Brokerages stumble on following in-house supervision rules – study

September 11, 2012

By Suzanne Barlyn

CORONADO, Calif., (Reuters) – Wall Street’s brokerages are falling short when it comes to policing their brokers, according to a nationwide series of examinations by state regulators.

The biggest issue: Many firms are not following their own procedures for keeping employees in check.

Examination results compiled for a bi-yearly study by the North American Securities Administrators Association, or NASAA, revealed that failing to follow “written supervisory procedures” topped the five most common violations at brokerages examined during the project.

NASAA, an organization of state securities regulators, unveiled the results on Sunday, the first day of its annual meeting in Coronado, California.

Potential wrongdoing by financial advisers has been in the U.S. spotlight since Bernard Madoff’s multibillion-dollar Ponzi scheme wiped out the life savings of many investors. Madoff, 74, pleaded guilty in March 2009 and is serving a 150-year sentence in a North Carolina federal prison.

The Madoff episode led to efforts by regulators to beef up safeguards for investors, including heightened surveillance of brokerages and some other types of financial advisers

A brokerage’s compliance with written procedures it develops to oversee employees is typically the first line of defense to safeguard investors, say compliance professionals. Many state regulators have made checking up on how well brokerages comply with those policies a key focus in their exams during recent years, said William Reilly, chief of the Florida Bureau of Securities Regulation, in remarks to regulators on Sunday.

Strained budgets have pushed state regulators to focus their exams on specific areas, instead of conducting broad examinations of a brokerage’s entire operation, Reilly said.

Securities regulators in 24 states reported a total of 236 examinations conducted between Jan. 1 and June 30, 2012, according to NASAA. Of those, there were 49 instances in which brokerages that did not follow their own supervisory procedures. Maintaining current procedures was a problem in 22 exams.

Regulators, on the whole, found 11 types of violations pertaining to supervision.

Small branch offices of broker dealers were a hotbed of compliance problems, a theme that was also evident in NASAA’s 2010 study. For example, not following supervisory procedures and selling unsuitable securities were problems in 82 percent of branches where there were five brokers or fewer, compared with 18 percent of larger offices.

Of the exams reported, various supervision problems were detected in 27 percent of exams. Violations relating to keeping proper books and records were another big problem for brokerages, with examiners finding various problems in 29 percent of exams they conducted. Of the results for 236 exams analyzed in the study, there were 31 instances of failing to maintain new account information for customers. Various sales practice violations, including the sales of unsuitable securities, were a problem in 24 percent of exams.

The overall instances of violations in some categories, such as sales practices and supervision, were slightly lower than when the study was conducted in 2010, according to Reilly. That is because regulators reported 20 percent fewer examinations, he said.

However, that does not mean that regulators conducted fewer exams, he told Reuters. There could be situations in which regulators have either not started or finished exams during the period for the study, Reilly said. “There is a lot on their plates now,” he said.


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