United States: FINRA and SEC Take Aim At Deficient Cyber Policies And Practices

On Feb. 3, the Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA) each released reports regarding cybersecurity issues for brokerage and advisory firms, both of which should be considered required reading for chief information security officers, chief information officers, legal teams and anyone else responsible for managing cybersecurity risk.1 These reports highlight best practices for managing cybersecurity risk and areas for potential improvement, and should encourage firms to consider further investments in cybersecurity because, as FINRA specifically points out, it ''expects firms to consider the principles and effective practices presented in the report as they develop or enhance their cybersecurity programs.''2 As a result, firms should anticipate that elements covered in the reports will be benchmarks for measuring the effectiveness of a firm's cybersecurity program in any enforcement action brought by either the SEC or FINRA.

The SEC's National Exam Program Risk Alert, ''Cybersecurity Examination Sweep Summary,'' summarizes the cybersecurity policies and practices of 57 registered broker-dealers and 49 registered investment advisers based on examinations conducted by the SEC's Office of Compliance Inspections and Examinations (OCIE). FINRA's more detailed ''Report on Cybersecurity Practices'' also summarizes cybersecurity programs at a broad array of firms, but it goes further, making the FINRA report particularly important for a number of other reasons. First, the report makes clear that FINRA has been active in bringing cybersecurity-related enforcement actions against both firms and individual executive officers when customer data are put at risk or compromised. Careful review of these case studies highlights factors that FINRA considers important in determining whether firms have satisfied their cybersecurity obligations. Second, the report sets out a series of detailed principles and effective practices for risk assessments, incident response plans and governance, among others. These principles and practices offer a road map for cybersecurity planning and risk management and establish baseline standards to which FINRA will hold firms accountable. Finally, the report provides very specific recommendations that firms can operationalize, demonstrating FINRA's sophistication in cyber and data security matters.

SEC and FINRA Reports Conclude Extensive Investigations

On March 26, 2014, the SEC sponsored a Cybersecurity Roundtable, highlighting the role of cybersecurity in ensuring the integrity of the market system (13 PVLR 550, 3/31/14). On April 15, 2014, the OCIE announced that it would conduct a series of examinations to ''assess cybersecurity preparedness in the securities indus-try and to obtain information about the industry's recent experiences with certain types of cyber threats.''3 As part of its examination, the OCIE explained that it would focus on: cybersecurity governance; identification and assessment of cybersecurity risks; protection of networks and information; risks associated with remote customer access and fund transfer requests; risks associated with vendors and third parties; detection of unauthorized activity; and experiences with certain cybersecurity threats. Although the OCIE spent considerable time gathering information relating to practices and policies, it did not conduct any technical review of firms' cybersecurity programs.

Similarly, in early 2014, FINRA initiated a yearlong examination of cybersecurity programs across a broad cross-section of regulated firms, including large investment banks, clearing firms, online brokerages, highfrequency traders and independent dealers. FINRA's objectives were to better understand the threat landscape, risk exposure and management strategies, and to share these findings with firms in order to provide them with a road map for developing an effective cybersecurity program. The report builds on FINRA's 2011 survey of 224 firms, with interviews of other organizations involved in cybersecurity, previous FINRA work on cybersecurity and publicly available information. Although it is not meant to cover all areas of cybersecurity, the report focuses on the key elements of an effective, risk management-driven cybersecurity program: governance and risk management; risk assessments; technical controls; incident response planning; vendor management; staff training; cyber intelligence and information sharing; and cyber insurance.

FINRA 'Case Studies' Provide Valuable Enforcement Insight

Both the SEC and FINRA reports are based, in large part, on extensive surveys conducted at broker-dealer firms and advisers. The SEC notes that the vast majority of broker-dealers (88 percent) and advisers (74 percent) said they had experienced a cyberattack of one kind or another. The SEC offers an important perspective on what organizations with mature and effective cybersecurity programs are doing and where the industry has room for improvement. For example, the most common attacks continue to be simple fraudulent e-mail scams, which were successful more than 25 percent of the time. And although broker-dealers generally reported these events to the Financial Crimes Enforcement Network (FinCEN), very few reported these cases to law enforcement.

