RECENT ALERTS: DISTRIBUTION AND BROKER-DEALERS
MASSACHUSETTS SUES BD FOR SIV SUITABILITY AND MISLEADING REGULATOR
(12/26/07)
The Enforcement Section of the Massachusetts Securities Division has filed an administrative complaint against
a broker-dealer for selling structured products without conducting a satisfactory suitability examination and
misleading the Division during inquiries into its supervisory practices. The BD executed 62 transactions in
structured products over the course of an 18-month period. The Division alleges that the BD did not conduct
an overall suitability determination of the products or a client-by-client review. During an examination, the
Division alleges that the BD attempted to mislead the examiners by providing policies and procedures created
after receiving the Division’s request for documents. Additionally, the Division alleges that even the recentlycreated policies and procedures were deficient.
Our take: We believe that Massachusetts may not have brought this case solely on the basis of failure to ensure
suitability. The stonewalling of the examiners raised the Division’s ire and turned a deficiency into enforcement
action.
http://www.sec.state.ma.us/sct/sctcan2/cantella_comp.pdf
DOL PROPOSES EXTENSIVE SERVICE PROVIDER DISCLOSURES (12/18/07)
The Department of Labor has proposed a new regulation requiring extensive disclosure of any compensation
received and conflicts of interest for service providers to employee benefit plans. Service providers include
fiduciaries, investment advisors, brokers, TPAs, and custodians. Disclosure of fees and compensation include all
direct and indirect compensation, the amount of fees, and the manner of receipt. Bundled service providers
need only describe aggregate fees, unless underlying fees are separately charged to the plan. Required conflict of
interest disclosure includes any relationship a service provider has with a plan’s money manger and any
arrangement where a service provider can affect its own compensation without prior approval of a plan
fiduciary.
Our take: The DoL has long advocated enhanced disclosure of fees and conflicts. While disclosure is always a
good thing, it is unclear whether participants or plan sponsors really want this added disclosure especially if it
results in higher costs.
http://www.dol.gov/ebsa/regs/fedreg/proposed/2007024064.pdf
http://www.dol.gov/ebsa/regs/fedreg/notices/2007024063.pdf
FINRA ADDS 18 NEW TOPICS TO SERIES 24 EXAM (12/17/07)
FINRA recently announced changes to the Series 24 (General Securities Principal) examination to expand the
topics covered in the exam. FINRA added sections on 18 additional areas including areas related to:
Offering of Securities - Reg M-A, Reg S-K, Reg S-X, NYSE Rule 392
Customer Accounts - IM 2110-7, Rule 2111, Rule 2370, Rule 2441
IPOs - NASDAQ Head Trader Alert 2005-096, Rule 5110
Licensing – SEC Rule 3a4-1
Fairness Opinions – Rule 2290
FINRA left the total number of questions (150) the same but increased the number of questions related to
supervision of employees and sales and supervision of investment banking, underwriting activities, and research.
FINRA also adopted changes to several of its other examinations including the 23, 42, 55, 62, 72 and 82 exams.
Our take: FINRA is making the Series 24 more difficult by requiring an applicant to learn several more areas.
This is a continuation of FINRA’s movement to putting more regulatory oversight responsibility on supervising
principals.
http://www.finra.org/web/groups/rules_regs/documents/notice_to_members/p037606.pdf
MASSACHUSETTS SEEKS TO HOLD BD FIRM LIABLE FOR ROGUE BROKER’S CONDUCT
(12/12/07)
The Massachusetts Securities Division has filed an administrative complaint charging a large broker-dealer for
failure to supervise a rogue broker and charging the firm with the underlying conduct. The Rep cold-called
several individuals that accepted an early retirement package from a local employer. The Rep induced the
retirees to take a lump sum and invest it in the stock market. The Rep engaged in frequent trading and other
unlawful activity, which ultimately resulted in significant loss of funds. The firm never disciplined the Rep or
stopped his unlawful activity despite notice of his activity. In fact, one regional supervisor asked the Rep’s
immediate supervisor to reduce his supervision. The Securities Division seeks remedies against the Firm for the
Rep’s underlying conduct and for failing to supervise.
Our take: A firm will be held responsible for a rogue broker’s unlawful activity if the firm fails to take
immediate and swift action when it becomes aware of unlawful activity. Any action would help: formal
discipline, fines, increased supervision, job action.
http://www.sec.state.ma.us/sct/sctedwards/edwards_comp_exh.pdf
MASSACHUSETTS ORDERS BD TO PAY $1 MILLION FOR FAILURE TO SUPERVISE (11/1/07)
The Massachusetts Securities Division ordered a broker-dealer to pay over $1 Million in fines and restitution to
customers for failing to adequately supervise a rogue Rep. The Rep used his Greek heritage to build trust and
solicit funds from others in the Greek community. The Rep took the money and spent it on casino gambling.
The Rep has disappeared. According to the Compliant, for over 4 years, the firm had indications that the Rep
commingled client funds with his own. The Rep also resisted requests for records. A supervisor informed the
compliance department, which failed to follow-up with instructions to heighten supervision. The Firm also
failed to conduct unannounced inspections or to contact the Rep’s clients.
Our take: It is somewhat unusual that a state regulator brings a “failure to supervise” case. This is usually
FINRA’s jurisdiction. It raises the possibility of multiple standards of supervision depending on the state.
http://www.sec.state.ma.us/sct/sctpdf/ingcomplaint.pdf
BD FINED $1 MILLION FOR DELIVERING BAD BREAKPOINT DATA TO FINRA (10/31/07)
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FINRA fined a large broker-dealer $1 Million for submitting inaccurate breakpoint data in response to FINRA
requests. FINRA had requested breakpoint data as part of its 2003 sweep of approximately 2000 broker-dealers.
After FINRA notified the firm that initial data delivered was flawed and “rife with errors,” the firm provided a
new batch of flawed data: (a) transactions that should have been excluded, (b) failure to identify linked accounts,
(c) missing discount information, (d) incorrect sales charge percentages, and (e) overcharged trades. According
to FINRA, each of the firm’s submissions “so completely and fundamentally failed to comply” with the requests
that FINRA could not use the data to determine compliance. In addition to the fine, the firm agreed to an
independent consultant review and to provide quarterly reports to FINRA with respect to regulatory responses.
Our take: FINRA gave the firm the benefit of the doubt and allowed it a second chance to deliver good data.
After the second failure, FINRA determined that the firm acted with intent or recklessness with respect to the
FINRA request. It probably would have cost the firm less to suffer a censure for its breakpoint practices than it
cost it to diligently respond to the FINRA requests.
http://www.finra.org/PressRoom/NewsReleases/2007NewsReleases/P037283
FIRM TO PAY $12.5 MILLION FOR FAILING TO PRODUCE E-MAILS (9/28/07)
A large broker-dealer agreed to pay $9.5 Million to a reimbursement fund and another $3 Million in fines for
failing to produce e-mails in connection with arbitrations and regulatory investigations. The firm had
erroneously represented that the e-mails were destroyed in the 9/11 attacks. In fact, the firm’s back-up system
had restored the e-mails. The firm subsequently permitted destruction of the e-mails by overwriting backup
tapes and allowing users to permanently delete the e-mails. FINRA will create a fund to administer the payouts
to claimants.
Our take: FINRA has stressed the importance of e-mail retention. Firms that claim that they cannot produce
required e-mails have the burden of proof. Because all firms must have a business continuity plan and disaster
recovery plan, an excuse that some force majeure resulted in the loss of e-mails will not likely succeed.
http://www.finra.org/PressRoom/NewsReleases/2007NewsReleases/P037071
PENSION CONSULTANT CENSURED FOR FAILING TO DISCLOSE PAYMENTS FROM BD
(9/24/07)
The SEC sanctioned a pension consultant for failing to disclose in its ADV Part II that it received annual
payments from its preferred broker-dealer based on total commissions generated through referrals. The pension
consultant had sold its affiliated BD business to the preferred BD vendor. As part of the purchase agreement,
the buyer agreed to pay an amount pegged to the level of commissions generated by the consultant. Although
the consultant’s ADV Part II stated that the BD was its preferred vendor and exclusive soft dollar vendor, it did
not disclose the conflict of interest inherent in the contingent payment arrangement. Additionally, the
consultant had misrepresented to certain customers that the payments from the BD were fixed for a period of
years. The SEC alleged a violation of Section 207 of the Advisors Act.
Our take: This is another example of the SEC’s position that a registrant must be clear when disclosing conflicts
of interest. This case is also interesting in that the SEC has not brought many cases under Section 207 of the
Advisers Act for making misleading disclosures in an ADV Part II. Finally, the consultant is fortunate that the
SEC didn’t allege that the consultant should have registered as a broker-dealer because it received indirect
transaction-based compensation.
http://www.sec.gov/litigation/admin/2007/ia-2650.pdf
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SEC PROPOSES RULE REQUIRING ALL DISCRETIONARY BDs to BECOME RIAs (9/21/07)
The SEC has proposed rule amendments to clarify when a broker-dealer is exempt from the Advisers Act
because its advisory services are “solely incidental” to its brokerage business and the BD receives no “special
compensation.” Under the proposed rule, a BD could not claim that its services were “solely incidental” if it
exercised investment discretion or charged a separate fee for advisory services or. The proposal also indicates
that a BD does not receive special compensation as a result of charging a discount brokerage commission that is
less than a full-service charge. The proposed rule amendments are the result of FPA v. SEC, which struck down
the “Merrill Rule,” which had exempted fee-based brokerage accounts from the Advisers Act. The SEC also
adopted an interim rule allowing BD firms whose clients convert from fee-based brokerage accounts to advisory
accounts to make principal trades with such clients so that the clients can continue to have access to the same
securities.
