SEC Enforcement Division Announces its 2018 Priorities and 2017 Results

by Morrison & Foerster LLP - Broker-Dealer Compliance + Regulation
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Introduction

The Securities and Exchange Commission’s Division of Enforcement (the “Division”) has published its annual report for fiscal year 2017 (the “Report”). The Report is available at the following link: https://www.sec.gov/files/enforcement-annual-report-2017.pdf. The Report discusses the Division’s key initiatives and results in 2017[1] and its priorities for 2018.

Below, we discuss a number of areas that may be of particular interest to a number of market participants and clients, including some specific items that the Division raises in the Report.

Division’s Enforcement Agenda

In June 2017, Stephanie Avakian and Steven Peikin were appointed as co-directors of the Division. Both share the view that “[v]igorous enforcement of the federal securities laws is critical to combat wrongdoing, compensate harmed investors, and maintain confidence in the integrity and fairness of our markets.”[2] Co-Director Avakian mentioned during the 49th Annual Institute on Securities Regulation that “enforcement [of federal securities laws] is a bi-partisan issue, but we do not expect a big shift in enforcement.”[3]

There are five principles that guide the Division’s decision making (and also, arguably, its 2018 initiatives and priorities):

  1. Focus on the Main Street investor.
  2. Focus on individual accountability.
  3. Keep pace with technological change.
  4. Impose sanctions that most effectively further enforcement goals.
  5. Constantly assess the allocation of Division resources.

New: Retail Strategy Task Force

The SEC announced the creation of the Division’s Retail Strategy Task Force in September 2017.[4] The task force is dedicated to developing effective strategies and methods to identify potential harm to retail investors, and focused on harnessing the SEC’s ability to use technology and data analyt­ics to identify large-scale wrongdoing.[5]

The task force will focus not only on wrongdoing implicating the microcap market, Ponzi schemes and offering frauds (where retail investors are typically the victims), but also on misconduct at the intersection of investment professionals and retail investors.[6] Co-Director Avakian explained in a recent speech[7] that:

The issues we see in this space are extensive and often involve widespread incidents of misconduct, such as charging inadequately disclosed fees, and recommending and trading in wholly unsuitable strategies and products. Some more specific examples of some of the problems we are continuing to see:

  • Investment professionals steering customers to mutual fund share classes with higher fees, when lower-fee share classes of the same fund are available.[8]
  • Abuses in wrap-fee accounts, including failing to disclose the additional costs of “trading away” or trading through unaffiliated brokers,[9] and purchasing alternative products that generate additional fees.[10]
  • Investors buying and holding products like inverse exchange-traded funds (ETFs) for long-term investment. These can be highly volatile products that are generally intended as a hedge against exposure to downward moving markets, and that face a long-term high risk of losing their principal.[11] Yet, we are increasingly seeing retail investors holding these products long-term, including in retirement accounts.[12]
  • Problems in the sale of structured products to retail investors, including a failure to fully and clearly disclose fees, mark-ups, and other factors that can negatively impact returns.
  • Abusive practices like churning and excessive trading that generate large commissions at the expense of the investor.[13]

New: Cyber Unit

The Division’s most prominent cyber-related efforts for 2017 include (i) the SEC’s Report of Investigation that concluded that the federal securities laws may apply to certain initial coin offerings (“ICOs”) or other distributed ledger or blockchain-enabled means for raising capital, depending on the facts and circumstances;[14] and (ii) the SEC Office of Compliance Inspec­tions and Examinations’ public statement concerning endorsements of stocks and other investments by celebrities and others on social media networks.[15]

In September 2017, the SEC announced the creation of the Division’s Cyber Unit.[16] The Cyber Unit combines the Division’s cyber-related expertise and its proficiency in digital ledger technology to combat cyber-related threats to the securities markets.[17]  The unit will initially focus its efforts on the following key areas:

  • market manipulation schemes involving false information spread through electronic and social media;
  • hacking to obtain material nonpublic information and trading on that information;
  • violations involving distributed ledger technology and ICOs;
  • misconduct perpetrated using the dark web;
  • intrusions into retail brokerage accounts; and
  • cyber-related threats to trading platforms and other critical market infrastructure.[18]

