FINRA Chairman and CEO Richard 'Rick' Ketchum recently talked about the FINRA exam program of the future - what it will look like, and how the Regulator's objectives will be accomplished.  Rick Ketchum shared these thoughts with those attending the annual SIFMA C&L conference. 

To further details, go to:   [FINRA Speeches, Richard Ketchum, 3/22/11]

During the next 2 to 3 years, FINRA wants its examinations to become more grounded in the risk-based approach.   Here's how FINRA expects to make it happen.

    Step 1.   FINRA will strengthen FINRA's ability to identify high-risk firms, branch offices, brokers, activities and products through broader data collection and more comprehensive analysis.  FINRA will ask for more information to help it better understand firms' various business models, including information about business activities, product mix and customer base.  This will help FINRA better understand the risks firms are dealing with and to tailor a regulatory response that's aligned with those risks.  FINRA also will obtain more information about branch office activities.

At the beginning, FINRA will ask firms for a broader set of data - that's aligned with each firm's business model.  FINRA will seek industry feedback on data delivery specifications and ensure a reasonable amount of time for participants to write to those specifications.  And, where appropriate, it will be flexible so that data can be provided by clearing organizations, clearing firms, carriers and/or service bureaus.  More standardized data provided by the industry will enhance our automated risk and compliance efforts.  It also will help ensure that FINRA's regulatory resources are aligned and directed to those areas of perceived risk. 

FINRA also will be requiring - and analyzing - standard, detailed data so as to better understand the risks and features of products being manufactured and distributed to investors.  This approach has already begun.

Finally, FINRA will employ new techniques to better analyze the data it gets - e.g., testing link analysis - a network analysis technique that explores associations between objects - with its existing data set to identify otherwise hard to detect relationships between brokers, activities and entities.  Going forward, FINRA will use this link analysis and other data-mining techniques with the aim of more effectively measuring risk characteristics of firms and brokers, including activities and products.

    Step 2.   FINRA will leverage the data it collects to make the exams more effective and enable more work to be done off-site.  Far more will be done to better prepare field examiners before they arrive on-site at the broker-dealer.   Specifically, it will build robust profiles of firms's business models and underlying risks to help target exam protocols.  Examiners will thus be able to focus their reviews on higher-risk branch offices, brokers or products. 

-e.g., firms will be asked to provide detailed securities and financial transactional data, including P&S data, customer data and data about the broker.  FINRA will acquire product reference data and bind this information with the transactional and customer data to develop profiles which it can then run through risk and compliance scenarios.  This will enable FINRA examiners to better detect those relevant "needles in the haystack."

    Step 3.   When we are on-site at the firm, we will spend more time better understanding the risks at the firm and how well firms manage or mitigate their risks. This will be accomplished through risk and control self assessments we ask firms to complete, and more interviews of key business personnel to better understand the business and the level of underlying risks. There will also be a more careful assessment of controls in discrete areas, and those related to bigger risks, as well as a qualitative assessment of the firm's risk and control environment in priority business areas. Having this qualitative view of your firm provides an important and necessary complement to our more quantitative approaches. Every facet of our regulatory program will attempt to uncover more information about a firm so that we can better size up its risks and how effectively the firm manages them.

    Step 4.   FINRA will provide guidance to the industry - identifying and describing better practices.  FINRA will conduct reviews involving a targeted number of firms and that will be built around a specific theme - like new product development - where examiners develop a deeper understanding of the business, risks and controls in a certain area.  The take-aways from these reviews will be used to enhance exam procedures, and also may result in additional guidance to the industry and investors. 

    Step 5.   Finally, FINRA will build a flexible exam framework to help it better identify and size up material risks to investors, the markets and FINRA.  FINRA's recently expanded coordinator program is a key component of this transformed exam framework.  Coordinators are tasked with understanding the business and changing dynamics of a firm that together are analyzed to ID the attendant business risks.  Going forward, the combination of the qualitative information we collect through coordinators and our on-site exam staff - along with quantitative information gathered through data collection and analysis through FINRA's new Risk Office - will better enable FINRA to identify risk and decide where, how and with what intensity to apply our resources.

Class dismissed.