WASHINGTON — The Financial Industry Regulatory Authority (FINRA) today marked its five-year anniversary since it was created in 2007 by the consolidation of NASD and the member regulation, enforcement and arbitration operations of the New York Stock Exchange. During that time, FINRA has launched key strategic initiatives and made significant operational changes to increase its focus on fraud detection and bring more transparency to the markets and investors.
Rick Ketchum, FINRA Chairman and CEO, reflecting on the past five years, said, "This has been a challenging time for investors and the markets, and FINRA has responded by making critical changes across the organization. We formed a single streamlined exam program that is more efficient and effective than it was five years ago. By focusing more of our efforts on areas posing the greatest risk to investors, we have been able to create a culture in the organization to more quickly identify and respond to fraud and other serious misconduct. Given the pace of change in the marketplace, our regulatory programs will continue to adapt as needed to deal with new products, risks and schemes.
"Millions of investors benefit extensively from the critical regulatory programs FINRA provides, and the organization is well positioned to address market and regulatory issues moving forward."
Focus on Fraud
In the aftermath of the financial crisis and significant frauds like Madoff and Stanford, FINRA took a close look at its regulatory programs to focus on making them more effective in identifying and fighting fraud. The organization made a number of critical enhancements as a result, including:
- Creating, in March 2009, the Office of the Whistleblower to expedite the review of high-risk tips by FINRA senior staff and ensure a rapid response for tips believed to have merit.
- Establishing the Office of Fraud Detection and Market Intelligence (OFDMI), which was launched in 2009 to focus resources on the detection and investigation of suspected fraud, insider trading, microcap fraud and Ponzi schemes, and work to coordinate regulatory intelligence across the FINRA enterprise. OFDMI reviews incoming allegations of serious fraud, and serves as a centralized point of contact internally and externally on fraud issues.
OFDMI has provided assistance to federal and state regulators in identifying numerous regulatory cases including many high-profile cases involving insider trading, Ponzi schemes and microcap fraud. Since OFDMI was established, it has:- referred more than 1,750 matters involving potential fraudulent conduct to the SEC or other federal or state law enforcement agencies; and
- made more than 775 referrals involving boiler rooms and microcap fraud, and more than 820 insider trading referrals to the SEC and other federal or state law enforcement agencies.
Robust Exam Program
FINRA revamped its examination program to better detect potential fraud and focus on areas of greatest risk. In addition to examining each firm on site, it has continued to build out a robust surveillance program that monitors firms off site on a continuous basis, and has reshaped its ability to capture and leverage more granular operational and risk data to help better understand each firm's business model and the embedded risk of that model. Furthermore, FINRA exam staff places greater focus at the point of sale, increasing the number of branch exams and spending more time on site at the branch offices. FINRA also has increased the number of staff in district offices who are tasked with having an in-depth and ongoing understanding of specific firms, including increased real-time monitoring of business and financial changes.
Market Regulation
In June 2010, FINRA completed the second stage of regulatory consolidation with the New York Stock Exchange by reaching an agreement with NYSE Euronext to assume responsibility for performing the market surveillance and enforcement for NYSE Euronext's U.S. equities and options markets – the New York Stock Exchange, NYSE Arca and NYSE Amex. FINRA already provided regulatory services to the NASDAQ Stock Market, NASDAQ Options Market, NASDAQ OMX Philadelphia, NASDAQ OMX Boston, The BATS Exchange and The International Securities Exchange.
As a result, FINRA is able to view aggregated trade data across 80 percent of the U.S. securities markets. This has allowed FINRA to implement comprehensive cross-market surveillance activities to better capture and analyze data that can help detect problematic trading activity across multiple markets and financial products. FINRA also expanded the Order Audit Trail System (OATS) to include all National Market System (NMS) securities to create a uniform order audit trail to serve as a foundation for the cross-market surveillance program. FINRA is now performing cross-market surveillances, and this will allow FINRA to play an important role following the SEC's recent vote to adopt a consolidated audit trail through the development of an NMS plan.
In the wake of the 2010 Flash Crash, FINRA worked closely with the SEC and exchanges to develop and implement measures designed to address extraordinary market volatility issues. This collaboration resulted in the implementation of single-stock circuit breakers and clearly erroneous pilots – which are currently in effect. FINRA and the exchanges also proposed new standards for marketwide circuit breakers and a new limit up-limit down framework to replace the existing single-stock circuit breakers. In May of this year, the SEC approved these two proposals on a one-year pilot basis, which will be implemented next February. During the one-year pilot period, FINRA, the exchanges and the SEC will assess their operation and consider whether any modifications are appropriate.
Transparency
FINRA has made several improvements in recent years to BrokerCheck, its free online tool to help investors research the professional backgrounds of brokerage firms and brokers. In 2009, BrokerCheck was expanded to make records of all final regulatory actions against brokers permanently available to the public, regardless of whether brokers continue to be employed in the securities industry. A zip code search and centralized access to information about securities and investment advisory firms and their registered employees were also recently added to make BrokerCheck easier to use.
