SEC Charges Investment Adviser for Off-Channel Communication Recordkeeping Failures

Regulatory Compliance
April 24, 2024

On April 3, 2024, the U.S. Securities and Exchange Commission (the “SEC”) issued a press release about an off-channel communications enforcement action — the first such action against a private fund adviser since the SEC began investigative reviews of off-channel communications in 2022.  

In this most recent enforcement action, the SEC fined the advisory firm $6.5 million for failing to maintain and preserve certain electronic communications. The release shared that several employees violated the firm’s policies and procedures by communicating about company business using personal texting platforms and engaging in off-channel communications that were not archived. In doing so, the firm violated certain recordkeeping requirements of the Investment Advisers Act of 1940, including Sections 204 and 206(4) and Rules 204-2(a)(7) and 206(4)-7.  

By failing to maintain and preserve these off-channel communications and supervise such activity, the investment adviser violated the Advisers Act Recordkeeping Rule. In addition, the SEC also found that the advisory firm failed to maintain and enforce its written code of ethics, which was evidenced by the employees’ failure to obtain pre-clearance for all securities transactions in their personal accounts. The firm’s supervisors also failed to conduct timely personal trading reviews in compliance with the firm’s pre-clearance policy. As a result, the SEC also charged the firm with violating Section 204A of the Advisers Act and Rule 204A-1.

Why this Matters

Investment advisers registered with the SEC are required to maintain certain books and records pursuant to the Investment Advisers Act of 1940. The Books and Records Rule requires firms to retain certain records, including electronic communications, for specified periods in a manner that allows them to be easily accessible for examination by regulatory authorities. The rule aims to promote transparency, accountability, and investor protection by ensuring that relevant communications and other records are preserved and available for regulatory scrutiny.  

The industry has been waiting for clarity on how the SEC would interpret the Advisers Act Recordkeeping Rule, including penalties for investment advisers related to off-channel communications violations. Although this most recent enforcement action did not create complete clarity, the SEC indicated that we may see more enforcement action against investment advisers.

What Advisers Can Do

It is recommended that investment advisers establish written policies and procedures to specifically address electronic communications. To ensure the investment adviser is abiding by its policies and procedures, firm employees should be trained on its electronic communications policies, including guidelines for appropriate use, recordkeeping requirements, and potential risks associated with electronic communications. The SEC's recent enforcement actions make it clear that the commission will fault firms for failing to implement policies and procedures reasonably designed to prevent violations of the Advisers Act Recordkeeping Rule.

Given these considerations, firms must assess the thoroughness of their implementation and enforcement of off-channel communications policies and procedures. Engaging specialized service providers can aid in monitoring and reviewing electronic communications to ensure compliance with firm policies. This encompasses employing electronic messaging archive solutions, automated monitoring tools, or manual review processes. It is recommended that firms conduct periodic reviews of and update their electronic communications policies and procedures to align with evolving technology, regulatory standards, and business methodologies.

How Petra Can Help

Petra Funds Group’s compliance team has decades of experience managing SEC regulatory compliance programs for private fund advisers. The group’s expertise enables them to provide insight and guidance on a wide range of regulatory compliance services, from investment adviser registration to ongoing compliance support to performing SEC mock examinations. Learn more about Petra’s comprehensive compliance offering here and contact Jesse Brown with questions.

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