Commentaries

Bridging the Week by Gary DeWaal: January 8 to 12, and 16, 2018 (FINRA Examination Priorities; Crypto-Exchange Suit; Treasury Secretary Speaks Bitcoin)

Jump to: AML and Bribery    Bitcoin Ecosystem    Bridging the Week    Compliance Weeds    Customer Protection    EMEA Regulation (sans Capital and Liquidity)    Equity Securities    Exchanges and Clearing Houses    Federal Energy Regulatory Commission    Initial Coin Offerings    Managed Money    My View    Reg SHO    Regulation MAR    Sales Practices    Systems and Controls   
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Published Date: January 15, 2018

Last week, the Financial Industry Regulatory Authority disclosed its examination priorities for this year. FINRA’s focus will include, among a wide swath of traditional concerns, evaluating how member firms and their salespersons may be facilitating transactions in cryptocurrencies and initial coin offerings. Separately, a private lawsuit was filed against a virtual currency exchange for not returning customers’ funds. As a result, the following matters are covered in this week’s edition of Bridging the Week:

Video Version:

Article Version:

Briefly:

Among other things, FINRA will be evaluating whether firms’ controls are sufficient to meet their suitability obligations. The regulator “will pay particular attention to suitability determinations where registered representatives recommend complex products to unsophisticated, vulnerable investors.”

Specific sales practice risks FINRA will be reviewing include how firms and their salespersons may facilitate transactions in cryptocurrencies and initial coin offerings. Where an ICO involves the sale of a security, FINRA may look to review the “supervisory and operational infrastructure” a firm has implemented to comply with applicable securities laws and regulations as well as FINRA rules.

FINRA will also be examining firms’ written business continuity plans – particularly after Hurricanes Harvey and Maria – to assess how firms will have continued access to critical systems even when they may not have physical access to relevant offices. Among other things, FINRA will consider how firms implement their BCPs, evaluating under what circumstances a BCP will be activated; how a system may be assessed as critical; how data back-ups and recovery are effectuated; and, as applicable, how firms coordinate with their affiliates and vendors during a situation requiring activation of their BCPs.The self-regulatory organization will also review firms’ technology governance and cybersecurity program effectiveness and anti-money laundering program adequacy. In examining firms’ AML programs, FINRA will assess the adequacy of written policies and procedures to identify and report suspicious transactions; resources committed to AML; and independent testing. FINRA expressed concerned about firms that do not monitor, or monitor less robustly, accounts of affiliates.

FINRA will also focus on firms’ detection of possible manipulation; compliance with best execution requirements, the Securities and Exchange Commission’s Market Access Rule and Regulation SHO; and adherence to fixed income data integrity and reporting requirements. Additionally, FINRA will look for possible front running of correlated option products, as well as the adequacy of surveillance of alternative trading systems.

FINRA encouraged members to consider its proposed 2018 priorities in conjunction with its 2017 Examination Findings Report published last December (click here to access). In its Findings Report FINRA made specific recommendations on how firms might improve their cybersecurity and AML programs, enhance their fulfillment of their suitability obligations, and comply with Reg MAR and Reg SHO, based on its observations of effective practices at member firms.

Compliance Weeds: The beginning of the year provides a natural opportunity for registrants to review their written policies and procedures to ensure they still reflect actual practices. It is easy, over time, for policies and procedures to go stale. Unfortunately, if something goes wrong, it will not be helpful to have actual practices that are inconsistent with written policies, or written policies that are so generic they provide no real basis for actual practices.

Additionally, FINRA’s 2018 Regulatory and Examination Priorities Letter read in conjunction with its 2017 Examinations Findings Report provides an excellent resource for broker-dealers to assess the adequacy of their policies, procedures and practices against objective standards. FINRA’s publications provide a useful tool against which other SEC and Commodity Futures Trading Commission registrants may evaluate comparable policies and procedures (e.g., AML, cybersecurity).

According to Timothy Shaw, the named plaintiff in the purported class action lawsuit, Vircurex was founded in October 2011. Although the exchange claims to be incorporated in Belize, this may not be true, claims the plaintiff. The exchange appears to still be operating. (Click here for access to Vircurex’s website.)

The lawsuit alleges that, following its disclosure in March 2014 of two hacking incidents in mid-2013, Vircurex “was nearing insolvency,” and had insufficient Bitcoin and other alt-coins to meet its obligations to customers. The lawsuit claims that, in response, Vircurex froze customer accounts, although it promised to repay its clients over time. To date, claims the plaintiff, this repayment has not been completed.

