From long hours spent preparing for an audit to keeping up with regulations that seem to change every day, compliance management can be a headache for broker-dealers. But it doesn’t have to be this way.

A well-designed compliance management program acts as your shield. It helps your firm manage risk and reduce liability, protecting you from regulatory actions and the reputational damage associated with violating financial rules. In order for your firm to grow, you need a compliance program that catches issues before they disrupt your business.

Here are four elements that make an effective compliance program:

1. Perform Regular Internal Risk Analysis

As a busy compliance professional facing pressure from management and ever-changing regulations, it can be hard to know where to begin and how to best allocate your compliance resources. That’s why performing a regular internal risk analysis is absolutely crucial.

The goal of your internal risk analysis should be to provide you with an accurate and up-to-date picture of where you should invest your compliance resources. For example, when reviewing trade activity, every representative does not warrant hours of analysis. While we want to catch all bad actors, by focusing more of your resources on analyzing the top producers in each of your company’s main product categories you can detect compliance issues that may have the greatest impact on your firm’s business.

2. Track Account Concentrations

There are a lot of clues that indicate nefarious behavior. While there are obvious clues, like an 80-year-old client purchasing a low-priced security, bad actors have adapted to increased oversight by adopting more subtle approaches. One trade may not tell the whole story, so a more comprehensive way to ensure your clients are safe is to monitor their account concentrations. You can use client suitability information to identify a target asset mix for each client, and then simply set up an alert that triggers when an account goes over 10% concentration in a single common stock.[1] This can be an early indicator that something isn’t right.

You can also apply this approach more broadly. Looking out for over-concentration in a market sector or major asset class can protect clients and the firm as a whole.

3. Set Up Anti-Money Laundering Checks

All compliance programs have a responsibility to implement Anti-Money Laundering (AML). According to SEC-enforced AML regulation, broker-dealers are obligated to report any suspicious transaction that may be relevant to a violation of any law or regulation. While it is important to understand key AML laws and regulatory guidance, here is one of the most effective ways to search for suspicious activity.

Bad actors looking to hide cash often look to penny stocks due to their ability to easily sway the price. By monitoring trade activity, you can keep an eye out for clients making transactions inconsistent with their business strategy, or for large transaction volume in thinly-traded, low-priced securities. This may seem obvious but many programs get this wrong. According to a March 2021 risk alert from the SEC, some firms failed to set up red flags that detected large deposits and purchases of low-priced securities.[2]

4. Be Vigilant About Employee Front-Running

Front-running is when a broker misuses inside knowledge of large pending transactions from a client that could significantly impact the market price. A single rep engaging in front-running can cost their broker-dealer hundreds of thousands of dollars. Therefore, firms must be vigilant and intentional in monitoring this behavior.

Advisors often place personal trades through outside accounts. The most straightforward way to mitigate risk, then, is to require advisors to submit their personal account statements regularly. Firms can enhance this detection technique by tracking trade data from clients. Systems can compare the advisor's initial trade to the client's legitimate trade and determine if front-running occurred automatically as well as calculate the benefit the advisor received from the front-running action.

Keep in mind that tracking advisor and client trades isn't always enough. In 2021, the SEC announced charges against a quantitative analyst at two prominent asset management firms whose front-running behavior netted $8.5 million in illicit profits by executing trades through his wife’s account.[3] Getting attestation for the accounts of family members as well as advisors’ personal accounts is another step you can take to root out bad behavior and protect your firm.

Streamline Your Compliance Management with EAI

Implementing an effective compliance management program doesn’t have to be overly complicated or cost-prohibitive. Having the right tools and technology in place can go a long way to protecting your business and setting your firm up for growth and success.

EAI’s compliance management solution simplifies the process and provides reliable support to your compliance operations by:

Monitoring every transaction against a variety of compliance rules accurately and securely

Tracking dealer and broker training, compliance, complaints, and more

Preparing you for audits by effortlessly running reports of your compliance alerts and how you’ve mitigated them

If you’re tired of compliance-related headaches, reach out to us to schedule a demo! We’re always happy to discuss how EAI’s tools and technology can change the way your firm manages your compliance efforts.

Sources

¹https://securities.lslawyers.com/over-concentration-in-an-investment-portfolio.html 

²https://www.sec.gov/files/aml-risk-alert.pdf 

³https://www.sec.gov/news/press-release/2021-186