(Dow Jones) The Securities and Exchange Commission is stirring anxiety among some financial advisors by reaching out to clients at random, questioning them about their advisory relationship and verifying account assets. ?
The precautionary measure was adopted earlier this year in response to the Bernard Madoff case and other fraud scandals. Advisors and brokerage executives are worried these randomized inquiries will make a client uncomfortable with an advisor or firm even though they are not the result of any suspicious activity.
One advisor, based on the West Coast, recounted how a client had called him immediately after fielding one such inquiry from the SEC.
"He wanted to know if I had done something to make the SEC suspicious," the advisor said. "Even though I explained that the checks are at random, it still leaves a bad taste in his mouth."
He likened it to the police questioning a wife about her husband's recent activities and their marital relationship. Even if police said it was a routine exam, that husband wouldn't find a happy spouse when he came home that night, the advisor predicted. ?
Ivan Knauer, a partner at Philadelphia-based law firm Pepper Hamilton LLP, says advisors should try to be proactive, and tell their clients about the SEC's program before they get a call. ??"The SEC is just kicking the tires," Knauer said. "They aren't accepting advisors' word at face value any more. They are going to the clearing firms and the customers to make sure they're getting the returns advisors say they're getting." ?
Earlier this year, Knauer served as senior counsel in the SEC's Enforcement Division, investigating insider trading and other securities law violations. He says the program is, in general, helpful to advisors and clients. As long as an advisor isn't engaged in fraud they have nothing to worry about, he said. ?
"Advisors can also use this as an excuse to reach out to clients and strengthen that relationship," Knauer said. ??He added that advisors can use this as a pretext to discuss all the new measures in place to protect investors and keep their assets safer.
Many client-advisor relationships have been damaged over the past year by the financial meltdown, which hit the stock market hard, and by the wave of Madoff-like scandals. ?
The SEC's Office of Compliance Inspections and Examinations, or OCIE, is conducting the random calls, along with other types of investigations. As of June, there were 425 exam staff members for the oversight of more than 11,000 advisors.
About 80% of all OCIE's exams find some type of deficiency or violation, according to the SEC's Web site. ?
A spokesman for the SEC said there are several types of third-party verification exams, and each follows its own procedure. He said he could not break out just how many clients were being contacted or how they are chosen. ?
Knauer suspects that this type of regulatory practice, though unusual now, will become normal over time. ??"It's generally a good thing, and client's shouldn't be alarmed. The SEC is just doing their job," he said.
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