The U.S. Securities & Exchange Commission (“SEC”) has significantly increased its examination and enforcement efforts in recent times. Registered SEC advisers must review their policies and procedures to ensure compliance. In particular, SEC Rule 206(4)-7 was promulgated under the Investment Advisers Act of 1940 (“Advisers Act”) and requires that investment advisers registered with the SEC review their policies and procedures at least annually for adequacy. SEC Rule 206(4)-7 (“Compliance Rule”) also requires that registered SEC advisers designate a chief compliance officer (“CCO”) to be responsible for administering the policies and procedures implemented by the adviser.
The Compliance Rule requires that registered SEC advisers adopt and implement written policies and procedures that are reasonably designed to prevent violations of the Advisers Act. Advisers that fail to follow their policies and procedures or fail to detect supervisory “red flags” can by sanctioned by the SEC.
The CCO should analyze the firm’s operations and identify conflicts and other compliance factors that create risks for the firm and then design policies and procedures that address those risks. The SEC has stated that it expects these policies and procedures, at a minimum, to address the following issues to the extent that they are relevant to the firm:
1. Portfolio management processes, including allocation of investment opportunities among clients and consistency of portfolios with clients’ investment objectives, disclosures to clients, proxy voting and applicable regulatory restrictions;
2. The accuracy of disclosures made to investors, clients, and regulators, including account statements and advertisements;
3. Proprietary trading by the firm and the personal trading activities of supervised persons, and detecting and preventing insider trading;
4. Safeguarding of client assets from conversion or inappropriate use by personnel;
5. The accurate creation of required records and their maintenance in a manner that secures them from unauthorized alteration or use and protects them from untimely destruction, including email retention and review;
6. Safeguards for the privacy protection of client records and information;
7. Trading practices, including procedures to satisfy best execution obligation, use client brokerage to obtain research and other services, including a review of soft dollar arrangements, and the allocation of aggregated trades among clients;
8. Marketing advisory services, including the use of solicitors;
9. Processes to value client holdings and assess fees based on those valuations; and
10. Testing of business continuity plans.
CCO’s should comply with the Compliance Rule throughout the year, ensuring sure their reviews cover all the firm’s “critical areas,” and make the review process an ongoing task throughout each year. A firm’s compliance program should be subjected to continued assessment and reassessment, particularly in light of new risks. The CCO should take charge to demonstrate that the CCO has the seniority and authority required to manage the firm’s compliance program.
Annual reviews should consider any compliance matters that arose during the previous year, any changes in the business activities of the adviser or its affiliates, and any changes in the Advisers Act or applicable regulations that might suggest a need to revise the policies or procedures.
Daniel G. Viola, Partner, Sadis & Goldberg LLP
1. See, Release Nos. IA-2204; IC-26299; File No. S7-03-03.
2. See, Section 203(e)(6) of the Advisers Act [15 USC 80b-3(e)(6)].
3. See, Release Nos. IA-2204