FINRA's report makes clear that it actively monitors firms' cybersecurity programs—especially in the wake of a data breach—while recognizing that cybersecurity programs are not a one-size-fits-all proposition. Each firm must craft a program that is tailored to specific technical and policy considerations.

For example, the FINRA report outlines an enforcement action against a firm that suffered a compromise resulting in the theft of approximately 200,000 customer profiles (names, account numbers, Social Security numbers, dates of birth, etc.). Even though the firm had conducted penetration testing of its systems, it failed to include in the scope of the test a database of unencrypted customer data. FINRA found that, had the firm properly inventoried databases with sensitive information or better scoped its penetration testing, it could have detected critical weaknesses in password management and holes in encryption procedures that would have aided in preventing the incident. FINRA went forward with an enforcement action, fining the firm $375,000 for alleged violations of Rule 30 of Regulation S-P, National Association of Securities Dealers (NASD) Rule 2110 and NASD Rules 3010(a) and (b).4

The FINRA report also highlights another tool in its cybersecurity toolbox through case studies of two enforcement actions. In both cases, online firms opened a number of accounts in the ordinary course of business for high-risk foreign customers. After successfully opening the online accounts, these customers hacked into accounts held at other online broker-dealers and engaged in fraudulent short-sale and ''pump and dump'' trading transactions through the firms' Direct Market Access platform. In each instance, the firms failed to implement a reasonably designed customer identification program as part of their anti-money laundering (AML) procedures. This failure could have been remedied had the firms used better identity and access management (IAM) policies. FINRA brought enforcement actions against each of the firms, alleging violations of NASD Rules 3110(a) and (b) and NASD Rule 2110. Both firms settled, with one agreeing to pay a $300,000 fine and hire (at its own expense) a monitor to review compliance with the firm's AML procedures.5

Other cyber-related factors that FINRA considered in enforcement actions include:

  • failure to timely remediate a device that was exposing customer information to unauthorized users;
  • failure to conduct an adequate breach incident response investigation;
  • failure to act on warnings that could have substantially mitigated the loss of customer information;
  • inadequate user access restrictions;
  • inadequate vendor oversight or supervision of outsourcing arrangements;
  • failure to conduct adequate, periodic cybersecurity assessments;
  • failure to review, or to establish procedures for reviewing, Web server logs that would have revealed data theft/loss;
  • failure to have written policies and procedures in an information security program designed to protect confidential customer information;
  • failure to heed a prior auditor recommendation to acquire an intrusion detection system; and
  • weak IAM policies.

Even in the aggregate, these are easily remedied shortcomings that could have been avoided through proactive cybersecurity assessments, governance and mitigation strategies. And, as the report makes clear, they will be areas of focus in any cybersecurity-related enforcement investigation or proceeding.

Principles and Effective Practices

While the enforcement actions illustrate ''floor'' considerations for any cybersecurity program, the SEC and FINRA reports also offer specific, granular guidance on best practices and considerations that firms should consider implementing or adopting across eight significant areas of cybersecurity:

1. Governance and Risk Management: FINRA's report devotes a considerable portion of its discussion to implementing cybersecurity governance and risk management mechanisms. Specifically, it recommends clearly defining a governance framework that supports intelligent, fact-based decision-making by senior managers (and where relevant, board-level officers) that is based on risk appetite and assessment. The absence of strong cybersecurity governance significantly increases regulatory risk under Rule 30 of SEC Regulation S-P or SEC Regulation S-ID. Accordingly, senior management and board involvement in enterprisewide cybersecurity risk management are critical to establishing priorities and responding to cybersecurity threats, especially because they facilitate adequate resources allocation necessary to address cybersecurity risks. Moreover, because of the importance in performance measurement (and communication and expertise gaps that lie between cybersecurity professionals and executives), both the SEC and FINRA place significant emphasis on using external standards and frameworks, such as the National Institute of Standards and Technology ''Framework for Improving Critical Infrastructure Cybersecurity'' (Version 1.0),6 as key management tools to assess cybersecurity posture and risk effectively. While executives and directors may not be able to appreciate the technical aspects of a cybersecurity program, they are accustomed to using relative relationship assessments to make informed decisions about risk. Accordingly, limited reliance upon metrics or outright failure to use them in the foregoing manner will likely be a factor in making enforcement decisions.

