More than two years after announcing the first round of settlements in the ongoing “off-channel communications” probe, the SEC recently announced another round of settlements with 26 financial firms, totaling $390 million in fines. These most recent settlements are notable for two reasons: (1) they include the SEC’s second settlement with an entity operating solely as a registered investment adviser (“RIA”) with no associated broker-dealer, and (2) the SEC has again explicitly noted that companies that self-reported obtained lower fines.
Registered Investment Advisers
Since the inception of this sweep, the SEC has settled with over 60 registered broker-dealers or entities with dual RIA and broker-dealer registration. In April 2024, the SEC announced its first settlement with an entity solely registered as an RIA. This most recent settlement announcement also included one entity that is only registered as an RIA.
The recordkeeping rules governing broker-dealers and investment advisers are different, which may play some role in the disparate settlement results. Broker-dealers are required to broadly maintain all communications relating to the firm’s “business as such.” By contrast, the rule for investment advisers is narrower, requiring that communications relating to only four enumerated categories be maintained: (i) recommendations made or proposed to be made and advice given or proposed to be given; (ii) receipt, disbursement, or delivery of funds or securities; (iii) placing or execution of orders to purchase or sell securities; and (iv) predecessor performance.
The SEC’s two settlement orders involving entities operating solely as RIAs stated that the firms violated the RIA recordkeeping rule by failing to preserve communications concerning recommendations made or proposed to be made and advice given or proposed to be given about securities. The SEC did not provide any examples in the first settlement order. In the second, it offered as an example that an employee exchanged text messages on an unapproved platform with a client concerning investment strategy.
While broker-dealers and dual-registered entities have taken center stage the regulator’s sweep thus far, these two settlements show that entities operating solely as RIAs, like private equity firms and hedge funds, should remain vigilant. They may also wish to consider voluntary self-disclosure, which the SEC insists affords entities meaningful benefits.
Voluntary Self-Disclosure
Over the past two years, the SEC has repeatedly stated through press releases and public remarks that companies stand to benefit by voluntarily self-disclosing off-channel communication violations. The SEC echoed that message in the most recent round of settlements, stating in the press release that “three of the firms . . . self-reported their violations and, as a result, will pay significantly lower civil penalties than they would have otherwise.” The penalties paid by these three firms were between $1.6 and $5.5 million, far less than the largest penalties announced simultaneously, which topped out at $50 million. While the exact methods of calculation are unknown, the SEC has made clear that firms who self-report will be rewarded.
The orders for the three self-reporting entities touted their identification of issues and conducting of internal investigations to proactively identify documents that assisted the SEC in its review. They also underscored these entities’ proactive remedial efforts, including:
- Strengthening of policies and procedures;
- Investing in new surveillance and retention technologies;
- Increasing training;
- Sending out periodic firm-wide policy reminders;
- Rolling out of on-channel messaging applications; and
- Issuing firm-owned devices.
Conclusion
The SEC’s recent round of settlements in its off-channel communications sweep shows that the initiative remains active. It also reveals that while they have not been the SEC’s primary target to date, the SEC continues to pursue entities operating exclusively as RIAs. Finally, firms should strongly consider performing internal investigations and self-reporting violations to secure benefits that may not be available if the SEC knocks first.