Lesson 11.4: Regulatory Issues and Ethics Notes

Communications with the Public

General Standards for Communications

  • FINRA mandates that all member firm communications adhere to general standards.
  • Communications must be based on fair dealing and good faith.
  • Statements must be clear, not misleading, and fair and balanced regarding potential risks and benefits.
  • Omission of material facts is prohibited, as are false, exaggerated, or misleading statements or claims.
  • No communication should imply that past performance will be repeated.
  • Members must consider the audience and provide appropriate details and explanations.

Types of Public Communications (FINRA Rule 2210)

  • There are three categories of communications:
    • Institutional communications
    • Retail communications
    • Correspondence

Institutional Communication

  • Definition: Any written (including electronic) communication distributed or made available only to institutional investors, excluding internal communications.
  • Examples of institutional investors:
    • Another member firm or RR
    • A bank
    • A savings and loan association (S&L)
    • An insurance company
    • A registered investment company (mutual fund)
    • An employee benefit plan
    • A governmental entity or subdivision
    • A person acting solely on behalf of an institutional investor
    • Any entity with 50 million or more of total assets, including natural persons.
  • If a member firm has reason to believe that a communication or any part of it will be forwarded to a retail investor, it must be treated as retail communication.
  • Firms must decide whether to require principal approval of institutional communications before or after use.
  • If prior approval is not required, the firm must provide and document education and training of associated persons regarding institutional communication.

Retail Communication

  • Definition: Any written (including electronic) communication distributed or made available to more than 25 retail investors within any 30-calendar-day period.
  • A retail investor is any person other than an institutional investor.
  • Filing Requirements:
    • New member firms (firms in their first year of FINRA membership) must file retail communications with FINRA at least 10 days before use.
    • Established member firms must file within 10 days of first use.
  • Filing is not an approval process; it is simply a filing of the communication.
  • All retail communications require principal approval before use or filing with FINRA.

Correspondence

  • Definition: Any written (including electronic) communication distributed or made available to 25 or fewer retail investors within any 30-calendar-day period.
  • Firms must decide whether to require principal approval of correspondence before or after use.
  • If prior approval is not required, the firm must provide and document education and training of associated persons regarding correspondence.

Social Media Use

  • FINRA communication rules apply to social media and online activities.
  • Firms must monitor the business-related social media presence of all representatives.
  • Static content (e.g., website, blog) typically requires pre-approval by a registered principal and may need to be filed with FINRA.
  • Individual posts in interactive online forums do not require pre-approval, but firms must have written supervisory procedures covering these activities.
  • Representatives may use social media platforms to engage with both existing customers and prospective clients.

Regulator Registration and FINRA Membership

  • Firms can state they are registered with a regulator and must state they are a FINRA member in retail communications.
  • Overly prominent statements or displays of a regulator's logo may imply endorsement, which is misleading and violates public communication rules.
  • Example of unacceptable statement: "Approved by the Securities and Exchange Commission, a division of the United States government."

The Telephone Consumer Protection Act of 1991 (TCPA)

  • Administered by the Federal Communications Commission (FCC), the TCPA protects consumers from unwanted telephone solicitations (telemarketing).
  • A telephone solicitation is a call initiated to encourage the purchase of or investment in property, goods, or services.
  • The act governs commercial calls, recorded solicitations from auto-dialers, and solicitations and advertisements to fax machines and modems.

Basic Rules under the TCPA

  • Solicitors must inform prospects of their name, the company's name, and the company's telephone number or address.
  • Solicitation can only occur between 8:00 am and 9:00 pm based on the prospect's time zone.
  • No calls are made to numbers on the company or federal do-not-call list.

Exemptions to the TCPA

  • Calls made to parties with whom the caller has an established business relationship or from whom the caller has prior express permission or invitation.
  • Calls made on behalf of a tax-exempt nonprofit organization.
  • Calls not made for a commercial purpose.
  • Calls made for legitimate debt collection purposes.

