Each year, we’re amazed at the amount of talent and insights shared at the NSCP National conference, and this year was no exception. Coming off the heels of the pandemic, topics swirled around a range of hot discussions, including the SEC’s new marketing rule, cybersecurity preparedness, and market risk.  

As an exhibitor, Quest CE was in attendance and able to sit in on several sessions, including one called “SEC and FINRA Enforcement Issues and Trends.” The session focused on recent SEC and FINRA enforcement cases, summarizing some of the lessons learned. Panelists included SEC Associate Director of Division of Enforcement, Melissa Hodgman and FINRA’s Senior Vice President and Deputy Head of Enforcement, Chris Kelly.   

SEC’s Hodgman kicked things off by stating that even though the commission is still “catching their feet” from COVID, they were still able to bring on 70 more cases this year. She elaborated that the cases she’s most proud of are her “silent stats,” i.e. the investigations that take place but don’t end in violations. “I look at these as my wins and the ones that do as my losses,” said Hodgman.  

FINRA’s Kelly reported that while FINRA’s fiscal year is not over yet, they seem to be “on par” with previous years’ enforcement. He echoed Hodgman’s sentiment about the “silent stats,” adding that if they bring 800 cases formally, that typically means they had an additional 800 cases informally. These are the cases he’s most proud of. 

Provided below are four cases that regulators hoped attendees could learn from! 

Multibillion-Dollar Securities Fraud 

Back in May, the SEC charged Allianz Global Investors U.S. LLC (AGI US) and three former senior portfolio managers with a massive fraudulent scheme that concealed the immense downside risks of a complex options trading strategy they called “Structured Alpha”. According to the SEC, the company marketed and sold the strategy to approximately 114 institutional investors, including pension funds for teachers, clergy, bus drivers, engineers, and other individuals.   

After the COVID-19 market crash exposed the fraudulent scheme, the strategy lost billions of dollars because of the misconduct.  According to the SEC’s Hodgman, “they collected over $500M in fees, so we gave a $1B penalty. It was absolute fraud, this wasn’t a small product, it was heavily marketed. They knew what they were doing.” 

Ernst & Young Caught Cheating on CPA Exams 

Another big case that was brought up by the SEC was the case against Ernst & Young where they agreed to pay a record $100M amid charges that dozens of its audit staff cheated on an ethics exam and misled investigators. The SEC reiterated that “over multiple years” E&Y’s audit professionals cheated on exams required to obtain and maintain Certified Public Accountant (CPA) licenses and withheld evidence of this misconduct from the SEC’s enforcement division during an investigation of the matter. 

According to the SEC, they had the ability to reach out to the SEC when they found out cheating was taking place, however, they didn’t correct their statement to regulators that things changed during discovery.  

16 Firms Fined for Off-Channel Communication   

Hodgman also cited a recent case brought on by the SEC where 16 banks and brokerages were fined because employees were messaging and texting with clients without recording the communications. The fines include $1.1 billion assessed by the SEC and a $710 million fine from the Commodity Futures Trading Commission (CFTC).  

The employees included senior and junior investment bankers and debt and equity traders. The investigation found that some of the firms’ executives lied about using unauthorized private apps and even deleted messages to conceal the behavior. According to the panel, training is incredibly important to reiterate the importance of not using personal apps. This is an especially big cultural shift for young people. Quest CE plans to release a course on Off-Channel Communications in the future – stay tuned! 

Conflicting Data from Disparate Systems 

FINRA’s Chris Kelly also cited a recent case, without mentioning the firm by name, that was using two separate systems to impose disciplinary measures at the firm. According to Kelly, this act is fairly normal, as they typically see many firms with both compliance and field supervision departments. The issue, however, was that since each department had its own system for tracking, disciplinary measures were oftentimes imposed while referencing the wrong system, resulting in passive punishments. 

For example, let’s say Field Supervision enters their system and sees that there is no disciplinary history, therefore delivering a more lenient punishment when in fact that representative had 15+ disciplinary actions in the other system. As a result, because these prior disciplinary actions were hidden, punishments were not as strong as they should have been.  

Regulatory Trends for the Future 

In addition to highlighting these blockbuster cases, both regulators cited several trends firms can expect to see in the future: 

  • IA/BD Accounts: A big topic of conversation for the future will be risks related to retail customers in the BD/IA model, i.e. moving assets between BD/IA accounts to inflate advisory costs, commissions, etc. Regulators have seen this trend taking place more often, allowing BDs/IAs to “double dip” on commissions.  
  • Reg BI: According to FINRA, you can expect to see a lot more customer care infractions. Because June was the second anniversary of the regulation, FINRA is warning that compliance with this rule shouldn’t be a surprise to anyone, as there are lots of resources out there now. In fact, FINRA mentioned a recent case it took action on where it only impacted one client account. Firms can expect to see a lot more of these “small” cases. “They don’t need to be big press release style cases – a majority will be small like this one,” added Kelly.  
  • Best Execution: Regulators also expect there to be a lot more cases involving best execution. “It’s not just about the price, there are many more factors; fill rates, speed of execution, etc.,” said Kelly. Disclosures also need to be comprehensive in this area. 
  • Gatekeeper Liability: Another topic that was brought up was Gatekeeper Liability. While many people assume gatekeepers are CCOs, auditors, and CEOs, panelists explained that a gatekeeper is actually anyone who receives information that they don’t act on it – it is not necessarily specific to a particular title. Everyone needs to act – they are there to feed the canary to the coal mine.  
  • Extraordinary Cooperation: Lastly, the SEC reminds firms that if they are to get credit for self-reporting, the tip must be something they don’t already know, and it must be timely. Additionally, remediation to clients must be timely, citing a case where a firm restored funds to a client’s account within 24 hours of discovery. Additionally, it’s equally important that the firm is not only addressing the little problem that was identified but looking for how that problem could have bled into other places.