In the past, management often used numbers creatively, and reductions in staff levels at many entities historically have come in the form of the elimination of open but unfilled spots on the roster. By not filling the open spot, it may be argued that the group or department is down in head count, hereby meeting the corporate mandate to reduce or eliminate costs. Today, the cuts are deeper and closer to the bone, and they are across the organization. No segment of the business is immune or inured, including compliance staff. 

To appreciate its value to the entity, one must first define the role played by the compliance department. When it is functioning at its best, compliance is a pro-active body, anticipating areas of potential concern when a new product or business line is introduced, or formulating measures that are both practical and effective when regulatory rules change. The compliance arm is often vested with responsibility for identifying issues before they become problems or fester too long, working toward practical and therapeutic solutions and not just treating the side effects. This ability often comes from an innate knowledge of the firm, how it does business, and the standards posed by the regulatory agencies and the world at large on the conduct of firms operating in a highly regulated environment. The seasoned compliance officer develops a sixth sense for problems, recognizing the unusual from the pedestrian, creating his/her own “watch list” of potential sources of problems (e.g. know your broker), and generally being the eyes and ears, and maybe even the conscience, of the organization. 

Unlike the role often assumed by a firm’s legal department, which is frequently reactive and saddled with addressing actual or perceived sales practice violations or probing and demanding regulatory inquiries, compliance is vested with the responsibility to “prevent, avoid, and detect,” and to address in timely fashion procedural weaknesses or ethical shortcomings.

Wall Street today is a broken and battered remnant of a once proud pillar of U.S. economic strength.  While it’s convenient to blame greedy bankers and brokers for this unfortunate turn of events, its difficult to argue that compliance performed exceptionally well or with remarkable effectiveness in the recent past either. History has taught that even when fully staffed, the compliance task is difficult and success often ephemeral. Unfortunately, the short term cost benefits associated with a reduction of compliance personnel may prove illusory, increasing the likelihood that the company will pay later, perhaps at a significantly higher price, for problems that may have been avoided or detected earlier. Unless the organization is prepared to treat these later, magnified problems as simply a deferred cost of doing business, termination decisions should not be made capriciously or without careful and deliberate consideration of the repercussions and ramifications.

This is not to propose that compliance personnel not share in the vicissitudes of the organization, especially if they hope and expect to share in the firm’s fortunes. However, deep and non-surgical efforts to trim compliance staff may not bode well for the future of the firm, and should be exercised prudently and shrewdly. While computerized systems are invaluable tools and allow for extraordinarily creative techniques to aid in the management of the business, they may not universally fulfill the role of a seasoned compliance officer who is armed with the ability to see behind the superficial or the “logical.” Computer systems are beneficial as a tool, but they cannot provide a substitute for experience, perspective, or those intuitive vital skills developed by the compliance officer over years of trial, error, and observation.  

If the ax must fall, a significant component of the firm’s planning must address how the compliance function is to be carried out with minimal disruption to the oversight capabilities of its compliance staff.  Perhaps a new model must be developed for effective compliance. Perhaps technology can fill some of the gaps. Perhaps it is incumbent on management of the compliance function to cross-train the staff so that the disruptions caused by reduced headcount are minimalized. Perhaps people with fresh ideas must be identified, deputized, and given the opportunity introduce untraditional and innovative approaches. But the answer is probably not to impose on another existing and functional arm of the firm duties beyond the capabilities or experience of its personnel. The effort to impose compliance responsibility on personnel with lesser pure compliance expertise, such as staff assigned to the financial or operations sides of the business, may be superficially appealing since they are all “back-office,” non-revenue producing divisions, and work in the arcane world of rules and regulations.  But such an approach may be a recipe for failure, as over-burdened, under-trained staff in accord with the Peter Principle and similar truisms prove incapable of ultimately performing either job to appropriate standards. 

Even if regulatory mandate did not impose on firms the obligation to establish and maintain an effective compliance presence, sound business practices would dictate it. The mantra “good compliance is good for business” still rings true today, and those firms which will not only survive the present economic malaise but will flourish when times are better will be those that strike the appropriate balance between business objectives and oversight necessity.

