Podcast Transcript II

Post Madoff Changes in Regulations

Laura Crosby Brown: In the wake of the Bernie Madoff and a number of other financial scandals, a number of financial changes to the regulatory realm are coming for investment advisors and hedge fund managers, money managers in general, and eventually to broker-dealers.

Announcer: Hello, and welcome to the Regulatory Compliance Podcast 2010 series. Today we’ll join Laura Crosby-Brown,Director of Compliance, Beverly Fetcko, Manager of Compliance Partners, and Nathan Jodat, Manager of Examination Programs, for a discussion of how the Madoff and other scandals have affected federal regulations, filings and regulatory examinations in the financial industry.

Laura: We’ve been asked a number of questions about the potential changes, about changes that have already happened and how they impact our clients and the industry in general. Some of the big changes coming will be mostly to investment advisors and hedge fund managers and will revolve around registration requirements, audit requirements, changes in the way they custody their funds and securities and reporting requirements to the various regulators.

Beverly: For the most part it will mean a lot of enhanced scrutiny that our clients are going to have over their clients and also that the regulators will have over the investment advisory firms and the broker-dealer firms. They need to be very mindful of all the new regulatory changes that could possibly come out of this, and as you know, the SEC and FINRA and any regulatory body they are regulating to protect the consumer and the client, so they want to make certain that the clients are protected, and they don’t see a repetition of anything like this.

Laura: Some of the other things our clients are facing are financial challenges. Clients are a lot more wary about who they’re doing business with, what type of business they’re doing. Some of the large pension funds have really backed away from utilizing third parties as intermediaries in their investment strategies. We’ve also seen some of the regulators, because their coffers have been severely impacted by the Madoff scandal and by a number of other scandals, have imposed additional assessments or fees on firms so that their bottom lines are being impacted by having to pay these additional assessments or fees. But just the business in general in getting people to trust the firm and want to engage with them, it’s a lot more challenging now because people are really taking a second look at who they’re doing business with.

Beverly: There was a proposed rule, and I believe it goes into effect March 12th, on custody of, investment advisors that hold custody of customer funds. The SEC and other regulatory agencies were trying to make it so that if an investment advisory firm even just had discretion over fees, their fees being taken from an account for that investment advisor, that they were deemed to have custody and that they were going to be subject to this annual surprise investment advisory audit. The SEC scaled that back because of the comments that they received within the field that now firms that only take custody of funds that would be used for fees, are not considered to have custody of assets so that, so that they, those smaller firms would not be subject to this surprise audit rule.

Laura: They will still have to have a financial audit and now because that occurred, not only because of Madoff but because of the Enron scandal and a number of others, the Public Accounting Oversight Board was created, that is known as PCAOB, and investment advisor firms and broker-dealers now are required to have their annual financial audit conducted by a member of the PCAOB. So firms are saying audit prices spiked because of the requirements the PCAOB places on the auditors relative to review registration and oversight.

Nathan: I think one of the changes we’re going to see and our clients are going to notice from an examination standpoint is, number one, the frequency of the examinations. The SEC is taking a hard look and asking themselves, “how often should we be visiting some of these firms?” There are SEC-registered investment advisors that haven’t been visited in 7 to 10 years, which is an awful long time. So they’re looking at the method in how they choose who receives a visit and how often, and they’re also taking a hard look at their examination program, looking at areas they should focus on, trying to be more risk based. Firms that do have custody of client funds should expect to be visited more often and should expect to have a more thorough investigation into those matters. I think that the SEC examiners look at each firm and think about the types of business and think about the risks more so than before, instead of simply following a checklist.

Laura: I think one of the key things in helping people prepare for the potential changes is keeping them informed. One of the things we try to do is stay on top of changing regulations, not only from a federal standpoint but from a state standpoint, trying to get out to the firms to let them know what is happening, how it’s going to impact them, what things they can do to sort of mitigate the impact on their firms, you know, things they need to prepare for as far as reviewing their supervisory procedures, monitoring the activities that go on within their own firms, and really trying to take a proactive approach to ensuring that they’re ready.

Announcer: That concludes this segment of the Regulatory Compliance Podcast series. We invite you to join us for other discussions throughout the 2010 podcast season, available here on our website. And, if there are questions you’d like to ask one of our experts, don’t hesitate to contact us.