Our take: Requiring any broker-dealer that assumes investment discretion to register as an investment adviser
would be a significant change. This would severely limit the activities of broker-dealers that do not dually
register. This continues the regulators’ movement to treating all client-interfacing sales/service personnel to act
as fiduciaries.
http://www.sec.gov/news/press/2007/2007-193.htm
MASSACHUSETTS SUES BD FOR VIOLATING DO-NOT-CALL STATUTES (9/19/07)
The Massachusetts Securities Division has instituted proceedings against a large broker-dealer alleging that their
cold-calling sales practices violated national and state “do-not-call” statutes and regulations. The firm
misappropriated passwords to CareerBuilder.com, downloaded resumes, and used personal information to
conduct cold-calling campaigns without ever checking the names against the Do-Not-Call registries.
Massachusetts also alleges that the aggressive cold-calling tactics violated NASD rules regarding fair treatment of
customers as well as various provisions of the 1934 Act.
Our take: Massachusetts has once again taken a novel enforcement approach by leveraging the Do-Not-Call
statutes to regulate securities sales. Nevertheless, broker-dealers should make certain that they have applicable
policies and procedures when their sales forces engage in cold calling.
http://www.sec.state.ma.us/sct/sctms2/ms2complaint.pdf
NFA ISSUES STRICTER GUIDELINES FOR THE SUPERVISION OF PREVIOUSLY
DISCIPLINED APs (9/18/07)
The CFTC approved a revised version of an NFA Interpretive Notice increasing the number of Member Firms
subject to enhanced supervisory procedures. The Notice broadens the definition of a Disciplined Firm to
include Members that have been sanctioned in any way by either the CFTC or NFA due to deceptive
telemarketing practices or promotional material within the preceding five years, not just Members who had been
permanently barred from the industry for such practices. Also, any Member that charges 50% or more of its
active customers round-turn commissions, fees and other charges that total $100 or more per futures, forex or
option contract is required to adopt the enhanced supervisory requirements. The enhanced supervision includes
the recording of telephone conversations, submitting all promotional material to NFA at least 10 days prior to
first use, adopting written supervisory procedures, making quarterly reports of its compliance with the
requirements, and either operating pursuant to a guarantee agreement or maintaining an increased level of
adjusted net capital. Those Members that are subject to these enhanced requirements must now provide a
compliance report monthly, as opposed to quarterly. The NFA has also updated its online registration system to
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provide Members with current employment backgrounds of both their current associated persons and principals
and of prospective associated persons and principals.
Our Take: The NFA is strengthening its oversight over Member Firms, their sales practices, and their
employees while placing more of the burden on Member Firms to supervise their employees. The NFA is
targeting those that have previously been disciplined for deceptive telemarketing practices or promotional
material and forcing them to comply with stricter standards. Members should make sure that their supervisory
procedures are updated and that they provide effective supervision over employees and their sales practices.
http://www.nfa.futures.org/news/newsNotice.asp?ArticleID=1943
NEW FINRA RULE RE VARIABLE ANNUITIES APPROVED (9/14/07)
The SEC recently approved new FINRA Conduct Rule 2821 governing suitability and supervision of deferred
variable annuities. The new Rule includes specific suitability requirements that require consideration of
surrender charges, fees, and market risks. The firm must also consider the annuity as a whole and the underlying
subaccounts. For exchanges, the firm must consider whether the customer had another exchange within the
prior 36 months. A principal must review and approved any application before submission to an insurance
company. The rule also requires specific written supervisory procedures and training.
Our take: FINRA has always expressed concern about variable annuity sales. Now, it is making specific the
suitability and other supervisory requirements.
http://finra.complinet.com/finra/display/display.html?rbid=1189&element_id=1159007357
BD FIRMS SANCIONED FOR FAILING TO RESPOND TO RED FLAGS ON REP’S OUTSIDE
BUSINESS ACTIVITIES (9/12/07)
The SEC sanctioned and fined two brokerage firms and a supervisor for failing to adequately supervise a rogue
broker who stole customer funds. The rogue broker operated an independent investment advisory firm. The
SEC stated that both the firms and the supervisor failed to respond to red flags including evidence of failing
outside business interests that required significant capital infusions. The firms and the supervisor also failed to
create and follow procedures to review incoming mail that would have uncovered the fraud.
Our take: Firms must respond when evidence appears of possible conflicts of interest or potential improper
motives, especially involving outside business interests. Having procedures and ignoring them will not satisfy
regulatory requirements.
http://www.sec.gov/litigation/admin/2007/34-56362.pdf
http://www.sec.gov/litigation/admin/2007/34-56363.pdf
http://www.sec.gov/litigation/admin/2007/34-56364.pdf
CALIFORNIA COURT RULES THAT NSMIA DOES NOT PREEMPT STATE LAW FRAUD
CLAIMS (9/11/07)
The California Court of Appeals has held that NSMIA does not preempt state law claims of fraud in a case
alleging that a broker-dealer failed to disclose revenue sharing payments received from mutual funds. The
Broker-Dealer had argued that NSMIA exclusively governed the content of mutual fund disclosure documents.
The California Court of Appeals disagreed, stating that matters of fraud were an exclusion to NSMIA’s
preemption.
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Our take: The California Court of Appeals is wrong. NSMIA was clearly intended to avoid the pre-NSMIA
world of states adding disclosure requirements to mutual fund disclosure documents. The Court could have
reversed on the grounds that the broker-dealer needed some point of sale disclosure document (in addition to
the 10b-10 confirm) independent of the prospectus. In fact, the SEC has stated repeatedly that broker-dealers
cannot and should not rely on mutual fund prospectuses to fulfill their disclosure obligations.
http://www.courtinfo.ca.gov/opinions/documents/C053407.PDF
REGISTERED PENSION CONSULTANT CENSURED FOR FAILING TO DISCLOSE MONEY
MANAGER SUBSCRIPTION SERVICE (9/10/07)
The SEC censured and fined a registered pension consultant for failing to adequately inform its pension clients
that it sold subscription services to money managers that it recommended. The pension consultant sold output
data from its performance database to money managers that paid $13,500 per year. Some of the subscribers
included managers recommended to pension clients. Although the pension consultant disclosed the sales in its
ADV Part II, the SEC stated that responses to RFPs did not sufficiently disclose the conflict of interest.
Our take: An adviser has a heightened disclosure obligation with respect to any conflict of interest. ADV
disclosure alone may not be sufficient. Also, even if the conflict did not result in any harm to the end client, an
adviser will risk SEC action for failing to disclose the possible effect of the conflict.
http://www.sec.gov/litigation/admin/2007/ia-2642.pdf
BD FIRM TO PAY $4 MILLION FOR FEE-BASED ACCOUNT PRACTICES (9/6/07)
A brokerage firm agreed to pay $1.2 Million in fines and $2.6 Million to reimburse customers in connection with
its fee-based brokerage account practices. Although the BD intended the accounts to be available only to
frequent-trading customers with account assets in excess of $50,000, many (an internal exception report
suggested more than half) did not meet this profile. Additionally, marketing materials stated that the reps did
not have a conflict of interest but did not disclose that the reps paid half of any ticket charge in the event trades
were made. FINRA charged the firm with inadequate supervisory procedures and providing misleading sales
literature.
Our take: Good intentions will not satisfy FINRA. Regardless of a firm’s “from-the-top” statements or its
policies and procedures, empirical evidence of FINRA rules violations will result in fines and censure.
http://www.finra.org/PressRoom/NewsReleases/2007NewsReleases/P036681
SEC PURSUES BD FIRM FOR MISUING PERSONAL INFORMATION IN REP TRANSITIONS
(9/4/07)
The SEC has commenced an enforcement action against a broker-dealer that collected nonpublic personal
information about clients of recruited reps as part of the transition process. The SEC alleges violations of
Regulation S-P because the BD encouraged, collected, and utilized personal customer account data in
connection with facilitating rep transitions without giving the underlying customers the opportunity to consent
and opt out. The SEC also cited the BD for insufficient privacy procedures.
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Our take: “Transition teams” that assist rep client base conversions must ensure client consent before accessing
personal information. Once the client is contacted, the incumbent broker-dealer will be alerted to the possible
transition. The unintended result is that the SEC is making it more difficult for registered representatives to
change broker-dealer affiliations.
http://sec.gov/litigation/admin/2007/34-56316-o.pdf
ADVISER SANCTIONED FOR TRADING THROUGH AFFILIATED BROKER-DEALER
WITHOUT ENSURING BEST EXECUTION (8/24/07)
The SEC sanctioned an investment advisor because trades executed through an affiliated broker-dealer by
referred clients paid higher commission rates than non-referred clients. The Respondent’s registered reps
referred advisory clients to its advisory subsidiary, which executed trades through the affiliated broker-dealer.
The SEC alleged that, although the Respondent claimed to offer full service brokerage, the referred accounts did
not receive better quality execution or prices. Significantly, non-referred clients paid lower commission rates.
The SEC charged the Respondent with failure to (a) disclose to referred clients that it had a variety of custody
and execution options and that it had a conflict of interest, (b) obtain best execution, and (c) document referred
clients’ selection of the affiliated broker-dealer. The Respondent’s control persons were also sanctioned for
aiding and abetting the unlawful activity.