Also named in the lawsuit were Andreas Eckert, one of the alleged organizers of Vircurex, and “John Doe,” a non-identified purported organizer located in China. Among other things, plaintiff seeks a return of his funds and costs.

Last month, various media sources reported that Youbit, a South Korea-based cryptocurrency exchange, filed for bankruptcy (click here for a sample article).

Among other developments last week involving cryptocurrencies:

My View: The Commodity Futures Trading Commission and the Securities and Exchange Commission appear to be taking increasingly divergent approaches to cryptocurrencies. Whereas the CFTC has been aggressive in promulgating consumer education and bringing enforcement actions against violators of relevant laws, it has also granted registration to a swap execution facility and clearing organization that trades and settles Bitcoin derivatives, and has not precluded the self-certification of cash-settled Bitcoin derivatives products. On the other hand, the SEC appears reluctant – even with the advent of Bitcoin derivatives trading on CFTC-overseen markets – to authorize Bitcoin ETFs. The SEC and CFTC should work together to promote clarity in their oversight, not impede the development of digital ledger technologies and related cryptocurrencies, and continue to enforce relevant laws against miscreants – much as the CFTC already is doing. As CFTC Chairman J. Christopher Giancarlo has written, “[o]ne thing is certain: ignoring virtual currency trading will not make it go away. Nor is it a responsible regulatory strategy.”

More Briefly:

For further information:

Class Action Lawsuit Filed Against Crypto-Exchange for Allegedly Not Returning Clients’ Funds:
/ckfinder/userfiles/files/Vircurex.pdf

FCM Fails to Persuade Court to Dismiss Liquidator’s Claims That Payments Made by Sentinel Management Prior to Bankruptcy Were Fraudulent Transfers:
/ckfinder/userfiles/files/MBF%20Sentinel%20Management.pdf

FERC Rejects Plan to Subsidize Coal and Nuclear Power Plants:
https://www.eenews.net/assets/2018/01/08/document_pm_02.pdf

FINRA Announces 2018 Examination Priorities; Will Review Role of Firms and Salespersons in Facilitating Cryptocurrency Transactions and ICOs:
https://www.finra.org/industry/2018-regulatory-and-examination-priorities-letter

Hong Kong-Based Blockchain Company’s Trading Suspended by SEC:
https://www.sec.gov/litigation/suspensions/2018/34-82452.pdf
https://www.sec.gov/litigation/suspensions/2018/34-82452-o.pdf

ICE Futures Europe to Transition Certain Energy Contracts to ICE Futures Europe in February:
https://www.theice.com/publicdocs/circulars/18002.pdf
https://www.theice.com/publicdocs/futures_us/exchange_notices/ICE_Futures_US_CrudeAndNGL_Listing20180110.pdf
https://www.theice.com/publicdocs/circulars/18002_attach.pdf

NFA Reminds Members About Doing Business With Exempt CTAs and CPOs:
https://www.nfa.futures.org/news/newsNotice.asp?ArticleID=4979

OFAC Designates New Persons and Entities for Violating Human Rights and Supporting Sanctioned Weapons Creators:
https://home.treasury.gov/news/press-releases/sm0250

Senate Agricultural Committee Leaders Encourage CFTC to Retaliate Against EC Should EC Withdraw From 2016 Joint Clearinghouse Agreement:
https://www.agriculture.senate.gov/imo/media/doc/01-08-18%20CFTC%20EUROPEAN%20CLEARING%20LETTER.pdf
http://www.cftc.gov/PressRoom/SpeechesTestimony/giancarlostatement010918

The information in this article is for informational purposes only and is derived from sources believed to be reliable as of January 13, 2018. No representation or warranty is made regarding the accuracy of any statement or information in this article. Also, the information in this article is not intended as a substitute for legal counsel, and is not intended to create, and receipt of it does not constitute, a lawyer-client relationship. The impact of the law for any particular situation depends on a variety of factors; therefore, readers of this article should not act upon any information in the article without seeking professional legal counsel. Katten Muchin Rosenman LLP may represent one or more entities mentioned in this article. Quotations attributable to speeches are from published remarks and may not reflect statements actually made.

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ABOUT GARY DEWAAL

Gary DeWaal

Gary DeWaal is currently Special Counsel with Katten Muchin Rosenman LLP in its New York office focusing on financial services regulatory matters. He provides advisory services and assists with investigations and litigation.


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