IIROC finds branch oversight lacking

“We undertook this audit to go out and test whether or not the head offices were in fact doing a reasonable job of supervising their branch offices, given that it’s a requirement for them to supervise all aspects of the branch operations,” says Judy Long IIROC’s director of business conduct compliance. “I don’t think anything egregious came out of it. I think we confirmed what we thought was true, which is that dealers are doing a reasonable job. Needless to say, some firms to a better job than others.”

IIROC listed seven areas where regulatory oversight is falling behind at the branch level. Arguably the most troublesome area is in a lack of follow-up at the branch level after compliance deficiencies have been identified in a dealer-wide compliance audit. It seems branches are told there is a problem with their compliance practices, and in some cases little is being done to correct them.

“Most dealer members examined had extensive compliance audit programs in place, but either lacked or had inadequate follow-up procedures to ensure the compliance audit findings were tracked and corrective action taken,” the report states. “Where a dealer member identifies specific areas of concern, an important part of the head office oversight process is to take reasonable steps to ensure that the branch office properly addressed the deficiencies by taking corrective action.”

Long stresses that it’s not a case of dealer members doing a bad job in their audits, or even in following up to ensure changes are made. She says IIROC would just like to see a more formal follow-up process taking place.

“When the dealer audits were done and findings were made to correct certain deficiencies, there was never any sort of closing-off process to show what changes were made,” she says. “To the extent it finds something egregious, I would like to think dealers take it very seriously and pay attention to it. Even for the little issues, there should be a formal closing-off process.”

IIROC is urging dealers to conduct follow-up reviews to ensure identified deficiencies were corrected within established time frames and, if necessary, ensure that there is an appropriate “escalation procedure” for issues of concern.

Long says she’s seen first-hand dealer members already undertaking this process in the aftermath of the industry audit.

“We actually had one firm that had identified a problem branch and specifically asked us to look at them. We went in and found exactly the same finding that head office did. The firm was actually doing a good job. They tracked down a very poor branch manager and they were taking measure to change over the supervisory structure at the branch.”

Fee-based accounts and portfolio programs
The regulator wants dealers to improve how branch offices handle oversight procedures for fee-based accounts.

Fee-based programs are growing in popularity with broker firms, which instead of charging a transaction fee, build a portfolio and take a management expense from the client.

Unlike discretionary accounts, margin and options trading accounts, fee-based accounts were not always identifiable on the supervisory reports of the firm, making supervision of trading activity difficult to track.

“We found in some instances there were no ways of capturing which clients were in fee-based accounts. It becomes difficult to determine whether this is suitable for somebody — many firms had no ways of going into and examining these products,” Long says. “If there was [a record], there was no specific reporting on those types of accounts or any further scrutiny. You do this wholesale transfer of clients into fee-based platforms, but there is nobody there to look at whether this is the right or wrong thing for the client. On either an annual or periodic basis, you need to have the tools to do this.”

Recommended best practices to improve oversight include establishing supervisory reports with appropriate filters to identify the account type and investment suitability.

Certain dealers were found to have “inadequate oversight” for the issuance of customized portfolio summaries to clients.

“This is of concern as a lack of control could lead to incorrect or misleading reports and lack of or incorrect use of disclaimers sent to clients of the firm,” the report says. “Dealer Members are required to have written policies, procedures and internal controls to ensure that any customized portfolio summaries or portfolio reports provided to clients are accurate and complete.”

The regulator would like to see “hard coding templates” for portfolio summaries. This means the branch or dealer would create the summaries of the products rather than advisors developing their own personalized summaries.

IIROC would also like to see dealers placing restrictions on the initial set-up of the portfolio summaries, limiting the fields that can be customized by the salesperson without prior approval or oversight by the firm.

Marketing

IIROC also took exception to the inadequate control and review of advertising and sales literature.

Most sales literature has to get a sign-off from the head office. IIROC found examples at the branch level of incorrect disclosures and misleading information contained in material distributed to clients. In some instances where approval remained with the branch, many branches did not consistently maintain evidence of their approval by a designated person.

Other concerns raised in the audit include, lack of evidence of supervision — particularly when a designated supervisor is away, improper reassignment of accounts of terminated registrants and poor control of client address changes.

(12/29/09)