Medium to small advisers suffer the same compliance lapses

Midsize investment advisers switching to state registration this year demonstrated the same compliance lapses as small firms that were already under state oversight, state regulators have found. The top regulatory deficiencies for advisers with assets under management between $30 million and $100 million, who transferred to state oversight from the Securities and Exchange Commission, were in the areas of books and records, registration, contracts, advertising and fees. The top areas of noncompliance for advisers with less than $30 million in assets were books and records, registration, contracts, privacy and brochure delivery. The sample examination data were compiled during the Coordinated Examination Program conducted between January and June by the North American Securities Administrators Association. The 1,130 reported examinations revealed 6,482 compliance deficiencies in 20 areas. That compares with 3,543 deficiencies in 13 areas from 825 exams when a similar sweep was conducted in 2011. The results were released Oct. 7 at the NASAA annual conference in Salt Lake City. Over the last two years, about 2,100 midsize advisers switched to state regulation under a mandate of the Dodd-Frank financial reform law, which also required private-fund advisers to register with the SEC. State regulators were braced for the worst from the advisory firms migrating from the SEC, because they were likely not to have been examined by the SEC in years, if ever. The reality proved different. “They have a lot of the same deficiencies that the smaller advisers had, and they have pretty decent compliance operations,” said Andrea Seidt, Ohio's securities commissioner and the incoming NASAA president. “States so far have been pleasantly surprised in what they have seen.” Michael Huggs, director of the Mississippi securities division, attributed the smooth transition to a special effort by the states to communicate their requirements to advisers making the move. “We went out and visited with all the switching [firms] before the switch,” Mr. Huggs, who is chairman of the NASAA Investment Adviser Operations Project Group, said of the outreach in Mississippi. The exam sweep found that the top books-and-records deficiencies were insufficient documentation of clients' financial background and risk profiles, and missing client contracts. The top registration problem centered on advisers' misrepresenting their practices on registration forms, while the top contract deficiencies were improper execution, fees and fee formula. What stood out for Mr. Huggs was the similarity in compliance problems between the midsize and small advisers. “Not only are the categories in line but also the issues within the categories,” Mr. Huggs said. “An adviser is an adviser is an adviser.”