ETFS and Variable Annuities Added to SEC Exam Priorities in 2016

Expect the Securities and Exchange Commission to take a harder look at whistleblower tips related to Exchange Traded Funds and Variable Annuities after adding these two categories to its examination priorities for 2016 at the Office of Compliance Inspections and Examinations. The OCIE administers examinations of broker-dealers, investment advisers, investment advisers and other registered entities.

The priorities center on three areas: protecting retail investors (including those saving for retirement), assessing compliance with market-wide risks and identifying other illegal activity through data analytics.

The investor protection issues which will be a focus of examinations include investment advisers working with retirement accounts, ETFs (sales strategies, trading practices, disclosures and the creation and redemption process), fee selection (recommendation of account types and fee arrangements must be in the best interest of the retail investor with appropriate disclosure), undisclosed gifts and entertainment to public pension advisers, and variable annuities (suitability analysis for the investor and the adequacy of disclosures to investors).

Among the market-wide risks the SEC will look for include weaknesses in cybersecurity compliance as well as potential liquidity problems at ETFs and mutual funds stemming from illiquid fixed income securities.

On the list of potential illegal activity includes inadequate anti-money laundering programs, excess trading (such as reverse churning), microcap fraud including pump and dump schemes, and high risk sales tactics.

There aren’t any real surprises on the list.  Most of these issues are problems that have been discussed by the SEC and some of them have even been extensively discussed in the media.

For example, ETFs received extensive discussions following the August 24 market crash.  For those that didn’t see it at the end of last year, here is the link to the SEC analysis of Equity Market Volatility on August 24, 2015.

Variable annuities have also been discussed, with the SEC considering a summary prospectus to provide information on risks, costs and benefits in addition to the complicated 150-200 page documents currently issued.  The SEC has also previously identified disclosures on buyouts of variable annuities as another area of problems.