FINRA Fines Firm for System Deficiencies That Resulted in Customer Failures to Receive Best Execution (with Lofchie Comment)

FINRA issued a fine of more than $1 million against a firm for failing to provide best execution in certain customer transactions involving non-convertible preferred securities executed on one of its proprietary order management systems, and for failing to have an adequate supervisory system and written supervisory procedures in place.

FINRA found that the firm had programmed a faulty pricing logic into its automated systems that only incorporated quotations published on the primary listing exchange for each non-convertible preferred security. As a result, in instances when there was a better quote on a market other than the primary listing exchange, that quote was not reflected on the firm's internal systems. Because of this, the firm instead executed thousands of transactions in non-convertible preferred securities with its customers on its internal systems at prices that were inferior to the National Best Bid and Offer.

Thomas Gira, FINRA Executive Vice President and Head of Market Regulation, said, "It is paramount that a broker-dealer's systems are adequately designed to ensure that customers receive fair prices in securities transactions. The firm lacked the necessary systems and supervision to ensure that it provided customers with the best execution of their non-convertible preferred securities transactions which resulted in many customers receiving inferior prices for more than four years."

Lofchie Comment: I wonder if firms have really caught up to the reality that a thorough review of the way in which each item of technology in a firm works is an essential part of the compliance process. To accomplish this requires that the compliance department have (i) an inventory of the technology used by the firm, (ii) as to each item of technology in the inventory, a list of the compliance requirements that the technology is required to fulfill and (iii) a method to check that the technology is working correctly from a compliance standpoint. Without such an inventory, it would be a constant challenge to determine whether the firm is in compliance with its ongoing requirements, much less to figure out how to keep up with regulatory changes. For a not entirely unrelated discussion of a firm running into technology problems that became compliance problems, see our memorandum: Quantitative Investment Models and Compliance Policies and Procedures. See also the recent memo on proposed Regulation SCI: SEC Issues Proposed Regulation SCI (with Barrentine and Lofchie Memo).Firms which should be instituting these necessary compliance procedures are at the same time burdened by an avalanche of regulatory changes. (Clients may callGlen Barrentine or me if they want some help in thinking through how to develop an inventory process of either technology or rule, or of how to put the two together.)

View Action in full here (links externally to FINRA website).See also: Press Release.