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Top 2014 Regulatory Priorities for B-Ds

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FINRA and the SEC recently issued 2014 examination priorities letters to help broker-dealers focus and allocate resources to the higher-risk areas of their business and the areas that may be assessed in upcoming examinations.

Suitability and complex products, leveraged loan products, structured products, leveraged exchange-traded funds and notes, variable annuities, cyber-security and data integrity, private placements, anti-money laundering, insider trading, margin lending practices, leverage and liquidity, algorithmic trading, high frequency trading, and alternative trading systems – the list goes on. So where should firms start?

Here’s an overview of some of the areas that FINRA or SEC examinations are likely to focus on at firms in the coming year.


B-Ds should think twice before hiring brokers with a history of complaints or disclosures for sales practice issues. FINRA will expand its high-risk broker initiative in 2014 and create a dedicated enforcement team to expedite the prosecution of recidivist brokers. FINRA examinations will evaluate firms’ hiring efforts, heightened supervision and trading practices of such brokers.


The SEC highlighted conflict of interests inherent in certain investment advisor business models. SEC examination staff will focus on advisor compensation arrangements, allocation of investment opportunities, controls and disclosure associated with various fee structures, risk controls and disclosure for leveraged and illiquid products and higher risk products marketed to retail investors.

FINRA also followed-up on its October 2013 report on conflicts of interest by further highlighting that examiners will be reviewing firms’ conflict management practices and the potential impact on customers. Sales efforts for proprietary products or other products for which the firm may have revenue-sharing agreements will be closely scrutinized to determine whether firms are pushing the sale of such products.


FINRA remains concerned about the suitability of recommendations to retail investors for complex products. Complex products disclosures, overconcentration in interest-rate-sensitive products and frontier fund risks are three areas where FINRA has placed an increased focus for 2014.

1. When in doubt, disclose. Given the growth of complex products, FINRA examination staff will continue to focus on the way in which firms disclose product risks to customers and the policies and procedures around those disclosures. Firms should evaluate their training efforts in this area to ensure that registered representatives are providing a balanced discussion of the product risks and potential scenarios that may result in customer losses.

2. Interest rates: Nowhere to go but up. As today’s record low interest rates will not last forever, FINRA has encouraged firms to consider the downside risks to interest-rate-sensitive products and the equities markets that could result from a sudden shift in the interest rate environment. Firms should evaluate customers that have near-term liquidity needs that are highly concentrated in higher duration, fixed-income products. Brokers should be proactive about discussing interest-rate risk with their clients and document client conversations accordingly.

3. Frontier funds: The new emerging markets. Coming off a disappointing year for emerging market funds due to “taper talk” in the U.S. and slowing growth for emerging market countries, investors may look to frontier markets such as Vietnam, Kuwait and Nigeria for above market returns. FINRA warns of the heightened risks associated with these markets given political instability, liquidity risk and lower regulatory standards.

Ultimately, FINRA and the SEC’s national examination program priorities are not exhaustive. With unique risks, issues and policies, the important thing is that firms use these priorities letters as an indication of perceived areas of risk and to help strengthen compliance and supervisory programs.

Nick Hartofilis is the director of risk advisory services with accounting firm Kaufman Rossin and is a former examination manager at FINRA. Bao Q. Nguyen is a risk advisory services manager with nearly 10 years of experience in the financial services industry and in the securities industry.

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