Arguably, the special arbitration procedures for ARS-related consequential damages is the most striking of the recent additions to the FINRA arsenal. In connection with ARS cases alone, customers are given the option to elect to employ the special procedures or more traditional procedures, and if the former, are given virtually a free opportunity (sans legal fees) to recoup consequential damages from brokerage firms that are parties to ARS-related settlements with the government, imposing on firms the obligation to assume many of the arbitration costs, including filing and hearing session fees, and all expenses for the arbitrators. By employing these procedures, the customer precludes the ability of the brokerage firm to contest liability with regard to the illiquidity of ARS transactions. The customer bears the burden of proving he/she suffered damages due to an inability to liquidate an ARS position. In such instances, the customer may pursue consequential damages only, which FINRA defines as opportunity costs or losses resulting from the investor’s inability to access his/her funds due to the freeze imposed on assets when the ARS market dissolved. Investors seeking punitive or other damages will still have to avail themselves of standard FINRA arbitration procedures. One anticipates that the “lost opportunity” determinant will be hotly contested, as Claimants’ counsel attempt to subsume under this standard a wide array of loses, real and imagined.

The most potentially troublesome of the revisions are new Rules 12504 and 13504, which limit pre-hearing motions to dismiss and impose sanctions when the motion is brought unsuccessfully. Perceived principally as a customer protection provision, the new rule is intended to reduce the number of frivolous and non-meritorious motions brought prior to the presentation of the case-in-chief, and to ensure that customers are provided with an opportunity to be heard by a panel. Designed in an effort to help the customer avoid unnecessary expense, impede efforts to disadvantage unsophisticated claimants, and to expedite hearings on the merits, the movant must first file an Answer. Subsequently, the motion may be brought on one of three grounds:

1) the non-moving party previously released the claims in dispute by a signed settlement agreement and/or written release. Parties seeking this exception should provide arbitrators with valid documents that indicate that the claims in the current dispute have been resolved in a previous dispute. Rules 12504(a)(6)(A) and 13504(a)(6)(A).

2) the moving party was not associated with the accounts, securities or conduct at issue. In essence, there has been a mistake, and the claim has been brought against the wrong person or entity, or a claim names an individual who was not employed by the firm during the time of the dispute or an individual or entity that was not connected to an account, security or conduct during the time of the dispute. Rules 12504(a)(6)(B) and 13504(a)(6)(b).

3) the claim is not eligible for submission to arbitration because six years have elapsed from the occurrence or event giving rise to the claim. Parties seeking this exception should provide arbitrators with valid documents that indicate when the occurrence or event took place. Rules 12206(b)(7) and 13206(b)(7).
Should the panel deny the motion, all motion-related costs must be imposed on the moving party; if the panel views the motion as frivolous, it may also impose costs and attorney fees on the movant and/or impose other sanctions. All of the arbitrators must agree to the dismissal, and explain their decision in writing.

The most glaring infirmity in the motion to dismiss process is the need to file an answer before the submission of the motion. While the new motion requirements may limit the ability of a Respondent to delay inordinately a Claimant’s right to be heard by a panel, by requiring that the answer be submitted before filing a motion the rules impose extraordinary additional costs on a Respondent in cases in which there was either no merit to the claim or it was ineligible for arbitration in the first instance. That facet of the rules seems unfair to the prevailing Respondent, since a party should not have to assume the costs and expenses of submitting a defense when there was no basis for the assertion of the underlying claims. There is no express provision within the rule imposing Respondents’ costs on the Claimant if the motion is brought successfully. One will have to look to other provisions of the Code in order to obtain such a remedy.

The other significant revision of the Code is the raised threshold for the designation of panels. After March 30, 2009, cases seeking $100,000 or less, exclusive of costs and expenses, will be assigned a one person panel. The panel member must be chair qualified and chosen from the roster of public arbitrators. Upon the joint application of the parties, a three person panel may be designated. In theory this procedure should provide a quicker and more efficient resolution of claims falling within this range of damages. Notably, if the dollar amount of the claim is unspecified, or does not request monetary damages, a three arbitrator panel will designated unless the parties agree in writing to have the case heard before a single arbitrator. The rule does not provide a mechanism for the staff of FINRA to make a determination that an unspecified demand should be assigned to the single person panel. Rules 12401 and 13401.

