On January 10, 2023, the Financial Industry Regulatory Authority (“FINRA”) issued its 2023 Report on FINRA’s Examination and Risk Monitoring Program (the “Report”).  In accordance with FINRA’s yearly practice, the Report: (i) identifies the relevant rule(s); (ii) highlights key considerations for member firms’ compliance programs; (iii) summarizes noteworthy findings or observations from recent oversight activities; (iv) outlines effective practices that FINRA observed through its oversight activities; and (v) provides resources that may be helpful to member firms in reviewing their supervisory procedures and controls.

NEW PRIORITIES:

FINRA identified the following emerging topics and effective practices relating to market surveillance activities:

• Manipulative Trading.  Best practices include maintaining and reviewing customer and proprietary data to detect manipulative trade schemes; monitoring activity occurring across multiple platforms; and designing a robust surveillance program to detect customers engaging in potential momentum ignition trading.

• Fixed Income – Fair Pricing.  Best practices include documenting the prevailing market price for each transaction; conducting periodic mark-up/mark-down reviews; and using exception reports or outside vendor software to ensure compliance. 

• Fractional Shares.  Best practices include establishing and maintaining best execution supervisory processes that address fractional share orders, order routing, and executions; reviewing how your firm processes dividend reinvestments; and confirming there is adequate system capacity to report trades within ten seconds of execution.

• Regulation SHO.  Best practices include developing supervisory systems for, and conducting supervisory reviews of, market making activity to ensure that any reliance on Regulation SHO bona fide market making exceptions is appropriate.

Additionally, to highlight FINRA’s continuing focus on protecting investors and safeguarding market integrity, the Report introduced a new Financial Crimes section, consisting of three topics — 1) Cybersecurity and Technological Governance; 2) Anti-Money Laundering, Fraud and Sanctions; and 3) Manipulative Trading.  Firms should expect an increase in investigations in these topic areas.

CONTINUING PRIORITIES:

While many topics were addressed in prior reports, this year’s Report focused on new observations and considerations.  The following key topics, among others, will remain in the forefront in 2023:

• Complex Products and Options.  FINRA will review firms’ communications and disclosures to customers relating to complex products and review customer account activity to assess whether firms’ recommendations regarding these products are in the best interest of retail customers.

• Consolidated Audit Trail (CAT).  FINRA will evaluate firms’ compliance with CAT Rules, which will focus on timely submission of reportable events and corrections, reporting complete and accurate CAT records, and effectively supervising third-party vendors (including those responsible for CAT submissions and clock synchronization).

• Order Handling, Best Execution and Conflicts of Interest.  FINRA will continue to evaluate whether firms are compliant with their best execution obligations under FINRA Rule 5310 and Rule 606 of Regulation NMS, which requires broker-dealers to disclose information regarding the handling of their customers’ orders in NMS stocks and listed options.  

• Regulation Best Interest (Reg BI) and Form CRS.  To comply with these specific regulations, FINRA recommends firms discloses to retail customers all material facts related to conflicts of interest; establish and enforce adequate written supervisory procedures; and file, deliver and track an accurate Form CRS.

• Mobile Apps.  FINRA confirmed that it will continue to monitor how mobile apps disclose and explain risks of higher-risk products or services.

With the holidays behind us, now is the time to review your firm’s compliance program to ensure compliance with FINRA’s rules.  The Report is intended to serve as a starting point in considering your firm’s compliance program related to a topic.  As always, firms should review relevant rules to understand the full scope of their obligations.