The Investment Adviser Association has reported that investment advisers are facing an accelerated pace of SEC major rule adoption, potentially including finalized rules on adviser outsourcing, cybersecurity, safeguarding client assets, and data analytics and technology. IAA staff has warned that “the cumulative weight of these new regulations will be overwhelming for all firms, and especially for smaller firms.”
Looking forward to bringing CCOs together for The Philadelphia Compliance Roundtable that we co-sponsor with Morgan, Lewis & Bockius, and our current Member-in-Charge, SEI, to be held virtually and in person on Friday, April 26th. We are in our 29th year and now enjoying nationwide participation. We will engage with our keynote speaker, Karen Barr, CEO and President of the Investment Adviser Association, on the SEC’s very active rule-making agenda.
Following keynote remarks, panelists from Morgan Lewis, SEI, and Yuter Compliance Consulting will discuss the state of the regulatory environment and practical guidance on new rules as well as SEC examination and enforcement trends and priorities. Following the panels, we will meet in a roundtable format to facilitate discussions with your compliance peers. Invite your colleagues and compliance professional peers nationwide to join us at this complimentary event, sponsored by Morgan Lewis, SEI, and Yuter Compliance Consulting.
The Philadelphia Compliance Roundtable has been providing networking opportunities to its more than 500 members nationwide for close to 30 years. Contact YCC for additional information on how to become a member. There is no cost to join or attend meetings.
New Marketing Rule FAQ: The SEC’s Division of Investment Management issued updated FAQs with respect to the Advisers Act’s Marketing Rule. The new FAQ addresses the presentation of gross and net internal rates of return (IRR) when the fund uses subscription lines to fund investments. The Marketing Rule specifically requires that gross and net performance be calculated and presented using the same methodology and over the same time period. In the FAQ, SEC staff expressed its view that certain historical performance reporting practices are no longer permitted under the Marketing Rule, even with clear disclosure regarding the differences in methodologies used to calculate the net and gross performance shown. The FAQ provides clarity and aligns the Marketing Rule with the Private Fund Adviser Rule’s quarterly statement requirement that is due to come into effect in March 2025, which will require private fund sponsors advising an “illiquid fund” to present an illiquid fund’s gross and net IRR both before and after the use of a subscription line.
SEC Risk Alert on T+1: The SEC’s Division of Examinations issued a Risk Alert and the Division of Investment Management and the Division of Trading and Markets prepared responses to FAQs regarding the upcoming shortening of the securities transaction settlement cycle on May 28th from trade plus two business days (T+2), to trade plus one business day (T+1).
Key Takeaways: The SEC examination staff will focus on investment adviser T+1 preparedness through examinations and outreach. The Risk Alert includes a sample examination request list. See Regulation below.
AI Washing: The SEC settled with two investment advisers for $400,000 for making false and misleading statements about their purported use of artificial intelligence in the Commission’s first actions over alleged “AI washing” or claiming to have artificial intelligence capabilities that were not actually in place.
Lesson Learned: “…if you claim to use AI in your investment processes, you need to ensure that your representations are not false or misleading…,” said Gurbir S. Grewal, Director of the SEC’s Division of Enforcement. The SEC’s Office of Investor Education and Advocacy has issued an Investor Alert about artificial intelligence and investment fraud.
Off Channel: The SEC settled charges for over $81 million in civil penalties against 16 broker-dealer and investment adviser firms for failing to maintain and preserve electronic communications, engaging in off-channel communications, and failing to reasonably prevent and detect such violations. The SEC also settled with an investment adviser for $6.5 million with a required undertaking to enhance compliance policies and procedures. This action was the first against an independent investment adviser with all prior “off channel communication” actions involving investment advisers affiliated with broker-dealers. In this action, SEC staff noted that certain off-channel communications were set to automatically delete messages after 30 days, and certain employees also failed to pre-clear transactions required under the firm’s code of ethics.