Will these revisions to the Code of Arbitration Procedure provide an elixir that will advance the interests of FINRA’s dual constituency: the investing public and the financial services industry? Will these new rules minimize or avoid log jams if a plethora of new customer cases or intra-broker disputes surface? While in certain instances they may reduce costs to the combatants and expedite the process (e.g. $100,000 threshold rule), the motion practice provisions are unsettling from the defense perspective, necessitating significant and costly procedural steps before having a meritorious and dispositive issue heard. This does not “level the playing field” or otherwise equally advance the interests of Respondents, but in this market environment no one is going to raise the flag in defense of the industry if to do so may be viewed as customer-phobic. Remarkably, no politician has ever been elected by trumpeting the cause of the industry over the public, and FINRA is not about to buck that trend now.
 

Key provisions of the new rule include:

• Parties must jointly request an explained decision;
• Parties must submit their request for an explained decision 20 days before the first scheduled hearing date;
• The Chairperson must write the explained decision;
• The explained decision will be "fact-based," stating the general reasons for the decision;
• The Chairperson will receive $400 honorarium for writing the decision; and
• The honorarium cost will be allocated between the parties.

 The new rule does not allow parties to request an explained decision when (1) the arbitration proceedings are simple and decided solely upon the pleadings and evidence filed by the parties, or (2) the arbitration is conducted under a default proceeding.   While the new rule still gives arbitrators discretion to decide whether to write an explained decision at their own initiative or upon the request of one party, they are not required to draft an explained decision unless both parties agree.

A primary purpose behind the new rule is to address investors’ concerns that they are unable to understand the rationale behind arbitration awards absent explanation. Since application of the rule requires both investor and industry party consent, only time will tell if the new rule will have any impact.*

*Special thanks to Shirley Munson for her assistance with preparing this article.

At the time the Blueprint was released, the financial services and securities industry was headed for rough water:  the auction-rate securities market had cratered; subprime mortgage portfolios and mortgage backed securities were clearly in trouble; concerns were bubbling about naked short selling; Bear Stearns collapsed, and was sold.

Those were the days.  Since then, Lehman Brothers imploded.  Merrill Lynch was sold at a firesale.  AIG required emergency resuscitation to survive. Subprime lending and overinvestment (and misvaluation) of subprime-backed securities has proven to be the biggest disaster, and even more damaging, since the junk bond/leveraged buyout mania that fueled and then destroyed Drexel Burnham Lambert in the 1980s.  And Congress is on the verge of passing a staggering bailout package to try to bring some sort of order to the market. 

In this environment, the push for a regulatory overhaul will only be more intense.  With a new administration on the horizon, the demand for substantial increases in the scope of federal regulation will make change inevitable, regardless of whether it is an Obama or McCain administration.  The Treasury Blueprint  will, undoubtedly, not be the exact model for a new regulatory scheme. However, we can be sure that federal oversight will become both broader and deeper.

Even money market funds are finding themselves embroiled in claims of securities fraud abuses.  Yesterday Minnesota federal judge Paul A. Magnuson extended a temporary restraining order issued last Friday against mutual fund manager Reserve Fund, restraining it from honoring redemption requests from its giant money market fund, the Primary Fund.  The Order stems from a lawsuit filed last week by Ameriprise Financial against Reserve Fund,alleging that it violated federal securities laws and breached fiduciary duties owed to investors by "tipping" certain large institutional investors last Monday that The Primary Fund was exposed to significant debt issued by Lehman Brothers. That was the same day Lehman Brothers filed for bankruptcy. 

The Reserve Fund case may cause investors to question whether the public securities markets are in fact a level playing field, and create heightened investor concern not only for the economic stability of their investments, but also for the impact of corporate wrongdoing on the value of their investments.  During these difficult financial times, investor confidence in the markets is more critical than ever.  Allegations such as those lodged against Reserve Fund, if true, will surely shake that confidence and cause investors to question whether their financial future is really in good hands. 

Perhaps illustrative of the urgency of today's market, the case is on a fast-track:  today, U.S. Magistrate Judge Jeffrey J. Keyes granted Amerprise's motion for expedited discovery, requiring Reserve Fund to produce by this Friday documents involving named executives, institutional salespersons and any institutional investors regarding the financial difficulty of the fund, and requiring certain depositions to take place on October 1, 2008.  

