The Securities and Exchange Commission’s Division of Examinations has announced its 2023 Examination Priorities.
With the announcement of the 2023 priorities, Division of Examinations’ Director Richard R. Best said that they “…reflect the changing landscape and associated risks in the securities market and are the product of a risk-based approach to examination selection that balances our resources across a diverse registrant base. We will emphasize compliance with new SEC rules applicable to investment advisers and investment companies as well as continue our focus on emerging issues and rules aimed at protecting retail investors”.
Are the 2023 SEC Examinations Priorities relevant to my firm?
While firms should treat all elements of an SEC exam with importance, the Examination Priorities gives us the inside perspective on the focus of their exam program for year ahead.
There are many priorities that have carried over from previous annual publications, as well as several notable new and significant focus areas. The team here at PINE have summarized the most relevant to our clients:
1. Compliance with new Advisers Act and Investment Company Act Rules
2. RIAs to Private Funds
3. Environmental, Social, and Governance (ESG)
4. Information Security
5. Emerging Financial Technology and Crypto-Assets
6. Focus Areas for Examinations of RIAs
7. Focus Areas for Examination of Registered Investment Companies
(1) Compliance with new Advisers Act and Investment Company Act Rules
This is a recurring theme for their Examination Priorities, and the SEC has recently adopted several weighty new rules impacting Investment Advisers and Investment Companies. Through their Exams, the SEC will be looking to ensure firms have adopted and implemented policies and procedures reasonably designed to manage the associated risks and prevent violations of the new rules. Specially called out is:
(2) RIAs to Private Funds
Once again noted as a significant focus area for 2023, SEC Exams will look to assess a private fund RIA’s:
SEC Exams will also focus on RIAs to private funds with specific risk characteristics, including:
- portfolio strategies, risk management, and investment recommendations and allocations, focusing on conflicts and disclosures around those areas
- calculation and allocation of fees and expenses, including the calculation of post-commitment period management fees and the impact of valuation practices at private equity funds
- compliance with the new Marketing Rule, including performance advertising and compensated testimonials and endorsements, such as solicitations
- policies and practices regarding the use of alternative data, managing MNPI risk, and compliance with Advisers Act Section 204A
- compliance with the Advisers Act Rule 206(4)-2 (Custody Rule), where applicable, including timely delivery of audited financials and selection of permissible auditors
(3) Environmental, Social, and Governance (ESG)
- highly-leveraged private funds
- private funds managed side-by-side with BDCs
- private equity funds that use affiliated companies and advisory personnel to provide services to their fund clients and underlying portfolio companies
- private funds that hold certain hard-to-value investments, such as crypto assets and real estate-connected investments, with an emphasis on commercial real estate
- private funds that invest in or sponsor Special Purpose Acquisition Companies (SPACs)
- private funds involved in adviser-led restructurings, including stapled secondary transactions and continuation funds
In response to rising investor demand for ESG-related investments and strategies, and along with the recent proposed rulemaking, SEC Exams will continue to focus on a firm’s implementation of ESG; including assessing whether:
(4) Information Security
- funds are operating in the manner set forth in their disclosures
- ESG products are appropriately labeled
- recommendations of ESG products for retail investors are made in the investors’ best interests
Due to global concerns and recent events related to this topic, the SEC considers this an elevated risk for our industry and will review firm practices to prevent interruptions to mission-critical services and to protect investor information, records, and assets. The focus of Exams will be on polices, procedures and practices related to:
(5) Emerging Financial Technology and Crypto-Assets
- safeguarding customer records and information and prevent of account intrusion—both information residing in firm systems and stored through a third-party provider
- whether the location of records has been properly disclosed as required to the Commission
- the use of third-party vendors, including firm visibility into the security and integrity of third-party products and services
- whether there has been an unauthorized use of third-party providers, particularly for transition assistance when departing RIA personnel attempt to migrate client information to another firm
- systemically significant registrants’ operational resiliency planning, such as efforts to consider and/or address climate-related risks
With the continued industry and financial market disruption seen from the adoption of new technologies, crypto and crypto-related assets, SEC Exams will continue to focus on firms offering products and services relying on these new technologies; specifically:
(6) Focus Areas for Examinations of RIAs
- the offer, sale, recommendation of, or advice regarding trading in crypto or crypto-related assets
- whether firms have met and followed their respective standards of care when making recommendations, referrals, or providing investment advice
- whether firms routinely reviewed, updated, and enhanced their compliance, disclosure, and risk management practices
In addition to reviewing the established core focus areas, the 2023 Examination Priorities highlighted the inclusion of reviews of RIA policies and procedures for retaining and monitoring electronic communications and selecting and using third-party service providers.
As is typical, the SEC’s examination program prioritizes RIAs that have never been examined, including recently registered firms, as well those that have not been examined for several years.
(7) Focus Areas for Examination of Registered Investment Companies
In addition to reviewing the established core focus areas, the 2023 Examination Priorities highlighted a focus on funds with the following specific characteristics:
As with RIA examinations, the SEC’s examination program prioritizes registered investment companies that have never been examined, including recently registered investment companies, and those that have not been examined for several years.
- turnkey funds, to review their operations and assess effectiveness of their compliance programs
- mutual funds that converted to ETFs, to assess governance and disclosures associated with the conversion to an ETF
- non-transparent ETFs, to assess compliance with the conditions and other material terms of their exemptive relief
- loan-focused funds, such as leveraged loan funds and funds focused on collateralized loan obligations, for liquidity concerns and to review whether the funds have been significantly impacted by, and have adapted to, elevated interest rates
- medium and small fund complexes that have experienced excessive staff attrition, to focus on whether such attrition has affected the funds’ controls and operations
- volatility-linked and single-stock ETFs, to review such funds’ disclosures, marketing, conflicts, and compliance with portfolio management disclosures
We encourage you to review the 2023 Examination Priorities publication to consider all the SEC’s Examination Priorities for 2023, including Broker-Dealer, Security-Based Swap Dealers, Municipal Advisors, Transfer Agents, and AML Examinations.
If you want to understand more about the preparedness of your Compliance Program for an SEC exam, or are looking for more information on the SEC exam process in general, make sure you are following PINE Advisor Solutions on LinkedIn and look out for an article in our upcoming newsletter. Or you can reach out to the PINE Compliance Team at email@example.com.
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