2. Cybersecurity Risk Assessment: The key to any cybersecurity assessment is the effective identification and inventory of data assets (a particularly important consideration for broker-dealers under Regulation S-P) and physical assets (e.g., endpoints, mobile devices) with access to the firm's network. Using an accurate asset inventory, firms can focus assessments of external and internal threats and vulnerabilities and prioritize remediation efforts accordingly. FINRA notes its concern that approximately 20 percent of firms surveyed either had no assessment program or one that was in its nascent stages. FINRA cautions that the remaining 80 percent should not get complacent, and it recommended regular assessments that are indexed to the changing threat landscape. Moreover, these assessments should not only target high priority assets but should also draw from a broad array of inputs (historic, current, industry trends) to be correctly and adequately scoped.

3. Technical Controls: FINRA recommends implementing a defense-in-depth strategy that relies both on the overall network architecture and individual controls, with an emphasis on IAM polices, data encryption and penetration testing. As FINRA points out, IAM presents one of the most critical challenges because weak access management can be exploited by both inside and outside attackers and undermine AML controls. Accordingly, FINRA expects firms to establish policies and procedures that rely on the policy of least privilege (PoLP), separation of duties (SoD) and entitlement transparency principles, combined with use monitoring, access reviews, provisioning and prompt access termination. Recognizing that encryption plays a key role in defending data, FINRA recommends a more sophisticated approach that involves implementing encryption for both data at rest and data in transit at multiple levels in connection with a defense-in-depth strategy. Finally, FINRA recommends penetration testing that is calibrated to asset inventories and cybersecurity priorities established in the governance phase.

4. Incident Response Planning: FINRA recommends that firms develop comprehensive, but flexible, incident response plans. These plans should include preparation, incorporation of current threat intelligence, containment and mitigation strategies, investigation and assessments, eradication and recovery and post-event communications and notification strategies, the last of which may be governed not only by state laws but also by Regulation S-ID and FINRA Rule 4530(b). FINRA strongly cautioned that simply deploying a general ''check-the-box'' plan is not enough. Firms should craft incident response plans for a variety of attack scenarios that align with threat landscape assessments and tabletop such plans to identify areas for improvement and training opportunities. As part of such incident response planning, and to maintain customer confidence and address investor losses, FINRA encourages firms to provide free credit monitoring services and reimburse clients who have suffered losses as the result of a cyberattack.

5. Vendor Management: With the rise in cybersecurity incidents traced to vulnerabilities in vendor systems and access, both FINRA and the SEC note the importance of conducting cybersecurity assessments and due diligence of vendors, both at the inception and throughout the engagement. Too few firms, according to the SEC, subjected their vendors to the same quality of testing and assessment as they did for their own systems, or required those vendors to conduct self-assessments by incorporating security requirements into vendor agreements. FINRA recommends a variety of diligence tools such as survey questionnaires, ongoing review of third-party control assessment reports and on-site verification audits and reviews, depending on the access to data and networks and the risk profile of the firm. Similarly, required controls should be indexed to the associ-ated risk level and potentially include the following: limits on vendor data access, encryption, patch management and anti-virus/malware protections, subcontractor controls, ethical hacking of online systems and recovery processes. Both the SEC and FINRA emphasize incorporating security requirements directly into vendor agreements, with FINRA encouraging firms to prepare contractual template provisions in advance to facilitate the use of vendor management in the following areas: nondisclosure; data storage, retention and delivery; breach notification responsibilities; security audits; employee access limitations; and use of subcontractors.

6. Staff Training: Recognizing that employees are one of the largest cybersecurity risks, FINRA recommends tailored trainings that include interactive training developed, regularly refreshed and deployed in the context of threat intelligence, prior security incidents and risk assessments. Firms with exceptional cybersecurity programs have even developed modules for customer education and training, recognizing that cybersecurity threats may originate from clients. Simulations can be a particularly valuable training opportunity because they allow firms to develop a better understanding of potential policy weaknesses and human vulnerabilities that can be used to develop further tailored training.