The question is ... why?

Similarly, in Mangan, the SEC alleged that a registered represented of a broker-dealer engaged to acted as an underwriter and financial advisor to a hedge fund utilized material nonpublic information acquired during the process to effectuate a short sale of certain company stock in violation of various anti-fraud and insider trading provisions of the Securities and Exchange Acts. After hearing the parties' cross motions for summary judgment, the court granted Mangan's motion and denied the SEC's. Notably, in its decision, the court observed "[w]ithout citing any caselaw in support of its position, the SEC urges the court to evaluate the materiality of the trade at issue according to an “event window” posited by their expert witness" and later in its decision criticized the SEC for making what the court considered an "illogical" argument. Mangan at *3 fn 6 ("Even if the SEC could offer competent evidence of “leakage” it cannot claim that the information was nonpublic while simultaneously claiming that the information caused the price to decline prior to the public announcement. See SEC v. Butler, 2005 WL 5902637, *12 (W.D.Pa. April 18, 2005)(rejecting this same argument by the SEC as “illogical”)").

Clearly, there could be any number of reasons as to why the courts appear to be taking a harder look at SEC enforcement actions. Some industry pundits suggest the past eight years of Republican leadership in the White House and, for a majority of that time, Congress as well, filled a number of vacant judicial seats around the country with individuals distrustful of government and less willing to take at face value mass allegations by the regulators of corporate impropriety and conspiracy. Others, however, believe that the SEC and other agencies have either gotten greedy or are taking too aggressive of a stance in going after alleged wrong-doers, thereby forcing individuals to defend cases that would have otherwise settled.

Whatever the reason for this quiet turn of events, it's not likely to end anytime soon.  The simple fact of the matter is that federal judges are appointed for life, and the growing number of enforcement actions being dismissed will only serve to embolden defendants to litigate claims they might have otherwise settled.  Only time will tell whether SEC enforcement prosecutions will rebound.  But for now, despite a sagging economy, corporate defendants appear to have some momentum.

The 2008 Alert describes findings for both investment advisors (with a heavy focus on institutional asset managers and mutual funds, rather than retail advisors) and broker-dealers, with a brief nod to transfer agents. The Commission’s observations contain both bad (lunch seminars and mortgage-financed securities purchases) and good (soft dollar compliance). The specific findings are not terribly surprising, but the Alert paints a good picture of the SEC’s recent areas of concern and its current views on those topics.

For investment advisors/mutual funds, the Alert describes: (1) personal trading compliance; (2) proxy voting/use of proxy voting services; (3) valuation and liquidity for high yield municipal bond funds; and (4) soft dollar practices. For broker-dealers, the Alert addresses: (1) “free lunch” sales seminars; (2) valuation and collateral management related to subprime mortgage products; (3) sales issues related to B-Ds affiliated with insurance companies; (4) solicitation by B-Ds of advisory services; (5) mortgage financing of securities puchases; and (6) OSJ supervisory structure and procedures.

The entire seventeen-page report is worth a read, but here are a couple of brief documents that summarize in bullet form some of the Alert’s key observations, for both investment advisors/mutual funds and for broker-dealers.

NASAA, which is the organization of heads of securities departments from each of the American states and territories, as well as the Canadian provinces and Mexico, has long perceived industry securities arbitration as unfair to investors.  The organization has advocated for substantial changes in the arbitration system, including abolition of mandatory arbitration.

NASAA's position on securities arbitration is abundantly clear in the title of the upcoming forum:  Arbitration is Broken:  How Can it be Fixed?  According to NASAA, the forum "will feature a panel of legal and regulatory experts, academics, and consumer advocates who will address the manner in which arbitrations are conducted; whether the selection, qualification, and composition of arbitration panels is fair; and whether the arbitration process should be an option, not a requirement, for investors. Panelists also will discuss the Arbitration Fairness Act of 2007 and current research exploring consumer views on securities arbitration."

Registration for the forum is free, on a first-come-first served basis.  Registration details are on NASAA's website.