Requirements for Organizations Doing Telemarketing

  • Maintain a do-not-call list of prospects who do not want to be called, and keep a prospect's name on the list until the prospect requests its removal.
  • Institute a written policy on maintenance procedures for the do-not-call list.
  • Train representatives on using the list.
  • Ensure that representatives acknowledge and immediately record the names and telephone numbers of prospects who ask not to be called again.
  • Ensure that telemarketers do not call a prospect from the time of the prospect's do-not-call request.
  • Ensure that the company's do-not-call list is no more than 30 days old.
  • Telemarketers must check numbers against the National Do Not Call Registry, maintained by the Federal Trade Commission.
  • The national list being used may not be more than 30 days old.

BEFORE making a telephone solicitation, a representative must check the number against both the company's list and the National Do Not Call Registry.

Customer Communication Rules

Statements, Confirmations, and Other Account Communications

  • Broker-dealers (BDs) communicate and verify activity in a customer's account via account statements and trade confirmations.
  • The information provided and time frames for delivery are uniform.

Electronic Delivery

  • FINRA allows members to send documents electronically (e.g., confirmations and account statements) if certain conditions are met.
  • Firms must have procedures to show that the information sent has been delivered as intended and that the confidentiality and security of personal information are protected.
  • Customers must provide written consent to electronic delivery.
  • Customers who consent to electronic delivery must be provided with the information in paper form upon request.

Updating Customer Account Records

  • Firms must furnish to each customer, within 30 days of opening the account, a copy of the account record.
  • The firm must include a statement that the customer should mark any corrections on the record and return it, along with a statement that the customer should notify the firm of any future changes to information in the account record.
  • If the customer contacts the firm with any changes, the firm must furnish the customer with an updated account record within 30 days of receipt of the notice of change.
  • This account updating must occur at least every 36 months thereafter.
  • Changes in employment and financial status are common amendments.
  • Changes in investment objectives should also be expected.

Account Statements and Delivery Requirements

  • Account statements provide a general overview of securities and cash held in the account.
  • A statement shows:
    • All activity in the account since the previous statement
    • Securities positions, long or short
    • Account balances, debit or credit
  • If a customer's account has a cash balance (free credit balance), the statement must advise the customer that these funds are available on request.
  • Statements are sent to customers at least quarterly.
  • If penny stocks are held in the account, a statement must be sent monthly.
  • Account statements must include a statement advising customers to promptly report any discrepancy or inaccuracy to their brokerage firms and clearing firms.

Trade Confirmations and Delivery Requirements

  • A trade confirmation is a printed (or electronic) document that confirms a trade, its settlement date, and the amount of money due from or owed to the customer.
  • For each transaction, a customer must be sent or given a written confirmation of the trade at or before the completion of the transaction—the settlement date.
  • The trade confirmation includes the following information:
    • Trade date: Day on which the transaction is executed (the settlement date is usually the second business day after the trade date).
    • Account number: Branch office number followed by an account number.
    • RR internal ID number (or AE number): Account executive's identification number.
    • BOT (bought) or SLD (sold): Indicates a customer's role in a trade.
    • Number (or quantity): Number of shares of stock or the par value of bonds bought or sold for the customer.
    • Description: Specific security bought or sold for the customer.
    • Yield: Indicates that the yield for callable bonds may be affected by the exercise of a call provision.
    • CUSIP number: Applicable Committee on Uniform Securities Identification Procedures (CUSIP) number, if any.
    • Price: Price per share for stock or bonds before a charge or deduction.
    • Amount: Price paid or received before commissions and other charges (also called extended principal for municipal securities transactions).
    • Commission: Added to buy transactions; subtracted from sell transactions completed on an agency basis. (Note: Commission will not appear on the confirmation if a markup or markdown has been charged in a principal transaction.)
    • Net amount: Obtained on purchases by adding expenses (commissions and postage) to the principal amount. Whether the transaction is a purchase or sale, interest is always added whenever bonds are traded with accrued interest (interest that hasn't been paid yet but will be owed to the seller upon the settlement date).
  • The confirmation must also show the capacity in which the BD acts (agent or principal) and the commission in cases where the BD acts as an agent.

Nontrade Confirmations/Third-Party Activity Notices

  • Firms are required to send confirmations of activity in accounts even when the activity is not trade related or is initiated by a third party.

