In its 2017 Regulatory and Examination Priorities Letter, FINRA made clear that one of its top priorities is identifying high-risk brokers and ensuring that their firms properly monitor them. To assist it in doing so, FINRA has established a dedicated examination unit to identify and examine brokers who may pose a high risk to investors. That unit’s charge is also to (1) review firms’ supervisory procedures for hiring or retaining statutorily disqualified and recidivist brokers; and (2) evaluate firms’ branch office inspection programs and supervisory systems.
At the November 1, 2017 Securities Industry and Financial Markets Association (“SIFMA”) Compliance and Legal Society Regional Seminar in New York, Michael Solomon, FINRA’s Senior Vice President and Regional Director, updated and expanded on this examination unit’s progress in identifying and examining high-risk brokers.
- Use of Data Analytics to Identify High-Risk Brokers
Mr. Solomon noted that to assist the unit in its mission, FINRA now uses an analytical model that processes its in-house data to identify high-risk brokers and predict “bad behavior.” Mr. Solomon stated that the data FINRA uses in its analytical model includes, but is not limited to the following:
- Regulatory actions against the broker;
- 4530 Reports;
- The broker’s employment history; and
- The exams that the broker attempts to take (or not take).
Based on this data, the model looks for common attributes among brokers known to have engaged in bad behavior and creates a list of high-risk brokers for further review. FINRA then conducts a “qualitative” assessment of those brokers, looking at information such as (1) outside business activities, (2) liens, and (3) criminal activities. Through that analysis, FINRA identifies the “highest-risk” brokers, and conducts a targeted and focused examination of them accordingly.
- Results to Date
Mr. Solomon stated that FINRA’s use of data analytics to target high-risk brokers has been quite effective. Frequently, the brokers identified for examination voluntarily depart from their respective employers. Moreover, of the brokers it has designated as “high-risk,” 55 percent are no longer registered with FINRA, while 14 percent (approximately 132 brokers) have been permanently barred. Finally, through these examinations, FINRA has identified certain “flags” that signal potential abuse – specifically, (1) instances in which brokers “live off” a small number of clients; and (2) suspicious wires from client’s brokerage accounts.
III. Message to Firms
With respect to the firms that hire high-risk brokers, Mr. Solomon stated that the priority of FINRA’s exam unit will be to:
- Review firms’ supervisory procedures for hiring high-risk brokers;
- Examine the actual due diligence the firms conducted on those brokers prior to their hire; and
- Assess whether firms have adequate supervisory plans in place to detect and prevent future misconduct by brokers who have previously engaged in misconduct.
With respect to firms’ monitoring of high-risk brokers, Mr. Solomon suggested that they closely look for trends in clients’ wires – even if the wires are to the clients’ personal accounts. Moreover, Mr. Solomon emphasized that firms should contact clients about their account activity when they see suspicious behavior, suggesting that FINRA will not look kindly at firms who fail to do so.
Given the impressive results of this newly established exam unit, we anticipate this continuing to be an area of emphasis for FINRA throughout 2018.
 Mr. Solomon stated that the employment history data includes (1) the number of firm’s for which the broker worked, to identify “firm jumping”; (2) the location(s) of the broker’s employment; and (3) the broker’s association with firms that have experienced regulatory problems.
 FINRA’s January 4, 2017 Regulatory and Examination Priorities Letter stated that FINRA will examine whether firms conduct a national search of reasonably available public information to verify the accuracy and completeness of an applicant’s Form U4. FINRA will also continue to monitor for timely submissions of disclosures required on Forms U4 and U5.