The four separate proposed revisions relate to (1) Financial Responsibility (largely relating to net capital issues); (2) Supervision and Supervisory Controls; (3) Books and Records (consolidating and modifying various books and records rules, including in regards to client accounts and complaints); and (4) Investor Education and Protection (extending the scope of current FINRA Rule 2280). The new proposals contain extensive changes and additions, including many consolidations or relocations of existing rule provisions. 

Although there are specific changes in each of the four areas noted above, the changes to FINRA’s Supervision and Supervisory Controls rules (current Rules 3010 and 3012, which will be renumbered 3110 and 3120) are probably the most extensive and dramatic. Highlights include:

     ***  Proposed Rule 3110 provides much-needed clarification regarding the supervision of current Rule 3012’s provisions for supervision of “producing managers.” The new Rule will, more simply, prohibit “supervisory personnel” from (1) supervising themselves; and (2) being supervised by anyone who reports to or whose compensation is determined by the supervised person. The current, rather confusing, language requiring supervisory review of such managers' client accounts by “senior” or “otherwise independent” personnel will be removed.    Proposed Rule 3120 otherwise continues Rule 3012’s testing, verification, and certification requirements, though it now specifies additional information that firms with gross revenues over $150 million must include in the annual report to senior management.

     ***  Current Rule 3010(b)(3), requiring “heightened office inspections” for offices that generate 20% or more of a business unit’s revenue will be completely deleted. Instead, the new Rule 3110 provides a more principles-based approach that requires a firm to have written procedures reasonably designed to “prevent the inspection from being lessened in any manner due to any conflicts of interest.”

     ***  Current Rule 3040 (regarding private securities transactions) will be deleted, and incorporated into new Rule 3110. The proposed rule removes any distinction, for supervisory purposes, between private transactions for which an associated person is compensated and those for which no compensation is paid. Moreover, the new Rule provides a qualified exemption for firms from the supervisory rules regarding private transactions with regard to associated persons who complete the transaction as part of their separate employment by a bank, so long as the member firm is notified of the activity and receives written assurance from the bank that it has reasonable supervisory procedures for such activities.

     ***  New Rule 3110 clarifies that firms must institute written procedures for written customer complaints, dropping the NYSE’s inclusion of procedures for oral complaints. 

     ***  New supplementary material to the rule clarifies, among many other things, that member firms are to follow the previous NYSE Rule 342.21 requirement that firm’s insider trading policies contain specific procedures for reviewing and investigating trades effected for the firm’s account and the accounts of firm employees and family members.

The new CFP Standards highlight the increasing convergence, from a regulatory standpoint, between the once clearly distinct worlds of broker-dealers and investment advisors. Many registered securities representatives, particularly experienced reps, have earned and use the CFP designation in their practice. Many of those same CFP-certified reps also have their own Registered Investment Advisor firm, or are investment advisor representatives of a RIA or a dually-registered securities firm. As the CFP itself states, the new Standards apply to every CFP-certified financial professional, regardless of that professional’s licensure under the B-D or IA schemes, or both.

So what do the updated standards do? Although the CFP strengthened a number of its standards related to data gathering, disclosure, analysis, and monitoring, the bottom line is that the standard of care has been significantly ratcheted up: whereas the CFP required before, at minimum, a standard of “reasonable and prudent professional judgment” it now states that a CFP certificant “shall at all times place the interest of the client ahead of his or her own.” In other words, a fiduciary obligation.

Not surprisingly, advocates from the B-D world see this as a further erosion of the distinction between the obligations and business models of broker-dealers and investment advisors; the Financial Services Institute, for example, has urged its independent broker dealer members to raise concerns with the CFP Board regarding the standards.

Groups like the FSI will and should fight hard to insure that standards and legal requirements make sense for firms, representatives, and clients. However, the trend is clear. State securities regulators will continue to press for a fiduciary obligation for B-D firms and representatives. There is movement at the federal level for significant change in the financial services regulatory scheme, with the Treasury Department’s recent “Blueprint for a Modernized Financial Regulatory Structure" the clearest example. Dual-registration will increase, and traditional broker-dealers will continue to expand “hybrid” platforms to serve both B-D and IA models. Nobody can say for sure where this is going, but it is clear that the next few years will see substantial changes in the way securities firms are regulated.