  • Examples:

    • Wires to/from foreign bank accounts: When funds are credited (or debited) to and from the account, a confirmation of the deposit/withdrawal is sent.
    • Deposits/withdrawals of stock certificates: The customer receives a confirmation of the activity.
    • Third-party fees: A customer with an outside money manager may execute through a BD where the customer has an account, and the manager withdraws their fee quarterly in advance. Each time a fee is taken, a confirmation is sent from the BD indicating that specific third-party activity occurred and was logged.

Holding Customer Mail

  • Firms are permitted to hold mail for a customer (e.g., statements and confirmations) under certain conditions:
    • The member firm receives written instructions that include the time period the request is being made for, normally up to three months (longer periods may be granted for safety or security concerns, but not for convenience).
    • The member firm informs the customer of any alternate methods the customer may use to receive or monitor account activity, such as email or the firm's website (the member must obtain customer confirmation that this information regarding alternate methods was received).
    • The member firm verifies at reasonable intervals that the customer's instructions still apply.
  • During the time that a member firm is holding mail for a customer, the firm must be able to communicate with the customer in a timely manner to provide important account information.
  • The firm must take actions reasonably designed to ensure that a customer's mail is not tampered with or used in a manner that would violate FINRA rules or federal securities laws.
  • While holding mail is a courtesy, firms are not required to offer it.
  • A written request by the customer to hold mail implies that the customer is also giving the BD permission to do so, as long as this is consistent with BD's in-house rules.

Regulation SP

  • Enacted by the SEC to protect the privacy of customer information.

  • Deals with nonpublic personal information, including:

    • Social Security number
    • Account balances
    • Transaction history
    • Information collected through an internet cookie

Confidentiality of Information

  • If a firm reserves the right to disclose nonpublic personal information to unaffiliated third parties, the notice must provide customers a reasonable means to opt out of this disclosure.

  • Reasonable opt-out methods include:

    • Providing customers with a form with check-off boxes along with a prepaid return envelope.
    • Providing an electronic means to opt out for customers who have agreed to the electronic delivery of information.
    • Providing a toll-free telephone number.

  • Asking customers to write a letter to express their disclosure preferences or to opt out would not be considered reasonable.

Regulation SP Privacy Notifications

  • Firms must provide their customers with a description of their privacy policies (a privacy notice).
  • The notice must state the types of personal information that the firm collects and with whom the firm shares this information.
  • Firms must provide every customer with a privacy notice at the time the relationship is first established.
  • Once the relationship is established, the firm must provide the customer with an updated version of this notice annually.

Safeguard Requirements

  • Regulation embodies the obligation of financial institutions to safeguard customer information as it relates to all forms of existing and developing technology.

  • Examples include:

    • Securing desktop and laptop computers
    • Encrypting email

*Under Regulation SP, a customer has an ongoing relationship. If the relationship is one time and limited, they are instead referred to as consumers, not customers. For consumers, an initial notice is required but the annual notification is not.

Business Continuity Plan (BCP)

  • FINRA requires member firms to create and maintain a business continuity plan (BCP) to deal with the possibility of a significant business disruption.

  • The plan must address certain points having to do with the consequences of the event, including but not limited to the following:

    • Data backup and recovery (hard copy and electronic)
    • Alternate communications between the firm and its customers
    • Alternate communications between the firm and its employees
    • Alternate physical location of employees
    • Communications with regulators
    • Prompt customer access to funds and securities in the event the firm is unable to continue its business

  • Firms must designate a member of senior management who is also a principal to approve, update, and conduct an annual review of the plan.

  • FINRA requires firms to provide them with the names of two persons who may be contacted by FINRA in the event of a significant business disruption.

  • Rules for the two emergency contacts:

    • Both must be associated persons, and at least one must be a principal and part of senior management.
    • If the second contact is not a principal, they must be part of senior management and familiar with the firm's operations.
    • If the firm has only one associated person, then an outside contact may be used, but they must be someone familiar with the firm's operations, like the firm's attorney, accountant, and similar persons.

  • Firms must update this contact information promptly, in no case later than 30 days following any change.

  • A firm must disclose to its customers how it will respond to significant events of varying scope.

    • This disclosure must be made in writing to customers at the time of account opening, posted on the firm's website, and mailed to customers on request.