Our take: The SEC’s position seems to be that an advisory firm that uses an affiliated broker-dealer must
demonstrate that it achieved better execution or offer enhanced services. Otherwise, the SEC will second-guess
the use of the affiliate.
http://www.sec.gov/litigation/admin/2007/ia-2639.pdf
NASD PERMITS MULTIPLE CCOS AND CEOS FOR ANNUAL CERTIFICATIONS (7/26/07)
The NASD has amended Rule 3013 and IM-3013 to allow member firms to appoint more than one Chief
Compliance Officer provided that: (i) each CCO is a principal, (ii) the firm precisely defines the area(s) of
primary compliance responsibility for each CCO, (iii) each CCO satisfies his/her 3013 obligations (meeting with
the CEO) as if he/she were the firm’s sole CCO, and (iv) the CCOs collectively have the responsibilities and
expertise to consult with the CEO on the subject matter required by 3013. Additionally, the NASD has also
amended Rule 3013 and IM-3013 to permit a second CEO to provide the required annual certification. Unlike
the CCO requirement, each CEO must discharge all of the obligations under 3013.
Our take: These changes are puzzling. Rule 3013 has ensured that firms had one senior compliance officer that
had sufficient authority and accountability in a firm. In fact, the SEC followed Rule 3013 when adopting Rule
206(4)-7 for investment advisers and Rule 38a-1 for mutual funds. Allowing firms to appoint multiple CCOs
diminishes the standing of compliance in a firm by disseminating responsibility among several less-influential
officers. Multiple CCOs also opens the door to forum shopping in overlapping areas. Allowing multiple CEO
certifications permits further diffusion of accountability.
http://www.nasd.com/web/groups/rules_regs/documents/notice_to_members/nasdw_019469.pdf
TRADE ORGS SUBMIT RECOMMENDATIONS ON DC PLAN DISCLOSURE (7/24/07)
Twelve major trade organizations submitted to the Department of Labor their fee and expense disclosure
recommendations for participant directed retirement plans. The organizations, which included the ICI, SIFMA,
and the American Bankers Association, called for simplicity and flexibility in the presentation of information.
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The recommendations stress that fee and expense information should be included alongside equally important
information about investment objectives/policies, performance, and the investment manager. Fee disclosure
should include a total of asset-based fees and per account charges but should not delve into the allocation of
expenses required in disclosure to fiduciaries. The recommendations also encourage the use of web-based
technologies to present disclosure.
Our take: The DoL should seriously consider the recommendations as they come from both sides of the
industry: plan sponsors and investment providers. The DoL has the unenviable task of balancing complete
disclosure with participants’ ability to understand it.
http://www.sifma.org/regulatory/comment_letters/49005888.pdf
BROKERAGE FIRM TO PAY $23 MILLION TO SETTLE NEW YORK STATE ACTION FOR
REVERSE CHURNING ON FEE-BASED BROKERAGE ACCOUNTS (7/18/07)
In a settlement with the New York State Attorney General, a large brokerage firm has agreed to pay over $21
Million in restitution and $2 Million in penalties for selling unsuitable fee-based brokerage accounts. According
to the Attorney General, the firm and its brokers engaged in reverse churning because the customers would have
paid lower fees in traditional commission-only brokerage accounts because such customers engaged in little
trading. The Attorney General indicated that the firm’s brokers falsely promised comprehensive and
sophisticated financial planning.
Our take: The state regulators have taken the lead in pursuing reverse churning actions on fee-based brokerage
accounts. Interestingly, the New York State Attorney General focused on the unsuitability of the
recommendation rather than on a broker’s continuing obligation to monitor the account, which the NASD has
recently stressed.
http://www.oag.state.ny.us/press/2007/jul/jul16a_07.html
SEC EXONERATES PRINCIPAL FROM DIRECT LIABILITY FOR BROKERS’ MISCONDUCT
(7/16/07)
In a recent opinion reviewing an NASD disciplinary action, the SEC determined that although the president of a
broker-dealer violated NASD Conduct Rule 3010 (Failure to Supervise) in connection with rogue brokers’
fraudulent activity, the president was not secondarily liable for the activities of the brokers. The Commission set
aside the NASD’s findings and absolved the president from liability under Section 20(a) of the Exchange Act
because he did not sufficiently control his brokers’ activities to an extent that he participated in their unlawful
conduct. The brokers engaged in multiple sales practice violations in connection with the sale of penny stocks,
including the making of several misleading statements and the failure to determine suitablility.
Our take: The SEC in this opinion clearly indicates that supervision is a distinct obligation from the supervised
activities. The opinion should also give some comfort to supervising principals and compliance officers who
can avoid direct liability by exercising appropriate supervision and related due diligence.
http://www.sec.gov/litigation/opinions/2007/34-55988.pdf
NASD FINES FIRM AND CHARGES BROKER FOR RECEIVING DIRECTED BROKERAGE
FROM MUTUAL FUND (7/12/07)
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The NASD fined a broker-dealer $375,000 and charged an individual broker for taking directed brokerage
commissions from a fund recommended by the broker to union retirement plan clients. The firm approved and
facilitated an arrangement that the broker set up with a mutual fund company to pay directed brokerage to the
firm who shared a portion of the commissions directly with the broker. The individual broker collected over
60% of the commissions. NASD rules prohibit firms from granting direct participation in directed brokerage to
sales personnel. Additionally, the broker failed to disclose his additional compensation to his clients. James
Shorris, NASD Head of Enforcement, indicated that the broker’s conduct compromised his objectivity.
Our take: The direct payment of commissions to the broker and his failure to disclose the compensation to
retirement plan clients clearly violated NASD rules. More interesting, however, is Mr. Shorris’s statement that a
broker must be objective. Generally, NASD rules require an investment to be suitable. Any broker who
receives commission on the sale of a product has by definition a conflict of interest that makes him/her less
than objective. Requiring objectivity is another step by the NASD to impose the same type of fiduciary
responsibility required of investment advisers.
http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_019394
COURT ALLOWS PUBLIC NEWS STORIES TO TRIGGER STATUE OF LIMITATIONS IN
CLASS B CASE (7/2/07)
The Third Circuit recently dismissed a suit alleging fraud and conflict of interest in connection with the sale of
Class B shares as untimely and in violation of the statute of limitations because it was filed over two years after
the plaintiff gained “inquiry notice” of the alleged misconduct. Disclosure language in the funds’ registration
statements combined with several widely-available news articles and NASD press releases acted as a “storm
warning” and were sufficient to trigger inquiry notice. The plaintiffs should have become aware of the
misconduct within the 2-year statute of limitations period. The Court found that the plaintiff “failed to exercise
the due diligence expected of reasonable investors of ordinary intelligence”
Our take: Allowing defendants to use public news sources to run the statue of limitations clearly helps fund
firms. However, we are unsure whether the Court would have reached the same conclusion had the fund firm
not also included significant disclosure in its registration statement.
http://www.ca3.uscourts.gov/opinarch/061867p.pdf
BD FINED $2 MILLION+ FOR REVERSE CHURNING IN FEE-BASED BROKERAGE
ACCOUNTS (6/22/07)
The NASD fined a large broker-dealer $2 Million and ordered it to pay restitution for failing to prevent reverse
churning in fee-based brokerage accounts. The BD had allowed hundreds of small customers to maintain feebased brokerage accounts even though such customers placed no trades for a period of 2 years or more.
Additionally, hundreds of small accounts paid the minimum fee that amounted to greater than 2% of the
accounts’ assets. The BD also failed to waive fees with respect to “A” shares of mutual funds on which
customers had already paid a sales load. James Shorris, NASD’s Head of Enforcement, stated that BD firms
have a continuing obligation to “assess the appropriateness” of fee-based brokerage accounts “both when the
accounts were opened and periodically thereafter.”
Our take: Even before the repeal of the “Merrill Rule” (allowing fee-based brokerage accounts without
investment adviser registration), the NASD has been concerned about reverse-churning. The NASD has
consistently indicated that with respect to such accounts (and perhaps the rest of its business), BD’s have a
continuing monitoring obligation. The net effect is to impose on BDs the same fiduciary-like responsibilities
required of a registered investment adviser
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http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_019312
SEC OUTLINES BD EXAM PRIORITIES (6/19/07)
Mary Ann Gadziala, Associate Director for the SEC’s Office of Compliance, Inspections and Examinations,
recently addressed the SIFMA on “The Regulatory Focus on Broker-Dealer Legal and Compliance Issues”
during which she outlined OCIE’s examination priorities. According to Gadziala, the SEC’s examination
priorities include supervision (adequacy of WSPs, branch offices); sales practices (529 plans, CMOs, REITs,
hedge funds, structured products); risk management (BCP, information security, structured finance
transactions); financial issues (net capital); books and records (e-mail retention); trading practices (best
execution, confidentiality); anti-money laundering; and examinations of registrants that are also registered
investment advisers. Gadziala also indicated that the SEC will rely on a firm's own independent reviews to allow
the SEC to focus its review on high-risk areas.
Our take: Gadziala has set forth a very expansive list of “examination priorities.” Clearly, the SEC is relying on
firms to maintain proper policies and procedures to ensure their own compliance and is looking for firms to
carry more of the burden with respect to identifying and solving compliance issues. Firms are expected to
implement, update, and enforce their own strict compliance standards to ease the burden on the regulatory
authorities.
http://www.sec.gov/news/speech/2007/spch060707mag.htm
SROs ISSUE PROPOSED JOINT GUIDANCE ON ELECTRONIC COMMUNICATIONS
(6/18/07)
The NASD and NYSE have issued a request for comment on guidance regarding the review and supervision of
electronic communications. The Joint Guidance relies on “risk-based principles” that a member must consider
when developing supervisory systems and procedures for electronic communications. The Joint Guidance
reminds members of their obligations to review communications related to research reports, communications
with the public, customer complaints, and errors. The NASD and NYSE indicated that the growth of electronic
communications has raised the need for further guidance in the following areas: (i) updated written policies and
procedures including training; (ii) new types of electronic communications (e.g. instant messaging, weblogs,
personal e-mail services); (iii) identification of supervisory responsibility; (iv) review methodology (e.g. word
search, random sampling); (v) frequency of review; and (vi) documentation.
