Regulators use big data to turn up enforcement heat

Data analytics could help them more easily uncover breaches of suitability in investment product sales

Jan 30, 2017 @ 12:50 pm

By Mark Schoeff Jr.

Securities regulators are turning to big data to increase their enforcement firepower, a move that could eventually help them more easily uncover breaches of suitability in investment product sales.

The Securities and Exchange Commission recently banned a Massachusetts adviser for cherry-picking stock trades — keeping the best ones for himself and saddling his clients with the losers.

The SEC said it built its case in part on an analysis of the adviser's trading, which it said showed he defrauded 30 clients over a six-year period.

Compliance experts say advisers should look for more of the same.

“It's pretty clear they plan to rely heavily on analytics,” said Alex Russell, director of institutional and complex litigation at Bates Group, a compliance consultant.

Last fall, the agency reported a record number of enforcement cases. Former SEC Chairwoman Mary Jo White attributed the increase to its use of data to “uncover tough cases” and bring “novel and significant actions” to enhance investor protection.

It's an effort that has been underway for several years and has involved hiring personnel with expertise in data science and engineering.

“They really are executing on their promises now,” said Katherine McGrail, partner at Murphy & McGonigle.

The use of data allows regulators to be more nimble in their enforcement efforts.

When he was head of enforcement at the National Association of Securities Dealers Inc., Barry Goldsmith and his staff had to parse trades by manually putting them on a spreadsheet.

“The data analytics they're doing now enables them to look at a large amount of trading information over a longer period of time,” said Mr. Goldsmith, now a partner at Gibson Dunn & Crutcher.

Even though a big-data effort by NASD's successor, the Financial Industry Regulatory Authority Inc., bit the dust two years ago, the broker-dealer regulator continues to emphasize the use of data in its exams.

In its 2017 examination priorities letter, Finra said it will conduct “electronic, off-site reviews” based on information requests to firms to augment its on-site exams.

Finra intends to use data to “surveil, monitor and bring enforcement actions against member firms,” Mr. Russell wrote in a blog post.

Most of the enforcement activity flagged by data analytics involves trading ripoffs, such as insider trading and cherry-picking.

But last year, the SEC reached a $15 million settlement with UBS in a case involving improper sales of complex products.

The data trend likely will extend to ferreting out unsuitable sales and conflicts of interest by examining reams of trading data.

“That's the next phase,” Ms. McGrail said.

Advisory firms need to be prepared by ensuring there are no gaps in their own data when they turn it over to regulators.

“The most important thing firms can be doing is to be proactive about their data,” Ms. McGrail said. “Firms need to keep pace with regulators because if they fall behind, they're going to become targets.”

But like most regulatory initiatives, the use of big data depends on who's leading the agency. It's not clear that the Trump administration's nominee for SEC chairman, securities lawyer Jay Clayton, will put as much emphasis on data as Ms. White did.

“This is an area that may not grow as fast as it would have under a different administration,” Mr. Goldsmith said.


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