Mar. 28, 2019

The SEC’s Enhanced Order Routing Disclosures: How New Disclosures Shed Light on Rebates Paid to Broker-Dealers (Part One of Three)

Beginning in May 2019, hedge fund managers that trade National Market System (NMS) stocks will have access to significantly more disclosures regarding broker-dealer order handling as a result of the SEC’s sweeping amendments to Rule 606 of Regulation NMS under the Securities Exchange Act of 1934. Although fund managers do not have any direct obligations under Rule 606, these new disclosures will assist fund managers that trade NMS securities in evaluating their broker-dealers’ order routing practices, quality of execution and potential conflicts of interest. Additionally, SEC examiners and institutional investors are likely to ask how fund managers are incorporating this data into their best execution reviews. This first article in our three-part series provides background on the evolution of the equity market structure; existing Rule 606 disclosure requirements; the types of incentives – including payment for order flow, rebates and the “maker-taker” fee model – that exchange and non-exchange markets provide to executing broker-dealers; and ways the “pass-through” fee structure that some fund managers pay to their executing brokers differs from the “all-in” commission fee structure. The second article will examine the amended Rule 606(a) reports and new Rule 606(b)(3) reports. The third article will outline how fund managers should incorporate these new disclosures into their best execution reviews and transaction cost analyses. See “Misrepresentations About Dark Pool Participants and Order Routing Cost Citi Entities Nearly $13 Million in Recent SEC Settlement” (Nov. 1, 2018).

Former OCIE Deputy Director Jane Jarcho Discusses the Relationship Between OCIE and Enforcement (Part One of Two)

After 28 years at the SEC, Jane Jarcho has left the agency and joined Promontory Financial Group as a special adviser. Jarcho spent the last ten years in the Office of Compliance Inspections and Examinations (OCIE) as National Director of the Investment Adviser/Investment Company examination program and also, in her last 18 months, as Deputy Director, where she led national examination initiatives in areas such as cybersecurity; exchange-traded funds and mutual funds; money-market funds; share class selection; robo-advisers; target-date funds; and wrap fees. The Hedge Fund Law Report recently interviewed Jarcho in connection with her move to Promontory and presents her insights in this two-part series. This first article covers her move to the private sector; examines her experience in the SEC’s Enforcement Division and OCIE, including her time in the first internet-focused enforcement unit and her role in developing national exam initiatives; and explores the relationship between the two divisions. The second article will discuss her thoughts on OCIE’s National Exam Program; the impact of technology and the hiring freeze on the program; OCIE’s annual exam priorities; and the private funds space in general. For insights from Jarcho while she was at the SEC, see our two-part series “SEC Division Heads Enumerate OCIE and Enforcement Priorities”: Cybersecurity, Fees, Bad Actors and Never-Before Examined Hedge Fund Managers (Apr. 28, 2016); and Conflicts of Interest, Valuation, Performance Advertising and CCO Liability (May 5, 2016). See also “Top SEC Officials Discuss Hedge Fund Compliance, Examination and Enforcement Priorities at 2014 Compliance Outreach Program National Seminar (Part Two of Three)” (Feb. 28, 2014).

Lessons on Adviser Marketing From Recent Examinations and Enforcement Proceedings

Performance advertising, backtesting and use of digital media in marketing create a hornet’s nest of regulatory risks for advisers. A recent ACA Compliance Group (ACA) program on advertising and marketing deficiencies focused on common issues raised during SEC examinations and recent enforcement proceedings concerning performance advertising, backtesting and use of testimonials. The program featured Kimberly Daly and Carrie Morehead, partner and consultant, respectively, at ACA, along with Stacey Song, partner at Fried Frank. This article summarizes their insights. See our three-part advertising compliance series: “Ten Best Practices for a Fund Manager to Streamline Its Compliance Review” (Sep. 14, 2017); “Five High-Risk Areas for a Fund Manager to Focus on When Reviewing Marketing Materials” (Sep. 21, 2017); and “Six Methods for a Fund Manager to Test Its Advertising Review Procedures” (Sep. 28, 2017).

FINRA RegTech Conference Reviews Current Uses of RegTech and Considerations Before Deployment (Part Two of Two)

Although regulatory technology (RegTech) can assist fund managers in effectively complying with laws, it also raises new challenges. FINRA’s 2019 RegTech Conference, which featured regulators, financial services firms and RegTech experts, considered the growth of RegTech and its associated benefits and challenges. This article, the second in a two-part series, covers the portions of the conference that explored current uses of RegTech by regulated entities and regulators; considerations before deploying RegTech; and a case study of RegTech implementation. The first article examined artificial intelligence and big data; blockchain; RegTech challenges; and regulators’ views on RegTech. For more on compliance technology, see “Developing a 2018 Compliance Budget: How Investment Advisers Can Make the Most of Limited Resources” (Dec. 21, 2017); and “How Hedge Fund Managers Can Use Technology to Enhance Their Compliance Programs” (Nov. 17, 2011).

Taxation of Carried Interests for Senior Level Fund Managers (Part Four of Four)

In a four-part guest series, Arthur H. Kohn, partner at Cleary Gottlieb, along with Andrew L. Oringer and Steven W. Rabitz, partners at Dechert, summarize the principal U.S. federal income tax and related design considerations associated with carried interest arrangements for individuals who are employed by or otherwise provide services to sponsors of private investment funds. This fourth article explores practical and design considerations related to profits interests in a tax partnership, including forfeitures and the structuring and administration of profits interests, as well as deferred compensation arrangements. The first article provided background on carried interest arrangements and examined relevant analytical considerations. The second article discussed other practical and design considerations, including 83(b) elections; fee-waiver provisions; and the tax treatment on the repurchase or disposition of profits interests or the payment in liquidation of profits interests. The third article reviewed additional practical and design considerations, including the treatment of profits interests and capital interests as separate interests in a partnership; dual-status issues; phantom income; and tax distributions. For additional commentary from Oringer and Rabitz, see “RCA PracticeEdge Session Highlights the Key Points of Intersection Between ERISA and Hedge Fund Investments and Operations” (Jul. 18, 2014); and “Is That Your (Interim) Final Answer? New Disclosure Rules Under ERISA to Impact Many Hedge Funds” (Aug. 20, 2010).

Former Senior SEC Official and Assistant U.S. Attorney Joins Jones Day in Dallas

Jones Day announced that Shamoil T. Shipchandler has joined the firm’s Dallas office as partner in its investigations and white collar defense practice. Shipchandler was most recently in the SEC’s Fort Worth Regional Office, where he served as Director since September 2015; supervised the region’s enforcement program; and oversaw and helped develop its examination program. For coverage of Shipchandler’s statements while he was at the SEC, see our two-part series: “SEC Officials Flesh Out Cybersecurity Enforcement and Examination Priorities” (May 11, 2017); and “SEC Officials Discuss Cybersecurity Examination Priorities and Provide Guidance on When to Disclose Cyber Events” (May 18, 2017).