Our take: Technology has outpaced most firms’ policies. Members need to update existing procedures to
include podcasts, webcasts, blogs, third-party services, etc. Most firms will also need to implement a review
technology.
http://www.nasd.com/web/groups/rules_regs/documents/notice_to_members/nasdw_019298.pdf
OCIE COMPLIANCE ALERT ADDRESSES ADVISER PERFORMANCE ADVERTISING, AS-OF
TRADING, AND BD SALES PRACTICES (6/15/07)
The SEC’s Office of Compliance and Inspections released its first ComplianceAlert, offering insight into
common deficiencies uncovered during examinations of advisers, broker-dealers, funds, and transfer agents.
The OCIE staff noted significant deficiencies with respect to performance advertising by advisers, mutual fund
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“as-of” trading practices, closed-end fund distributions, use by BD firms of part-time FINOPs, overcharging on
SMA accounts, and sales practices with respect to 529 plans, CMOs and REITs. The OCIE staff indicated that
the ComplianceAlert is intended to “encourage you to review compliance in these areas.”
Our take: While we encourage broad dissemination of staff positions, we are concerned that this type of Alert is
just another vehicle for informal rule-making. Regardless, OCIE has put the industry on notice with respect to
the issues addressed in the Alert. We recommend (at a minimum) that the annual compliance review include the
areas addressed in the Alert.
http://www.sec.gov/news/press/2007/2007-116.htm
http://www.sec.gov/about/offices/ocie/complialert.htm
SEC AMENDS SHORT-SALE RULES (6/14/07)
The SEC adopted final amendments to Regulation SHO applicable to short sales. The SEC eliminated certain
grandfather provisions so that all fail to deliver positions in certain threshold securities will have to be closed out
within 13 days, extended the close-out requirement for Rule 144 securities from 13 to 35 days, and removed the
Rule 10a-1 tick test.
Our take: The SEC continues to closely monitor short selling to avoid any systemic market disruptions. The
amendments to Regulation SHO were based in part on empirical analysis and research. During an examination,
we expect the SEC to spend a fair amount of time reviewing a firm’s short-selling compliance.
http://www.sec.gov/news/press/2007/2007-114.htm
529 ADVERSTING RULES TO CONFORM TO MUTUAL FUND RULES (6/13/07)
The SEC approved several amendments to the MSRB’s advertising rules that impact the sales of 529 plans.
Most significantly, performance information must closely follow the presentation currently required for funds in
NASD Conduct Rule 2210(d)(3) and SEC Rule 482. In this regard, the total annual operating expense ratio
must be shown gross of any fee waivers or expense reimbursements. Additionally, all sales loads must be
current as of the date of publication.
Our take: It makes sense to conform the 529 advertising rules to the mutual fund rules. The changes may make
it tougher on the marketers but easier on the compliance folks.
http://www.msrb.org/msrb1/whatsnew/2007-18.asp
MASSACHUSETTS SEEKS RESCISSION OF PRIVATE FUND SALES BY UN-LICENSED BD
AND PRINCIPAL (6/8/07)
The Massachusetts Securities Division has filed a complaint against a third party marketing firm and its principal
for selling securities in Massachusetts without licensing as a broker-dealer or agent. Massachusetts seeks to
require the firm to offer rescission to all Massachusetts customers, in addition to imposing fines. The
Respondents sold interests in private funds and privately offered securities by cold calling investors identified on
purchased sales lead lists. Both the firm and the principal were located, and conducted sales activities, in
Massachusetts and received commission compensation.
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Our take: States generally do not pursue enforcement actions unless a customer is harmed. Although the
Complaint references certain questionable securities offered by the Respondent, it does not allege any particular
client loss. This appears to be a preemptive strike. Nevertheless, by seeking rescission, Massachusetts is sending
a message that failure to license could result in significant penalties. Interestingly, Massachusetts did not allege
that the issuers engaged in the public offering of unregistered securities. Perhaps, the SEC will ultimately take
action.
http://www.sec.state.ma.us/sct/sctmckenna/mckenna_complaint.pdf
BD FIRM TO PAY $15 MILLION FOR FAILING TO SUPERVISE (6/7/07)
The NASD ordered a broker-dealer to pay over $15 Million in fines and restitution for failing to supervise
brokers whose misleading statements induced unsophisticated customers to cash out their retirement plans and
retire early. According to the NASD, the brokers conducted seminars that encouraged employees to cash out
their employee benefit plans and retire early because they could earn more investing directly in the market
(which ultimately proved false). The brokers made excessive claims about possible returns, did not disclose fees,
and overstated their credentials. Although the brokers conducted the seminars without specifically notifying the
firm, the BD firm ignored several “red flags” including responses to audit questionnaires and misleading
handouts reviewed by the firm.
Our take: This is another “red flag” case whereby the NASD levies penalties for ignoring the red flags indicating
broker misconduct. It also reinforces that the NASD will put a higher burden on brokers and firms when the
customer is relatively unsophisticated.
http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_019240
BD PRINCIPALS BARRED FOR IGNORING ROGUE REP’S ACTIVITIES (6/3/07)
The SEC barred two securities principals from the industry in connection with their failure to supervise a rogue
representative despite several red flags. The Rep ultimately went to jail for operating a Ponzi scheme that went
undetected by the BD firm. The principals failed to take action despite knowledge of several red flags: (i)
fraudulent conduct that occurred at the Rep’s prior firm; (ii) the Rep’s failure to respond to compliance surveys;
(iii) large swings in production and commissions; (iv) misleading advertising that omitted the BD’s name; (v)
significant customer attrition; and (vi) failure to produce written client correspondence. The BD firm and the
principals failed to reasonably supervise the Rep by (a) failing to conduct surprise examinations of the Rep’s
one-man off-site office; (b) conducting only cursory reviews when visiting the Rep’s office, which if done
properly, would have uncovered the fraud; and (c) failing to interview customers and review bank records.
Our take: The SEC will take action if principals intentionally turn a blind eye to obvious misconduct. The mere
adoption of compliance procedures will not suffice if the principals do not enforce them.
http://www.sec.gov/litigation/admin/2007/34-55834.pdf
NASD FINES BD FOR FAILING TO ENSURE BEST EXECUTION WHEN ROUTING TO
AFFILIATE (5/30/07)
The NASD fined a brokerage firm $250,000 for failing to document best execution when it routed government
securities trades to an affiliated clearing broker. The retail brokerage firm, located mainly in bank branches, had
required its trading desk to call several clearing brokers to ensure best execution. In 2003, the firm began
routing orders exclusively to the institutional trading desk at an affiliate. The NASD indicated that the firm was
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unable to provide any documentary evidence of supervisory review for best execution and that no steps were
taken to monitor best execution. Also, the firm had no system for recording competitive bids. Consequently,
the NASD could not review transactions for best execution.
Our take: The NASD suggests that a firm has a higher standard of care in demonstrating best execution when it
routes trades to an affiliate. We wonder whether a firm could ever satisfy the NASD when it routes 100% of its
orders to an affiliate.
http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_019199
SEC PROPOSES AMENDMENTS TO ACCREDITED INVESTOR DEFINITION (5/24/07)
The SEC proposed amending Regulation D (the limited offering exemption) to add an “investments owned”
standard to the current “total assets” and “net worth” standards ($1 Million for individuals) contained in the
accredited investor definition. The SEC also proposed adjusting for inflation the amounts described in the
accredited investor definition. The SEC also proposed a new exemption for sales to a new category of qualified
purchaser to whom could be directed limited advertising. The SEC has not yet posted the full text of the
proposal.
Our take: We will have to wait for the proposal to determine whether funds will be able to take advantage of
the proposed new exemption. It also remains unclear whether the proposed “investments owned” category will
add a category or limit the other two. Also, indexing the numbers to inflation should reduce the number of
eligible private fund investors, which has been a goal of the SEC.
http://www.sec.gov/news/press/2007/2007-102.htm
SEC ALLEGES BD AFFILIATE OPERATED AS UNREGISTERED BD (5/23/07)
The SEC filed a complaint against a person previously sanctioned for violating the securities laws for acting as
an unregistered principal of a broker-dealer and for operating an unregistered broker-dealer. According to the
complaint, the defendant combined his business of providing investment advice with a broker-dealer that
assisted small cap companies to raise capital in PIPE offerings. The broker-dealer received placement fees in
connection with the offerings. The complaint alleges that defendant controlled the combined operations and, as
a result, indirectly received most of the profits derived from the placement fees. The SEC claimed that the
defendant’s advisory business acted as an unregistered broker-dealer and made no distinction between itself and
the registered broker-dealer to issuers or investors. The complaint also charges the supervising principal of the
broker-dealer with aiding and abetting.
Our take: The line between brokerage activities conducted by a registered broker-dealer and related activities
conducted by an affiliated entity may not be clear. The SEC suggests in this complaint that it will review
whether the unregistered entity ultimately receives (even indirectly through profits) brokerage compensation and
the ultimate control of the broker-dealer. Clear separation of the brokerage activities and compensation is
required.
http://www.sec.gov/litigation/complaints/2007/comp20117.pdf
NASD PROPOSES BUSINESS ENTERTAINMENT RULES (5/22/07)
The NASD has proposed IM-3060 requiring the adoption of policies and procedures addressing business
entertainment. Pursuant to previous guidance under Rule 3060, which prohibits gifts in excess of $100, the
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NASD had excepted ordinary and usual business entertainment “so long as it is neither so frequent nor so
extensive as to raise any question of propriety.” The proposed IM-3060 would replace this standard by requiring
specific polices and procedures that (i) define appropriate business entertainment, (ii) state that any nonqualifying entertainment is a gift under Rule 3060, (iii) impose specific dollar limits on entertainment, (iv) are
designed to detect and prevent business entertainment that could be perceived as a quid pro quo or conflict of
interest, (v) establish supervisory responsibilities, and (vi) require appropriate training. The proposed IM-3060
would exempt a member from most of its requirements if total annual business and entertainment expenses
were less than $7,500.
