Published on Jul 23rd, 2021 |

Division of Examinations Releases Risk Alert about Examining Investment Advisers on Principal and Cross Trades | Risk Alerts

On July 21st, the Division of Examinations (“DOE”) released a Risk Alert about Observations Regarding Fixed Income Principal and Cross Trades by Investment Advisers from an Examination Initiative.

The DOE began with touching on their original Risk Alert September 4th, 2019, which discussed the most common compliance issues observed by their staff to principal and agency cross traders under the Advisers Act. They followed up on this Risk Alert by providing large detail on certain compliance issues conducted by over 20 examinations as part of the FIX Initiative. It is important to note that these examined advisers collectively managed around $2 trillion in assets with over 150 mutual funds and nearly 3,000 pension and profit-sharing plans.

What did the DOE examine specifically?

•    Conflicts of interest
•    Compliance programs
•    Disclosures

It is important to note that nearly two-thirds of these examined advisers had received deficiency letters from the DOE. The following points were observed from the examinations above:

  • Compliance Programs:
    • Policies and procedures contained inconsistencies with the examined advisers’ practices, their disclosures, and/or regulatory requirements.
    • Policies and Procedures lacked certain considerations or guidance, essentially by not having enough information to fulfill compliance.
    • Policies and Procedures were ineffective when tested.
  • Conflicts of Interest:
    • Cross trades were the main conflict of interest as they did not identify by the advisers and mitigated, disclosed, or otherwise addressed their compliance programs.
    • An example observed from cross trades was that professionals were not using the best price and best execution efforts which ultimately led to some participating clients receiving an unfair price of securities.
    • Failure to disclose markups or other fees was also found.
  • Written Disclosures:
    • One-third of cross trade related deficiencies addressed disclosure issues.
    • Exclusion of certain relevant information relating to cross trading activities in their Form ADVs.

No disclosures mentioned in their Form ADV Part 2As, advisory agreements and separate written communications to clients

Building off the DOE’s examinations, they provided valuable ways to improve Compliance. Below are key recommendations from the DOE to improve Compliance for each area they examined.

  • Compliance Programs:
    • Define covered activities.
    • Set standards.
    • Conduct testing for compliance with policies and procedures.
    • Place conditions, qualifications, or restrictions on the execution of principal trades, cross trades, or both within clients’ accounts.
  • Written Disclosures:
    • Making sure to provide clients full transparency of full and fair disclosure of all material facts surrounding principal and cross trades.
    • Provides disclosures to clients regarding principal and cross trading practices in multiple documents.

After reflecting on the DOE’s review of the following advisers, they wanted to stress and uplift advisers to review their written policies and procedures regarding principal and cross trades. Focusing on the implementation of those policies and procedures, as well as ensuring they are remaining consistent with the Advisers Act and rules beneath that, is crucial to monitor.


To learn more detail behind the following examinations and recommendations from the DOE click here.