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Avoiding Compliance Pitfalls During the Coronavirus Pandemic

The new way of working could expose advisory firms to regulatory infractions they have not even considered.

Like many others across the country, financial advisors and firms have raced to become accustomed to a new way of working. Many offices are now empty, with many firms working entirely with clients, and colleagues, remotely.

But while regulatory agencies like the SEC and FINRA have experienced their own hurdles in adjusting to the new environment, compliance mandates still exist, and firms, advisors and compliance officers need to conduct their business in a way that continues to toe those lines, according to Karen Barr, president of the Investment Adviser Association (IAA), as well as unforeseen compliance vulnerabilities that may arise from the new working situations. Are advisors using VPNs? Are their home Wi-Fi networks secure? 

“I don’t know if everyone contemplated a full-on remote environment; are people’s laptops all secure? Are there cybersecurity concerns?” she said. “They still need to be reminded in the midst of all that’s going on, they need to follow their procedures.”

The crux of many concerns center around how client communications are archived.

For instance, Brian Hamburger, the CEO and co-founder of MarketCounsel, cautioned that any email sent to more than one client could be considered advertising and should be reviewed as such.

Additionally, advisors need to be mindful of communications between other members of their team, as what was previously face-to-face interactions is now in large part conducted over electronic interfaces.

“Everything that’s captured electronically is therefore discoverable,” Hamburger said. “Whether on a conference call or videoconference, these interactions between colleagues may be looked at with 20/20 hindsight at some point, and those words may be used against them in a context they never would have imagined.”

To mitigate the chance that communicating remotely with clients creates confusion, Sarah Buescher, IAA’s associate general counsel, said firms should make sure their employees are speaking to clients in a common voice, and perhaps set up some type of central system where clients' questions can be addressed. That way, if multiple clients have similar questions, they aren't receiving wildly divergent answers depending on their advisor.

Additionally, advisors should still document all interactions with clients and team members, regardless of the channel or platform, in case regulators look for discrepancies between messaging and client activity, according to Ben Edwards, a professor in business and securities law at the UNLV William S. Boyd School of Law in Las Vegas. 

Advisors could be held liable if they were thought to be encouraging clients to make aggressive, speculative bets in the midst of a volatile market, according to Edwards, unless it was part of a firm’s documented investment approach.

This may be easier said than done for some firms, as clients and advisors explore ad hoc ways of communicating in lieu of personal meetings. For example, clients may want to communicate with advisors via text, and if firms are not set up to document those messages, they may have to resort to screenshots of conversations. Twitter direct messaging or LinkedIn messages with clients are other potential pitfalls to avoid.

“This is going to be enormously stressful for firms and compliance departments, because they’ve got to do it, and have to innovate, and have to do it from home,” Edwards said.

Most firms have a fairly strong email archiving system in place, according to GJ King, the president of RIA in a Box, who believed that while there is technology available for firms to archive all kinds of communications, it could be challenging to get all employees on board rapidly.

“We’re seeing Slack pick up in adoption overnight. We recommend it, but you want to make sure you have the right systems in place to capture that communication. You need to make sure you have the right features to capture it from a regulatory standpoint,” he said. “There’s good archiving technology. It’s there, but you’re asking people to dramatically and quickly adopt new tech. It’s a recipe for things to go wrong.”

Supervising sales staff and representatives will be one of the hardest things for firms' compliance departments to do remotely, according to Max Schatzow, a counsel for registered investment advisors and broker/dealers on compliance issues and the founder of AdviserCounsel. He said it’s likely the industry will see an uptick in fraudulent or unethical behavior in the coming months.

Even as the tools are available, it’s the uncharted nature of the new business environment that is a challenge.

“This situation has already created losses in client portfolios and unhappy investors, and (for advisors) there’s no presence of anyone looking over your shoulder,” he said. Some advisors, under stress, may ignore a natural inclination to document a client conversation or message, “because you’re sitting at your home office and not on site at headquarters.”

The sudden combination of a market rout, largely untested work environments and processes, as well as the compliance pitfalls, will have a winnowing effect on advisory firms, said Hamburger.

“I think we’ll start to see which RIAs have been running as businesses, resilient and stronger than one person ... or which continue to run as glorified practices,” he said. “And those practices may not be strong enough to survive.”

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