FINRA fines broker-dealer over supervisory procedures
WASHINGTON — A Chicago-area fixed-income securities broker-dealer firm agreed to pay $25,000 to settle Financial Industry Regulatory Authority charges for allegedly relying on alternative trading systems for risk management and failing to establish, document and maintain its own controls.
Arbor Research and Trading LLC, headquartered in Barrington, Illinois, agreed last week to pay the fine, $12,500 of which pertains to violating the Municipal Securities Rulemaking Board's Rule G-27 on supervision. The firm agreed to be censured while neither admitting or denying FINRA’s findings. The CEO will also submit a certification that explains how the firm has corrected its supervisory system and procedures.
“From August 2014 through January 2017 (the "Relevant Period"), Arbor was a broker-dealer with market access and that provided customers with access to an alternative trading system (ATS), but failed to establish, document, and maintain a system of risk management controls and supervisory procedures reasonably,” FINRA found.
During the relevant period, Arbor engaged in fixed income trading on five ATSs, limited to municipal fixed income securities. The firm also operated one SEC-registered ATS, Clarity BidRate — a web-based, real-time, universal trading platform for trading variable rate debt obligation bonds and other types of municipal fixed income debt securities — beginning in October 2016.
“Arbor provided authorized subscriber clients access to the system in order to enter, post, and transmit bids and offers, and to effect transactions,” FINRA found. “VRDO bonds were placed into an auction on a weekly basis at a set time each week. The subscriber clients numbered approximately 25, and all were institutional customers.”
As a result, Arbor was both a broker-dealer with market access and a provider of market access to customers, so the firm was required to comply with Securities and Exchange Act Rule 15c3-5. The rule requires broker-dealers with market access to maintain management controls and supervision processes to limit financial exposure and ensure compliance with all regulatory requirements.
FINRA found the firm did not have procedures to limit the financial exposure of the broker or dealer such as preventing the entry of orders that exceed appropriate pre-set credit or capital thresholds in the aggregate for each customer.
“On the external ATSs, the firm relied on the financial risk management controls maintained by the ATSs, but failed to establish, document and maintain its own financial risk management controls, including those designed to prevent the entry of orders that exceeded pre-set capital thresholds and to systematically limit the aggregate financial exposure resulting from market access across different external ATSs,” FINRA found.
FINRA found that Arbor could not rely on the ATSs, and had to document and maintain its own systems, including those designed to prevent the entry of orders that exceeded pre-set capital thresholds and to systematically limit the aggregate financial exposure resulting from market access across different external ATSs.
“Under these circumstances, the firm's reliance on the external ATS controls did not function to meet the firm's obligation to establish, document, and maintain reasonably designed financial risk management controls,” FINRA found.
Arbor also allegedly failed to manage supervisory procedures designed to ensure compliance with all regulatory requirements, including preventing the entry of orders for securities for a broker or dealer, customer or “other person if such person is restricted from trading those securities.”
In 2015 and 2016, Arbor allegedly failed to conduct an annual review to assure the overall effectiveness of its risk management controls and supervisory procedures, and to preserve a copy of the documentation of its review.
Arbor and Clarity BidRate declined to comment.
Arbor became a FINRA member in January 1988. It employs about 30 registered persons and has five branches. It did not have any disciplinary history.