8.  High-Yield Investments.  Faced with continuing low interest rates, customers seeking higher investment returns increasingly have turned to high-yield muni, corporate and other credit obligations.  Such actions are fraught with significant suitability concerns, esp. since retail investors may not consider or understand fully the trade-offs of higher yield with respect to credit risk and liquidity.  When recommending low-rated or non-rated securities, particularly to retail customers, firms and their RR's are reminded to perform reasonable-basis and customer-specific suitability analyses.  Also, where applicable, firms must ensure that investors are told that certain products bear an inverse relationship to interest rate moves and that preservation of principal is not guaranteed. 

    9.  Municipal Securities.  Muni securities dealers must understand the securities they sell to meet their disclosure, suitability and pricing obligations, and obligation to deal fairly with customers under the rules of the MSRB and federal securities laws. Rule G-32 requires the delivery of an official statement, or a notice of its availability on the MSRB’s EMMA system, to any customer purchasing a municipal security during the primary offering disclosure period.  

Material information must be disclosed to customers at or before the time of trade to enable them to evaluate these investments. Continuing disclosures made by issuers to the MSRB via EMMA are part of the information that dealers must obtain, disclose and consider in meeting their regulatory obligations. The SEC recently amended SEA Rule 15c2-12, which governs continuing disclosures.  See Regulatory Notice 10-41.

    10.  Non-Conventional Investments.  FINRA is focusing on firms that offer structured products and certain riskier ABS's to retail investors.  FINRA wants to see that firms train brokers on products and that reasonable supervision is in place to ensure suitable recommendations.  Brokers must understand the risks and costs associated with the products they recommend, and that this information is disclosed to customers - e.g., CMOs's variety of risks (credit and default risk, interest rate risk, prepayment risk and extension risk), different tranches.  Firms also should look out for recommendations that can lead to unsuitable concentration levels. 

Given the uncertain residential and commercial real estate markets, FINRA is looking at sales of non-traded REITs.  FINRA examiners will closely review sales of these products to unsophisticated investors to ensure firms conducted appropriate pricing due diligence and suitability analyses and disclosed all risks.

    11.  Exchange-Traded Funds and Notes ("ETP's").  FINRA has increased its focus because many of these products are complex and there's been a considerable increase in the number of, and trading volume in, ETPs, accompanied by increased interest by retail investors.  Marketing materials that FINRA has examined appear to omit the material risk disclosures - which has led FINRA to conduct targeted exams to gather information on ads and sales lit pertaining to ETPs that are not registered investment companies.  See RegNotes 09-31 and 10-51.

    12.  Vulnerable Customers.  This would include retired, elderly or ill customers, as well as those who are part of an affinity group.  Due to the low interest rate environment, firms must be particularly sensitive to ensure that RR's don't place vulnerable customers into inappropriately risky products through misleading sales pitches or without conducting a proper suitability analysis.  FINRA also reminds firms to monitor their RR's for inappropriate use of professional designations - e.g., ones suggesting expertise in retirement planning - and firms must have procedures in place to ensure these designations are legitimate and not used in a misleading manner.  Supervisory responsibilities, esp. those that are automated, must be monitored for effectiveness. 

    13.  Electronic Communications and Social Media.  In addition to email and IM's through firm-hosted networks, firms have to be vigilant over other types of e-communications - e.g., text messages, blogs, bulletin boards, interactive forums, social networks and Skype messaging.  Firms still must have an adequate system to retain and supervise all e-communications relating to their business, including whether such activities are permitted and what procedures apply. 

In 2011, firms can expect FINRA examiners to review supervisory systems and recordkeeping for e-communications like social media.  See FINRA‘s Guide to the Internet for RR's, which provides additional information on the supervision of various types of electronic communications, and RegNotes 07-59 and 10-06.

    14.  Consolidated Account Reports.  In recent years, use of consolidated financial account reports has increased in response to customer and investment adviser demand.  Consolidated financial account reports generally offer a single document that combines a customer’s financial holdings and may include alternative investments such as hedge funds, private placements and other financial holdings regardless of where those assets are held.  FINRA remains concerned about the potential use of consolidated financial account reports that could mislead investors or be used to perpetrate fraudulent activity, including Ponzi schemes.

These reports are subject to applicable rules regarding communications with the public and firms must supervise them accordingly. As such, firms that accommodate the inclusion of a wide variety of asset classes on consolidated financial account reports—especially assets held outside the firm—must have procedures in place to conduct due diligence on the valuation of such assets prior to including
them on financial account reports to customers.

In Regulatory Notice 10-19, FINRA provides guidance and reminds firms of their responsibilities for compliance with applicable rules when using consolidated financial account statements, including, for example, when assets in the reports are not in the broker-dealer’s possession or control (“assets held away”).  When consolidated financial account reports contain assets held away, FINRA examiners may review the firm’s procedures for verifying the existence of the assets and their valuation. Finally, the Notice reminds firms that if they cannot supervise the dissemination of consolidated reports by their registered representatives, then the distribution of those reports must be prohibited.