Bates Research | 02-18-22

FINRA Releases 2022 Exam and Risk Monitoring Report - Plus Bates’ Annual FINRA Chart

At a recent event sponsored by Bates Group, FINRA CEO Robert Cook remarked that the “theme” of the self-regulator’s 2022 Examination and Risk Monitoring Program Report will remain the protection of retail investors. He noted that the surge in the number of retail investors entering the market in the last few years requires continuous vigilance as to compliance with the rules and regulation on new products and platforms drawing in these investors.

Issued on February 9th, the 2022 Report highlights several new areas of FINRA focus that back up this theme of protection of retail investors, including, for example, first-time attention to FINRA rules on trusted contacts, funding portals and crowdfunding offerings. The 2022 Report itself follows a new format initiated last year, a format intended to enable firms to refer to it continuously as a repository of compliance and supervisory information. The new structure—better organized for ease of use and replete with links, citations and additional references related to supervisory procedures and controls—still contains the same core elements as in previous years: relevant rules, related compliance considerations, notable exam findings, and observed best practices. But, as structured, the taxonomy is that of an online library, updated continuously and available immediately as an on-line reference for members. This year’s Report “denotes” new topics for 2022 and highlights areas of ongoing concern from 2021, while adding updated material and guidance to existing rules and regulations. Here Bates reviews those new topics and the selected highlights as we adapt our own annual summary Chart to better reflect the changing FINRA approach.

Top Areas of FINRA Focus for 2022

See highlights of FINRA’s continuing and emerging concerns on our 2022 FINRA chart below, which keeps track of articulated priorities from year to year. (Items highlighted in green are new for 2022).

FINRA Releases 2022 Exam and Risk Monitoring Report - Plus Bates’ Annual FINRA Chart

© 2022, Bates Group LLC
Source: 2022 Report on FINRA’s Examination and Risk Monitoring Program (Compiled by Alex Russell, Managing Director, White Collar, Regulatory and Internal Investigations)

New in ‘22

The report lists member compliance obligations by topic under four categories: firm operations, communications and sales, market integrity, and financial management. As configured, each topic is not only linked to the section of the report directly, but can also be found in a slightly clearer form through the table of contents (published here). These topic pages are very helpful, and clearly break down for each obligation: the rule, related considerations, exam findings, effective practices, and additional resources. Also, various topic pages importantly delineate additional recent guidance or relevant related material on the obligation.

Under the category of firm operations, three new topic pages were added for 2022. The first is on “Trusted Contact Persons.” On this page, FINRA reviews a firm’s obligations to make a reasonable effort to obtain the name and contact information for a trusted contact person (aged 18 or older) for non-institutional customer accounts. The page offers guidance and exam findings on the circumstances in which firms and their associated persons are authorized to contact a trusted person and disclose information about the customer account. The second new topic under firm operations is on “Funding Portals and Crowdfunding Offerings.” This page reviews firm obligations (i) to register funding portals with the SEC, (ii) to become a member of FINRA, and (iii) additional requirements concerning corresponding notifications. The third new topic page concerns “Firm Short Positions and Fails-to-Receive in Municipal Securities.” Here, FINRA reviews the obligation on firms to develop and implement adequate controls and procedures for detecting, resolving and preventing adverse tax consequences on customers in certain instances when a firm effects sales to customers of municipal securities that are not under the firm’s possession or control—instances where a firm’s trading activity “inadvertently results in a short position or a firm fails to receive municipal securities it purchases to fulfill a customer’s order.”

Under the category of market integrity, FINRA added a topic page on “Disclosure of Routing Information.” This page focuses on a broker-dealer’s obligations to disclose information on the handling of customers’ orders in NMS stocks and listed options. FINRA explained that it is concerned with ensuring that customers: “better understand how their firm routes and handles their orders; assess the quality of order handling services provided by their firm; and ascertain whether the firm is effectively managing potential conflicts of interest that may impact their firm’s routing decisions.”

Under the category of financial management, FINRA added a topic page on “Portfolio Margin and Intraday Trading.” FINRA reviews a firm’s obligation to monitor the risk of positions held in portfolio margin accounts “during a specified range of possible market movements according to a comprehensive written risk methodology.”

“Selected Highlights”

In a section of the Report called “Selected Highlights,” FINRA lists big-picture subject areas that will continue to be prominent for the regulator in 2022. Given the public and industry attention to these topics (which have been regularly tracked by Bates), expect a possible pickup in enforcement actions related to them.

Among these topics include compliance with (i) Reg BI and Form CRS requirements; (ii) best execution obligations (particularly when it comes to order routing, commissions and conflicts of interest); (iii) obligations on the use of mobile applications for communications with customers (and a firms’ supervision of activity on those apps); (iv) obligations regarding SPAC transactions, including as to conflicts of interest, adequate due diligence, and disclosures; (v) obligations to protect sensitive customer and firm information through effective cybersecurity measures; and (vi) communications and disclosure obligations made in relation to complex products—particularly options, but also products like variable annuities. (Not included in these “selected topics,” but sure to be an issue going forward are obligations concerning communications on digital assets.)

Conclusion

Each year the Report is published, FINRA emphasizes its expectation that member firms undertake a comprehensive review of the findings, observations and recommendations, and identify those areas that are applicable to their businesses. FINRA explains it wants member firms to incorporate the highlighted topics in their overall risk assessments and compliance program review and to evaluate their compliance programs and supervisory procedures to address these challenges. This year, the Report includes a helpful appendix containing a step-by-step outline on how to do that.

In its new form, the Report has gone from a once-a-year update of new priorities and exam findings within the context of market developments to an ongoing and curated compliance library. The result is that FINRA’s approach shifts member compliance review from an annual exercise to a perennial one. As new developments arise, Bates will keep you apprised.