Remarks: SIFMA Compliance and Legal Society

Robert W. Cook

FINRA President and CEO

The Harvard Club
New York, NY

January 10, 2017

Good afternoon. Thank you David for that introduction and for the invitation to speak with you this afternoon.

I always welcome the opportunity to participate in SIFMA events and appreciate SIFMA’s role as an advocate for vibrant and efficient capital markets. Since joining FINRA a few months ago, I have had good conversations with SIFMA members and staff about a variety of industry issues and I look forward to continuing a regular and robust dialogue with you.

Every year at this time, FINRA releases its Annual Regulatory and Examination Priorities Letter. As many of you know, the Priorities Letter describes the areas FINRA plans to focus on during the coming year in its exams and surveillance reviews and is developed based on observations from our regulatory programs as well as input from various stakeholders, including member firms, other regulators and investor advocates. Firms have told us they find the letter useful in reviewing their compliance and supervisory programs and framing issues to address in their internal training and other communications.

We published this year’s Priorities Letter last week. I will assume you have had a chance to review it, so I am not going to walk through it today. But I will note a common thread running throughout the letter is a focus on core "blocking and tackling" issues of compliance, supervision and risk management. Most of the topics addressed in this year's letter have been highlighted in prior years, but specific areas of emphasis have been updated based on recent observations and experience. Attention to the core regulatory requirements identified in the letter—and working to address them in light of new business challenges and market developments—will serve investors, firms and markets well and promote our common goal of reinforcing confidence in the industry.

My cover note to the Priorities Letter referred to my ongoing "listening tour," in which I have been meeting with member firms, investor groups, regulators and trade associations, among others, and hearing about what FINRA is doing well and what we could be doing better. I am very grateful for the time and feedback these groups and individuals have given me. And I look forward to meeting with more member firms and other stakeholders in the months ahead.

This listening tour has been very important to me for several reasons. First, as someone who brings to FINRA my own industry experience and perspectives on FINRA, I have found it valuable to hear the different perspectives of our various stakeholders, which are indeed diverse. The views of others have forced me to revisit some of my assumptions and enriched my understanding of the challenges and opportunities facing the organization. Second, and not surprisingly, many good ideas for how FINRA can better achieve its mission have come out of these conversations, including from the many member firms who believe that having effective oversight by FINRA is important to the success of the industry. My cover note to the Priorities Letter described two examples of steps we are taking based on member firm feedback. The first is to provide a summary report regarding common exam findings, so that firms can learn from what FINRA is seeing at other firms. The second is an initiative to identify additional compliance tools and resources FINRA can provide smaller firms, including a survey that was sent to small firms and the roll out this year of a new “compliance calendar” and a new directory of compliance service providers. While these tools and resources are being designed with small firms in mind, all firms regardless of size and business model will be able to use them.

But perhaps more importantly, listening to and working with market participants are fundamental features of the self-regulatory model. As an SRO, FINRA has the unique advantage of hearing directly and regularly from the industry. Drawing on the expertise of those who work in the markets to better understand how those markets are currently functioning and how they are evolving enables FINRA to implement more effective regulatory programs that promote both investor protection and vibrant capital markets.

When I first started at FINRA, I expected the listening tour to have a definitive end date. Now I see it as something I need to continue doing on an ongoing basis. Thoughtful listening should be part of the DNA of our organization. But even as the listening continues, we are working on several additional initiatives—based on the listening tour and other input—that involve taking a fresh look at FINRA’s operations and programs to identify opportunities to do our work more effectively.