Our take: The proposed IM-3060 will help members by clarifying their obligations around business
entertainment. The prior guidance was open to too much interpretation and resulted in abuses that led to some
significant enforcement actions. The NASD could have gone even further by providing specific industry-wide
standards, rather than the principles-based approach taken in the proposal.
http://www.sec.gov/rules/sro/nasd/2007/34-55765.pdf
TIME PERIOD TO SUE BROKERS EXTENDED BY REASSURING STATEMENTS (5/16/07)
The US Court of Appeals for the Ninth Circuit ruled that the statute of limitations for a plaintiff in a securities
fraud action against a broker-dealer is 2 years after “there exists sufficient suspicion of fraud to cause a
reasonable investor to investigate the matter further” (aka inquiry notice). Nevertheless, the time period will be
extended (tolled) if the broker reassures the client and convinces the client to defer legal action. In the case, an
unsophisticated investor lost money in a brokerage account during the early 2000s meltdown. Despite receiving
monthly account statements showing a fall in value and contacting the broker, the client delayed filing suit
because the broker repeatedly reassured her that the firm would take action to “take care of the account” and
that the client should not sue. The court remanded for a factual determination as to whether the plaintiff was on
inquiry notice and whether the time period should be extended.
Our take: The inquiry notice standard will help broker-dealers because it puts a certain degree of responsibility
on the client (although it could also encourage quick filings). However, firms should train their reps to restrain
their instincts to make re-assuring statements that will extend the statute of limitations.
http://www.ca9.uscourts.gov/ca9/newopinions.nsf/1A51A72700B71A72882572D8004CB173/$file/0515704.
pdf?openelement
FUND EXEC FINED FOR REVENUE SHARING (5/15/07)
The SEC fined and censured the CEO of a fund distributor and fund adviser for failing to disclose to the mutual
fund board revenue sharing arrangements that he approved and supervised. The revenue sharing arrangements
involved instructing a fund sub-adviser to direct fund brokerage commissions to broker-dealers that distributed
the funds. The SEC indicated that the adviser and distributor benefited because they would have had to come
out of pocket to pay the distributing broker-dealers had they not utilized fund brokerage. The SEC indicated
that the executive had breached his fiduciary duty under 206(2) of the Advisers Act for failing to disclose this
conflict of interest to the board of the funds.
Our take: Although the cease and desist order and $75,000 fine may not seem like large penalties, the impact on
the executive’s reputation is the real penalty. The SEC has not generally been successful in pursuing actions
against fund executives. We wonder whether the outcome would have been the same had the exec (i) not been
the CEO of both the adviser and the distributor or (ii) personally involved in setting up the revenue sharing
arrangements.
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http://www.sec.gov/litigation/admin/2007/ia-2602.pdf
SEC CONCEDES ON MERRILL RULE COURT DECISION; WILL AWAIT RAND STUDY
(5/15/07)
The SEC announced that it will not appeal the recent court ruling that struck down Rule 202(a)(11)-1 (aka the
“Merrill Rule”), which allowed a broker to offer fee-based brokerage accounts without registering as an
investment adviser. The SEC also asked for a 4-month stay of the ruling to provide investors with sufficient
information to determine the appropriate account. The Commission indicated that it will consider further
rulemaking and interpretations related to fee-based brokerage accounts in light of the Court’s decisions.
Additionally, the SEC accelerated the timetable to December for the previously commissioned Rand study,
which will offer empirical data on the activities of retail advisers and broker-dealers.
Our take: The SEC has made a prudent strategic decision. Rather than fight the courts, it will use the Rand data
to prove to Congress that new legislation or rules are needed to regulate the retail activities of broker-dealers.
The only issue is whether we will see new regulation before Chairman Cox leaves office.
http://www.sec.gov/news/press/2007/2007-95.htm
NASD FINES BD FOR MARKETING MATERIALS THAT MISLED UNSOPHITICATED
INVESTORS (5/9/07)
The NASD fined a broker-dealer $400,000 for preparing and distributing misleading sales literature in
connection with the sales of periodic payment plans to military personnel. The NASD stated that the BD
misled investors by presenting (i) favorable performance against the S&P 500 for a 30-year period when
comparison to a the more recent 10-15 year period would have shown underperformance; (ii) 1, 5 and 10 year
performance without comparison to the S&P 500 index; (iii) performance of a class of shares that had lower
expenses than the available class; and (iv) performance of the underlying mutual funds rather than the plan,
which charged significant upfront sales charges.
Our take: The NASD suggested that the standard of review for marketing materials might change depending on
the nature of the investor. The NASD noted that the misleading nature of the marketing materials “were
aggravated by the fact that the plans were sold primarily to military personnel, who often have limited time to
study the marketing materials” and that the products “may not be fully understood by the customer to whom
they are offered.”
http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_019128
NASD ELIMINATES MULITPLE REVIEWS OF SALES MATERIALS (5/4/07)
The NASD Board of Governors has adopted a proposal to eliminate principal review of sales material
previously approved by a third party product distributor. Rule 2210 requires review of all sales material prior to
use. Previously, a registered principal at a firm had to review sales material already approved by the product’s
distributor. The Small Firm Rules Task Force determined that this dual review was an unnecessary regulatory
burden where another firm had already reviewed and filed the material.
Our take: The dual review never made sense and often resulted in unnecessary conflict between reviewing
principals. This new exception to Rule 2210 should expedite the ability of firms to market products.
http://www.nasd.com/Resources/InformationforFirms/NASDW_019053
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WRAP SPONSORS NOT REQUIRED TO DELIVER TRADE-BY-TRADE CONFIRMS (5/2/07)
In a recent No-Action Letter, the SEC indicated that it would exempt from the Rule 10b-10 trade-by-trade
confirmation delivery requirement all wrap program trades by a program sponsor registered as both an
investment adviser and broker-dealer. To avoid having to deliver trade-by-trade confirmations, the program
sponsor must: (i) act as a fiduciary and manage client assets on a discretionary basis; (ii) annually deliver a 204-3
brochure; (iii) obtain client consent; (iv) offer the ability to obtain trade-by-trade confirmations; (v) deliver all
information otherwise required by Rule 10b-10 to clients in a quarterly statement; and (vi) maintain trade-bytrade records in accordance with Rules 17a-4 and 17a-4.
Our take: The class relief reduces the burden on wrap sponsors and their clients who really don’t want confirms.
However, program sponsors must still deliver daily confirms to customer that request them and maintain the
ongoing books and records. As a consequence, if only one client asks for confirms, the sponsor will have to
create the necessary operational infrastructure.
http://www.sec.gov/divisions/marketreg/mr-noaction/2007/wachovia043007-10b-10.pdf
MASSACHUSETTS ALLEGES THAT HEDGE FUND PPM FAILED TO DISCLOSE RISKS
(4/30/07)
The Massachusetts Securities Division has filed a complaint against a private fund under the Massachusetts
Securities Act for failing to operate the fund in accordance with the offering document, taking fees in
contravention of the PPM, and failing to provide full risk disclosure in the PPM. The action also alleges several
violations in connection with the distribution of the fund. The fund was designed to purchase life insurance
policies in the settlement after-market. Although the PPM stated that the GP of the fund would receive
commissions on the life insurance policies, the GP used third-parties to obtain the policies yet still took
commissions. Also, the action alleges that half of the policies were subject to rescission because the original
policyholders lied on the applications, subjecting the policies to rescission.
Our take: The significance of the action is that a state regulator is using a state statute to regulate the sufficiency
of the disclosure in the offering document. The Complaint specifically states that the PPM should have
disclosed that third parties sold the policies and that they were subject to the significant risk of rescission.
Although the states generally do not have authority to regulate disclosure of registered funds, Massachusetts has
indicated its willingness to directly regulate unregistered funds.
http://www.sec.state.ma.us/sct/sctlydia/Lydia_Complaint.pdf
SEC SANCTIONS FUND MARKETER FOR FAILING TO REGISTER AS BD (4/25/07)
The SEC took action against a third-party marketing firm for failing to register as a broker-dealer in connection
with the offering of a private partnership. The marketing firm, which sold interests in a privately-offered oil and
gas partnership, received gross commissions of 25% of funds raised pursuant to an agreement with the fund.
The respondent sold interests to both accredited and unaccredited investors. The SEC noted that the fund’s
PPM disclosed the commission agreement.
Our take: This case may portend future enforcement actions with respect to the marketing activities of hedge
funds. The SEC has not in recent years focused on firms failing to register as broker-dealers, leaving regulatory
action of sales activities to the NASD. Hedge fund marketers must consider the nature of their compensation
to determine if registration is necessary. Also, fund sponsors must re-examine their compliance with the issuer
exemption (Rule 3a4-1) to the extent that a broker-dealer underwriter has not been engaged.
