Aspect Advisors and C-F&M 2022 IA/BD Compliance Update
We wanted to take this opportunity to thank everyone who attended and participated in our 2022 compliance update hosted by Justin Schleifer, Co-Founder, President (Aspect Advisors), and Bart Mallon, Co-Managing Partner (Cole-Frieman & Mallon). Our discussion on March 3 touched on many essential topics for financial industry professionals to keep top of mind for the upcoming year. Some high points included:
- Imminent Deadlines & Filings
- ADV and CRS – March 31
- Form PF – April 30 (annual filers)
- Rule Implementation Dates
- SEC Advertising Rule – November 2022
- Proposed Private Fund Disclosures – Q2 2023
- Proposed Cybersecurity Rules – Q2 2023
- Periodic Tasks
- Annual review of policies and procedures
- Business continuity test/review
- Cybersecurity test
- Customer/account reviews
- Employee training
- Code of ethics surveillance
SEC Marketing Rule Implementation
The new SEC Marketing rules will replace the existing regime of no-action letters and establish clear rules for fund managers. These rules will not fundamentally change the spirit of the current regime and instead clarify specifics on today’s issues such as social media use, blog posts, testimonials, and others. The new rules are not expected to impact the investment management industry significantly. Still, fund managers will need to update policies and procedures and review current advertising materials to ensure compliance with the new rules.
Proposed Private Fund Disclosure Rules
The SEC has proposed new rules for private fund disclosures that seek to improve transparency for types of information that investors receive to aid them in making informed decisions. As it stands, the proposals could profoundly impact private fund operations and the relationship between managers and investors regarding investments. The effects would be felt by large fund managers who receive institutional investments. The institutional investor has the leverage to ask managers for preferential rights and other forms of favorable treatment. The SEC is reviewing proposals, and experts believe that some version of the rules will likely be implemented in 2023.
Proposed Cybersecurity Rules
In recent years, there has been a push from the SEC and other financial regulators to improve cybersecurity, so it comes as no surprise that the SEC has formally proposed a set of rules to govern the matter. Like other policy and procedure requirements, many of the new rules lack specifics, meaning that individual firms will need to determine what they view as necessary to include to maintain compliance.
From the past six months, everyone’s favorite buzzword has grown in prominence within the investment management industry following the launch of NFT-exclusive private investment funds. Like other digital assets, the primary concerns for managers are custody and the general compliance of the assets. NFTs have also raised novel valuation questions as experts seek ways to appraise the assets in ways beyond their trading price.
The emergence of DAOs as legal entities has raised two critical items to follow in 2022. First, DAOs have sought to create real-world investment products, raising questions about how private fund managers can allow a DAO to invest in the fund. Second, DOAs have inquired about launching their private investment fund products, which presents unique legal and compliance challenges that need to be tackled.
A popular question from fund managers in the digital asset space regards opening accounts at offshore exchanges legally. To date, there is no easy answer, and attempts to do so must be conducted carefully on a client-by-client basis. There will be instances where opening an offshore exchange account is impossible or cost-prohibitive.
The SEC succeeded in sending shockwaves through the digital asset space after it agreed to a $100 million settlement with BlockFi over BlockFi’s interest product. BlockFi has decided to work with the SEC to register the product. Still, experts are unsure of how this will be done and wonder if this settlement will affect the desire of other market participants to develop new products. Furthermore, this settlement reflects the SEC’s troubling pattern of regulating by enforcement instead of publishing new rules and guidance. It also shines a light on how the SEC views these products as securities and could be the first step in considering specific lending-focused smart contracts to be securities.
Crypto Best Practices
There are essential best practices that fund managers in the digital asset space need to be aware of, especially managers experienced in traditional asset classes:
- It is essential to conduct and document diligence on counterparties and vendors. Vendors in the digital asset space are often new and unproven, in contrast to the established vendors of traditional asset classes.
- Fund managers must have a reasonable basis for custody providers and custody solutions. Nonetheless, while the SEC views custody of digital assets as being out of the ordinary, they have primarily been receptive to new solutions.
- Be aware of the potential to receive MNPI.
Unlike traditional asset classes, there are fewer mechanisms for publishing company information to make it public. It is essential that employees understand the meaning of MNPI and how it impacts their business.
Big Predictions for 2022
Justin predicts that the SEC will bring another significant enforcement action that matches the BlockFi action in scale. The agency wants to further apply traditional securities law to digital assets, which means we could see another large settlement or a case fought in public court to set a precedence within the industry. Bart predicts increased activity from DAOs and potentially a significant breakthrough with DAOs in the next six months.