Top 10 Takeaways from 2014 FINRA Conference

Wondering what’s on the minds of regulators this year? Over 1,000 compliance professionals attended the Financial Industry Regulatory Authority’s (FINRA) 2014 Annual Conference May 19–21, in Washington, D.C. to discuss updates on securities regulatory issues, share industry best practices and learn what regulators will be focusing on in the coming months. The changing and increasing demands of the current regulatory environment was a hot topic among attendees. In light of the dynamic regulatory environment, FINRA’s senior management team and senior officers from FINRA member firms shared the following insight into the “Top 10 Regulatory Considerations” for 2014:

1. Dynamic regulatory environment

Given the extremely dynamic regulatory and market environment that includes high-frequency trading, complex products and opaque market structures, some may believe that the markets have become too complex – almost to the point of inaccessibility. A few of the ways that FINRA seeks to restore investor trust and stay ahead of the evolving risks in the securities markets is through its risk-based exam program, which is more heavily relying on data analysis technology. FINRA has also launched its Request Manager system, which centralizes the flow of information between firms and FINRA examiners. In addition, FINRA seeks to enhance its market surveillance capabilities by implementing the Comprehensive Automated Risk Data System (CARDS) and Consolidated Audit Trail (CAT).

2. Comprehensive Automated Risk Data System (CARDS)

FINRA Chairman and CEO Rick Ketchum described CARDS as “the next step and big leap forward” in the future of FINRA’s examination program. CARDS will enable FINRA to conduct ongoing surveillance of member firms’ sales practices – similar to its current market regulation program. The system would give FINRA the ability to periodically collect data from all firms in a standardized, automated format so that the regulator can “run analytics that identify potential red flags of sales practice misconduct,” such as an over concentration of high-risk products in customer accounts.

3. Registered representatives due diligence and hiring practices

FINRA is forging ahead with its High Risk Broker initiative that was launched in early 2013. The regulator recently expanded its High Risk Broker program and created a dedicated Enforcement team to prosecute such cases. FINRA’s examination staff will also focus on hiring practices of firms that hire “high risk” brokers, reviewing the due diligence during the hiring process, supervision over the broker’s activities, and nature of the activity in the broker’s customer accounts.

4. Recruiting compensation practices

FINRA remains focused on brokerage compensation (and related supervisory and surveillance systems) and the potential conflicts of interest that may arise as a result of brokerage compensation practices. FINRA has encouraged broker-dealers to mitigate these conflicts by amending compensation arrangements and supervising registered representatives’ sales activities that provide additional incentives above standard compensation arrangements. Further, FINRA’s proposed Rule 2243 will require broker-dealers and registered representatives to disclose to customers if the rep is receiving more than $100,000 in “enhanced compensation” in connection with a change in employment. They must also disclose how the enhanced compensation was determined (e.g., trailing 12, assets under management, etc.) and whether the customer will incur any costs in connection if he or she decides to transfer assets to the rep’s new broker-dealer.

5. IRA rollovers

In January, FINRA issued an Investor Alert regarding IRA rollovers and highlighted IRA rollovers as an examination priority for the upcoming examination year. These announcements follow FINRA’s Regulatory Notice 13-45, which provides guidance on brokers’ responsibilities regarding IRA rollovers. FINRA remains focused on brokers’ marketing materials – specifically those that claim an IRA rollover is “free” or has “no fee” – and supervision with respect to IRA rollover sales and suitability.

6. Limited corporate financing broker proposal

FINRA remains committed to establishing separate, more targeted rules for firms that meet the definition of limited corporate financing broker (LCFB). A LCFB includes those firms that are solely corporate financing firms that may advise companies on mergers and acquisitions or on capital raising and that do not engage in many of the types of activities typically associated with broker-dealers. A LCFB would be subject to a core set of rules that FINRA believes should apply to all firms and another set of rules that would be specifically tailored to the LCFB’s business activities.

7. Social media review and supervision

As social media becomes increasingly important in broker-dealers’ marketing efforts, FINRA has encouraged firms to consider their supervisory structure over such platforms. Over the last four years, FINRA has issued Regulatory Notices 10-06 and 11-39, which provide guidance on how to apply existing FINRA rules to social media and remind firms of their responsibilities with respect to such communications.

8. Cost benefit analysis

FINRA recently adopted a framework for an economic impact analysis of its rulemaking. The framework seeks to provide “a formal way of organizing the evidence of the key effects, good and bad, of the various alternatives that should be considered in developing regulations.” As part of this framework, FINRA has identified the following three key principles that describe FINRA’s approach to conducting a cost benefit analysis for rulemaking:

• Identify the stakeholders who are most impacted by the rule.
• Clearly identify the objectives and potential impacts of rule proposals and alternatives considered.
• Obtain reliable and pertinent data to develop rules.

9. Outside business activities

FINRA is intently focused on registered representatives’ outside business activities, which may include private securities transactions, as regulatory examinations continue to uncover fraudulent sales practices occurring outside of a broker-dealer’s supervisory structure. Broker-dealers are encouraged to establish policies, procedures and training programs to ensure that registered representatives understand their disclosure obligations with respect to outside business activities (OBAs) and private securities transactions (PSTs). Firms should also have a due diligence process in place that enables the firm to properly distinguish between OBAs and PSTs, given the increased supervisory requirements required by FINRA over PSTs.

10. Enhancements to BrokerCheck

FINRA’s BrokerCheck database provides information about registered persons and broker-dealers to the public. Over the last five years, FINRA has made significant enhancements to the database to increase transparency surrounding the backgrounds of investment professionals and broker-dealers. Investors can use BrokerCheck to research an industry professional’s employment status history, industry registrations, and any reportable events such as customer disputes or disciplinary actions that may have occurred in the registered representative’s career. As the disclosure of registered representatives’ disciplinary history has received significant industry attention recently, broker-dealers and their employees should expect to see FINRA seek to increase the types of data that it make available through the BrokerCheck system.