Never-before and not-recently-examined advisers, as well as, advisers to private funds are in the cross hairs this year.
The Office of Compliance Inspections and Examinations (“OCIE”) released the SEC’s 2020 exam priorities last week. As always, the SEC’s published priorities for 2020 are not an exhaustive list of OCIE’s examination focus areas. They merely drive OCIE’s examinations with the actual scope ultimately determined by a risk-based approach that includes analysis of the firm being reviewed’s history, operations, services, products offered, and other risk factors. The following is a brief summation of OCIE’s priorities from the SEC press release on January 7, 2020 and encompasses their focus across the financial industry as a whole (not just investment advisers):
Retail Investors, Including Seniors and Those Saving for Retirement - OCIE will continue its focus on the protection of retail investors, including the various intermediaries that serve and interact with retail investors and the investments marketed to, or designed for, retail investors. Examinations in these areas will include reviews of disclosures relating to fees, expenses, and conflicts of interest.
Market Infrastructure - OCIE will continue its focus on entities that provide services critical to the functioning of our capital markets, including clearing agencies, national securities exchanges, alternative trading systems, and transfer agents. Particular attention will be focused on the security and resiliency of entities’ systems.
Information Security - OCIE will continue to prioritize cyber and other information security risks across the entire examination program.
Focus Areas Relating to Investment Advisers, Investment Companies, Broker-Dealers, and Municipal Advisors - OCIE will continue its risk-based examinations for each type of these registered entities. In particular, examinations of registered investment advisers (RIAs) will focus on RIAs that have never been examined, including new RIAs and RIAs registered for several years that have yet to be examined. These examinations will include RIAs advising retail investors as well as private funds. Investment company examinations will focus on mutual funds and exchange-traded funds, the activities of their RIAs, and the oversight practices of their boards of directors. Broker-dealer examinations will focus on issues relating to the preparation for and implementation of recent rulemaking, along with trading practices. Municipal advisor examinations will include review of registration and continuing education requirements and municipal advisor fiduciary duty obligations to municipal entity clients.
Anti-Money Laundering Programs - OCIE will continue to review for compliance with applicable anti-money laundering (AML) requirements, including whether entities are appropriately adapting their AML programs to address their regulatory obligations.
Financial Technology (Fintech) and Innovation, Including Digital Assets and Electronic Investment Advice - OCIE recognizes that advancements in financial technologies, methods of capital formation and market structures, as well as registered firms’ use of new sources of data (often referred to as “alternative data”), warrant ongoing attention and review. OCIE also will continue to identify and examine SEC-registered firms engaged in the digital asset space, as well as RIAs that provide services to clients through automated investment tools and platforms, often referred to as “robo-advisers.”
FINRA and MSRB - OCIE will continue its oversight of the Financial Industry Regulatory Authority (FINRA) by focusing examinations on FINRA’s operations, regulatory programs, and the quality of FINRA’s examinations of broker-dealers and municipal advisors. OCIE will also continue to examine the Municipal Securities Rulemaking Board (MSRB) to evaluate the effectiveness of its operations and internal policies, procedures, and controls.
In addition to their exam priorities, the SEC also indicated that due to the federal shut down there was a 2.7% decrease in examinations in 2019 from 2018. Nevertheless, they reviewed 2,180 registered investment advisers which represented 15% of the RIA population as a whole. OCIE made a point of noting that exam staff conduct asset verifications by performing independent client account verifications directly with custodians and confirming assets are valued properly. Moreover, when an adviser has custody of client assets, they pay particular attention to the adviser’s compliance with the Custody Rule and its safeguards like third party audits and surprise examinations. Finally, in their introduction to the upcoming exam priorities, the SEC also made a special point to emphasize that “compliance programs, chief compliance officers, and other compliance staff play critically important roles at firms...culture and tone from the top are key.” Based on observations across the thousands of advisers they exam, the Commission noted three primary hallmarks of an effective compliance program at a firm:
Compliance is actively engaged in most facets of firm operations and early involvement in important business developments, such as product innovation and new services.
There is a knowledgeable and empowered chief compliance officer with full responsibility, authority, and resources to develop and enforce policies and procedures at the firm
And most important, a commitment to compliance from C-level and similar executives to set a tone from the top that compliance is integral to the organization’s success with tangible support for compliance at all levels of an organization.