Division of Examinations of the Securities and Exchange Commission Announces its 2024 Examination Priorities
IM Report Geoffrey Perusse · November 17, 2023
The Division of Examinations of the Securities and Exchange Commission has recently announced its 2024 Examination Priorities.
Focus on compliance with Adviser’s fiduciary duty standard and the management of conflicts. The Staff noted that it will be examining for advisers’ adherence to their duty of care and duty of loyalty obligations to clients. Particular focus will be on:
- Investment advice provided to clients with regard to products, investment strategies, and account types, particularly those regarding: (1) complex products, such as derivatives and leveraged exchange-traded funds (ETFs); (2) high cost and illiquid products, such as variable annuities and non-traded real estate investment trusts (REITs); and (3) unconventional strategies, including those that purport to address rising interest rates. Examination focus may be emphasized for investment advice provided to certain types of clients, such as older investors and those saving for retirement.
- Processes for determining that investment advice is provided in clients’ best interest, including those processes for (1) making initial and ongoing suitability determinations, (2) seeking best execution, (3) evaluating costs and risks, and (4) identifying and addressing conflicts of interest. Such assessments will also review the factors advisers consider in light of the clients’ investment profiles, including investment goals and account characteristics. Examinations will review how advisers address conflicts of interest, including (1) mitigating or eliminating the conflicts of interest, when appropriate, and (2) allocating investments to accounts where investors have more than one account (e.g., allocating between accounts that are adviser fee-based, brokerage commission-based, and wrap fee, as well as between taxable and non-taxable accounts).
- Economic incentives that an adviser and its financial professionals may have to recommend products, services, or account types, such as the source and structure of compensation, revenue, or other benefits. Such economic incentives may exist when there is revenue sharing, markups, or other incentivizing revenue arrangements. Examinations will focus on the economic incentives and conflicts of interest associated with advisers that are dually registered as broker-dealers, use affiliated firms to perform client services, and have financial professionals servicing both brokerage customers and advisory clients to identify, among other things: (1) investment advice to purchase or hold onto certain types of investments (e.g., mutual fund share classes) or invest through certain types of accounts when lower cost options are available; and (2) investment advice regarding proprietary products and affiliated service providers that result in additional or higher fees to investors.
- Disclosures made to investors and whether they include all material facts relating to conflicts of interest associated with the investment advice sufficient to allow a client to provide informed consent to the conflict.
- Reviewing adviser’s policies and procedures and their annual reviews of the effectiveness of their compliance programs, including the conflicts created by the advisers’ business arrangements, including fees and expenses.
Focus on compliance with the Marketing Rule, including:
- whether advisers, including advisers to private funds, have: (1) adopted and implemented reasonably designed written policies and procedures including with respect to the Marketing Rule; (2) appropriately disclosed their marketing related information on Form ADV; and (3) maintained substantiation of their processes and other required books and records.
- Marketing practice reviews will assess whether disseminated advertisements include any untrue statements of a material fact, are materially misleading, or are otherwise deceptive and, as applicable, comply with the requirements for performance (including hypothetical and predecessor performance), third-party ratings, and testimonials and endorsements.
- Compensation arrangement assessments focusing on: (1) fiduciary obligations of advisers to their clients, including registered investment companies, particularly with respect to the advisers’ receipt of compensation for services or other material payments made by clients and others; (2) alternative ways that advisers try to maximize revenue, such as revenue earned on clients’ bank deposit sweep programs; and (3) fee breakpoint calculation processes, particularly when fee billing systems are not automated
- Valuation assessments regarding advisers’ recommendations to clients to invest in illiquid or difficult to value assets, such as commercial real-estate or private placements
- Safeguarding assessments for advisers’ controls to protect clients’ material non-public information, particularly when multiple advisers share office locations, have significant turnover of investment adviser representatives, or use expert networks
- Disclosure assessments to review the accuracy and completeness of regulatory filings, including Form CRS, with a particular focus on inadequate or misleading disclosures and registration eligibility.
Advisers to Private Funds. The Division will continue to focus on advisers to private funds and will prioritize topics, including:
- The portfolio management risks present when there is exposure to recent market volatility and higher interest rates. This may include private funds experiencing poor performance, significant withdrawals and valuation issues and private funds with more leverage and illiquid assets.
- Adherence to contractual requirements regarding limited partnership advisory committees or similar structures (e.g., advisory boards), including adhering to any contractual notification and consent processes.
- Accurate calculation and allocation of private fund fees and expenses (both fund-level and investment-level), including valuation of illiquid assets, calculation of post commitment period management fees, adequacy of disclosures, and potential offsetting of such fees and expenses.
- Due diligence practices for consistency with policies, procedures, and disclosures, particularly with respect to private equity and venture capital fund assessments of prospective portfolio companies.
- Conflicts, controls, and disclosures regarding private funds managed side-by-side with registered investment companies and use of affiliated service providers.
- Compliance with Advisers Act requirements regarding custody, including accurate Form ADV reporting, timely completion of private fund audits by a qualified auditor and the distribution of private fund audited financial statements.
- Policies and procedures for reporting on Form PF, including upon the occurrence of certain reporting events.
The full text of the 2024 Examination priorities is available here: 2024 Examination Priorities Report (sec.gov). If you have any questions or would like to discuss further, please reach out to your Rimon attorney contact.
This summary is provided for informational purposes only. This is not intended to constitute legal advice or an opinion, nor does it create an attorney-client relationship with Rimon, PC or its affiliates.
Geoffrey Perusse counsels businesses in connection with private capital raising, private fund formation, investment activities, securities regulation and compliance matters. Geoff represents sponsors and managers of private funds across asset classes, including real estate, private equity, debt, venture capital and hedge funds, with respect to the structuring, formation and operation of the funds, including regulatory and compliance matters arising under the Investment Advisers Act of 1940, the Securities Act of 1933, and the Investment Company Act of 1940. Read more here.