FINRA recently published its Annual Regulatory and Examination Priorities Letter (“Priorities Letter”). The Priorities Letter is an opportunity for FINRA member firms to be able to anticipate the activities that FINRA plans to review during upcoming exams while also learning directly from FINRA what weaknesses it has observed in other firms during past exams.

Failure to properly address these identified areas of concern could result in a determination by FINRA that a member firm and its registered representatives have engaged in activity that adversely affects investors or market integrity. In 2016, FINRA levied more fines and penalties against member firms than any previous year in its existence. Therefore, ensuring compliance within the areas highlighted in this year’s Priorities Letter will enable Firms to avoid being in FINRA’s ever expansive, overly zealous, seemingly random, but always costly crosshairs.

The five highlighted areas are:

1. High-risk/Recidivist Brokers and Branch Offices
   FINRA has established a dedicated unit to identify and examine registered representatives who may pose a high risk to investors. As such, more than ever, firms need to establish appropriate supervisory and compliance controls for such persons.
   
   These controls would include the review of hiring and retaining of statutorily disqualified and recidivist registered representatives, pre-hiring due diligence, disclosures on Forms U4 and U5, supervision (sufficient experience and controls), and the ability to detect and prevent wrongdoing.
   
   FINRA is also going to focus on branch office supervision and branch office inspection programs on an array of activities that are conducted at branch offices.
    
2. Sales Practice
   Sales practice violations were a key area in FINRA’s 2016 Priorities Letter and this years is no different. Firms should ensure that they are protecting senior investors and, for all customers, make sure that products are suitable and not overly concentrated and look for and prevent churning of long-term products.
   
   Outside business activities and private securities transactions still seem to bedevil firms and their registered representatives – it is one of FINRA's most common examination findings – so FINRA will pay close attention to that activity. Failure to properly document and disclose these issues has uniformly resulted in fines, suspensions and even the most severe cases, a bar from the industry.  
    
3. Financial Risks
   Over the past few years FINRA has been of the belief that the failures by firms to manage liquidity have contributed to both individual firm failures and systemic crises. Therefore, in keeping with Regulatory Notice 15-33, FINRA will review the evaluation of liquidity needs, sufficiency of stress tests and contingency funding plans.
   
   In light of the first phase of Rule 4210 (Margin Requirements) becoming effective in December 2015, FINRA will also focus on how covered agency transactions are complying with those new margin requirements.
    
4. Operational Risks
   FINRA’s concerns about operational risk covers a wide swath of activities.
   
   Cybersecurity preparedness remains a significant concern for FINRA (as well as the SEC and many state regulators), so firms should make sure that they have procedures in place to both assess and mitigate cybersecurity risks. We have seen recent FINRA action taken against a firm for even failing to adequately supervise third-party vendors tasked with electronic storage of customer records, electronic preservation and other cyber risk compliance lapses, following a cyber-attack. 
   
   FINRA will also focus on supervisory controls testing, customer protection and segregation of client assets, Regulation SHO (including the “easy to borrow” process and closing out short sale), anti-money laundering and suspicious activity monitoring and municipal advisor registration in light of the new Series 50 Examination for Municipal Advisor Representatives.
    
5. Market Integrity
   Market integrity is half of FINRA’s mantra (the other is investor protection) so it should be no surprise that FINRA expects its members to be ever vigilant for activity that could manipulate the market and to review and take the necessary action after receipt from FINRA of any Cross Market Equity Supervision Report Cards.
   
   FINRA issued Regulatory Notice 15-45 to remind firms of their best execution obligations and in 2016 FINRA augmented its best execution surveillance by implementing spread-based surveillance patterns. Thus, firms should ensure that they have both procedures in place and are meeting their best execution obligations.
   
   Part and parcel of best execution are the obligations to submit accurate information to FINRA, whether it is OATS or the Tick Size Pilot. So, FINRA will focus on those obligations, too.
   
   FINRA will review compliance with the Market Access Rule and ensure that firms have controls that are both documented and can be defended, if need be.
   
   Attention will also be focused on disclosures, misrepresentations and misleading conduct in fixed income securities, including wash sales and interpositioning. Thus, written supervisory procedures and actual monitoring for such activity should be in place and followed.

If you have any questions about the contents of this publication, please contact: Kevin Koplin or James Heavey.