Views on improving the integrity of global capital markets
07 November 2016

Advisers Beware: Create Business Continuity Plans or Risk Committing Fraud

Posted In: US SEC

Whether it’s cyberattacks, floods, natural disasters, or the winding down of their businesses, investment advisers will need business continuity and transition (BCT) plans thanks to a recent SEC rule proposal. Under the proposal, these BCT plans must allow for the smooth transitioning of client accounts or the adviser will face possible enforcement actions for fraud.

Advisory Industry Bears a Responsibility

Investment advisers, from the trillion-dollar variety to family firms, manage more than $67 trillion in assets. Given the frequency and magnitude of cyberattacks on business, government, and data files, as well as the effect natural disasters can have on the smooth functioning of the financial markets (think Superstorm Sandy), it’s no surprise the SEC wants to ensure that registered investment advisers have procedures in place to continue the processing and transition of client accounts without jeopardizing investor interests.

What may be surprising is the SEC’s position that failure to do so might constitute fraud under the federal securities laws. The proposal noted that under section 206(4) of the Investment Advisers Act of 1940 (Advisers Act), it would be “fraudulent and deceptive” for a registered adviser to hold itself out as providing advisory services “unless it has taken steps to protect clients’ interests from being placed at risk as a result of the adviser’s inability (whether temporary or permanent) to provide those services.”

Following on this duty, the SEC is proposing a new rule [206(4)-4] under the Advisers Act that would make it unlawful for advisers to provide advice without having in place a “reasonably designed” BCT plan that it reviews annually. This rule would also require advisers to include certain components and address specific areas in these plans.

Require a Plan and Provide Guidance on Specific Components

As the SEC recognized in its proposal, most advisers already have BCT plans in place, even though instances that would trigger their use would be rare. And existing rule 206(4)-7 already requires advisers to address BCT plans generally where they are relevant. Moreover, given that the SEC says current rules impose a fiduciary duty on registered advisers who provide advice to transition their client accounts smoothly, we believe that advisers are already on notice to create such plans or face enforcement action.

CFA Institute does not support regulations that are duplicative or unnecessarily add costs that ultimately may be passed on to investors. In our comment letter to the SEC, we supported the overriding goal to protect investors and their accounts in cases when there is a significant interruption in an adviser’s business and the requirement that advisers create and maintain BCT plans. And we generally supported the list of proposed specifics that should be addressed in those plans. But instead of mandating through duplicative regulation what must be included in those plans, we recommended that the SEC provide guidance on the issue.

Such a hybrid approach will allow advisers to fulfill their responsibilities to their clients while providing the flexibility to tailor the plans to their businesses, and it accomplishes the goal of protecting investors without more regulations, added compliance costs, and the eventual cost increase to investors.

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About the Author(s)
Linda Rittenhouse, JD

Linda Rittenhouse, JD, is a director of capital markets policy at CFA Institute. She focuses primarily on issues related to investment products and investment regulation. Rittenhouse holds a JD degree.

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