In addition to identifying repeat violations, pattern analysis may create exceptions based on: Accounts that trade in multiple securities on the monitoring lists. Positions in monitoring list securities that constitute a substantial percentage of the account. Section 204A of the Investment Advisers Act of 1940 places similar obligations on registered investment advisers. Information Barriers. The staff observed that firms generally categorize various groups, functions, activities and information for control purposes. Some firms use an “above-the-wall” classification for certain senior management, research or syndicate. Managed accounts are typically exempt from pre-clearance, but the staff had concerns about use of external managers where there was no scrutiny over an employee’s ability to influence trading in the account. In some cases, broker-dealers were not conducting any focused review of the trading that occurred after traders were provided with MNPI. Firms are also expanding their reviews to take into account all products that could be used to profit from MNPI. Attorney Advertising. The staff noted that broker-dealers are developing control procedures over providing information to both private institutional investors, including private equity, and public institutional investors, including hedge funds. [email protected], © 2021 Law Business Media | Terms | Privacy | Login, Consumer Finance Protection Bureau (CFPB), Federal Energy Regulatory Commission (FERC), General Data Protection Regulation (GDPR). Issuers of public finance securities or securitized products. Physical barriers. The economic challenges brought about by the sudden and wide-ranging economic impact of the coronavirus have resulted in boards facing unprecedented situations and challenges ahead. Additionally, some firms lacked a process for identifying when private corporations became public through the issuance of securities. Clifford Chance. In the absence of systems to automatically notify the control room, some firms conduct lookback reviews to account for possible reporting delays. Business groups are classified as “public-side” or “private-side,” with private-side groups that have routine access to MNPI typically being physically segregated and restricted from trading in securities about which the group has MNPI. You will find more information on our Cookie Policy here. The staff noted that some firms do not have mechanisms to identify transactions that are removed from the data base and subsequently reactivated. The staff also noted a lack of physical barriers surrounding some groups that support private-side areas, such as IT, operations or loan site monitors. The following is a summary of 17a-4’s white paper. Perhaps the most important function of an information barriers program is to limit the spread of MNPI. The staff observed that controls over granting and eliminating access to loan sites remain informal and suggested firms consider where additional controls may be needed. [1]  Staff Summary Report on Examinations of Information Barriers: Broker-Dealer Practices under Section 15(g) of the Securities Exchange Act of 1934 (Exchange Act) by the Staff of the Office of Compliance Inspections and Examinations of the United States Securities of Exchange Commission (SEC), September 27, 2012. Granting access only upon purchase of a loan interest, Removing access upon sale (some firms review trading reports to identify sellers), and. the information barrier framework and has addressed the concerns set forth in the 1990 Report, best practices have evolved as businesses have changed. Although firms are moving more groups into separate physical spaces with key card access, some private-side areas have glass walls allowing visual access to information. Directors, irrespective of whether appointed by a financial sponsor or other stakeholder, need to act in accordance with their fiduciary duties, as determined by, among other things, the laws of a corporation's state of incorporation and a corporation's governing documents. Broker-dealers are expanding the scope of instruments they review for potential misuse of MNPI by traders, including: credit default swaps, equity or total return swaps, loans, components of pooled securities such as unit investment trusts and exchange-traded funds, warrants and bond options. Use of electronic information barriers. All Rights Reserved. Granting access only to potential lenders appearing on a list of credible investors, and. Access to virtual data rooms requires a unique log-on and audit trails are maintained of the accessing of information, but they are not necessarily maintained after a transaction closes. Because these types of contacts are viewed as too numerous to document, firms rely on general proscriptions and directives to self-report. Exams, MNPI and Restricted Lists (Part One of Two)” (Sep. 17, 2015). The staff also observed that because judgments about when to place material transactions on a monitoring list or when to remove them were not based on bright-line tests, variation occurred between transactions. Failing to monitor internal communications through chat rooms. Access to virtual data rooms requires a unique log-on and audit trails are maintained of the accessing of information, but they are not necessarily maintained after a transaction closes. [2]  Examinations were conducted by examiners from the SEC, FINRA and NYSE’s Division of Market Regulation, all of whose observations were incorporated into the report. Many of these senior executives had managerial responsibilities for sales and trading. While the staff did not offer any recommendations in this regard, we suggest firms assess their lookback procedures and training protocols with this issue in mind. Eliminating access to potential investors with a history of accessing sites without participating. The staff observed that controls over granting and eliminating access to loan sites remain informal and suggested firms consider where additional controls may be needed. As noted in the summary, informal discussions between private-side and public-side employees create the potential for unauthorized disclosure of MNPI. In some cases, broker-dealers were not conducting any focused review of the trading that occurred after traders were provided with MNPI. As a sort of firewall in conjunction with safeguards against the spread of MNPI, it notes, a firm can adopt a restricted list of companies in which certain individuals and teams at the firm are barred from investing. The staff noted that broker-dealers are developing control procedures over providing information to both private institutional investors, including private equity, and public institutional investors, including hedge funds. Courts have interpreted section 10(b) and Rule 10b-5 to prohibit the purchase or sale of securities on the basis of material nonpublic information where there has been a breach of a duty to disclose such information or abstain from trading.6 2. Controls around capital markets transactions include provision of limited information, made available only shortly prior to public disclosure. Brokers are enhancing the types of pattern analysis they conduct. Six of the largest brokerage firms were examined by the SEC and an additional 13 firms were examined by the NYSE or FINRA. Section 204A of the Investment Advisers Act of 1940 (the “Advisers Act”) places similar obligations on registered investment advisers. During the Relevant Period, Merrill maintained supervisory and compliance procedures that governed the management of information barriers and