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http://www.sec.gov/litigation/admin/2007/33-8793.pdf
SEC PROVIDES GUIDANCE ABOUT SOFT DOLLAR RESEARCH (4/19/07)
In a recent No-Action Letter, the SEC defined the criteria it would apply when determining whether a soft
dollar research provider must register as a broker-dealer. The SEC indicated that the research provider need not
register as a BD, even though its research was funded from credits generated from client commissions, if (i) the
money manager determines the value of the research; (ii) the soft dollar budget is determined by the money
manager and the paying broker; (iii) the payment is not conditioned on the execution of any particular
transaction that is described in the research; and (iv) the research provider does not provide traditional
brokerage functions.
Our take: Avoid soft dollar arrangements where the paying broker pays a defined percentage of each trade to a
third party for research. Instead, the payment must come from a pool of credits used to pay specific invoices.
Otherwise, the SEC may determine that inflated re-directed commission payments are disguised give-ups, that
the money manager over-valued the research, part of the payment was for services that were not 28(e) eligible,
or that the research provider actually provided some brokerage services in exchange for transaction-based
compensation.
http://www.sec.gov/divisions/marketreg/mr-noaction/2007/capis041307-15a.htm
SEC PROVIDES AML COMPLIANCE RESOURCE (4/18/07)
The SEC has created a one-stop BD compliance information site for applicable anti-money laundering laws and
regulations. The site includes descriptions of the applicable statutes, rules, and interpretative guidance from the
various regulators. The information addresses compliance, reporting, and appropriate contacts. The SEC
indicated that it initially developed the site for its own examiners.
Our take: This is a great resource, especially because anti-money laundering is regulated by several regulatory
bodies including the SEC, the NASD, and the banking regulators.
http://www.sec.gov/about/offices/ocie/amlsourcetool.htm
NFA COMPLIANCE PROS POSE AS INVESTORS TO INVESTIGATE SALES PRACTICES
(4/18/07)
The NFA used compliance staff members posing as investors to investigate sales practice conduct at an
introducing firm. Following high pressure sales tactics, the NFA barred one associated person and suspended
another. The individuals used high-pressure sales tactics and made several misleading comments about the
commodities markets.
Our take: If this were a criminal prosecution, one could argue entrapment. It is extraordinary for an SRO,
which is a membership organization, to use such tactics to ferret out misleading sales practices.
http://www.nfa.futures.org/basicnet/CaseDocument.aspx?seqnum=933
CHAIRMAN COX ATTACKS 12B-1 FEES (4/17/07)
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In a recent speech to the Mutual Fund Directors Forum, SEC Chairman Christopher Cox called for a complete
review and overhaul of Rule 12b-1. Chairman Cox questioned the “continued vitality” of Rule 12b-1 and stated
that “the original premises of Rule 12b-1 seem highly suspect in today’s world.” He explained that the use of
Rule 12b-1 fees has veered from its original purpose of offsetting the costs of advertising and printing and
mailing prospectuses and sales literature. Instead, Rule 12b-1 fees have morphed into a “substitute for front-end
loads” and are used primarily to compensate brokers and to pay for administrative expenses for existing fund
shareholders. He said that directors must ensure that Rule 12b-1 fees actually reduce aggregate fees paid to
fund companies as a percentage of assets.
Our take: Chairman Cox’s strong language suggests that the SEC may seek a complete abolition of Rule 12b-1.
As we have always said, funds aren’t bought, they’re sold. And, fund companies must compensate their
distribution channels to sell their funds. The money has to come from somewhere. Maybe, this attack on Rule
12b-1 will mean the resurrection of front-end loads or brokerage commissions for fund sales.
http://www.sec.gov/news/speech/2007/spch041207cc.htm
SEC TAKES ACTION AGAINST BD FOR FAILING TO FILE SARs (4/12/07)
The SEC instituted proceedings against a broker-dealer for failing to file suspicious activity reports with
FinCEN arising out of a “pump-and-dump” scheme. The action involves the CEO of a public company that
manipulated the price of the stock of his company through disguised control of several BVI entities. The SEC
indicated that the BD should have filed SARs because of the large volume of trading, the BD had few foreignbased accounts, lack of proper authorization to trade, and the volatility in the trading price. The SEC also noted
that the BD firm’s compliance officer generated SARs relating to the activity.
Our take: This action reminds BDs that the SAR filing obligation transcends suspicion of terrorist funding. A
BD must file an SAR with FinCEN if it has reason to suspect that the funds involved are derived from illegal
activity or is conducted to disguise funds derived from illegal activity or involves the use of a broker-dealer to
facilitate criminal activity. In this action, the criminal activity was not terrorism, but violation of the securities
laws.
http://www.sec.gov/litigation/admin/2007/34-55614-o.pdf
NASD PROVIDES GUIDANCE FOR FINOPS (4/11/07)
NASD has issued a Notice to Members to provide guidance with respect to frequently asked questions received
on financial and operational issues. The NTM includes guidance on the Net Capital Rule including when to
calculate (continuously), treatment of reverse repurchase agreements, documentation for distributions and
contributions, and the impact of subsidiary guarantees. The NTM also addresses several financial reporting
requirements including filing due dates for financials (60 days after year end), audit firm qualifications (PCAOB),
and filing of FOCUS reports.
Our take: The regulators usually begin their examinations with a review of the FinOp function. Most
deficiency letters include at least one issue relating to financial operations. This NTM reinforces the importance
of the function and implicitly foreshadows possible regulatory activity.
http://www.nasd.com/web/groups/rules_regs/documents/notice_to_members/nasdw_018897.pdf
FEDERAL APPEALS COURT STRIKES DOWN “MERRILL RULE” (4/4/07)
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The US Court of Appeals for the DC Circuit vacated SEC Rule 202(a)(11)-1 (aka the “Merrill Rule”) that had
allowed broker-dealers to offer fee-based brokerage programs without registering as investment advisers. The
FPA, acting for investment advisers, opposed the Rule. The Court, in a 2-1 opinion that included a vigorous
dissent, stated that Congress already gave broker-dealers an exemption from the Advisers Act to the extent
advisory services are solely incidental to the conduct of business and no special compensation is received. The
Court stated that the SEC could not invent a new exemption for the same class of persons. Moreover, the
Court relied on legislative history to argue that Congress never intended to exempt broker-dealers that received
asset-based compensation.
Our take: We believe that the brokerage industry won the battle but lost the war with the Merrill Rule. After its
adoption, the NASD became more aggressive with respect to adding fiduciary-like obligations on brokers. For
example, the NASD pursued several actions for reverse-churning. Also, the NASD stated repeatedly that a
broker had a continuing obligation to monitor client accounts. Registering as an investment adviser may require
more work, but it may not raise the regulatory bar. We also anxiously await the Rand study on investment
advisers and broker-dealers that the SEC commissioned several months ago.
http://pacer.cadc.uscourts.gov/docs/common/opinions/200703/04-1242a.pdf
NFA ADOPTS DISCLOSURE AND CONENT RULES FOR FCM SWEEPS (4/2/07)
The CFTC has approved an NFA Interpretive Notice requiring enhanced disclosure obligations for sweep
accounts offered by Futures Commission Merchants. The new Interpretive Notice to NFA Compliance Rule 24 requires an FCM to obtain a customer’s written consent prior to transferring any funds to a new sweep
account. The Notice also requires the FCM to identify the financial institution holding the account, all material
terms and conditions, the risks (including bankruptcy protection) and features of the account, and conflicts of
interest including compensation. The Notice becomes effective on July 1, 2007.
Our take: The NFA is following the NYSE, which has cracked down on cash sweep programs where customer
funds moved to affiliated DDA sweeps without consent and without much disclosure.
http://www.nfa.futures.org/news/newsProposedRule.asp?ArticleID=1770
NASD CHAIRMAN SCHAPIRO CALLS FOR SWEEPING REGULATORY REFORM (3/29/07)
NASD Chairman and CEO Mary Schapiro offered a broad regulatory vision in a recent speech to the SIFMA.
Ms. Schapiro advocated for a more principles-based approach to regulation (as compared to the more traditional
rules-based approach) as well as tiered regulation based on firm size and business model. She indicated that the
new regulator would create a team devoted to emerging trends. She noted that the new team would review sales
practices aimed at seniors, life settlements, margin practices, foreign securities, and the use of automated
supervisory systems. She also noted the development of a model "plain English" account opening agreement.
She also called for a harmonization of financial product regulation to avoid regulatory arbitrage.
Our take: A move toward principles-based regulation and harmonization of financial product regulation will
require significant changes to current practice. NASD must first reconcile its rules and regulatory practices with
NYSE.
http://www.nasd.com/PressRoom/SpeechesTestimony/MaryL.Schapiro/NASDW_018865
DONAHUE OUTLINES ADVISER REGULATORY PRIORITIES (3/23/07)
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In a recent speech, Andrew Donahue, Director of the Division of Investment Management, outlined the SEC’s
regulatory priorities for investment advisors. Mr. Donahue indicated that the Commission would be proposing
new rules concerning the books and records requirements including e-mail retention. He also indicated that the
SEC would seek a new Form ADV Part II. He said that he also expected the SEC to act on the upcoming Rand
study on the activities of retail broker-dealers and investment advisers. Finally, he anticipated action on the
proposed rules on enhancing the accredited investor standard for hedge funds.
Our take: The focus on books and records would be a welcome change. The rules are antiquated, vague, and
over-broad. We are hopeful that the Division of Investment Management allows advisers to use modern
technology and data storage for compliance.
http://www.sec.gov/news/speech/2007/spch032207ajd.htm
REGULATORS PROPOSE MODEL PRIVACY NOTICE (3/22/07)
A group of 8 regulators including the SEC released for comment a model privacy notice for consumers under
the Gramm-Leach-Bliley Act (GLB Act). The notice must describe information sharing practices and the right
to opt out. The Notice must be provided upon commencing the customer relationship and annually thereafter.