Today, I want to preview one of these initiatives with you. It involves two related questions that have come up repeatedly on my listening tour: first, how does FINRA engage with its members and other stakeholders in its day-to-day operations; and second, what transparency does FINRA provide into those operations to its members, the public and other interested parties. For reasons I will discuss more in a moment, these are very important questions, and it seems timely to give them a fresh look. So, we will be undertaking a review of our engagement with members and other stakeholders and of the transparency we provide into our operations to determine whether any updates or improvements are appropriate. This review will include issuing a public Notice in the coming weeks that summarizes what we do now in these areas and requests comments on what we should be doing. Summarizing our current practices is important because it is useful for all interested parties to have a clear and common understanding of the status quo. When I started at FINRA I, for one, did not fully appreciate the scope of what FINRA already does by way of engagement and transparency. And asking for public input through a public Notice is important in order to hear directly from those with whom we are trying to engage and to obtain constructive feedback about what currently works well and what could be improved.

At the risk of stating the obvious, engagement and transparency are vital for an organization like FINRA for several reasons. First, as I noted before, as a self-regulatory organization, one of our differentiating characteristics is our ability to engage with our membership in order to draw on their expertise and knowledge and use these to enrich our regulatory programs—while remaining a credible, arms-length examination and enforcement agency. Our unique relationship with our members should provide us with greater expertise, greater understanding of the markets, and greater ability to see and address issues or challenges as they arise. If we are not engaging effectively with our members, we may not be fully living up to the promise of our regulatory model. And to ensure we are seeing the full picture and are acting in the public interest, we also must be engaging effectively with a broad range of investors and other participants in the capital markets.

Transparency can reinforce and enrich engagement. Giving firms information about what we are doing, and why, enables them to develop more informed views and provide us with more constructive feedback. In addition, transparency helps promote public confidence in our work—by providing investors and others with information about how we are working to protect them and promote the integrity of the markets. And transparency supports accountability—by providing information that enables interested parties to develop views about the extent to which we are appropriately executing our mission, and to tell us when they believe we are falling short.

Yet another reason to take a fresh look at our engagement and transparency efforts is that—as I have come to learn over the last few months—FINRA currently invests substantial time and resources into our existing engagement and transparency programs. And the same is true for our member firms and other parties. They devote significant time and effort—on top of their day jobs—to participate in our current engagement and transparency efforts. It is important to know whether all these activities are productive or whether different approaches might more effectively achieve our objectives.

The public Notice we will issue will provide a broad discussion of what we are doing today with respect to engagement with and transparency to our member firms and the public. Let me give you a few examples:

  • Engagement starts at the top, with our Board of Governors. FINRA’s Board has 10 of 23 seats reserved for member firms, and the remainder are held by non-industry members and myself. Three large firm, one mid-sized firm and three small firm Governors are elected by the relevant firms they represent in monitored elections conducted pursuant to Delaware corporate law and our by-laws. Three remaining industry seats represent a floor broker, an investment company-affiliated member and an independent dealer or insurance company-affiliated member. This governance structure was approved by a vote of our member firms upon the creation of FINRA about ten years ago.
  • We have 16 Board-approved advisory committees that provide feedback on a range of issues, including our rulemaking and regulatory initiatives. Several of these committees are subject matter committees, such as the Market Regulation, Corporate Financing, Fixed Income and Public Communications Committees. We also have an Economic Advisory Committee that advises us on academic research that may impact our regulatory programs, as well as a Technology Advisory Committee that advises on technology issues in the financial services industry. Another committee is our Investor Issues Committee composed of non-industry members. Each committee brings a unique perspective, and we generally discuss significant regulatory initiatives with relevant committees early in the development process to help ensure they make sense and reflect the committees’ expertise. Over 160 industry members and 35 non-industry members serve on FINRA’s Board-approved advisory committees. In addition, from time-to-time we create ad hoc committees that meet throughout the year to provide feedback on specific issues.
  • Four of the advisory committees—the Small Firm Advisory Board, representative of small firms; the Regulatory Advisory Committee, composed of one representative from each of the District Committees, which I will describe in a moment; the Compliance Advisory Committee, composed of large-firm compliance personnel; and the Investor Issues Committee, advising on matters that affect individual and institutional investors—provide feedback on almost all regulatory initiatives before they are brought to the FINRA Board, and the staff presents these committees’ views to the Board. The Small Firm Advisory Board is composed of 10 members, five of whom are elected by small firms in the five FINRA regions (one for each region).
  • We have 11 District Committees, whose members are all elected and represent a cross-section of firms within each of FINRA’s Districts across the country, which helps provide demographic and geographic diversity of input. District Committee members are eligible to serve on disciplinary panels, alert FINRA to industry trends that could present regulatory concerns, and consult with FINRA on proposed policies and rule changes.
  • Industry members are also represented during the adjudicatory process. Hearing panels—effectively FINRA’s trial courts—include a professional hearing officer and two industry panelists. The National Adjudicatory Council, or NAC—the appellate court—includes seven industry personnel among its 15 members. Five of the seven industry members are elected—two for large firms, one for mid-sized firms and two for small firms. The NAC also makes recommendations to the FINRA Board on policy and rule changes with respect to fines and other sanctions. All NAC adjudicatory decisions are presented to the Board as proposed decisions. If no Governor exercises his or her discretion to call a case for review by the Board, the NAC decision is issued as FINRA’s final action, which can be appealed to the SEC.
  • Another important way in which we engage with members is through our Member Relations and Education Department, which works to maintain and enhance an open and effective dialogue with member firms. Under the leadership of Chip Jones, this department spearheads our member firm outreach, which includes hosting roundtables and member meetings of various sizes. In addition, we host an annual conference, which last year was attended by over 1,500 individuals representing over 800 firms, and our annual small firms conference, which last year was attended by over 200 individuals representing over 150 firms. We also host or co-host a range of other conferences and educational programs across the country, where firms are encouraged to provide feedback. For example, in 2016, we hosted more than 50 free compliance events. And, we were pleased to co-host with SIFMA our initial cybersecurity conference and then last year, the Senior Investor Protection conference. I, and others on my staff, also welcome the opportunity to participate throughout the year in conferences hosted by various trade associations and other parties.
  • Our member firm engagement also includes helping firms when questions arise regarding new regulatory developments. In addition to publishing FAQs or issuing guidance, we may put other mechanisms in place to assist firms. For example, to help firms with the expansion of the TRACE rules’ reporting requirement to Treasury Securities, the Transparency Services team will be conducting a series of phone-in workshops on regulatory and technical requirements prior to the July implementation date, with the first workshop occurring later this month on January 26.
  • Our informal interactions with member firms and other interested parties are another valuable part of our engagement and transparency, such as my listening tour, or through member firms reaching out directly to me or others on the staff to share ideas and suggestions—something that I encourage you to keep doing.
  • And among the most important mechanisms for both engagement and transparency is our rulemaking process. FINRA rules often receive far more extensive review from our member firms and exposure to public input than rules issued by government agencies. Let me explain why.
    • FINRA's process for developing and proposing rules begins with consulting interested FINRA constituencies, including the relevant advisory committees. As I mentioned earlier, these committees generally reflect subject-matter expertise, subsets of the broader broker-dealer industry, or individuals with expertise from the perspective of individual and institutional investors.
    • After we have discussed a rule proposal with our relevant advisory committees, including our four committees that review almost all rule proposals that go before the Board, the proposal is submitted to the Board for its consideration, along with the views expressed by the advisory committees.
    • Following Board approval of a significant rule proposal, we solicit public comment by publishing the proposal in a Regulatory Notice. We routinely use Regulatory Notices to formally solicit opinions, information and data regarding the need for regulatory action and the potential impacts of different alternatives. One of the key questions we regularly ask is: Did we miss anything important in our analysis? These Notices provide a mechanism by which we can obtain input not only from member firms, but also from the public. It also helps us identify additional information relevant to our preliminary economic analysis, which is prepared under the supervision of our Chief Economist and included in the Notice. After we receive public comment, we review and revise the proposal, and, if we have made significant changes, the revised proposal then goes back through the relevant advisory committees and their views are again shared with the Board, which then determines whether to proceed further.
    • Finally, every proposed rule change—whether or not significant—ultimately must be filed with the SEC. The SEC publishes all of FINRA's proposed rule changes on its website and in the Federal Register and solicits public comment. FINRA responds to comments received during this process, and we often amend our rule filings in response to public comment at this stage. The SEC is required to consider comments received, and its approval of FINRA rules is subject to the Administrative Procedure Act, among other procedural requirements.
    • Thus, all of our significant rules are reviewed by the relevant advisory committees at least once (and often more) before they are approved by our Board, and are exposed to two rounds of public comments—once by FINRA and again by the SEC.  
  • Let me give you a few more examples of our transparency. We publish a lot of information about our operations on our website. This includes information relevant to our corporate organization, as well as all of our rules, rule filings, Notices, interpretive guidance and disciplinary proceedings. We also publish an annual financial report that provides a discussion of our activities during the year as well as a Management Report on Financial Operations, a Report on Internal Control Over Financial Reporting, an Audit Committee Report, an Investment Committee Report, a Management Compensation Committee Report and FINRA’s consolidated financial statements. Although not required to do so, FINRA voluntarily complies with Sarbanes-Oxley financial reporting requirements. In addition, we make available upon request copies of FINRA’s Form 990 tax returns as filed with the IRS.