7. Cyber Intelligence and Information Sharing: The SEC notes that better-prepared firms made more extensive use of industry information-sharing networks, such as the Financial Services Information Sharing and Analysis Center (FS-ISAC) or the National Cyber Forensics and Training Center, peers and conferences to identify best practices to improve their own cybersecurity programs. Similarly, FINRA recommends that firms designate internal resources responsible for gathering and policy-based dissemination of cybersecurity and threat intelligence that facilitate evaluation and response measures. FINRA strongly encourages firms to reconsider previous decisions not to engage in threatinformation sharing forums, especially given the Federal Trade Commission and Department of Justice's April 10, 2014, policy statement explaining that cyberthreat information sharing is not likely to raise antitrust concerns.7

8. Cyber Insurance: Both the SEC and FINRA indicate that insurance can be part of an effective cybersecurity risk management strategy. Yet, according to the SEC, only approximately one-half of broker-dealers and one-fifth of advisers maintain insurance for losses caused by cybersecurity incidents. An effective insurance strategy should involve: (a) for firms with insurance, periodic review of coverage adequacy indexed to firm risk assessment and management; and (b) for firms without insurance, market evaluation to determine if there is available coverage that would assist in management of the financial impact of a security breach.


There should now be no doubt that both the SEC and FINRA are serious about the need for comprehensive cybersecurity programs. Recognizing that there is no one-size-fits-all solution, both agencies contemplate (and expect) information-driven risk management decisions, providing firms with an opportunity to craft a cybersecurity program that is custom fit to their data and physical assets, threat landscape and risk appetite. And, while there is opportunity for thoughtful assessment and improvement, one thing is clear: Firms can no longer stand by and do nothing. They all must grapple with and address the reality that cybersecurity is part of the modern business model, as well as the overall enforcement landscape.


1 SEC, National Exam Program Alert, Vol. IV, Issue 4, ''Cybersecurity Examination Sweep Summary'' (Feb. 3, 2015), available at http://www.sec.gov/about/offices/ocie/cybersecurity-examination-sweep-summary.pdf; FINRA, Report on Cybersecurity Practices (Feb. 2015), available at http://www.finra.org/sites/default/files/p602363%20Report%20on%20Cybersecurity%20Practices_0.pdf (14 PVLR 242, 2/9/15).

2 FINRA, supra note 1, at 2.

3 SEC, National Exam Program Alert, Vol. IV, Issue 2, OCIE Cybersecurity Initiative (Apr. 15, 2014), available at http://www.sec.gov/ocie/announcement/Cybersecurity%20Risk%20Alert%20%20%2526%20Appendix%20-%204.15.14.pdf (13 PVLR 673, 4/21/14).

4 D.A. Davidson & Co., FINRA Letter of Acceptance, Waiver and Consent, No. 20080152998 (Apr. 9, 2010), available at http://disciplinaryactions.finra.org/Search/ViewDocument/37555 (9 PVLR 550, 4/19/10).

5 Pinnacle Capital Markets, LLC FINRA Letter of Acceptance, Waiver and Consent, No. 2006006637101 (Dec. 17, 2009), available at http://disciplinaryactions.finra.org/Search/ViewDocument/15323 (9 PVLR 229, 2/8/10); Manhattan Beach Trading Financial Services, Inc., FINRA Letter of Acceptance, Waiver and Consent, No. 2010023995101 (May 30, 2012), available at http://disciplinaryactions.finra.org/Search/ViewDocument/31845.

6 NIST, Framework for Improving Critical Infrastructure Cybersecurity (Feb. 12, 2014), available at http:// www.nist.gov/cyberframework/upload/cybersecurityframework-021214-final.pdf http://www.nist.gov/cyberframework/upload/cybersecurityframework-021214-final.pdf (13 PVLR 281, 2/17/14).

7 FTC & DOJ, Antitrust Policy Statement on Sharing of Cybersecurity Information (Apr. 10, 2014), available at https://www.ftc.gov/system/files/documents/public_statements/297681/140410ftcdojcyberthreatstmt.pdf (13 PVLR 653, 4/14/14).

Previously published by Bloomberg BNA

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement

    Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of www.mondaq.com

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at enquiries@mondaq.com.

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions