Like the common cold, compliance problems are easy to contract but difficult to get rid of. Perhaps the following checklists for broker dealers and the NASD may be just the right medicine.
Broker-Dealer Checklist
1.) Plan ahead. A strong offense is always the best defense.
2.) Learn the rules, and get a grip on best execution. Familiarize yourself with trading rules and National Association of Securities Dealers interpretations.
3.) Beef up your compliance practice. Hire a full-time compliance officer or supplement your existing staff with the services of an independent compliance consultant. Perform mock examinations. Prepare checklists for daily and periodic supervisory reviews of trading activity.
4.) Update your Written Supervisory Procedures Manual, remembering to answer these four questions for each trading issue: who, what, when and how.
5.) Approach each NASD Regulation examination, review or inquiry as an opportunity to correct what you're doing wrong, or not doing but should be doing. By correcting known deficiencies, intentional or not, you will reduce the number of sanctionable events and eliminate unnecessary disruptions to your business.
6.) Relate more closely with the NASD Regulation staff. Create a dialogue and see where they are coming from. When dealing with staff members who have limited trading experience, add some flesh and blood to the cold facts and statistics they are compiling from transaction reports and trade documentation.
Finally, respond immediately to NASD Regulation findings. It is in your best interest to correct any problems and thereby minimize the impact of trailing fines or sanctions.
7.) Respond to customer limit orders within 30 seconds, and don't forget about your Manning obligations on customer limit orders that are routed to other broker dealers.
8.) Develop compliance awareness. Your traders should establish informal trader networks to learn what's hot and how others are handling the rules.
9.) Inform other firms about who at your firm is responsible for handling and resolving trade disputes. This may reduce the likelihood of backing-away charges.
10.) Understand the value of the Continuing Education Program and the Annual Compliance Program. Develop comprehensive written plans that result in programs tailored for your traders. Go through the compliance history of your firm, identify soft spots and ask your traders about their unanswered compliance questions. Keep a file of all training materials, including handouts. Most importantly, conduct training programs more than once a year.
NASD Checklist
1.) Provide more timely guidance to market makers. Why has the NASD never released its sample Written Supervisory Procedures Manual, which was substantially completed by the summer of 1996? In the same vein, why did it take the NASD nine months to release its first interpretation of traders' best-execution obligations (Notice to Member 97-57)?
2.) Control the pace of self-regulatory surveillance over trading desks. In 1997, many market makers were receiving weekly correspondence from NASD Market Regulation on concurrent examinations, reviews and inquiries. Some of these inquiries involved single trades dating back to early 1996.
3.) Dispel the perception that the record fines and sanctions against market makers were intended solely to finance the association's operating budget. If perception is reality, the NASD might follow the lead of the Internal Revenue Service, which recently issued a detailed confession that its management had become overly obsessed with boosting tax-collection efficiency in recent years at the expense of treating taxpayers properly.
4.) Limit your "zero-tolerance" standards to the discovery of trading violations and deficiencies; apply market conditions, traders' intentions and patterns of deficient trading practices before deciding on disciplinary sanctions. Fines and sanctions for isolated or unintentional rule violations simply do not match their crimes.
5.) Drop the double standard. When Nasdaq and ACT, Nasdaq's Automated Confirmation Transaction trade-reporting system, went down on Oct. 27, 1997, volume overload was an acceptable excuse. Why then should market makers, who are human, be held to a higher standard for occasionally reporting trades late or handling customer limit orders in a less than timely fashion, particularly when operating under similar circumstances?
6.) Help level off the playing field between market makers and institutions in the Nasdaq market. While these participants compete in the same market, institutions have the advantage of operating without self-regulatory oversight and are able to use SelectNet to broadcast anonymous orders. It is unlikely that the Securities Exchange Commission would agree to major changes, but clearly some form of compromise is needed.
7.) Work with Nasdaq traders to correct onerous fees imposed on transactions. It has been estimated that since January 1997, Section 31(a) fees have generated more than $150 million, all of which has been earmarked to fund the SEC's budget. Nice work if you can get it.
8.) Visit broker dealers more often, and reduce the scope of routine and other examinations. This will lead to more interaction with members and help provide better accomodation for traders' schedules.