These examples demonstrate that we do a lot today to foster transparency and engagement, but my listening tour indicates to me that we may need to do more, or do it differently.

To take a simple example, I have had people tell me that we should publicly announce our Board meetings and agendas in advance of these meetings. Knowing that we already do this on our website, I was somewhat puzzled by this comment, until I discovered that the information was there but difficult to find. We need to change that.

I also have heard from some smaller firms who feel we do not consistently listen to them in our rulemaking process and that we do not regularly tailor our rules to their unique needs. As I described, the rulemaking process includes small firm involvement that routinely results in real changes to our rules, even at the early development stage. But there may be opportunities to improve engagement and transparency in this area, so that firms and the public know that they have a voice, know how they can be heard and see evidence that they have been heard.

To take another example, some have told me that we should incorporate cost-benefit analysis into our rulemaking and have a process for conducting a retrospective review of our rules. Again, we do include economic analysis in our rule proposals and we do have a retrospective review process. We need to raise awareness of these efforts, because our economic analysis and retrospective reviews are markedly improved when firms and the public know about them and participate by providing us with comments and data to inform our decisions.

So, as you can see, I believe that while we do a lot today, we have an opportunity to take a fresh look at whether we can improve our engagement and transparency.

Before I close, I want to note that while I have argued for the benefits of engagement and transparency, I also believe our thinking on these matters will need to be thoughtful and nuanced, taking into account our unique regulatory model. FINRA operates under a variety of rules and limitations created by Congress, the SEC and our own organizational documents that are designed to make us both a membership organization and a credible regulator—in other words, an effective self-regulatory organization. Member engagement in the regulatory process is both enabled and limited by various checks and balances—such as having a majority public board, limited powers and continuous and extensive oversight of our regulatory operations by the SEC to provide ongoing accountability that we are acting in the public interest. The Notice will elaborate on these considerations in greater detail. For now, I simply note that we will need to weigh the pros and cons of potential changes to the status quo in light of the overall balancing that is reflected in the regulatory context in which we operate, and seek to find the optimal amount of engagement and transparency for an effective self-regulatory organization.

When I started my remarks, I noted that engagement and transparency are hallmarks of our overall model. When we do them well, our activities reflect the expertise of our members and we can be a vigilant and effective regulator. When we do not, some may question the value of our self-regulatory model, or ask whether we are operating more like the government, which cannot engage with members and the public the way we can. I believe we can maintain the advantages of the self-regulatory model while providing strong protections for the investing public.

I encourage you to help us with this important initiative for FINRA, and I hope you will provide us with candid and thoughtful feedback to our public Notice. Based on the responses we receive, we will determine our next steps, which might include roundtables or another type of forum to further discuss these issues.  

Thanks for listening, and I’m happy to take your questions.