Lessons Learned: These fines are significant. The SEC called out that one firm that self-reported faced a reduced penalty. “The Commission continues to focus on regulated entities’ compliance with the recordkeeping requirements. Adherence to these requirements is essential for the Commission to effectively exercise its regulatory oversight and enforce the federal securities laws,” said Eric Werner, Director of the Fort Worth Regional Office.
Misleading Performance: The SEC settled with a large investment adviser and its former partner for $1.5 million and $30,000, respectively, for misleading a retirement plan client about discrepancies in performance reporting. The errors caused the failure to report performance that would have triggered a performance level that would have required additional employee retirement contributions.
Lesson Learned: The client sought clarification and error correction from the investment adviser, and the SEC found that the investment adviser failed to adequately investigate discrepancies. “Investment advisers must be scrupulously honest with their clients,” said LeeAnn G. Gaunt, Chief of the SEC’s Public Finance Abuse Unit. “Pension funds and other municipal entities should be able to trust that their investment advisers are telling them the truth.”
Whistleblowing: The SEC settled charges against a large investment adviser/broker-dealer for $18 million for impeding retail clients from reporting potential securities law violations to the SEC. The firm regularly asked retail clients to sign confidential releases if they were issued a credit or settlement from the firm of more than $1,000.
Lesson Learned: “Whether it’s in your employment contracts, settlement agreements or elsewhere, you simply cannot include provisions that prevent individuals from contacting the SEC with evidence of wrongdoing,” said Gurbir S. Grewal, Director of the SEC’s Division of Enforcement. “But that’s exactly what we allege (the firm) did here. For several years, it forced certain clients into the untenable position of choosing between receiving settlements or credits from the firm and reporting potential securities law violations to the SEC. This either-or proposition not only undermined critical investor protections and placed investors at risk, but was also illegal.”
Cherry Picking: The SEC recently obtained final judgement for $300,000 and an undertaking to retain an independent compliance consultant against an investment adviser charged with making false and misleading Form ADV disclosures and failing to adopt reasonable policies and procedures to ensure fair and equitable trade allocations. The SEC continues to litigate with certain firm representatives.
Lesson Learned: Ensure that disclosures, policies, procedures and practices are all in alignment and that clients are treated fairly.
Revenue Sharing: The U.S. District Court for the District of Massachusetts entered a final judgment against an SEC registered investment adviser and broker-dealer for over $90 million in disgorgement, interest, and penalties following the SEC’s complaint alleging that the firm failed to disclose material conflicts of interest related to revenue sharing payments received for certain client investments in mutual funds.
Lesson Learned: This case blends the SEC’s continued focus on share classes and revenue sharing with the Commission’s long-standing overarching mandate requiring explicit disclosures of conflicts of interest.
Books and Records: The SEC adopted amendments to Rule 204-2 under the Advisers Act that requires all registered investment advisers to make and keep certain records for any transaction that is subject to the requirements of broker-dealer Rule 15c6-2(a), including each confirmation received, and any allocation and each affirmation sent or received, with a date and time stamp for each allocation and affirmation that indicates when the allocation and affirmation was sent or received.
AML for IAs: The U.S. Department of the Treasury’s Financial Crimes Enforcement Network (“FinCEN”) again proposed to subject certain investment advisers to significant anti-money laundering and counter-terrorist financing-related (“AML/CFT”) compliance obligations. The rule, if adopted as proposed, would require investment advisers to: (1) establish and implement an AML/CFT program, (2) file suspicious activity reports with FinCEN, and (3) fulfill recordkeeping, information sharing, investor due diligence and other AML/CFT obligations mandated by the Bank Secrecy Act.
Form PF Amendments: The SEC and CFTC published a joint final rule to amend Form PF to require covered investment advisers to disclose additional basic information about themselves and the funds they advise, such as AUM, beneficial ownership, and fund performance. The rule will also change how large hedge fund advisers report metrics of risk and exposure to improve date comparability between funds. The effective and compliance dates will be March 12, 2025.
