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FINRA Issues Report on Examination Findings

This month, the Financial Industry Regulatory Authority (FINRA) issued a report summarizing various findings from recent examinations of its member firms (Report). In particular, the Report sets forth selected observations from recent examinations that FINRA considers worth highlighting because of their potential significance, frequency and impact on investors and the markets. The Report also describes compliance and supervisory practices that FINRA has observed to be effective in certain circumstances.

The Report’s high-level observations include, but are not limited to, the following:

  • Suitability issues, including situations where registered representatives did not adequately consider an individual retail customer’s financial situation and needs or other investment profile factors when making recommendations, recommendations involving overconcentration in illiquid securities that resulted in significant customer losses, failures to identify and prevent excessive trading in customer accounts, unsuitable variable annuity recommendations, and failure to conduct appropriate due diligence on volatility-linked products and other complex products;

  • Failure by firms to provide required transaction-related information to customers for certain trades in corporate, agency and municipal debt securities;

  • Firms failing to conduct reasonable diligence on private placements (which typically should entail meaningful independent research on material aspects of the offering, identification of red flags and addressing concerns that would be relevant to a potential investor) and/or over relying on third parties to conduct due diligence;

  • Lack of sufficiently robust supervisory controls and procedures to prevent abuses of authority by registered representatives exercising discretion on behalf of customers;

  • Firms not properly documenting investigations of potentially suspicious activity flagged by exception reports;

  • Non-compliance with the net capital rule, including failing to sufficiently document expense-sharing agreements, taking incorrect inventory haircuts and miscalculation of operational charges;

  • Non-compliance with the customer protection rule, such as improper use of customer fully-paid and excess-margin securities to fund firm operations and inaccurate reserve formula calculations;

  • Firms permitting staff members who are not properly registered as Operations Professionals to engage in activities such as approving general ledger journal entries, supervising financial functions and/or approving business requirements of trading systems related to covered functions;

  • Firms lacking adequate supervisory programs relating to, or otherwise failing to comply with, confirmation disclosure requirements (e.g., inaccurate disclosure of the firm’s trading capacity, mislabeled disclosure of compensation and failure to disclose market maker status);

  • Failure to maintain sufficient written supervisory procedures and controls regarding registered representatives’ use of “doing business as” names;

  • Best execution obligation violations, including with respect to firms allowing conflicts of interest relating to financial benefits from routing orders to particular venues to adversely affect the objectivity of the firm’s “regular and rigorous” review of customer execution quality;

  • Non-compliance with TRACE reporting rules in connection with institutional sales of fixed income securities; and

  • Insufficient market access controls by firms that provide market access to their customers, including with respect to intra-day adjustment of pre-trade financial thresholds and oversight of third-party vendors.

For more complete coverage of topics addressed in the Report, and greater detail on the topics addressed above, the full FINRA Report is available here.

©2019 Katten Muchin Rosenman LLP

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About this Author

Kevin M. Foley, Finance Lawyer, Katten Llaw Firm
Partner

Kevin M. Foley has extensive experience in commodities law and advises a wide range of clients, both in the United States and abroad, on compliance with the Commodity Exchange Act and the rules of the Commodity Futures Trading Commission (CFTC) affecting traditional exchange-traded products, as well as the over-the-counter markets involving swaps and other derivative instruments. His clients include futures commission merchants, derivatives clearing organizations, designated contract markets, foreign boards of trade and an industry trade association.

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312-902-5372
Associate

Leonard Licht is an associate in the Financial Services practice. He advises a broad range of financial market participants, including investment managers to private funds and investors in private funds. Prior to joining Katten, Lenny practiced as a corporate and securities attorney and has also worked in an analytical capacity with a family office.

While in law school, Lenny was a Heyman scholar and member of the Moot Court Honor Society.

212-940-6587
Gregory Uffner, Financial Services Attorney, Katten Law Firm
Associate

Gregory Uffner is an associate in the Financial Services practice. 

While in law school, Gregory was an associate editor for the Moot Court Board, a member of the Fordham Urban Law Journal and served as managing editor for the Fordham Sports Law Forum.

212.940.6485