Why the SEC’s Exam Shift Doesn’t Take Broker Dealers Off the Compliance Hook
In February, the Securities and Exchange Commission unveiled its plan to reallocate a portion of its broker examination staff and bolster oversight of registered investment advisors. At first blush, this might seem like a welcome respite for broker dealers – but the shift isn’t that simple.
To compensate, the SEC intends to rely more on FINRA’s exam efforts in order to keep broker dealers in check. There are already multiple points of overlap between each authority’s exam criteria and priorities – so while broker dealers may not be absolved from the audit process, they can at least have a strong idea of what regulators are looking for.
Consider these three enforcement areas both the SEC and FINRA are keeping a closer eye on in 2016:
- Malicious trading schemes: If the spoofing-centric “report cards” FINRA began issuing in April are any indication, manipulative trading activity is a prime target for broker dealer exams. FINRA and the SEC are united in the push to protect investors by minimizing rogue trading behavior including spoofing, layering and pump-and-dump schemes. While FINRA works to evaluate firms’ tools and processes for spotting (and following up on) red flags, the SEC is relying on its own analytics to identify noncompliant activity.
- Liquidity: In hopes of avoiding another major Wall Street collapse or at least minimizing its impact, SEC and FINRA examiners are taking a hard look at broker dealers’ liquidity and risk management strategies. Given the dominance of high frequency trading, and increasingly muddled web of exchange fee schedules and structures, firms’ financial stability matters more than ever. For smaller and mid-sized brokerages in particular, implementing sound fee management processes and surveillance tools can help win compliance points with regulators.
- Cybersecurity: As technology underpins a growing portion of broker dealers’ operations, capital markets authorities are more interested in what firms are doing to ensure the security and integrity of their systems. Both the SEC and FINRA will put firms’ internal IT governance structure under the microscope in 2016, but cybersecurity extends far beyond corporate policy. Broker dealers need to ensure that their employees receive proper training on the systems they use (and data they handle) regularly, and that third-party vendor contracts include the requisite disaster recovery and confidentiality language.
These are only a handful of the many joint exam focuses between FINRA and the SEC, but this small sample is telling. Contemporary broker dealer compliance isn’t limited to trade surveillance or technology; it encompasses firms’ internal and customer-facing processes, their leadership and their front line staff. Broker dealers that take an equally comprehensive approach to their compliance efforts should be able to make the grade.