In their efforts to cut costs, advisers may be setting themselves up for some big expenses.
“Firms are exposing themselves to sizable financial losses as a result of compliance failures,” said Sharie Brown, a partner in the Washington office of DLA Piper, a law firm with offices worldwide.
She and other compliance experts point to layoffs and attrition at advisory firms that are resulting in fewer employees who focus on compliance. In addition, some advisers are entering into office-sharing arrangements with other advisers and allied professionals, such as attorneys and accountants, which leave them vulnerable to major breaches of privacy rules.
While fines for compliance in-fractions can reach millions of dollars for larger firms, smaller firms can be hit with fines that are proportionally just as painful, said Barry P. Schwartz, Boca Raton, Fla.-based founding partner in Washington-based ACA Compliance Group. He said he can cite several cases where smaller advisory firms were fined as much as $30,000 in cases where their compliance shortcuts saved them less than $5,000.
“In the case of shared office space, I'm thinking, "Come on, guys, you could be facing millions in fines because you're saving a few thousand dollars and not taking into account the risk,'” Ms. Brown said.
“If you're sharing office space, you want to make sure the other adviser can't access your clients' folders, and you don't want them to be able to open up the C drive,” said Scott Brown, associate director of the regulatory group at Englewood, N.J.-based MarketCounsel LLC, a compliance consulting firm.
He said that if space is shared, advisers must ensure that all physical documents are locked by key and that all electronic documents are password-protected.
Office sharing can be so tricky that some firms prohibit it.
Mark Dransfield, chief growth and productivity officer of San Diego-based First Allied Securities Inc., encourages office sharing among advisory firms only if the firms share affiliation with his broker-dealer.
“An adviser who joins an office of one of our affiliates must join First Allied Securities and terminate all ties to his current broker-dealer, which may seem like a drastic measure,” he said.
Aside from office sharing, compliance experts said problems arise when advisers scrimp by not updating technology programs or by purchasing cheaper technology that comes without safeguards to prevent private information from being released to third parties. Advisers also have been cutting back on sending staff members to compliance conferences, where they learn of new problem-solving techniques.
Problems are most likely to occur, however, when compliance personnel themselves are let go.
This can be dangerous, warned David Thetford, a securities compliance principal analyst at Wolters Kluwer Financial Services in Riverwoods, Ill., a division of Wolters Kluwer NV in Amsterdam, Netherlands.
“If you make a cut in the compliance department, the other compliance professionals have to pick up the slack,” he said. “They have to double up and move faster, and can't pay as close of attention to what they are doing. In short, they miss things.”
The SEC has made it crystal clear that it doesn't want firms to cut their compliance efforts, Mr. Schwartz said, which means advisers must proceed with caution.
“If you cut head count and your surveillance isn't as rich as it should be, then you're not looking at every transaction; you're sampling,” said Chris Aronis, a Boston-based senior vice president of worldwide sales for SunGard Data Systems Inc. of Wayne, Pa. “You may be looking at one in six transactions, and you're missing significant volumes of data; it's not an effective way to supervise.”
Leaner work forces also mean that investor policy statements may fall by the wayside, said Craig O'Neill, Toronto-based president of the North American segment at Odyssey Financial Technologies SA of Lausanne, Switzerland.
“The document looks great,” he said. “But the adviser and the team around the adviser don't have a practical way to adhere to that policy. This is not a rare thing; it's the common situation.”
With fewer workers facing more pressure and worried about their own jobs, advisory firm employees may feel that compliance is no longer a firm priority, said Debra Sabatini Hennelly, a Mendham, N.J.-based senior knowledge leader with LRN, a compliance advisory firm based in Los Angeles.
“There's a general concern that employees feel increased pressure to meet deadlines and to make monetary targets, and may misunderstand and think this means they need to cut corners when it comes to compliance,” she said.
If anything, however, regulators are now scrutinizing advisers more closely, said Michael Isaac, chief compliance officer at Atlanta-based J.P. Turner & Co. LLC, which manages $2 billion in assets.
“Regulators have received poor publicity, and the only way they're going to generate positive publicity is to bring regulatory actions,” he said.
E-mail Lisa Shidler at [email protected].
