SEC’s Division of Examinations Releases Priorities for Fiscal Year 2025

Last week, on October 21, 2024, the SEC’s Division of Examinations released its Examination Priorities report for fiscal year 2025 (found here). As we have seen with past annual reports, the Division intends to cover a broad array of issues impacting investment advisers and broker dealers in 2025. There also is no doubt that the SEC will continue to devote resources to advanced capabilities such as data analytics and artificial intelligence in the examinations space, as well as across the regulatory landscape. In its report, the Division touted its efforts in directing resources to critical risk areas using a centralized team of analysts and engineers “to perform more sophisticated data analytics to identify potential examination candidates and practices” and highlighted its achievements last year in building out a group to focus on national securities exchanges and adding a national risk strategist and new associate director in the home office. Below is a brief summary of the stated areas of focus for the SEC in examining investment advisers and broker dealers in the coming fiscal year:

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• Adherence to Fiduciary Standards of Conduct: Not surprisingly, this is a year-over-year priority for the Division. Advisers owe a duty of care and loyalty to their clients; meaning from the SEC’s perspective, they must act, at all times, in their clients’ best interests. A key here is for advisers to eliminate or make full and fair disclosure of all conflicts of interest that could lead an adviser to render advice that is not disinterested. The Division stated it will focus on adviser recommendations related to (1) high-cost products, (2) unconventional instruments, (3) illiquid and difficult-to-value assets, and (4) assets sensitive to market conditions.

• Dual-Registrants and Advisers with Affiliated Broker-Dealers: The SEC is expected to continue its focus on these registrants as demonstrated this past year by enforcement efforts related to cash sweeps and affiliate relationships. The Division said its areas of focus will include (1) assessing the suitability of investment advice and recommendations for client accounts, (2) reviewing disclosures regarding the capacity in which recommendations are made, (3) reviewing the appropriateness of account selection practices between brokerage and advisory, and (4) assessing disclosure and mitigation of conflicts of interest.

• Effectiveness of Advisers’ Compliance Programs: Another consistent examination priority for the Division is monitoring the so-called “Compliance Rule,” which requires advisers to adopt and implement written policies and procedures to prevent securities law violations, to designate COO’s responsible for the Rule’s implementation, and to review policies and procedures annually. The Division signaled it will focus more intently on policies and procedures related to the valuation of illiquid or difficult-to-value products and advisers that integrate artificial intelligence into advisory operations.

• Private Fund Advisers: The Division is expected to continue to actively examine private fund advisers, which the Division says “remain a significant portion of the SEC-registered investment adviser population.” The Division stated its areas of focus will include “whether disclosures are consistent with actual practices,” particularly where private funds are exposed to market volatility and interest rate fluctuations such as funds invested in commercial real estate, illiquid assets, and private credit. In addition, the Division will continue to scrutinize conflicts of interest disclosures, the adequacy of policies and procedures, and compliance with the amendments to Form PF.

Broker Dealers

• Regulation Best Interest: Continuing a trend this past year in the enforcement space, the Division will continue to examine broker dealer practices related to Reg BI. The areas of priority will include (1) whether recommendations for products, investment strategies, and account types comply with Reg BI; (2) disclosures related to conflicts of interest; (3) conflict identification, mitigation, and elimination practices; (4) processes for reviewing reasonably available alternatives; and (5) factors considered when making recommendations in light of an investor’s investment profile. The Division will focus on recommendations involving complex, illiquid, or high-risk products such as crypto assets, structured products, and alternative investments.

• Form CRS: The Division will review the content of the form’s “relationship summary,” including the descriptions of the broker dealer’s relationships and services it offers to retail customers, its fees and costs, conflicts of interest, and disciplinary history, and whether the relationship summary is delivered to retail customers.

• Broker Dealer Financial Responsibility Rules: The Division will continue its annual focus on broker dealer compliance with the net capital rule and the customer protection rule, and related internal processes, procedures, and controls. Examinations also will review a broker dealer’s execution of retail orders, such as whether orders are marked “held” or “not held” and the pricing and valuation of illiquid instruments.

• Broker Dealer Trading-Related Practices and Services: Examinations will continue to prioritize broker dealer equity and fixed income trading practices. This will include reviewing the structure, marketing, fees and potential conflicts related to offerings to retail customers such as bank sweep programs, fully paid lending programs, and mobile apps and online trading.

If you have questions about the SEC’s Division of Examinations priorities or related issues, reach out to the authors of this article or your Foley & Lardner attorney.