Recent Notable Industry Developments

  • Following SEC Chair Mary Jo White's recent remarks suggesting a change to the SEC's long-standing policy of permitting defendants to settle cases "without admitting or denying" the SEC's allegations of wrongdoing, co-Directors of Enforcement George Canellos and Andre Ceresney issued a memorandum to attorneys within the division discussing the change in greater detail.
  • Recent settlements by LPL Financial LLC and a trio of lesser-known member firms underscored FINRA's resolve to address members' failures to comply with email retention and review requirements and failures to implement and enforce adequate anti-money laundering policies and procedures.
  • Chicago Board Options Exchange (CBOE) has agreed to pay a $6 million fine to settle SEC charges alleging that, among other regulatory and compliance failures, the CBOE did not effectively enforce Regulation SHO, despite repeated "red flags" indicating that its members were participating in abusive short-selling behaviors.

SEC Announces New Policy on "No Admission" Settlements

In remarks at a recent public event1 and in interviews with the press, SEC Chair Mary Jo White announced and discussed a change to the SEC's long-standing policy2 of permitting defendants to settle cases "without admitting or denying" the SEC's allegations of wrongdoing. The change took on a slightly more formal tone last week when co-Directors of Enforcement George Canellos and Andre Ceresney issued a memorandum to attorneys within the division, discussing the change in greater detail.

In particular kinds of cases — such as cases involving misconduct that harmed a large number of investors or cases where a "heightened accountability or acceptance of responsibility through the defendant's admission of misconduct may be appropriate" — the SEC may insist on admissions or acknowledgement of misconduct.

Ms. White said that such demands may not allow the SEC to achieve a prompt resolution in those matters, and indeed may prompt defendants to litigate, but that the different approach in the selected cases may nevertheless be appropriate and in the public interest.

The SEC will continue to utilize "without admitting or denying" settlements in "most" of its cases and it will continue to defend its discretion to reach such settlements.

It is too early to tell how this policy change will affect the SEC's enforcement program. Clearly, in those cases where defendants, concerned about the effects of admissions on parallel civil or criminal cases, refuse to made admissions, there will be an increased litigation load for the SEC. In such cases, there will be an extended delay in resolving the matters. To the extent that the policy is applied broadly, the effects could be significant.

However, it is not unreasonable to speculate that this change in policy results from the pressure exerted by some federal judges who have hesitated in approving "without admitting or denying" settlements and the resultant publicity and congressional scrutiny. It therefore remains to be seen exactly how widespread this policy will be implemented.

One factor that could affect that decision is the soon-to-be-decided Citigroup case that is pending before the Court of Appeals for the Second Circuit. In that case, Citibank entered into a "without admitting or denying" settlement with the SEC, but Judge Jed S. Rakoff refused to accept the settlement in part because there were no admissions in the resolution.3

At virtually the same time, senior staff in the Division of Enforcement have discussed publicly their intention of bringing more cases as administrative proceedings, rather than filing them in federal court. Presumably, SEC administrative law judges would be more willing to accept settlements, as they typically have, with the traditional "neither admit nor deny" language.

Responding to the notion that the change in policy on requiring admissions was connected to Judge Rakoff's criticisms, echoed by the U.S. Congress and the press, Ms. White emphasized that the decision was not predicated on the judge's comments, or any particular case, but rather was "rooted in her experience as United States attorney in New York, where defendants in criminal cases are almost always required either to enter a guilty plea or go to trial."4

AML and Email Failures Continue to Draw FINRA's Attention

During the past decade, through Notices to Members and repeated and frequent public disciplinary actions, FINRA has placed broker-dealers on notice that failures to comply with email retention and review requirements and failures to implement and enforce adequate anti-money laundering policies and procedures were considered serious violations and would be focused on by FINRA's Department of Enforcement. In May 2013, settlements by LPL Financial LLC and a trio of lesser-known member firms underscored FINRA's resolve to address these issues.

LPL consented to a $9 million fine based on FINRA's findings that LPL's email system suffered from 35 separate failures over five years, which in turn caused it to be unable to access hundreds of millions of emails, and also prevented supervisory review of tens of millions of others.5 The firm's failures also prevented it from producing email to FINRA examiners and other law enforcement officials on request, as required by SEC Rule 17a-4, and to litigants and customers in arbitration proceedings. The firm also agreed to establish a $1.5 million fund to compensate customers affected by such failures. The settlement serves as a reminder that as a firm grows in size and its systems become larger and more complex, the compliance infrastructure employed by the firm must also adapt to keep pace with the firm's regulatory obligations.