Private Fund Adviser Rules: The U.S. Court of Appeals for the 5th Circuit heard a challenge to the SEC’s Private Fund Adviser Rules with groups challenging the rules saying that the SEC is overstepping its authority, and Judge Wilson, part of a three judge panel, expressing doubt about the SEC’s approach saying that “all the economics seem to suggest that there isn’t a market failure at all, there’s a market success” for private funds. It appears that the panel seemed interested in saving certain of the rules while vacating others.
Internet Adviser: The SEC adopted amendments to the internet adviser exemption that permits certain internet advisers to register with the SEC. The amendments will require investment advisers relying on the exemption to meet specific requirements.
QPAM: The DOL released a final amendment to the Qualified Professional Asset Manager (“QPAM”) Exemption under ERISA, which permits parties related to retirement plans and IRAs to engage in transactions involving plan and IRA assets.
What’s New: (1) An investment adviser relying on the QPAM Exemption must notify the DOL within 90 days; (2) New QPAMs will need to revise agreements with retirement plans while existing QPAMs are grandfathered; (3) Notice to the DOL and potential ineligibility to be a QPAM for certain disciplinary events; (4) New recordkeeping and disclosure obligations; and (5) Raises the minimum AUM threshold to qualify as a QPAM with the threshold raising in three-year increments.
New Director of IM: The SEC announced the departure of William Birdthistle as Director of the Division of Investment Management and the appointment of the Division’s Deputy Director Natasha Vij Greiner to the Director role effective March 8, 2024.
A LOOK AT THE NEXT QUARTER
- April 10: 13G monthly due
- April 10: 13H quarterly due
- April 29: Form PF due (except large hedge and liquidity fund advisers)
- April 29: Distribute audited financials for private funds (other than fund-of-funds)
- April 29: Deliver annual update of Form ADV Part 2A (or summary of material changes with offer to deliver)
- April 30: Code of Ethics quarterly reporting due
- May 10: 13G monthly due
- May 15: Form 13F quarterly due
- May 15: Form PF for Large Liquidity Fund Advisers due
- May 28: Compliance date for T+1 recordkeeping requirements for investment advisers
- May 30: Private Equity Fund Advisers are required to complete new Section 6 of the revised Form PF for adviser-led secondaries or other investor elections during the preceding quarter
- June 10: 13G monthly due
- June 11: Large Private Equity Fund Advisers are required to complete amended Section 4 of the revised Form PF
- June 17: QPAM amendment compliance date
- June 28: Distribute audited financials for private fund-of-funds
A LOOK AHEAD: Keep in mind the following upcoming compliance dates:
- September 14, 2024: Private Fund Adviser Rules’ Adviser-Led Secondaries, Restricted Activities and Preferential Treatment requirements compliance date for fund advisers with $1.5 billion or more
- September 30, 2024: Reporting persons must comply with rule and form amendments for Section 13(g) beneficial ownership reporting; note amendments applicable to Section 13(d) reporting were effective February 5, 2024
- January 2, 2025: Short sale reporting for certain institutional investment managers
- March 14, 2025: Private Fund Adviser Rules’ Quarterly Statement and Financial Statement Audit requirements compliance date
- May 14, 2025: Private Fund Adviser Rules’ Adviser-Led Secondaries, Restricted Activities and Preferential Treatment requirements compliance date for fund advisers with less than $1.5 billion
- December 10, 2025: Fund Names Rule compliance date for fund groups with net assets of $1 billion or more
- June 10, 2026: Fund Names Rule compliance date for fund groups with net assets below $1 billion
Yuter Compliance Consulting provides advising and coaching services trusted by the industry’s chief compliance officers. Amy Yuter, Managing Principal of Yuter Compliance Consulting, founded the Investment Management Compliance Testing Survey and The Philadelphia Compliance Roundtable, and served as a Director of the National Society of Compliance Professionals.
Amy has over 30 years of industry, consultation, and SEC regulatory experience in overseeing investment advisers, investment companies, public companies, broker-dealers, and private funds.
Yuter Compliance Consulting partners with clients to provide personalized consultation and support to enhance compliance resources and improve compliance programs.
For more information, visit www.yutercompliance.com
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