Transcription
Best Practices for Retail NonDeposit Investment ProgramsLouis Dempsey, RenaissanceBen Marzouk, Eversheds SutherlandDavid Porteous, Faegre Baker Daniels
Agenda Regulatory Developments Focus on Fixed Income, Interest Rate Sensitive & Structured Products Compensation Practices Training Compliance Oversight
Regulatory Developments SEC Share Class Disclosure Initiative Background: SEC Division of Enforcement announced the Initiative on February 12, 2018. Encourages self-reporting of share class disclosure violations in exchange for favorablesettlement terms. Applies to RIAs only. Initiative is squarely focused on comparatively more expensive share classes with 12b-1 feesselected for clients without adequate disclosure. Query: Does disclosure alone cure Section 206 violations for recommending a moreexpensive share class when less expensive option is available? SEC action against Ameriprise (Feb. 28, 2018)
Regulatory Developments Offerings of ICOs and Cryptocurrencies SEC DAO Report (July 25, 2017) Status of ICOs as “securities” requiring SEC registration. Howey test. Impact for future ICOs? SEC Division of Investment Management Letter to ICI (Jan. 18, 2018) Mutual funds are ETFs pegged to cryptocurrency markets. Concerns regarding valuation, liquidity, and market manipulation. Request to halt cryptocurrency fund registration requests. Query: Allow reps to purchase? Allow customers to purchase?
Focus On Fixed Income ProductsFINRA Comments and other enforcement actions indicate that FINRA believes firms should: Have robust product review, approval, and monitoring process to assess product specific risksand provide centralized guidance Develop customized training/guidance for RRs, managers, and Principal Review that flow outof the due diligence process Inadequate to rely on sponsors access to RRs must be supervised so: Know what sponsors are selling and advising RRs Control sponsor conflict of interest Ensure consistency with firm’s analysis of risks Have product-specific suitability metrics including for Principal Review review Have product expertise in Principal Review review process Particular concern for bank-channel and older, less sophisticated or moreconservative customers who may be chasing rates or not understand risks
FINRA Annual Examination Priority Guidance – Examiner Focus Areas RegardingInterest Rate Sensitive Products Concentration Risk – concentrated positions in interest rate sensitive products Long Duration Risk re: FI Products & Bond Funds – if rates rise (including from changes in monetary policy),such products could lose a substantial portion of their value regardless of credit quality of underlying portfolio assets Long Holding Periods to Maturity – should match customer risk tolerance, time horizon, liquidity needs High-Yield, Municipal, Other FI – may be particularly sensitive to rate changes RR Training & Guidance – will look for firm training to ensure RRs Understand such products and risks Make suitable recommendations, and Have proactive conversations with customers about such risksCustomer Guidance & Disclosure – will look for quality of disclosures re: same
Common SEC Exam Questions Regarding ProductSales, Disclosures and Account TypesProvide any written disclosures and any scripts used during the Examination Periodregarding: a. distribution options (i.e., maintaining assets in a former employer’s plan, transferringassets to a new employer’s plan, rolling assets over to an IRA, or taking a lump sumdistribution), the tax implications of those options, and other considerations (e.g., requiredminimum distribution requirements, availability of penalty-free withdrawals, protection ofassets from lawsuits, and estate planning); b. conflicts of interest or financial interests that Registrant or its representatives have inrecommending any specific product or account type; c. the various types of account options available to clients (i.e., IRA Rollover), includingthe account- level fees and expenses and services provided.; and d. the various investment options available to clients (i.e., structured products, REITs,variable annuities, mutual funds, and ETFs), including information regarding productspecific fees and expenses, revenue sharing, loads, commissions, and other charges.
SEC Data Analysis Of Structured Securities ProductTransactions By Investment Objective Predominant types of customers that hadpurchased SSPs at each firm and branchoffice Focused on branch offices andrepresentatives that had highest numbersof sales that merited further review Trends among customer investmentobjectives: More SSPs sold to customers in its mostconservative investment objective(“Income”) than in the most aggressive(“speculation”) ( 96mm “income” to 11mm “speculative”)
Regulatory Developments SEC and State Fiduciary Developments SEC: June 1, 2017 – SEC Chairman Jay Clayton invites public comment on proposedrulemaking for uniform standard of conduct for BDs and IAs. Coordination with DOL? States: Certain states already impose fiduciary standards through either unethical businesspractices rules/regulations, or court decisions. Nevada “financial planner” amendment. Several other states taking steps to impose fiduciary duty on financial services providers(e.g., New York, New Jersey, Connecticut, Maryland). “Disclosure-based” fiduciary vs. “explicit fiduciary” standards.
Compensation Practices Sales Contests [Loop in DOLFR treatment; Scottrade enforcement action by Massachusettsproves DOLFR still has teeth] Referral Payments Regulation R Revenue Shares Management Overrides
Training Acceptable referral and sales practices Who receives training? Reps Principal Review Desk Managers Who performs training? (third party vendors / product sponsors) If training is provided by vendors / product sponsors, is it supervised? Know what sponsors are selling and advising reps Supervision of training Product committee review and approval of marketing and advertising materials used Training should flow from customer profile identified for sale of product and making sure thereis clear messaging regarding customer profile and interaction with management and PRDregarding questions Focus on messaging to bank-channel customers – how would this be understood bysomeone less familiar with market risk?
Compliance Oversight and Auditing Titles [Note: Received attention from Clayton and others @ SEC Speaks; BDs callingthemselves FAs etc ] FINRA Regulatory Notice 18-08 re: OBA/PST streamlined new rule proposal What how and when to examine investment program?
IDENTIFYING PRODUCTS FOR FURTHER ANALYSIS Materiality as measured as overall percentage of sales (e.g., rollover /breakpoint cases) Regulatory attention level Macroeconomic environment triggering heightened risk E.g., interest rate future guidance and potential impact on productperformance and customer impact Degree of unrealized losses in product class Underperformance or uneven performance Products that people may be using differently than intended (e.g., unsolicitedliquidations in specific products prior to term or recommended holding period) Complaint trending Substantial Switch Activity (to/from) – documentation of comparison Analysis of sales against higher-risk suitability factors including Age, risk profile, investment objective, other factors
Questions?
Regulatory Developments SEC Share Class Disclosure Initiative Background: SEC Division of Enforcement announced the Initiative on February 12, 2018. Encourages self-reporting of share class disclosure violations in exchange for favorable settlement terms. Applies to RIAs only. Initiative is squarely focused on c
