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Finra Reveals Big Report on What Firms Get Wrong on Exams

By Rita Raagas De Ramos December 7, 2017

Finra has published its first-ever report on the summary of its findings from broker-dealer firm examinations. The report was produced in response to requests for more information that could help firms better anticipate and address regulatory concerns before their own exams.

The 14-page report covers the regulator’s observations on issues it feels potentially impact investors and the markets or occur frequently. The report also describes compliance practices Finra considers effective.

The key topics in the report are best execution, product suitability, outside business activities and private securities transactions, cybersecurity, anti-money laundering and market access controls.

Best Execution

Finra says some broker-dealer firms established, maintained, and enforced policy and supervisory procedures for regular and rigorous reviews for execution quality. But the watchdog had concerns over best execution at firms in equities, options and fixed income securities. The regulator says some firms failed to implement and conduct an adequate regular and rigorous review of the quality of the executions of their customers’ orders.

The deficiencies Finra identified included failure to compare the quality of the executions firms obtained via their order routing and execution arrangements, failure to conduct reviews of certain types of orders, and failure to consider certain factors required when conducting a regular and rigorous review.

Product Suitability

Finra requires broker-dealers to have a “reasonable basis” to believe a recommended transaction or investment strategy is suitable for the customer. While the regulator found product suitability concerns “did not vary materially” by firm size, more frequent issues were raised in connection with certain product classes, specifically unit investment trusts, multi-share classes and complex products.

Outside Business Activities and Private Securities Transactions

To curb potential misconduct or conflicts of interest, Finra requires registered representatives to notify their firms of proposed outside business activities and associated persons to notify their firms of proposed private securities transactions.

But one issue the watchdog found was that some firms had weaknesses in their OBA and PST reviews.


Finra says cybersecurity is one of the principal operational risks facing broker-dealer firms.

The regulator says most broker-dealer firms examined this year have established, or were establishing, risk management practices. But the quality of those practices vary “substantially” both within and across firms.

Anti-Money Laundering

The regulator says broker-dealer firms with effective AML programs actively tailor their risk-based AML program to their business model and associated AML risks as opposed to simply implementing a more generic program.

Market Access Controls

Finra says the potential impact of a trading error or rapid series of errors caused by a computer or human lapse or a malicious act has intensified. It says broker-dealer firms that provide market access implement a variety of effective controls to help satisfy regulatory requirements.

The watchdog said it saw firms fall short in complying with the tailoring of erroneous trade controls, pre-trade financial thresholds, and the implementation and monitoring of aggregate capital or credit exposures.

Finra conducts between 1,500 and 2,000 risk-based cycle exams annually to assess identified risks and controls and determine whether its member firms are complying with federal securities laws, rules and regulations. During these exams, Finra assesses the firms’ business activities, the risks associated with those activities and other risk factors. The regulator typically visits broker-dealer firms in a one-, two- or four-year cycle, and this may include visits to branch offices, depending on the size of the firm and types of products.

Finra CEO Robert Cook has said the new report format is “a little bit of an experiment,” but Finra’s intention is to publish it annually.