The model form would satisfy GLB’s safe harbor.
Our take: The certainty provided by the safe harbor notice will be helpful. However, the model form is
somewhat jargon-laden. Moreover, this may be a solution searching for a problem because most institutions
have developed fairly straightforward privacy notices.
http://www.sec.gov/rules/proposed/2007/34-55497.pdf
COURT DISMISSES PRIVATE RIGHT OF ACTION IN REVENUE SHARING CASE (3/20/07)
The U.S. District Court for the District of New Jersey dismissed a derivative claim brought by shareholders in
funds that paid undisclosed revenue sharing to broker-dealers for distributing the funds. The plaintiffs claimed
that the “shelf-space” arrangements violated Section 36(b) on the theory that the fund advisor received excessive
fees as the funds grew as a result of the revenue sharing deals. The plaintiffs claimed the funds did not receive
the benefits of “economies of scale” as the funds grew and that the fund advisor collected ever-greater fees
without performing additional services. The Court dismissed the claims on both procedural and substantive
grounds.
Our take: The court essentially dismissed a private right of action to attack mutual fund revenue sharing
arrangements. Nevertheless, the plaintiffs do raise a valid question: If a fund advisor has enough excess cash to
kick back money to brokers, why can’t the advisor lower its fees? Shouldn’t the Board have a say in determining
the best use of fund assets?
NASD HIGHLIGHTS EXAMINATION PRIORITIES (3/15/07)
In a recent letter to NASD member firms, Robert Errico, NASD EVP Member Regulation, outlined NASD’s
“important topics” in NASD examinations. First, he noted the continued importance of the areas he
highlighted last year: supervision, AML, new product sales, e-mail, branch offices, business continuity planning,
and municipal securities transaction reporting. For this year, he reminded member firms to consider (a) the new
electronic filing requirements for certain submissions, (b) suitability when selling hedge funds, (c) TRACE
reporting obligations, (d) Regulation NMS, (e) gifts and gratuities in excess of $100, and (f) testing business
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continuity plans. He also informed the members that NASD will give 30 days, rather than 14 days, notice of
routine examinations.
Our take: Mr. Errico’s letter is part of the NASD’s efforts to become more member-friendly. It helps that the
NASD gives guidance on important examination topics. However, we remain concerned that the list of
important topics keeps growing.
http://www.nasd.com/web/groups/corp_comm/documents/home_page/nasdw_018635.pdf
SEC PROPOSES SIGNIFICANT AMENDMENTS TO NET CAPITAL AND CUSTOMER
PROTECTION RULES (3/14/07)
The SEC Division of Market Regulation has proposed extensive amendment to the net capital and customer
protection rules for broker-dealers under the Securities Exchange Act of 1934. Most significantly, the proposal
would require BDs to treat introducing BD accounts as customer accounts for purposes of calculating the
reserve formula and establish a separate reserve account for such introducing BDs. The proposal would also
permit the use of money market securities as a permitted investment for purposes of meeting the customer
reserve deposit requirement. The Proposal would also limit the ability of a BD to change sweep options for free
credit balances, a topic that NYSE has addressed in recent years. The 150+ page Proposal contains several
other technical amendments.
Our take: Send the Release to your FINOP as soon as possible. Because the net capital and customer rules are
probably the most complicated rules/regs that the SEC promulgates, your under-appreciated FINOP will need
some time to review and digest. These amendments will require changes to operations and formulas.
Comments are due May 18, 2007.
http://www.sec.gov/rules/proposed/2007/34-55431.pdf
NASD HEIGHTENS SUPERVISORY OBLIGATIONS OF NEW REPS (3/6/07)
NASD notified members of their heightened obligations when a newly associated person recommends that a
client liquidate mutual funds and variable annuities because the new firm can’t carry the investments. NASD
expressed concern about reps that recommend liquidation because the rep can’t receive trail commissions at the
new firm either because the product is a proprietary product or no dealer agreement is in place. Any
recommendation to liquidate should be suitable based on the customer’s needs as well as charges such as
deferred sales charges and ongoing expenses. NASD indicated that the new firm should have procedures in
place than includes due diligence on the new person’s book of business, disclosure to the client, review of
liquidation recommendations, and heightened supervision for a reasonable period of time following association.
Our take: The new firm cannot turn a blind eye to a rep’s activities immediately prior to joining the firm.
Supervisory and compliance procedures must include transition activities.
http://www.nasd.com/web/groups/rules_regs/documents/notice_to_members/nasdw_018630.pdf
NFA BARS CTA/CPO FOR VIOLATING ADVERTISING COMPLIANCE RULES (3/5/07)
The NFA barred a CTA/CPO from membership in connection with misleading web-based advertising. The
NFA indicated that the website showed high rates of return without discussing imbedded risks, included
hypothetical performance results without appropriate accompanying disclosure, and “cherry-picked” returns.
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The CTA/CPO continued with the misleading website despite repeated NFA warnings. The NFA cited
violations of NFA Compliance Rule 2-29.
Our take: The NFA is stepping up its policing of solicitation activities of its members. NFA member firms,
who may be primarily regulated by the SEC or NASD as RIAs or BDs, must remember to consider the NFA
Compliance Rules when reviewing marketing materials.
http://www.nfa.futures.org/basicnet/CaseDocument.aspx?seqnum=653
CFTC AMENDS ADVERTISING RULES (2/27/07)
The CFTC has adopted amendments to its advertising rules that require specific disclosure when using
testimonials, specify the placement of disclosures when using simulated or hypothetical performance, and
include advertising through electronic media. The revised rules affects Commodity Pool Operators, Commodity
Trading Advisers, and their principals. With respect to testimonials, the CFTC indicated that it sought
harmonization with NASD Conduct Rule 2210.
Our take: The CFTC is increasing its oversight of the distribution of commodity pools, which include many
hedge funds. When preparing advertising for compliance review, do not forget to consider the CFTC rules in
addition to SEC and NASD rules.
http://www.cftc.gov/opa/press07/opa5295-07.htm
ADVISER BARRED FOR OVERSTATING ASSETS UNDER MANAGEMENT (2/26/07)
An Administrative Law Judge barred an investment adviser for overstating assets so as to maintain his
registration with the SEC and mis-representing performance. The Adviser claimed to have more than $25
Million in assets under management, even though he never had more than $5 Million. He also grossly
overstated his performance to three independent data services.
Our take: There is no real advantage to registering with the SEC instead of one of the states, so there is no
point in risking a regulatory violation. More significant is that the performance data reported to third party
services, which are used by many advisers, was never verified.
http://www.sec.gov/litigation/aljdec/2007/id327cff.pdf
NASD IMPOSES $2.75 MILLION FINE FOR FAILING TO SUPERVISE PRODUCING BRANCH
MANAGERS (2/22/07)
NASD fined a broker-dealer $2.75 Million for failing to properly supervise producing branch managers working
out of remote branch offices including home offices. The NASD also permanently barred one of the branch
managers, who worked out of her home office, for making unsuitable recommendations and misleading
statements. NASD noted that the firm’s failure to have an adequate supervisory system in place allowed the
unlawful activity. NASD explained that the supervisory system was inadequate because it “allowed producing
branch managers to supervise themselves.” In 2005, NASD adopted Conduct Rule 3012, requiring heightened
supervision of branch office activity and branch office producing managers.
Our take: This is the first major case alleging violations of Rule 3012 (aka the Gruttadauria Rule). Expect a
thorough review of your 3012 procedures at your next NASD exam.
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http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_018681
NASD FINES FUND DISTRIBUTORS FOR NON-CASH COMP VIOLATIONS (2/13/07)
NASD fined three mutual fund distributors for violations of its non-cash compensation rules. The distributors
were cited for improperly providing entertainment (parties, dinners, etc.) and paying the expenses of spouses at
training and education events. The NASD noted that one of the distributors funded guest expenses in violation
of the rule three weeks after receiving advice from outside counsel that such payments violated NASD rules and
updating compliance materials to reflect this advice.
Our take: If the NASD continues to enforce the non-cash compensation rules, it may have a significant effect
on the fund industry’s wholesaling activities. These were fairly minor violations ($700,000 in total fines), which
suggests the NASD is sending the mutual fund industry a message to change its ways.
http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_018596
NASD FINES BD FOR PARKING LICENSES (2/6/07)
NASD fined a large broker-dealer/fund distributor $3.75 Million for license parking, i.e. hanging NASD licenses
of individuals who did not perform jobs requiring an NASD license. Several of the individuals were traders
affiliated with the investment advisor that managed affiliated mutual funds. Several of the individuals received
lavish gifts from third parties that wanted business from the funds. The NASD also cited the firm for failing to
properly supervise the individuals and properly retain e-mail.
Our take: This is essentially an out-growth of the gift scandal where a fund firm took illegal payola from brokerdealers to deliver fund trading business. Nevertheless, broker-dealers should re-examine licensed personnel to
ensure that the jobs require licensing. Nobody likes to make people re-take the Series 7, but it is better than a $4
Million fine.
http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_018479
NASD IMPOSES $3 MILLION FINE FOR AML VIOLATIONS (1/30/07)
NASD fined Banc of America's BD $3 Million for failing to comply with anti-money laundering rules. Despite
warnings from a senior BA lawyer, its own risk committee, and its clearing firm, the BD failed to determine the
beneficial owners of certain Isle of Man accounts affiliated with one family despite several large cross-border
transactions. The NASD indicated that the BD firm's reluctance stemmed from its concern about losing the
accounts, which held $70-90 Million. The NASD also cited Banc of America for relying too much on the parent
bank's SAR program, noting that the BD had independent obligations.