On Accountability, Sanctions and Resource Allocation

  • Individual accountability:  According to the Report, individual accountability more effectively deters wrongdoing, and this is the standing enforcement rule rather than the exception.[19] In 2017, 73% of the SEC’s standalone actions involved charges against one or more individuals.[20]
  • Tailored sanctions: The Division is committed to imposing an appropriate package of remedies which will be most meaningful in furthering its enforcement objectives. Possible remedies may include obtaining monetary relief in the form of disgorgement, penalties, and asset freezes; barring wrongdoers from working in the securi­ties industry; and, when appropriate, obtaining more tailored relief, such as specific under­takings, admissions of wrongdoing, and monitoring or other compliance requirements.[21]

Considering the Division’s resources, it will focus on “allocating them to address the most significant market risks and in the most effective manner, keeping front of mind the violators who pose the most serious threats to investors and market integrity.”[22]


[1] The Report indicates that a total of 754 enforcement actions were brought in fiscal year 2017.

[2] Report, at page 1.

[3] Government Enforcement Priorities: What’s New, What’s Hot and What’s Not? 49th Annual Institute on Securities Regulation (November 10, 2017), available at https://www.pli.edu/Content/Seminar/49th_Annual_Institute_on_Securities_Regulation/_/N-4kZ1z10fx6.

[4] Press Release 2017-176, SEC Announces Enforcement Initiatives to Combat Cyber-Based Threats and Protect Retail Investors (September 25, 2017), available at https://www.sec.gov/news/press-release/2017-176.

[5] Report, at page 5.

[6] Report, at page 5.

[7] Stephanie Avakian, The SEC Enforcement Division’s Initiatives Regarding Retail Investor Protection and Cybersecurity (October 26, 2017), available at https://www.sec.gov/news/speech/speech-avakian-2017-10-26.

[8] Press Release 2017-165, SunTrust Charged With Improperly Recommending Higher-Fee Mutual Funds (September 14, 2017), available at https://www.sec.gov/news/press-release/2017-165; Press Release 2017-98, Barclays to Pay $97 Million for Overcharging Clients (May 10, 2017), available at https://www.sec.gov/news/press-release/2017-98; Cadaret, Grant & Co., Inc., Exchange Act Release No. 81274 (August 1, 2017), available at https://www.sec.gov/litigation/admin/2017/34-81274.pdf; Credit Suisse Securities (USA) LLC, Exchange Act Release No. 80373 (April 4, 2017), available at https://www.sec.gov/litigation/admin/2017/34-80373.pdf.

[9] Press Release 2016-143, SEC Charges Investment Adviser With Failing to Clearly Disclose Additional Costs to Investors (July 14, 2016), available at https://www.sec.gov/news/pressrelease/2016-143.html.

[10] WFG Advisors, L.P., Exchange Act Release No. 78189 (June 28, 2016), available at https://www.sec.gov/litigation/admin/2016/34-78189.pdf.

[11] U.S. Sec. & Exch. Comm’n, Office of Investor Education and Advocacy, Leveraged and Inverse ETFs: Specialized Products with Extra Risks for Buy-and-Hold Investors (August 1, 2009), available at https://www.sec.gov/investor/pubs/leveragedetfs-alert.htm.

[12] Press Release 2017-46, Morgan Stanley Settles Charges Related to ETF Investments (February 14, 2017), available at https://www.sec.gov/news/pressrelease/2017-46.html.

[13] Press Release 2017-180, SEC Detects Brokers Defrauding Customers (September 28, 2017), available at https://www.sec.gov/news/press-release/2017-180; Press Release 2017-2, SEC Charges Two Brokers With Defrauding Customers (January 9, 2017), available at https://www.sec.gov/news/pressrelease/2017-2.html.

[14] Report, at page 5 citing  Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934: The DAO (July 25, 2017), available at https://www.sec.gov/litigation/investreport/34-81207.pdf.

[15] Report, at page 5 citing Statement on Potentially Unlawful Promotion of Initial Coin Offerings and Other Investments by Celebrities and Others (November 1, 2017), available at https://www.sec.gov/news/public-statement/statement-potentially-unlawful-promotion-icos.

[16] Press Release 2017-176, SEC Announces Enforcement Initiatives to Combat Cyber-Based Threats and Protect Retail Investors (September 25, 2017), available at https://www.sec.gov/news/press-release/2017-176.

[17] Report, at page 4.

[18] Report, at page 4.

[19] Report, at page 2.

[20] Report, at page 11.

[21] Report, at page 2.

[22] Report, at page 3.

[View source.]

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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