FINRA enhanced market transparency by expanding the Trade Reporting and Compliance Engine (TRACE) in March 2010 to include agency debentures and new issue transactions. In May 2011, TRACE was further expanded to include reporting of transactions in asset- and mortgage-backed securities for regulatory purposes. In July 2012, the SEC approved a FINRA proposal to publicly disseminate so-called TBA transactions, and FINRA continues to evaluate additional dissemination as appropriate. Through the expansion of TRACE, the number of eligible securities has increased from 37,000 in 2007 to 1.4 million in 2012 - providing unprecedented transparency to market participants and data to FINRA for effective regulatory oversight. Studies show transaction costs have been reduced, saving investors an estimated $1 billion per year, and mark-to-market valuation has improved.
Disciplinary Actions
FINRA has acted swiftly to sanction firms and individuals who violated FINRA rules and caused investor harm. Since July 30, 2007, FINRA has brought 6,291 disciplinary actions and levied fines totaling $254.1 million. FINRA also ordered nearly $54.5 million in restitution to harmed investors. FINRA expelled 99 firms from the securities industry, barred 1,647 individuals and suspended 1,992 from association with FINRA-regulated firms. Some notable enforcement actions include the following.
- FINRA fined UBS $12 million for violations involving short sales. (October 2011)
- FINRA fined Goldman Sachs $22 million for violations related to trading huddles at the firm. (April 2012)
- FINRA fined 20 firms a total of $15.4 million involving sales of auction rate securities, and firms agreed to buy back more than $2 billion of frozen ARS from their customers.
- FINRA brought 23 actions with fines totaling $28.7 million related to the sale of subprime and mortgage-backed securities, and ordered $8.8 million in restitution.
- FINRA censured and fined Trillium Brokerage Services $1 million for using an illicit high-frequency trading strategy and related supervisory failures. (Sept 2010)
Dispute Resolution
FINRA made an important change in its arbitration forum when, in 2011, it implemented a rule allowing investors to choose all-public panels in all customer cases with three arbitrators. Providing this option was an important step to enhance confidence in FINRA's arbitration process and gives investors an additional choice in selecting their arbitrators when they file claims.
In addition, in 2009, FINRA introduced a rule limiting motions to dismiss in arbitration, thus ensuring that claimants have a full opportunity to argue their case. Under the new rule, a motion to dismiss before a claimant's case is presented can only be granted on three specific grounds, and there are stringent new sanctions against parties for engaging in abusive case-dismissal practices.
Investor Education
During the last five years, FINRA Investor Education issued investor alerts warning investors about an array of complex investment products, troubling trends and outright scams. Topics covered range from understanding leveraged and inverse exchange-traded funds to avoiding gold scams – and from how to weather tough financial times to investing in the stock of bankrupt companies.
Since FINRA was created, the FINRA Investor Education Foundation implemented innovative grant-making partnerships with the American Library Association and United Way Worldwide to bring community-based financial education resources to underserved urban, suburban and rural areas across the country. These new programs greatly expand our channels for distributing both FINRA- and Foundation-funded educational tools and information.
The FINRA Foundation launched a research-based Investor Protection Campaign to help investors spot and avoid investment fraud. Tricks of the Trade: Outsmarting Investment Fraud, a documentary that is a centerpiece of this campaign, has aired more than 750 times on 170 public television stations in 75 markets across 30 states.
In 2009, in consultation with the U.S. Department of the Treasury and the President's Advisory Council on Financial Literacy, the FINRA Foundation fielded America's first National Financial Capability Study comprising three linked surveys. The largest of these, the State-by-State Financial Capability Survey, allows the public, policymakers and researchers to delve into and compare the financial capabilities of Americans in every state and across geographic regions. In the coming months, the FINRA Foundation, in consultation with the U.S. Department of the Treasury and with the support of the President's Advisory Council on Financial Capability, will field a second wave of the military and state-by-state components of the National Financial Capability Study.
The FINRA Foundation's Military Financial Education Project continued to provide military families with the knowledge and tools they need to overcome financial challenges. This included the Military Spouse Fellowship Program, which provides military spouses with the education and training needed to earn the Accredited Financial Counselor® (AFC®) designation. The Foundation supported First Lady Michelle Obama and Dr. Jill Biden's "Joining Forces" initiative by giving 50,000 servicemembers and spouses access to free FICO® Scores and educational resources.
FINRA, the Financial Industry Regulatory Authority, is the largest independent regulator for all securities firms doing business in the United States. FINRA is dedicated to investor protection and market integrity through effective and efficient regulation and complementary compliance and technology-based services. FINRA touches virtually every aspect of the securities business from registering and educating all industry participants to examining securities firms, writing rules, enforcing those rules and the federal securities laws, informing and educating the investing public, providing trade reporting and other industry utilities, and administering the largest dispute resolution forum for investors and firms. For more information, please visit www.finra.org.