Also in May, FINRA simultaneously announced settlements with three firms, Atlas One Financial Group, LLC, Firstrade Securities, Inc., and World Trade Financial Corporation, based on findings that the firms failed to establish and implement adequate AML programs to detect and report suspicious transactions.6 Atlas One was fined $350,000, Firstrade was fined $300,000, and World Trade Financial was fined $250,000. Certain individual compliance officers and supervisors were also sanctioned. Each settlement stemmed from situations where the firms failed to identify suspicious activities of customers despite the existence of "red flags." As AML compliance continues to be a priority item for FINRA examiners, firms would do well to re-assess whether their policies and procedures — and equally important, the amount of staff resources devoted to review and follow-up of potentially suspicious transactions, leading to the filing of timely SARs — are sufficient based upon the amount of activity, and risk, presented by their customers.

When a Regulator Fines a Regulator

Any firm or individual who has recently been on the receiving end of a disciplinary sanction, or even a difficult and expensive regulatory inquiry, from the Chicago Board Options Exchange (CBOE) may take some solace in something of a pleasant irony: This month the CBOE agreed to pay a $6 million fine to settle charges brought against it by the SEC. Specifically, the SEC alleged that, among other regulatory and compliance failures, the CBOE did not effectively enforce Regulation SHO, despite repeated red flags indicating that its members were participating in abusive short-selling behaviors.7 In its accompanying press release, the SEC announced that the financial penalty against the CBOE was "the first assessed against an exchange for violations related to its regulatory oversight. Previous financial penalties against exchanges involved misconduct on the business side of their operations." As part of the settlement, the CBOE agreed to significant undertakings to improve its systems and programs, including engaging outside counsel and independent consultants in a variety of areas.

Interestingly, while the CBOE conducts its own market surveillance and enforcement functions, at this point in time, most exchanges do not, relying instead on FINRA to perform those tasks. The most recent exchange to make the switch is Direct Edge, the third-largest stock exchange in the United States.8 Under an outsourcing arrangement completed last month, FINRA will add market surveillance to the examination and disciplinary services that it already provides to Direct Edge. With this addition, FINRA's CEO Richard Ketchum noted that its surveillance systems "will soon cover 90 percent of the listed equities market."

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1 Ms. White announced the change at The Wall Street Journal CFO Network conference on June 18, 2013. Ms. White's comments to the conference can be viewed at: http://on.wsj.com/13ZBTBA .

2 Then-Director of the Division of Enforcement, Robert Khuzami, in a statement responding to Judge Jed S. Rakoff's refusal to approve the SEC's settlement with Citigroup, described the settlement without an admission of wrongful conduct as consistent with "decades of established practice throughout federal agencies and decision of federal courts." Statement, dated Nov. 28, 2011, available at: http://www.sec.gov/news/speech/2011/spch112811rk.htm .

3 See SEC v. Citigroup Global Markets, Inc., 11 Civ. 7387 (JSR) (S.D.N.Y. Nov. 28, 2011). In April 2013, Judge Victor Marrero of the same federal court delayed a decision to approve the SEC's settlement with SAC Capital Advisors LP for the same reasons.

4 "S.E.C. Has a Message for Firms Not Used to Admitting Guilt," The New York Times (June 21, 2013), available at: http://www.nytimes.com/2013/06/22/business/secs-new-chief-promises-tougher-line-on-cases.html .

5 See Letter of Acceptance, Waiver and Consent, No. 2012032218001, accepted May 21, 2013, available at: http://www.finra.org/web/groups/industry/@ip/@enf/@ad/documents/industry/p265410.pdf .

6 See "FINRA Fines Three Firms $900,000 for Inadequate Anti-Money Laundering Programs," FINRA press release (May 8, 2013), available at: http://www.finra.org/Newsroom/NewsReleases/2013/P256514 (links to the three separate AWC's are provided in the press release).

7 SEC Release No. 34-69726 (June 11, 2013), available at: http://www.sec.gov/litigation/admin/2013/34-69726.pdf .

8 See "Direct Edge Selects FINRA for Market Surveillance," FINRA and Direct Edge Joint Press Release (May 22, 2013), available at: http://finance.yahoo.com/news/direct-edge-selects-finra-market-120000945.html .