This June SEC3 Compliance Consultants published an article for Thompson Reuters Acceluson the topic of adding and managing external resources to aid in your research process. We recommend every client to read and heed the advice of this document.
Here is an extract of the content for your review.
The Securities and Exchange Commission has certainly not instituted radio silence and, in fact, is doing just the opposite. In February, when the SEC filed a complaint in Federal Court, Robert Khuzami, director of the SEC’s Enforcement Division stated “company executives and other insiders moonlighting as consultants to hedge funds cannot blatantly peddle their company’s confidential information for personal gain,” Recent insider trading court victories against hedge fund advisers including the case against Raj Rajaratnam have empowered the SEC to bring additional enforcement actions. According to the SEC, they brought 53 insider trading cases in fiscal year 2010 against 138 individuals and entities. This represents a 43 percent increase in the number of cases filed in 2009.
If you employ expert networks and consultants as part of your research process, you need to ensure that you have robust corresponding policies and procedures. Your inventory of firm risks should include expert networks and other areas where your firm may be exposed to material, non-public information. To protect the chief compliance officer (CCO) and the firm, training should take place frequently. Simply adopting additional procedures and disseminating them to your staff from time to time may not be enough. The SEC has successfully brought failure to supervise enforcement cases against firms who had policies and procedures — but did not properly train their staff. The many shades of “gray” associated with identifying insider trading further supports the absolute necessity of planning and implementing training. Training should happen every time policies are updated or annually at a minimum.
The SEC will ask several questions during an examination if you use expert consultants. That being said, there is nothing per se “wrong” with this practice. The legal issues surface when you have a consultant in possession of material non-public information. For example, Winifred Jiau, a former consultant at the expert network firm Primary Global Research, is set to go on trial for allegedly helping to pass along private corporate information to her hedge fund clients. The strongest evidence against Jiau will be provided by taped conversations.
If you use consultants as part of your research process, consider taking the following preventive steps to protect yourself and your firm:
- Be proactive. Actively assess the adequacy and effectiveness of your firm’s insider trading policies and procedures.
- Know your affiliated, potential insiders; for example, board of director members and outside consultants.
- Address any increased compliance risks that expert networks may pose to your compliance program.
- Assess and build appropriate controls around information obtained from expert networks.
- Review the terms of agreements with expert network firms. Protect yourself and the firm with confidentiality agreements with outside consultants. Consider including covenants in agreements with consultants designed to prevent improper disclosure of material non-public information. Establish the consultant’s obligation to comply with the applicable securities laws.
- Avoid being involved with an expert who is an employee of a public company, or adopt increased controls around this, if applicable.
- Compliance should conduct an evaluation of the controls that are in place at expert networks with which the adviser does business. Require adviser staff to read and acknowledge the adviser’s insider trading policies, and pre-approve every conversation with an expert.
- Compliance staff should participate in meetings with consultants and the adviser’s money manager/analyst.
- Obtain certifications from adviser employees who use expert networks that they are not trading on insider information.
- Before any correspondence with a consultant about the subject of the consultation, instruct firm employees to communicate disclaimers either by phone or an email telling the consultant to not provide any material non-public information.
- Compliance staff should conduct and time related forensic testing around consultant meetings and significant news affecting valuations.
- If your firm engages sub-advisers, be sure to impose a robust sub-adviser oversight policy.
Having an effective insider-trading compliance program in place, coupled with appropriate training, is an adviser’s best defense. As is the case with many areas of SEC regulation, policies and processes that are followed consistently and documented well are key in demonstrating that a firm has considered the conflicts involved and has managed them in a manner that puts the interests of clients and investors before those of the firm and its principals.
The original article can be viewed here:
{Jscribd document_id:=58580084 access_key:=key-5dudrn933u7ru1yyiat viewmode:=List h:=500 w:=690}
