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On February 7, 2018, the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) released its Examination Priorities for 2018. This is the sixth year that OCIE staff has issued their priorities, which provide transparency into their thinking and guidance for advisers reviewing their compliance programs. The priorities are organized around five themes: protecting retail investors, critical market infrastructure, self-regulatory organizations, cybersecurity and anti-money laundering. These priorities are consistent with those expressed in prior years. It’s also worth noting that OCIE’s scope of oversight covers investment advisers, investment companies and broker-dealers and many of the themes overlap between those types of organizations.
The largest portion of the document, and that of most interest to advisers, was devoted to the protection of retail investors, including seniors and those saving for retirement. SEC Chairman Jay Clayton has emphasized the Commission’s commitment to protecting everyday investors, and the exam priorities reflect this mission. Several priorities were identified, including:
- Disclosure of the costs of investing. Examiners will review the disclosure of fees charged and other compensation the financial professional may receive; conflicts of interest that may provide incentives for certain products or services; and whether fees and expenses are calculated and charged as disclosed. OCIE will focus on firms with conditions that may present increased risks that investors will pay inadequately disclosed fees, expenses or other charges, such as incentives related to higher fee mutual fund share classes or accounts that have changed from commission-based to asset-based fees.
- Electronic Investment Advice. OCIE will continue to examine firms that offer advice through automated platforms, including “robo-advisers.” Examinations will focus on compliance programs, including oversight of computer program algorithms that generate recommendations, as well as marketing materials, conflict of interest disclosure and data protection.
- Wrap Fee Programs. Examiners will review whether the recommendation to invest in a wrap fee program is reasonable, if conflicts of interest are disclosed and whether advisers are receiving best execution and disclosing costs associated with trading through another broker-dealer.
- Senior Investors and Retirement Accounts. Examinations will continue to focus on investment recommendations, sales of variable insurance products and the use of target date funds. In addition, examiners will review how broker-dealers oversee interactions with senior investors, including the ability of firms to identify exploitation of seniors.
- Mutual Funds and Exchange Traded Funds (ETFs). As a new initiative this year, OCIE intends to conduct examinations focusing on mutual funds that have experienced poor performance or liquidity of subscriptions and redemptions relative to their peer groups, are managed by advisers with little experience managing registered investment companies or that hold securities that are potentially difficult to value during times of market stress. Examiners will also focus on ETFs that have little secondary market trading volume and face the risk of being de-listed from an exchange, and funds and ETFs that track custom indexes for conflicts with the index provider.
- Fixed Income Order Execution. Examinations will assess whether broker-dealers have implemented best execution policies and procedures.
- Cryptocurrency, Initial Coin Offerings (ICOs), Secondary Market Trading and Blockchain. The cryptocurrency and ICO markets have grown rapidly and present risks for retail investors. Where such products are securities, examiners will focus on controls to protect assets from theft or misappropriation and whether investors receive disclosure about the risks associated with these investments. In light of recent guidance and media attention on this subject, we are not surprised by OCIE’s focus.
- Never-Before-Examined Advisers. OCIE will continue to identify and examine firms that have never been examined.
Among the other themes, the priorities most relevant to investment advisers and broker-dealers are cybersecurity and anti-money laundering, specifically:
- Examiners will continue to prioritize cybersecurity controls in exams focusing on governance, risk assessments, access controls, data loss prevention, vendor management, training and incident response.
- Anti-Money Laundering (AML). As broker-dealers and investment companies are subject to AML rules, examinations of those entities will review the adequacy of AML programs, including customer due diligence, SAR filings, and robust and timely independent tests of programs.
In view of the SEC’s examination priorities, now is a good time to focus on any priorities identified impacting your firm’s business model and to consider revisiting your firm’s annual review content and written policies and procedures (“WSPs”) to ensure that the applicable SEC priorities are being addressed. For example, as part of this process, review those WSP sections for any material gaps and then test to ensure that the policies are being adhered to.
For more help with your compliance program, contact Ascendant at 860-435-2255.
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