FINRA’s 2018 Exam Priorities Continue Focus on Fraud, High-Risk Activities

Similar to last year’s efforts, addressing fraudulent activities, high-risk firms and brokers, and operational and financial risks are among the leading matters that FINRA will continue to pursue in 2018.

“The coming year will bring both continuity and change in FINRA’s programs,” FINRA CEO Robert Cook wrote in a note accompanying the 2018 Annual Regulatory and Examination Priorities Letter Priorities Letter. “The continuity comes, first and foremost, in our unwavering commitment to our mission: protecting investors and promoting market integrity in a manner that facilitates vibrant capital markets.”

Cook explains that FINRA has already made enhancements to its operations through the ongoing FINRA360 initiative and it is working to address comments received on its Special Notice on Engagement.

Among other things, FINRA plans to strengthen measures to increase information sharing with firms during examinations, improve processes for making examination information requests and enhance training of examiners. Cook noted that FINRA welcomes comments on its December 2017 report, which reviews insights drawn from recent examinations.

The organization also will launch several new report cards to assist firms with their compliance efforts, including an Auto Execution Manipulation Report Card, an Alternative Trading System Cross Manipulation Report Card, and a Fixed Income Mark-up Report Card.

Operational, Financial and Sales Practice Risks

Among the key operational and financial risk focus areas that FINRA will be reviewing are firms’ business continuity planning, processes for verifying and protecting customer assets, cybersecurity preparedness and liquidity management plans.

FINRA emphasizes that the role employer-sponsored retirement plans play in individuals’ retirement planning will be an important topic area. To that end, the letter notes the organization will focus on the suitability of firms’ and registered representatives’ recommendations made to plan participants, including IRA rollover recommendations involving securities transactions. FINRA will also review the supervisory mechanisms firms establish for these recommendations.

In addition, FINRA plans to review situations in which registered representatives recommend a switch from a brokerage account to an investment adviser account where that switch “clearly disadvantages” the customer. An example would be when a registered representative recommends that a customer purchase a securities product subject to a front-end sales charge in a brokerage account and, shortly thereafter, recommends transferring the account to a fee-based account.

FINRA also will be continuing to assess broker-dealers’ involvement with initial coin offerings and related activities, as well as digital currencies, and the opportunities and risks they may pose.

Fraudulent Activities

As part of its effort to investigate and make referrals to the SEC for potential insider trading and other fraudulent activities outside FINRA’s jurisdiction, the organization notes that it will be particularly focused on microcap fraud schemes, including schemes that target senior investors.

FINRA says its investigations have identified senior investors who have been victimized by unregistered individuals “using high-pressure sales tactics as part of a pump-and-dump scheme.”

The letter notes that FINRA’s new Rule 2165 and amendments to FINRA Rule 4512 have provided firms with more tools to protect senior investors from these types of schemes.

High-Risk Firms and Brokers

Building on its work from 2017, FINRA plans to focus on hiring and supervisory practices for high-risk brokers, including remote supervision arrangements; supervision of point-of-sale activities, including individual broker accountability when using joint rep codes; and branch inspection programs.

Other focus areas will be evaluating rollovers of qualified plans into non-qualified accounts for senior investors, as well as recommendations for speculative or complex products by high-risk brokers to investors who may not have the necessary sophistication, experience or investment objectives.

New Rules

FINRA’s letter also reminds stakeholders of new rules that become applicable in 2018 and advises that it may discuss with some firms the steps they are taking to comply with the rules.

Financial Exploitation of Specified Adults: FINRA Rule 2165 becomes effective Feb. 5, 2018, and permits members to place temporary holds on disbursements of funds or securities from the accounts of specified customers where there is a reasonable belief of financial exploitation of these customers.

Amendments to FINRA Rule 4512 (Customer Account Information): Also effective Feb. 5, the amendment requires members to make reasonable efforts to obtain the name and contact information for a trusted contact person for a non-institutional customer’s account.

FinCEN Customer Due Diligence Rule: Covered financial institutions have until May 11, 2018, to comply with FinCEN’s CDD Rule.

Amendments to FINRA Rule 2232 (Customer Confirmations): Scheduled to become effective May 14, 2018, the amendment requires a member to disclose the amount of mark-up or mark-down it applies to trades with retail customers in corporate or agency debt securities if the member also executes offsetting principal trades in the same security on the same trading day. It also requires members to disclose on all retail customer confirmations for corporate and agency debt security trades: (1) a reference, and a hyperlink if the confirmation is electronic, to a web page hosted by FINRA that contains publicly available trading data for the specific security that was traded; and (2) the execution time of the transaction.

Margin Requirements for Covered Agency Transactions (Amendments to FINRA Rule 4210): FINRA’s new margin requirements for Covered Agency Transactions are scheduled to become effective on June 25, 2018.

Consolidated FINRA Registration Rules: The consolidated FINRA registration rules (FINRA Rules 1210 through 1240) will become effective Oct. 1, 2018.

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