dealing with the relationships between broker-dealer, investment advisors and their customers.  BoardHere is the third part of that series focused on risk avoidance techniques.  Here is the link:

Ernie Badway and I have prepared a series of podcasts that highlights client-issues and risk avoidance techniques for broker-dealers and investment advisors.  We hope you’ll take a listen.


The SEC and FINRA have made it very clear that they are focused on senior customers and elder abuse. Granted, firms must be focused on the elder customers, but, at the same time, must also focus on the fact that many advisors are included in the graying generation.

What are firms to do about that? Before you do anything definitive, you should vet your ideas with an employment consultant or lawyer to make sure that any plan does not run afoul of labor and employment laws because older advisors may be within a protected class.confusion.jpg

Separate and apart from any legal analysis, you should consider doing certain things to make sure your advisors are acting properly and clients are being protected. Here are some suggestions that, in reality, apply across all age groups; these areas of inquiry could include:

  1. Having a supervisor meet with the advisor on a more regular basis just to see how they are doing; i.e., are they acting properly in the office or are they even in the office.
  2. Monitor trading activity; has it changed radically over a short period of time.
  3. Analyze the outflows of cash from customer accounts.
  4. Analyze the loss of customers over time (i.e., has the advisor lost a number of clients in short order).
  5. Randomly contact customers to vet their recent experiences with their advisor.

These oversight tools may help you uncover an elder advisor who is suffering from dementia, or, quite possibly, uncover a young advisor who is defrauding customers. Either way, the key is simple, properly monitor your advisors’ activity and protect your clients in the process.

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In a recent blog, Michael Volkov noted five ingredients to ensure a culture of compliance. Why should you care? It is quite simple, firms that do not promote a culture of compliance are bound to find themselves face to face with their regulator, and not at a holiday party sharing cocktail weenies.

So what are the five ingredients? Volkov notes the following:CEO tree

  1. Leadership from the top of the corporate ladder down to the bottom.
  2. Internal firm communications that promote ethics and compliance to everyone in the organization.
  3. Devotion of the resources necessary to measure the company’s culture of compliance and reporting that culture to senior management.
  4. A dedication to be responsive to unpredicted external forces; i.e., market collapse, economic downswings, etc.
  5. Accountability up and down the entire corporate chain.

There are certainly other things that firms can do to promote and ensure a culture of compliance, but these ingredients, as Volkov describes them, are mission critical. The one thing that each has in common is a reflection that any sound culture of compliance starts from the top down. It never works from the bottom up.

Management sets the tone for everything done at a firm. If management does not buy what it is selling, you can never expect lower level employees to accept the culture of compliance. When management is willing to stand up and be accounted for, then the “rank and file” will surely follow. Don’t lead, and find yourself on the corporate compost heap.

As recently reported in the Investment News, the North American Securities Administration Association (NASSA) reported on the results of state coordinated examinations. The relative good news was that there were 30% fewer deficiencies from 2013 to 2015.

These examinations revealed, however, five areas of particular concern for state based investment advisors. These issues are:money and calculator

  1. Not adequately documenting the suitability of investment recommendations being the biggest concern.
  2. Failing to adequately explain fees in contracts.
  3. Inconsistencies in the FORM ADV Parts 1 and 2.
  4. Charging fees not as outlined in the Form ADV.
  5. Improper client invoices for direct-fee reduction.

If you are a state-based advisor, you should be asking yourself if you have any of these deficiencies. If your conduct falls within any of these areas of deficiency, you should take action now to correct them, or face regulatory exposure in the future.

FINRA recently sent out targeted exam letters focused compensation practices. The intent of this targeted exam is to assess how firms identify, mitigate and manage conflicts of interest when it comes to compensation paid to registered representatives.

This limited examination is designed for information gathering purposes and to determine best practices around the sale of certain products to further focus on whether there are certain incentives for the sale of certain products. In order words, does the compensation arrangement around a particular product create a conflict of interest where the representative has a financial incentive that may outweigh his/her the best interests of the client.whistle

So what does this limited exam mean? It is unlikely that any enforcement actions will come out of this limited exam. Nevertheless, the results of the exam will surely set the table for FINRA taking a harder and broader look at firm compensation practices for conflicts of interest.

Considering that FINRA has highlighted product specific compensation practices as an area of interest, now is as good a time as any for you to review how you compensate your registered representatives. Although defining a “conflict of interest” is a murky task, this is a worthy exercise, particularly if there is a substantial variation in compensation for the sale of certain products. Take preventative steps now to avoid an enforcement proceeding later.

If there is any question that the SEC is focused on elder investor issues, look no further than its recent program announcement. The SEC initiated a program designed to examine retirement planning guidance.

Under this program, the SEC intends to explore whether the compensation advisers receive presents a conflict of interests and, if so, how those conflicts are managed. The SEC is also going to scrutinize whether the adviser’s marketing materials are accurate, and assess whether adviser due diligence on investments is adequate. Finally, the SEC is going to review investment recommendations, especially those that entail selling assets held in an employment retirement plan and the rolling over of those assets into an individual retirement plan.idea.jpg

This program should come as no surprise because the SEC and FINRA have made elder investment-related issues a target in their exam priorities. In reality, however, the core focus of this examination program should have always been on your front-burner.

With the graying of our society, advisers need to make sure that they conduct heightened due diligence when it comes to older clients, especially where a retirement plan is at issue. The SEC has given you a road-map of the areas on which you need to focus. The failure to do so will surely result in an unpleasant experience with the SEC.*

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