This model is especially common at smaller firms, and senior compliance personnel are called upon often to act in dual capacities: compliance overseer, and, frequently, as the person designated to approve the opening of new accounts and to grant approval with respect to the sales of certain products, such as variable annuities. While we may all appreciate the expediency and necessity of the need to wear multiple hats in a smaller shop, these latter functions may be interpreted by FINRA as line supervisory duties, and cause the compliance officer to be viewed as a business supervisor for regulatory purposes. 

In a pure and ideal world, Compliance is not a line-function, compliance officers are objective and impartial in their assessments and recommendations, and their evaluations are not tied innately to revenue considerations. While the failure to factor in the impact of compliance decisions on the fate and fortunes of the company is a luxury most compliance officers (and their firms) can ill-afford, traditionally, compliance has been used as a tool to identify problems or issues which must be remedied by the business unit responsible for the revenue activity. In that model, compliance is called upon later to examine and report on the performance of these managers. 

However, when the compliance officer is cast in the role of both cop and “perpetrator,” the oversight chain loses its tensility. In essence, who is left to oversee the function when the compliance officer is carrying out dual roles: compliance officer and supervisor? The end repercussion is that the compliance officer creates potential failure to supervise liability for him/her self, and may be called to task by a regulator or arbitration panel for failing to perform either of his/her assigned duties to industry standards.  The logical and ultimate repercussion may be a charge of a failure to supervise or similar dereliction of duty allegation.

So, how does the compliance officer/supervisor build firewalls under these circumstances? In the first instance, the head of the particular business unit with the greatest stake in the transaction at issue should not be isolated from the decision making process . Rather, exceptions to firm policy may be forwarded to him/her for resolution, although if this person is consistently faulty or lax in granting approvals, this may ultimately not help the compliance officer avoid sanction for failed supervisory effort. 

Perhaps a better alternative is to establish a Compliance Committee consisting of compliance and senior business unit personnel to address “exceptions” and sensitive intra-firm compliance issues. Under this scenario, the Committee would meet at least monthly, but more frequently if necessary. To be effective, clearly defined standards must be established by the firm with regard to the appropriateness of certain activity. For instance, with regard to sales of variable annuities, no sales would be permitted to retirement accounts or to customers over a designated age or in amounts that would appear excessive based on the customers identified financial circumstances. Exceptions may not be unilaterally granted by the compliance officer who is asked to review and approve an annuity application. Rather, the request for an exception would be submitted to the Compliance Committee for review, consideration, and approval. Thus, the business unit leaders with, in theory, the highest level of expertise would sit in judgment of the request for an exception, and it becomes a group rather than individual decision of either the compliance officer or the one business person who stands to gain the most from the transaction if it is permitted to go forward regardless of its merits. Once established, the Compliance Committee may provide a number of additional valuable benefits to the company, enabling senior management to both learn of and address myriad problems at an early stage, and to take as necessary pro-active steps to interdict the problem before it spins out of control. 

The benefit to the compliance officer who is wearing multiple hats is obvious: he or she potentially limits personal regulatory exposure. But the firm benefits too, and if its actions are later cited as inadequate, the group decision making concept, unless the Committee is simply a rubber stamp, allows for the argument that business judgment, not disinterest or disregard of the rules, dictated the decision.  Firms are still permitted, in the exercise of their business judgment, to make mistakes or reach different decisions than a regulator who judges the events after the fact. If the Committee decisions are well vetted and reasonable under the circumstances, significant defenses may be available to address later second-guessing by a regulator or an aggrieved investor.

Jonathan M. Harris
Lindquist & Vennum P.L.L.P.
Minneapolis, Minn.
(612) 371-2492
jharris@lindquist.com

In a March 31, 2008 investor alert, FINRA discussed the impact the collapse of the ARS market has had on investors. Significantly, a large portion of its discussion concerned the liquidity of the securities and how "due to recent developments in the credit market—including downgrades in the credit ratings of bond issuers and bond insurers—a significant number of auctions have failed, leaving some investors who counted on immediate access to their funds wondering about their options." FINRA also recently sent a survey to brokerage firms specifically inquiring about who the firm sold ARS to (i.e. retail individual, high net worth individual, non-professional institutional, or professional institutional customer) and whether the firm was willing to offer margin loans to customers using ARS as collateral. And in Regulatory Notice 08-17, effective April 1, 2008, FINRA added "three new product categories for use by member firms in reporting customer complaints relating to auction rate securities."

