New Jersey-based has Pershing LLC settled alleged rule violations with FINRA for problematic actions. The agency said Pershing distributed more than one million account statements and trade confirmations that listed inaccurate interest rate information for certain variable rate securities.

FINRA said the firm also provided inaccurate interest rate information about those securities through the online access portals the firm provided for customers and registered representatives of the introducing firms that used Pershing’s clearing services.

The firm consented to the imposition of a censure and a $1.4m fine.

Books and records violations

Pershing, which provides clearing services and carries accounts for more than 450 introducing firms on both fully disclosed and omnibus bases, employs more than 1,100 registered individuals out of 15 branch offices.

FINRA said that from January 2010 through December 2022, those inaccurate interest rate details were inside statements, trade confirmations, and posted online so customers were seeing such inaccuracies, and the agency cited the firm under the recordkeeping rules, namely, SEC Rule 17a-3 and Rule 4511.

FINRA Rule 4511 requires member firms to make and preserve “books and records and 17a-3 requires firms to make and preserve “copies of confirmations of all purchases and sales of securities.”

FINRA alleges that Pershing made available inaccurate interest rate information through its online access portals, and Pershing provided inaccurate information on over one million customer account statements and transaction confirmations sent to customers.

“The firm’s security master system, which contains information the firm relies on when generating transaction confirmations and customer account statements, contained incorrect information for certain categories of securities with variable interest rate features for two reasons,” FINRA said in its order.

First, Pershing relies on a third-party vendor to provide interest rate information for variable rate securities issued by foreign issuers. Between January 2016 and September 2022, the firm’s third-party vendor failed to provide any updated interest rate information for at least 13,000 foreign variable rate securities. As a result, for each such security, Pershing’s security master system continued to reflect the initial interest rate, even after the security’s interest rate had changed.

Second, from 2010 through 2022, Pershing’s security master system contained coding that, in many instances, prevented it from listing zero percent as the interest rate for certain variable rate domestic bonds. Pershing regularly received a file from a different third-party vendor with updated rate information for the bonds, which the firm fed into its security master system. Whenever that file contained a zero-percent interest rate, Pershing did not ingest that rate into the security master system; that system retained, instead, the most-recent non-zero interest rate. This caused tens of thousands of inaccuracies in Pershing’s security master system.

This zero-interest-rate issue led to Pershing’s security master system containing inaccurate interest rate information for approximately 2,900 variable rate domestic bonds, FINRA said.

Supervisory procedure lapses

FINRA focused also on how the books and records violations arose because of written supervisory procedures (WSPs) that were not sufficient to enable the firm to reasonably investigate any red flags of potential legal and regulatory violations.

It said in its order that from January 2010 through December 2022, Pershing did not have a reasonable system to supervise the accuracy of interest rate information stored within the firm’s security master system or the accuracy of documents, such as transaction confirmations and customer account statements, that rely on the information stored within the security master system.

“The firm’s security master system … contained incorrect information for certain categories of securities with variable interest rate features for two reasons.”

FINRA

Pershing performed various technical checks to verify that the interest rate information it received from third-party vendors matched the data in its security master system and on customer-facing documents. However, the firm did not have a process reasonably designed to compare the information in its security master system to any third-party data source or otherwise confirm its accuracy. There was no system to verify the accuracy of interest rate information sent to customers, the agency alleged.

And this was true even though a number of Pershing customers notified the firm of the inaccurate data appearing on their account statements. FINRA said “on those occasions, Pershing failed to investigate the cause of such inaccuracies or whether they were more widespread.”

FINRA Rule 3110 requires a member firm to establish and maintain a supervisory system, including WSPs, that is reasonably designed to achieve compliance with applicable securities laws and regulations, and with applicable FINRA rules.

Supervisory processes in the spotlight

FINRA cited a couple of other firms in its latest round of disciplinary actions for supervisory system lapses.

It settled charges with Western International Securities, Inc., which FINRA said failed to establish, maintain, and enforce a supervisory system, including WSPs, reasonably designed to achieve compliance with FINRA’s then-applicable suitability requirements as they pertain to excessive trading.

As a result, Western failed to reasonably respond to trading in approximately 100 accounts that appeared to be potentially excessive and unsuitable. This included trading, between January 2016 and December 2019, in nine customer accounts by four registered representatives that produced an average turnover rate of eight and caused those customers to pay total trading costs of more than $2.5m.

FINRA also settled a disciplinary action with SpeedTrader, Inc., for potentially manipulative trading by its market-access customers and failing to have reasonable market access controls and procedures.

SpeedTrader relied on an automated third-party system to surveil for potentially manipulative trading by its customers, with the trading automatically fed through the vendor’s systems and (if certain parameters were met) generating an exception alert to SpeedTrader.

FINRA said the company “failed to maintain direct and exclusive control” over this system and also failed to comply with certain annual certification requirements.

Importantly, FINRA said the lack of oversight the business provided its third-party surveillance system included not assessing whether the technology’s parameters were reasonably tailored to the firm’s business model and lacked periodic assessments of whether the system was functioning as intended.

And perhaps more problematically, FINRA said in its order that the firm reached out several times to a customer whose trading activity generated alerts for potentially manipulative trading, but the customer failed to respond for months, and the firm did not place any restrictions on them.

WSPs

In each of these cases, FINRA took pains to note that WSPs must provide reasonable guidance to those using them – being clear the procedures are understood and used. In the SpeedTrader action, FINRA said WSPs said each exception alert should be reviewed “independently” without explaining what “independently” meant.

In the Pershing action, FINRA noted that even though those customers that notified the firm of inaccurate interest rate information had their statements corrected, the business failed to then investigate more broadly the cause of the inaccuracies or how widespread they were. This was because procedures were not reasonably designed, communicated and enforced to make sure such issues would not arise, the agency observed.

And FINRA continues to tie the importance of WSPs to the review of fintech vendor reliance, such that any third-party platform and its capabilities must be reasonably tailored to the firm’s business model, including (as FINRA mentions with SpeedTrader) the type and nature of the firm’s customers’ order flow.

Finally, in recent decisions involving the monitoring of representatives’ electronic communications, the agency has sited the failure to establish, maintain, and enforce a reasonable supervisory system, including WSPs, to supervise the communications, which the agency has noted must be included, both external and internal communications, plus customer complaints.

To this list, I’d just add that member firms need to ensure their supervisory employees receive appropriate training and possess the necessary skills (and licenses) to perform these supervisory roles.