SEC ISSUES RISK ALERT ON SUSPICIOUS ACTIVITY MONITORING AND REPORTING AT BROKER-DEALERS

On March 29, 2021, the SEC’s Division of Examinations issued a Risk Alert emphasizing broker-dealers’ obligations to monitor and report suspicious activity. The alert includes observations from SEC examination staff on the adequacy of firms’ AML compliance programs, particularly the detection and reporting of red flags relating to abrupt increases in volume in low-priced or thinly-traded stocks. While these are not new regulatory concerns, they are the subject of renewed focus by staff following the recent price and volume volatility in certain stocks driven by social media.

SEC examination staff observed deficiencies in firms’ establishment of procedures and internal controls for identifying and reporting suspicious activity, including:  (1) not incorporating red flags associated with securities transactions into their policies and procedures, (2) not tailoring red flags to address risks associated with a customers’ regular activity, (3) setting too-low thresholds for automated monitoring of low-priced securities transactions, and (4) setting too-high SAR thresholds (above $5,000). Firms with large daily trading volumes did not establish automated systems to monitor and report suspicious activity associated with these large volumes and certain introducing firms were found to have relied on clearing firms to monitor and report activity, rather than adopting their own procedures. 

SEC examination staff also identified common circumstances where firms had adequate written policies and procedures, but failed to implement them. 

• In some instances, firms did not sufficiently explain why they were not filing a SAR on activity that appeared identical to activity for which they otherwise filed SARs. 
• In others, firms did not review red flags identified by their own procedures, such as deposits and immediate liquidations of large quantities of low-priced securities, or they allowed trading in penny stocks when their policies and procedures prohibited this activity. 
• Staff noted that the breakdown of these internal controls led firms to under-report suspicious activity in low-priced securities, which are prone to market manipulation.

SEC examination staff highlighted issues regarding the specificity and completeness of firms’ SAR filings. 

• Vague or incomplete SARs that do not describe the precise nature of the suspicious activity have limited use to securities regulators and law enforcement agencies. 
• In addition, staff criticized the practice of some firms “filing hundreds of SARs or more containing the same generic boilerplate language.” 

Read the full SEC alert, “Compliance Issues Related to Suspicious Activity Monitoring and Reporting at Broker-Dealers.”

The Shearman & Sterling team below also included associate Margaret McLoughlin (New York - Litigation).