The Securities and Exchange Commission will emphasize climate risk and step up its reviews of compliance with Regulation Best Interest in examinations this year, the agency announced Wednesday.
In its report on examination priorities, the SEC Division of Examinations said investors are increasingly demanding investment strategies focused on sustainable, socially responsible, impact, and environmental, social and governance factors.
“The Division will prioritize emerging risks, including those relating to climate and ESG,” the report states.
The agency said it will assess disclosures by registered investment advisers and fund complexes regarding sustainable investment products as well as related advertising, policies, practices and proxy voting procedures.
“This year, the Division is enhancing its focus on climate and ESG-related risks by examining proxy voting policies and practices to ensure voting aligns with investors’ best interests and expectations, as well as firms’ business continuity plans in light of intensifying physical risks associated with climate change,” SEC Acting Chair Allison Herren Lee said in a statement. “Through these and other efforts, we are integrating climate and ESG considerations into the agency’s broader regulatory framework.”
Last week, the agency ramped up its review of corporate disclosures about climate risks. And in a Senate hearing Tuesday, the Biden administration’s nominee for SEC chair, Gary Gensler, indicated climate policy will be high on his agenda if he’s confirmed.
The SEC first made reviewing RIA disclosures regarding ESG investing an examination priority last year.
Rana Wright, chief administrative officer and general counsel at Harris Associates, said some advisory firms have been receiving inquiries from the SEC about their ESG policies. She recommended firms do an internal assessment of how they define ESG and the terminology they use.
“Your disclosure should say what you do,” Wright said Wednesday during the online Investment Adviser Association Compliance Conference.
The Division of Examinations said that its probes this year “will again emphasize the protection of retail investors, particularly seniors and individuals saving for retirement.”
One part of that emphasis will be probing brokerages’ compliance with Regulation Best Interest. The measure went into force in June, and the SEC conducted exams focused on whether firms were making a "good faith" effort to adhere to the rule.
This year, the SEC is saying it will get tougher on Reg BI reviews by expanding the scope of exams to assess whether brokers are making investment recommendations that are in their clients’ best interests.
“The Division will also conduct enhanced transaction testing as part of these examinations…the recommendation of rollovers and alternatives considered, complex product recommendations, assessment of costs and reasonably available alternatives, how sales-based fees paid to broker-dealers and representatives impact recommendations, and policies and procedures regarding how broker-dealers identify and address conflicts of interest,” the priorities document states.
In addition to Reg BI, the investment advice reform regulatory package included the SEC’s interpretation of the fiduciary duty that applies to RIAs. Exams this year will assess whether RIAs have fulfilled their care and loyalty obligations to clients.
“This will include assessing, among other things, whether RIAs provide advice, including whether account or program types continue to be in the best interests of their clients, based on their clients’ objectives, and eliminate or make full and fair disclosure of all conflicts of interest which might incline RIAs—consciously or unconsciously—to render advice which is not disinterested such that their clients can provide informed consent to the conflict,” the priorities document states.
Examinations of RIAs also will zero in on their use of turnkey asset management platforms.
“Such platforms provide RIAs with technology, investment research, portfolio management and other outsourcing services, and the Division’s examinations will seek to assess whether such fees and revenue sharing arrangements are adequately disclosed,” the priorities document states.
In fiscal 2020, which ran from Oct. 1, 2019, through Sept. 30, the SEC said it completed 2,952 examinations, a 4.4% decrease from fiscal 2019, which the SEC said illustrated examiners’ hard work given that the agency has been working remotely since the coronavirus pandemic hit a year ago.
The SEC examined 15% of RIAs in fiscal 2020. The number of RIAs overseen by the agency has grown from 12,000 five years ago to 13,900 currently, and their assets under management have increased from $67 trillion to $97 trillion.
In fiscal 2020, the Division of Examinations issued more than 2,000 deficiency letters and made 130 referrals to the Division of Enforcement. Examinations closed in fiscal 2020 have resulted in more than $32 million being returned to investors.
The Long Island-based firm, previously penalized by FINRA, is a longtime purveyor of alternative investments.
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