Cipperman's take: That's a big fine. The NASD is making a statement that it is serious about AML, even
though it has not previously pursued many AML enforcement cases. This is a case to show upper management.
A $90 Million account is not worth a $3 Million fine.
AMEX KICKS OFF OPTIONS PENNY-PRICING PROGRAM (1/29/07)
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The Amex kicked off its pilot program to quote certain options in pennies. The SEC gave a green light to the
pilot program last year. The program includes 13 options, which the SEC states is a diverse group with varied
trading characteristics. The goal of the program is better pricing and transparency.
Moving to penny quoting is probably good news for hedge fund managers, but may crimp the profits of the
broker-dealers with whom they trade. Given Chairman Cox's enthusiastic support of the pilot program, you
should expect it to continue and expand.
http://www.sec.gov/rules/sro/amex/2007/34-55162.pdf
NEW NASD CODE OF ARBITRATION PROCEDURE (1/25/07)
The SEC approved a new NASD Code of Arbitration Procedure. (See attached link.) The revised Code
provides more authority to arbitrators especially in connection with discovery disputes. The new Code also adds
requirements for arbitrator qualifications. Finally, the Code will be separated into 3 parts: Customer Code,
Industry Code, and Mediation Code.
http://www.nasd.com/PressRoom/NewsReleases/2007NewsReleases/NASDW_018357
MONEY MANAGERS HAVE RESPONSIBILITY FOR DETERMINING RESEARCH VALUE
(1/25/07)
In a recent No-Action Letter, the SEC put responsibility on money managers for determining the value of
research services provided by third parties through a broker-dealer. (See attached link.) The letter involved the
Goldman XPRESS program whereby Goldman offered third party research services payable from a pool of
commissions generated by Goldman's money management clients. In stating that the research providers did not
have to register as broker-dealers (even though receiving commissions), the SEC conditioned its relief by placing
responsibility on Goldman's money manager clients to "independently" determine "the value of the Research
Services in accordance with its good faith determination under Section 28(e) of the Exchange Act."
The real question is: How? Goldman brings the research providers to the table and negotiates a split. How can
a money manager possibly determine the value of the research services under 28(e)? It's great that neither
Goldman nor the research providers have any liability. Instead, they placed the burden on the money managers.
The lesson? An institutional money manager should be wary of allowing a third party to select a research
provider and negotiate the cost.
http://www.sec.gov/divisions/marketreg/mr-noaction/2007/goldmansachs011707-15a.pdf
BROKER-DEALER SANCTIONED FOR DOUBLE-CHARGING CLIENTS (1/24/07)
The SEC sanctioned an institutional broker-dealer for charging its clients both commissions and mark-ups
without proper disclosure. (See attached link.) The BD followed requests from its clients, most of whom were
hedge funds and large institutions, to charge fixed commissions rather than traditional mark-ups/mark-downs.
The BD concealed the mark-ups by time stamping trades after they had been filled rather than when received,
making it appear that securities were taken out of inventory rather than purchased/sold in the open market and
thereby concealing the mark-up. The BD never disclosed that it was being paid twice.
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What is the lesson from this action? If you move to a fixed commission compensation structure with your
trading partners, make sure they no longer charge mark-ups! One open question is whether the clients
themselves had liability for failing to ensure best execution because of lack of proper supervision of the BD
firm. Also, it is unclear whether the double-charging would have been permissible had it been disclosed.
http://www.sec.gov/litigation/admin/2007/34-55148.pdf
SEC SANCTIONS MUTUAL FUND ADVISOR FOR MIS-REPRESENTING FEES AND
COMMISSIONS (1/19/07)
The SEC sanctioned a mutual fund investment adviser/broker-dealer for misleading disclosures in connection
with the allocation of advisory fees and brokerage commissions. (See link attached). In In re Kelmoore
Investment Company, the advisor disclosed a 1% advisory fee but also collected significant "brokerage
commissions" on options trades. The SEC indicated that total fees paid to the advisor/BD equaled may have
exceeded 3% for certain periods. The SEC indicated that much of the work involved with the options trades determining duration, terms, strike price; timing of trades - was advisory in nature. Consequently, the advisor
misled investors by not allocating some of the fees earned as investment advisory rather than brokerage.
The action raises several troubling questions for fund managers. The SEC generally does not wade into a
discussion of when a service is advisory or incidental to brokerage activities. The action makes me wonder
whether the result would have been different if the distributor/broker-dealer were not affiliated with the
investment advisor. Is the SEC going back to the bad old days when it regulated commission rates? Or, is the
SEC telegraphing its upcoming position on the Merrill Rule i.e. distinguishing advisory services from brokerage
services? The SEC acknowledged that the prospectus disclosure and fee structure was approved by fund
counsel and the Board and that the Board consistently approved the commissions. The SEC didn't care, saying
it remained Kelmoore's responsibility to make accurate disclosures. True enough, but if you can't trust your
lawyer, who can you trust?
Please feel free to call me should you wish to discuss further.
http://www.sec.gov/litigation/admin/2007/33-8774.pdf
SEC COMMISSIONER PROPOSES REDUCING
REGULATION (1/16/07)
INDUSTRY INVOLVEMENT IN BD
In a recent speech (see link attached), SEC Commissioner Annette L. Nazareth advocated for the merger of
NASD and NYSE Regulation. Notably, Commissioner Nazareth cited past conflicts of interest caused, in her
opinion, by too much industry control of the SROs. She cited the Public Company Accounting Oversight
Board (created pursuant to Sarbanes-Oxley) as a model because the majority of PCAOB board members do not
come from the industry. She states that the PCAOB model "is a strong indication that independence of Boards
and of regulatory oversight is now paramount to Congress and, commensurately, the role of industry and
industry representatives has been diminished" and that "much of the "self" in self-regulation has been removed."
Commissioner Nazareth's comments diverge from the rationale offered by the NYSE and the NASD, who have
consistently indicated that combining NYSE and NASD Regulation would help the industry by eliminating
competing rules and reducing costs.
http://www.sec.gov/news/speech/2007/spch011107aln.htm
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SEC SANCTIONS ADVISER PRESIDENT FOR SHELF SPACE DEALS (1/10/07)
The SEC sanctioned the President of an investment adviser to a mutual fund complex that used brokerage
commissions to pay for shelf space. The SEC indicated that the investment adviser breached its fiduciary duty
to the Funds by failing to adequately disclose the revenue sharing arrangements with the Funds' Board. The
SEC stated that the President, as head of the investment adviser, was responsible for ensuring that the
investment adviser fulfilled its disclosure duty.
The action is interesting for two reasons. First, the SEC directly sanctioned an officer of an investment adviser.
Second, the SEC brought the action under Section 206 of the Investment Adviser Act, which is the anti-fraud
provision, rather than the Investment Company Act. It will be interesting to see if the SEC begins to use 206 as
an enforcement tool, especially now that it has proposed subjecting unregistered hedge fund advisers to Section
206.
Please feel free to call to discuss.
http://www.sec.gov/litigation/admin/2007/ia-2578.pdf
SPITZER SUES UBS OVER REVERSE-CHURNING (12/13/06)
Eliot Spitzer has sued UBS over reverse-churning. The Office of the NYS Attorney General claims that UBS
moved clients from traditional brokerage accounts, where such clients paid per transaction charges, to fee based
accounts, where the clients paid asset-based fees. Mr. Spitzer claims that several clients who traded infrequently
paid more to UBS that they would have had they stayed in traditional brokerage accounts. Moreover, Mr.
Spitzer alleges that the clients never received the advice that UBS promised. See the link below for more
information.
What's an honest broker supposed to do? It appears that Mr. Spitzer's suit moves brokers one more step to the
same "fiduciary" standard applicable to investment advisors. In other words, rather than stopping at suitability,
brokers should continually monitor client accounts to ensure the best/cheapest option for clients. Although the
brokerage community may have won the battle with the so-called "Merrill Rule" (Rule 202(a)(11)-1: fee-based
brokerage accounts do not require RIA registration), they may have lost the war as regulators increasingly raise
the standard of care imposed on brokers. Mr. Spitzer's action will put more pressure on the SEC's study on the
role of investment advisors and brokers (see link below).
OATS REPORTING APPLICABLE TO OTC EQUITIES (12/12/06)
The NASD has made OATS reporting applicable to OTC equities. Reporting begins June 11, 2007.
Unfortunately, this means that the NASD is not scaling back the OATS machine any time soon.
See the attached link.
http://www.nasd.com/web/groups/rules_regs/documents/notice_to_members/nasdw_018047.pdf
SMALL FIRM COMPLIANCE (12/7/07)
On January 10, 2007, the NASD will offer an on-line program compliance program: Best Practices of Small
Firms. A panel of compliance professionals will discuss issues such as supervisory controls, electronic
recordkeeping, and anti-money laundering. The session will be live and interactive.
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These sessions are informative, painless (only 1.5 hours at your desk), and inexpensive ($50 for members).
See the link below.
http://www.nasd.com/EducationPrograms/OnlineLearning/OnlineWorkshops/index.htm
GAO REPORT ON 401(K) FEES (12/6/06)
For your information, the GAO released the linked report titled Private Pensions: Changes Needed to Provide
401(k) Plan Participants and the Department of Labor Better Information on Fees. Stating the obvious, the
GAO reported that the biggest expenses paid by plan participants related to investment management and
recordkeeping. More interesting is the GAO's suggestion of enhancing fee/expense disclosure to plan
participants and/or the Department of Labor. Ironically, the GAO did not suggest that such increased
disclosure and reporting may again increase costs/expenses to plan participants!
http://www.gao.gov/new.items/d0721.pdf
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