Taken together, these actions leave little doubt that firm ARS sales and supervision may come under the lens of regulatory inquiry for the foreseeable future and likely remain one of the main topics of inquiry for 2008, given the fact hundreds of billions of dollars of ARS were sold.

1. Valuations.
2. Firm controls over non-public information.  In particular, the SEC is interested in whether the firm has identified the type and sources of non-public information to which it is privy, and whether the firm has implemented and properly tested procedures for protecting that information.
3. Retail sales practices – with an emphasis on protecting seniors.
4. Supervision. 
5. Net capital/internal controls (which will receive increased focus given recent developments).  Ms. Richards noted that 20% of the exams last year uncovered errors in net capital calculation.
6. Trading.
7. Fixed Income.
8. Rating agencies.
9. Conflicts of interest.  The “hot list” for this area includes payments by advisors to broker dealers to appear on “recommended advisor lists,” and broker-dealers who sell interests in affiliated hedge funds.
10. Anti-money laundering.
11. Information/account security (refusing to be limited to just 10 areas, Ms. Richard actually named 11 key areas of scrutiny for 2008).  The SEC is particularly interested in whether broker-dealers have adequate control over their customers’ assets and information, and what controls broker-dealers adopt when they outsource regulating activities.  According to Ms. Richards, the SEC will focus on midsized firms this year. 

Today is the opening day of the annual SIFMA conference, held this year in Orlando. This morning's general session, moderated by Gary Lynch, executive vice president and chief legal officer of Morgan Stanley, included panelists James Brigagliano of the SEC; Richard Ketchum of NYSE Regulation, Inc.; John Moloney of Moloney Securities Company Inc.; and Mary Schapiro, Chief Executive Officer of FINRA. SIFMA's kick-off topic was "NYSE and NASD Merger -- How is it Working?"

Mary Schapiro (FINRA) commented that the merger has gone well and has met her expectations at this stage, noting:

Short selling involves sales of borrowed shares, in the hope of repurchasing them later at a lower price. Naked short selling involves sales without first borrowing the shares or making an "affirmative determination" that the shares can be borrowed.

The SEC adopted Regulation SHO four years ago in an effort to curtail short-selling abuses. However, the SEC’s enforcement powers under Regulation SHO are limited. Stating the obvious, SEC Chairman Christopher Cox explained, “Reg SHO can’t be effective without enforcement.” According to Mr. Cox, the SEC's new proposed rule is designed to give Regulation SHO “teeth.” Under the new proposal, the SEC would create an antifraud rule specifically targeting targets sellers who intentionally deceive broker-dealers or purchasers about their ability to meet delivery deadlines. 

The SEC is seeking public comment on its proposal.

Reaction to Mr. Lerach’s sentencing has been predictably both passionate and mixed. The Wall Street Journal’s Law Blog quotes T.J. Rodgers, the founder and chief executive of Cypress Semiconductor as stating: “He’s getting what he deserves. I once likened Lerach to low life form, somewhat below pond scum. Thank goodness he’s met my highest expectations.” On the flip side, the Law Blog quotes Ralph Nader as stating: “Given the corporate crimes that Mr. Lerach has brought to justice during his long career, his crimes pale by comparison. His success is partially a reflection of the repeated failure of government enforcement agencies to protect millions of defenseless investors from fraud.”

The SICA survey, together with a to-be-expected rebuttal piece from SIFMA, point out the sharp differences in perception regarding whether the current arbitration system is fundamentally biased toward firms. The SICA survey pointed to, for example, the declining numbers of hearings ending in awards, as well as the increasing number of early settlements. Does this show that the system is increasingly stacked against investors? Does it indicate, rather, that firms identify meritorious cases and settle, rather than defend through a hearing? Can any generalizations be drawn about the large number of industry and public arbitrators, other than that every lawyer and firm in this area – whether on the claimant or defense side – has had both fair results and real head-scratchers.