At the 2008 IA Compliance Best Practices Summit, Andrew Donohue, Director of the SEC’s Division of Investment Management, reviewed current top regulatory initiatives for the Division. Mr. Donohue first noted that comments on the proposed amendments to Form ADV Part 2 are due by May 16, 2008. (More detailed coverage of this release will appear in a future edition of the Alert). Turning to the December 2007 Rand Report on the current state of the retail investment adviser and broker-dealer industries, Mr. Donohue indicated that the Division had already started reviewing the empirical data and analysis contained in the Rand report, and is preparing preliminary recommendations for Chairman Cox’s consideration. (See the January 8, 2008 Alert for a more detailed discussion of the Rand Report). Mr. Donohue then discussed recent developments relating to the application of the Advisers Act to broker-dealer activities following the decision by U.S. Court of Appeals for the D.C. Circuit to vacate rulemaking that created exceptions from regulation under the Investment Advisers Act of 1940, as amended, for certain brokerage programs. (See the April 10, 2007 Alert for a detailed discussion of the decision.) Mr. Donohue noted that the Division plans to make recommendations to the SEC on these matters in the next several months. He added that future SEC examinations of dual registrant firms are likely to focus on how such firms are conducting principal trades, what compliance procedures are in place to ensure that those trades are in the client’s best interest, and how these firms advise clients about what type of account is appropriate for them.
Mr. Donohue indicated that a current area of interest for the SEC is the rapid development of managed accounts, and specifically, the areas of suitability, client disclosures, best execution and compliance with Rule 3a-4 under the Investment Company Act of 1940, as amended, which provides a safe harbor from the definition of investment company on which managed accounts typically rely. Mr. Donohue stated that he believes it is important for the Division to review the current conditions in Rule 3a-4 and to consider whether they continue to provide an appropriate level of individualized treatment. Mr. Donohue advised that the Division expects to provide the SEC in the coming months with recommended guidance on soft dollars that is intended to assist mutual fund boards and compliance professionals in their oversight responsibilities. He observed that the proposed revisions to Form ADV Part 2 would also require an adviser to discuss the conflicts of interest inherent in its soft dollar practices.
Mr. Donohue described several SEC initiatives addressing registered advisers’ books and records obligations of investment advisers. He indicated that the initiatives were designed to provide guidance as to what the records advisers must create, retain, and produce for examination staff, as well as how advisers may use third parties to create and store records. Mr. Donohue also discussed the issue of investments in complex investment products, such as derivatives, noting that it is critical for investment advisory firms to have the resources in place to fully assess their risk, properly administer them and provide appropriate disclosure to clients.