SEC to Focus on Firms Hiring Those with Disciplinary History

by Allen Matkins
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Allen Matkins Leck Gamble Mallory & Natsis LLP

SEC’s Office of Compliance Inspections and Examinations (OCIE) has recently issued a risk alert to registered investment advisers indicating their intent to focus on compliance oversight and controls with respect to the employment of individuals with a history of disciplinary events, including individuals that have been disciplined or barred from a broker-dealer. OCIE has indicated, that in their view, such individuals may present an increased risk of future misconduct, and thus can present harm to clients. Registered investment advisers that have hired or intend to hire individuals with disciplinary histories should consider heightened supervision of these individuals, and carefully assess their compliance program and disclosures.

During its examinations, OCIE will assess whether advisers have implemented policies and procedures that target the specific risks posed by employees with disciplinary histories, with a focus on the following key risk areas:

  • Compliance Program. Rule 206(4)-7 under the Advisers Act requires each adviser to adopt and implement written policies and procedures reasonably designed to prevent violations of the Advisers Act. Examiners will review the registered adviser’s practices surrounding its hiring processes, ongoing reporting obligations, employee oversight practices, and complaint handling processes. An important component of the examinations is to evaluate whether the advisers foster robust compliance cultures and tone at the top. The tone at the top is critical to setting the ethical environment of the organization and preventing misconduct.
  • Disclosures. As a fiduciary, an investment adviser has a duty to make full and fair disclosure of all material facts. An adviser must update its brochure at least annually (and more frequently, if required by the instructions to Form ADV) and notify clients of any material changes. Examiners will likely review registered advisers’ practices regarding their disclosures of regulatory, disciplinary, or other actions with a focus on assessing the accuracy of the disclosures. 
  • Conflicts of Interest. As a fiduciary, an investment adviser has a duty to make full and fair disclosure of all material facts, including all material conflicts of interest that could affect the advisory relationship. Examiners will assess the conflicts of interest that a registered adviser or supervised person may have. Particular attention will be given to conflicts that may exist with respect to financial arrangements (e.g. unique products, services, or discounts) initiated by supervised persons with disciplinary events. 
  • Marketing. Examiners will review a registered adviser’s advertisements including pitch-books, website postings, and public statements to identify any conflicts. Examiners also will assess any conflicts of interest, particularly those that relate to financial arrangements initiated by supervised persons with disciplinary histories, and will review marketing materials and advertisements.

View a copy of the risk alert.

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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