wall crossings. Below is a summary of some specific concerns and effective practices highlighted by the staff. The staff noted that some firms lacked controls to address absence or delays in notice. For example, if a structured product references a security about which the firm has MNPI, the firm may need to have controls to prevent the issuance of the structured product from being based on MNPI. Without adequate documentation, the staff cannot assess the adequacy of how firms research and resolve surveillance items. This is because trading securities whilst in receipt of MNPI concerning those securities is … Automated systems within investment banking to limit information access to approved deal members. An information barrier commonly referred to as a “firewall” is the most widely used approach for preventing the communication of material nonpublic information within firms. The SEC's staff has released a report 1 of its observations following an examination of 19 brokerage firms' programs to protect against the misuse of material nonpublic information (MNPI). Practices that result in delay in placement on a monitoring list, including waiting for a formal mandate, can be problematic. The following offers highlights from 17a-4’s white paper on Supervision and Information Barriers. MNPI may be transactionally sourced, item-specific or may arise from ongoing sources. Another practice that may result in an absence of monitoring is removing items from a monitoring list upon public announcement where the broker-dealer continues to work on the transaction. While materiality determinations are judgment calls, the staff believes that broker-dealers should monitor and evaluate the reasonableness of those determinations. The staff expressed concern about persons or groups above-the-wall receiving MNPI where physical barriers, documentation or other controls may be limited or non-existent. Because these types of contacts are viewed as too numerous to document, firms rely on general proscriptions and directives to self-report. Controls around capital markets transactions include provision of limited information, made available only shortly prior to public disclosure. The staff observed a trend toward requiring pre-clearance of personal trades by contingent workers (e.g., consultants or others employed by a third party), as well as by firm employees with control/support functions, if they have access to MNPI. Broker-dealers are developing processes that differentiate between types of MNPI based on the source (e.g., business unit) from which the information originated or the nature (e.g., transaction type) of the information. Failing to monitor internal communications through chat rooms. Neil Barlow © 2021 Proskauer Rose LLP. However, this is an area about which several concerns were raised. Technology barriers were not sufficient at some firms to prevent access to MNPI … Firms that are dually registered as investment advisers or closely integrated with an affiliated adviser also need to consider the specific challenges such circumstances present in designing their controls.[4]. Public company clients, through M&A, capital markets, derivative sales or credit. The absence of historical audit trails and the general informal nature of controls surrounding virtual data rooms was concerning to the staff. McNees Wallace & Nurick LLC. [1] Staff Summary Report on Examinations of Information Barriers: Broker-Dealer Practices under Section 15(g) of the Securities Exchange Act of 1934 (Exchange Act) by the Staff of the Office of Compliance Inspections and Examinations of the United States Securities of Exchange Commission (SEC), September 27, 2012. The staff also noted a lack of physical barriers surrounding some groups that support private-side areas, such as IT, operations or loan site monitors. Accounts that have not historically traded in a security. Business Solutions, Governance, Restructuring & Bankruptcy, Employee Benefits & Executive Compensation, Environmental, Social and Corporate Governance (ESG), Subscribe to our publications for professional legal insights. Six of the largest brokerage firms were examined by the SEC and an additional 13 firms were examined by the NYSE or FINRA. Millbrook, NY – 17a-4 llc has released a review of FINRA’s guidance concerning Supervision and Information Barriers with regards to corporate messaging compliance. Merely noting that a trade was reviewed is insufficient. Surveillance personnel are being provided greater access to deal developments: Some firms provide compliance personnel with direct access to investment banking deal management systems. Identifying lenders’ designated contacts and requiring user email addresses that include the institution’s name. Issuers of public finance securities or securitized products. Documentation should at least include a brief description of the basis for resolution. In practice, most large financial institutions handle MNPI by ensuring separation of their “private side” (advisory, lending, etc.) 1 These U.S. Information Barrier Standards are designed to ensure that Prudential’s … In some cases, firms are creating tailored exception reports taking into account the different characteristics of the information. Below is a summary of some specific concerns and effective practices highlighted by the staff. However, if the firm had implemented a legally sufficient information barrier between the distressed debt and high-yield credit fund teams prior to receipt by the distressed fund team of MNPI, the high-yield credit fund team would still be able to trade public bonds of the issuer, even after receipt by the distressed fund team of MNPI. Accounts that have not historically traded in a security. Although firms are moving more groups into separate physical spaces with key card access, some private-side areas have glass walls allowing visual access to information. Accounts that trade in multiple securities on the monitoring lists. Other firms rely on detailed status updates provided to control group personnel by the deal team and input into the control database. Information reported to the control room is assessed for materiality to determine whether a company should be placed on a monitoring list. As noted in the summary, informal discussions between private-side and public-side employees create the potential for unauthorized disclosure of MNPI. Parties participating in M&A, capital markets or loan transactions. The staff noted that the use of emails to transmit MNPI between persons working on a transaction is common. MNPI are commonly referred to as “information barriers.” Other federal securities laws may impact information barriers in place at broker-dealers. The article says that private funds investing in the debt or equity of a company are entitled to legitimately obtained MNPI in the ordinary course of managing their investments. Some effective barriers noted by the staff include: The staff noted that MNPI may be provided based on informal confidentiality agreements. In some cases, firms are creating tailored exception reports taking into account the different characteristics of the information. Information Barriers, referred to as “firewalls” or “information walls,” are used to separate public side personnel and units from private side personnel and units within an institution. The staff noted a failure at some firms to document when the cross-selling group was given access to the investment banking information, as well as the lack of adequate physical barriers surrounding the group. 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