In 2013, coordinated state exams conducted by members of the North American Securities Administration Association (NASAA) uncovered the top registered investment adviser (RIA) compliance deficiencies across 20 categories. Last week we discussed the deficiencies in financials, specifically regarding inadequate net worth, poor financial condition, and commingling Investment Advisory business records with outside business or personal accounts.
This week we’ll cover another common RIA compliance deficiency category: Investment activities. The 2013 NASAA investment adviser examination report contains results from audits of 1,130 investment advisory firms. In the investment activities deficiency category, of all RIA firms examined, 7.1% of audits noted at least one deficiency. This figure has increased from the 3.9% found in the comparable 2011 NASAA examination summary report. 6.6% of firms with greater than $30 million in assets under management (AUM) had investment activities-related deficiencies, compared to the 7.8% of firms with less than $30 million in AUM. Around 10% RIA firms audited for the first time had investment activities-related deficiencies compared to around 5% of firms that had previously been examined.{{cta(‘3e4dea01-dac9-4572-9ca9-8874b935a59e’,’justifycenter’)}}
As stated above, 7.1% of investment advisory firms examined in the most recent NASAA report had Investment Activities-related deficiencies. The top Investment Activities-related deficiencies in 2013 were:
- Disclosure of soft dollars (19.8%)
- Inconsistent activity with client’s investment policy or contract (18.5%)
- Unsuitable recommendations (13.6%)
- Inconsistent activity with adviser’s stated philosophy or brochure (9.9%)
- Unauthorized discretion (6.2%)
In 2011, the top investment activities-related deficiencies were:
- Conflicts with ADV/contract (~54%)
- Other: preferential treatment (~42%)
- Aggregate trades (~10%)
- Soft dollars (~10%)
Given the increase in investment activities-related deficiencies from 2011 to 2013, it is evident that RIA firms need to take a step back and ensure they are meeting the requirements to stay in compliance with the relevant state and SEC statutes. NASAA strongly recommends firms disclose soft dollars or benefits received as a best practice. As RIA compliance consultants, we encourage the Chief Compliance Officer (CCO) of every investment advisory firm to take a few minutes to do the following:
- Ensure that any soft dollars or benefits received are properly disclosed. Many RIA firms do not realize they are receiving such benefits.
- Review the firm’s Form ADV and all client investment policies and/or contracts to ensure that the service being provided to the client matches what has been promised.
- Make sure that all client investment policies and suitability information are current and being updated regularly.