Targeted Examination Letter on VIX-Linked Product Review
The Member Regulation Department (Member Regulation) at the Financial Industry Regulatory Authority, Inc. (FINRA) is conducting a review with respect to products linked to the Chicago Board Options Exchange (CBOE) Volatility Index (VIX). Member Regulation’s review will focus on the supervisory processes followed by the firm to identify and mitigate sales practice risks associated with recommendations to non-institutional purchasers of VIX-linked products (VIX-linked Products) including, but not limited to, unsuitable recommendations, misrepresentations, and appropriateness of any required disclosures to customers. Member Regulation will also assess the firm’s supervisory controls with respect to product vetting, testing, and approval (i.e., due diligence) in this space. In connection with our inquiry, as an initial request, we ask that the Firm provide the following documents and information applicable to the period October 1, 2017 through February 28, 2018 (the Review Period), unless otherwise noted below, by no later than April 20, 2018:
- The firm’s Written Supervisory Procedures (WSP), compliance manuals, training materials, and any other written guidance given to its registered persons regarding the solicitation, recommendation, and supervision of VIX-linked Products during the period January 1, 2016 through the date of this letter. Please include documents governing the Firm’s product due diligence process, disclosures and representations to customers; and customer specific and reasonable basis suitability process for VIX-linked Products recommended to the firm’s non-institutional customers during the Review Period. For each governing document provided, identify the respective effective dates.
- A statement describing any restrictions with regard to soliciting customer purchases of VIX-linked Products during the period January 1, 2016 through the date of this letter. Provide the dates for all restrictions and include: (a) a description of the restriction; (b) how the firm communicated the restriction to registered persons; and (c) how the firm enforced the restriction.
- In Excel format, provide the following lists, by gross commissions generated related to VIX-linked Product purchase/sale activity for the Review Period:
- Top 25 branch offices (include CRD #);
- Top 25 registered representatives (include CRD #); and
- Top 25 retail customers accounts (single account focused) (include account number(s) and assigned registered representative); and
- Top 25 retail customers based upon activity within their ‘household’ (include account number(s) and assigned registered representative, including where there are multiple accounts linked to a customer household).
- An electronic copy of all VIX-linked securities transactions effected within accounts of non-institutional customers during the Review Period, pulled from the firm’s purchase and sales blotter. In connection with this request, please provide the following data elements in MS Excel or CSV format for all relevant securities transactions during the Review Period.1
|#||Data Element||Element Definition|
|1.||Account Number||Unique identifier of an account|
|2.||Rep Identifier||Rep(s) involved in the trade|
|3.||Branch Identifier||Branch of the rep(s) involved in the trade|
|4.||Asset Type||Type of security traded on the transaction|
|5.||Security Identifier||Unique identifier associated with the security (e.g., CUSIP, ISIN, or SEDOL)|
|6.||Symbol||Ticker for the security|
|7.||Security Description||Description for the security|
|8.||Buy / Sell / Short Sale Flag||Position type of ‘Buy’, ‘Sell’ or ‘Short Sale’|
|9.||Trade Price||Price at which the trade was executed|
|10.||Trade Quantity||Units of quantity traded|
|11.||Principal Amount||Value of the trade excluding the effect of commissions and fees|
*** A separate Excel/CSV file may be provided.
- Provide a legend for Rep Identifiers and the individual’s full name (First, Middle and Last names) and/or CRD#.
- Provide a legend for Customer Type Indicator and its description.
- Identify by name and account number every non-institutional account at the firm that held (regardless of when purchased) a VIX-linked Product as of September 30, 2017, as well as the account investment objective, product symbol, CUSIP, date of purchase, and date of sale (if any). You may exclude from production any customer account where beneficial interest is owned by an associated person at the firm. Produce your response to this question in Excel or CSV format.
- Describe the firm’s business process for testing VIX-linked Products on its approved platform to determine how they would perform under various market conditions. For each product tested, describe the testing methodology, and provide supporting documentation concerning the tests, conclusions reached, and steps taken to mitigate any risks associated with potential recommendations of VIX-linked Products to non-institutional customers. If testing was not performed, describe the steps taken to determine how the firm’s approved VIX-linked Products would perform under various market conditions.
- Since January 1, 2018, describe any additional steps/actions the firm has taken/is taking to address any risks to non-institutional customers related to VIX-linked Products on the firm’s approved products platform.
- Does the firm allow its customers to trade VIX-related options the morning of any VIX settlement? If yes, please describe the firm’s controls to review for the timely entry of pre-market orders, and/or overall activity by firm customers/traders (pre- or post-trade supervision).
- Produce copies of any customer complaints concerning VIX-linked Products held in, purchased/sold through, any account, and/or any alleged cancelled pre-market options orders or of a customer’s inability to enter pre-market options trades relating to VIX-linked Products?
1 The description of each data element, and associated definition, represents a general explanation of the information we are seeking to collect and may not align with the terminology or specifications utilized by your firm. In that regard, this is not a structured data request and FINRA’s ability to ingest the data is flexible. If you are experiencing challenges in your submission or have any questions regarding the data being sought, please contact the examination team for assistance.