The Securities and Exchange Commission’s (SEC) Division of Examinations (the Division) recently issued a Risk Alert meant to help shine some light on one of its most core procedures.
Specifically, this Risk Alert provides information about the Division’s process for selecting registered investment advisers (RIAs) for examination. It also provides an attachment outlining Division staff’s typical initial request for documents and information – some of which might be asked for in the initial request, and some of which might be asked for in supplemental requests.
FIRM SELECTION
The Division says that it selects an RIA based on several criteria, which can include the firm’s risk characteristics; tips, complaints or referrals; or the Division staff’s interest in a particular compliance risk area.
The Division’s publication of annual priorities also provides some insight into which products, services, business operations or practices the Division believes present potential risks to investors and U.S. capital markets – and advisors that provide or recommend these services or products is another consideration in staff’s examination selection.
The staff might also consider other factors in its selection process, including:
- Prior examination observations and conduct
- Supervisory concerns
- Tips, complaints or referrals involving the firm
- Business activities of the firm or its personnel that may create conflicts of interest
- The length of time since the firm’s registration or last examination (for instance, advisers that are newly registered with the SEC)
- Material changes in a firm’s leadership or other personnel
- Indications that the RIA might be vulnerable to financial or market stresses
- Media reporting that might involve or impact the firm
- Data provided by certain third-party data services
- The firm’s disclosure history
- Whether the firm has access to client and investor assets and/or presents certain gatekeeper or service provider compliance risks
EXAMINATION FOCUS SELECTION
The Division says an exam’s scope will vary from exam to exam depending on the firm’s business model, associated risks and the reason for conducting the exam. This might change which documents are requested, but in general, the exam will include a review of the advisers’ operations, disclosures, conflicts of interest and compliance practices with respect of areas including fees and expenses, custody and safekeeping of client assets, and portfolio management, among others.
REQUESTED DOCUMENT SELECTION
The Division says that typical procedure is to send an adviser a letter notifying them of an upcoming exam, and the letter will include an initial request list for certain information and documents. This typically includes:
- General information (providing Division staff with an understanding of the adviser’s business and investment activities)
- Information about compliance risks the adviser has identified, as well as written policies and procedures the adviser has adopted and implemented to address those risks
- Information to facilitate testing with respect to advisory trading activities
- Information for the staff to perform its own testing for compliance
Click here to view the full Risk Alert, including the Division’s attachment, which provides a more detailed list of information and documents that staff might request as part of an exam.