The latest compliance report card from brokerage industry self-regulator Finra provides an in-depth analysis of the challenges faced by firms in relation to compliance. Alongside several recurring issues, such as record-keeping and Regulation Best Interest, the 2024 report includes a comprehensive discussion on cryptocurrencies.
Cryptocurrencies have gained significant traction among investors, but they have also attracted “bad actors” who engage in manipulative schemes similar to those associated with low-priced securities. As a result, Finra emphasizes the importance of firms improving their compliance policies and procedures surrounding crypto assets.
One area of improvement highlighted by Finra is communication with clients about the potential risks associated with cryptocurrencies. Firms are encouraged to enhance their disclosures and avoid making misleading statements. Additionally, Finra suggests that member firms review their supervision procedures to ensure appropriate due diligence is conducted for private crypto placements. It is also crucial for firms to calibrate their anti-money-laundering programs to effectively detect suspicious cryptocurrency activity.
Finra acknowledges that the compliance landscape is constantly evolving, necessitating regular updates to address emerging risks and evolving trends. The inclusion of cryptocurrencies in this year’s report reflects their growing importance in the financial industry. As the industry evolves, firms must adapt to the changing compliance challenges they face.
Crypto Warnings and Compliance Issues in the Financial Industry
The recent approval of Bitcoin exchange-traded funds by the Securities and Exchange Commission (SEC) has brought forth new concerns about investing in digital assets. While the approval marks a significant milestone, investors are being urged to exercise caution as these assets are considered to be a breeding ground for fraudulent activities, according to SEC Chairman Gary Gensler.
To address these compliance challenges, Finra is reminding firms of their regulatory responsibilities to preserve employee communications and other important documents. As part of this effort, Finra suggests that member firms conduct a thorough review of their communication protocols and ensure that both they and their vendors are actively monitoring and preserving all relevant correspondence.
Examiners have found numerous instances where firms have failed to supervise their vendors responsible for supporting book-and-records obligations, as well as instances of email archiving failures within firms themselves.
In light of these findings, Finra recommends that firms thoroughly review their third-party contracts with vendors and conduct their own testing of these contractors’ compliance efforts. This may involve simulating a regulator’s examination by requesting records and engaging regulatory or compliance consultants to confirm compliance with record-keeping requirements.
In conclusion, as the SEC approves more cryptocurrency offerings, warning signs regarding potential fraud and abuse become even more urgent. Additionally, ensuring compliance with communication protocols and record-keeping obligations is a vital aspect of maintaining a sound financial industry. Firms must prioritize proactive measures to preserve transparency and regulatory adherence.
Regulatory Challenges Persist for Firms Under SEC’s Regulation Best Interest
Under this regulatory package, brokers were entrusted with additional responsibilities. However, Finra’s findings reveal that firms are still grappling with making comprehensive disclosures about their fees, potential conflicts of interest, and other essential client information. Moreover, firms are finding it challenging to provide investment recommendations without confirming that these products are in the best interest of their clients.
In some instances, firms have been called out for their failure to maintain detailed records of clients’ investor profiles and for recommending unsuitable products, such as complex or illiquid options.
Conflicts of interest have emerged as a recurring obstacle in the industry. Brokers continue to struggle with identifying conflicts, as well as accurately disclosing, mitigating, or eliminating these conflicts when recommending securities transactions or investment strategies.
To address these concerns, the SEC introduced Form CRS – a simplified summary designed to explain a firm’s operations in plain language. Unfortunately, Finra has observed that member firms are deviating significantly from the SEC’s guidance when submitting their filings. Material facts are being omitted, disciplinary histories inaccurately represented, and some firms have even stated incorrectly that they do not provide recommendations.
While progress has been made in adapting to these regulatory changes, the industry must continue to navigate the complexities associated with compliance and ensuring clients’ best interests are upheld.