SEC's Compliance Alert: We Told You So

Hat tip to fellow blogger gal Wendy Fried for news about the recent release of an important ComplianceAlert, issued by the U.S. Securities and Exchange Commission. Click to read "Sloppy subprime valuations on Wall Street?" (July 25, 2008).

According to the SEC website, a ComplianceAlert letter highlights results of examiners' audits in an attempt to "encourage" institutions to better their current compliance and supervisory efforts. In its July 2008 letter that starts "Dear Chief Compliance Officer," the SEC staff provides a laundry list of concerns, including, but not limited to:

• Inadequate monitoring of personal trading by advisory staff
• Weak oversight of mutual fund boards to "confirm that the proxy service providers' recommendations were consistent with funds' policies and procedures"
• Stale valuations of high yield municipal bond fund holdings
• Poor or no disclosure of the increased valuation and liquidity risk when "the percentage of illiquid securities held by a fund dramatically increased"
• Questionable quality of price verifications of collateral held by certain broker-dealers
• Inexperienced staff who were nevertheless tasked to validate model prices
• Lack of documentation as to valuation standards relied upon by some broker-dealers.

The letter concludes with a variety of recommendations, including but not limited to:

• Improvement of price verification and assessment of "modeled inputs and the calibration of valuations against trades or trade information inferred from activity in similar securities and or the derivative markets"
• Retention of records "used in determining value"
• Getting independent product control groups involved in "monitoring collateral valuations"
• Creating and maintaining a database that "serves as the internal repository for security position information, including periodic valuations, in order to ensure consistency amongst various inventory trading accounts and collateral valuations."

I hate to say "we told you so" but this blog has been on a tear about proper valuation process for a long time. Check out a few of our many past posts. 

• "Can You Spell 'Bad Valuation Practices'?" (June 3, 2008)
• "Missing Collateral = More Risk for Hedge Funds and Pension Plans" (December 24, 2007)
• "Pension Fiduciaries - Have You Asked Your Bankers About Their Risk Controls?" (November 5, 2007)
• "The Abracadabra of Valuation - Pension Fiduciaries Beware" (October 12, 2007)

With FAS 157 and international equivalent accounting rules forcing change, pension fiduciaries need to take a hard look at their external service providers' trading controls and valuation policies and procedures, if not already. Check with legal counsel but likely they will remind plan sponsors that delegation does not absolve one of the fiduciary duty to properly select and oversee vendors.

Comments

[Gary A:]

Well this all will come out in the wash when the mainstream press decides to quit burying the NAB story. You know, the one about the National Australia Bank writing down their AAA rated CDO's to 10 CENTS on the dollar. There is not enough capital in the world to bail out every American bank and investment bank and fannie and freddie based on 10 cents to the dollar.

2008 Jul 27 11:12 AM

[Old Trader:]

I caught the story via Bloomberg, the other day, and had one of those "Uh oh" moments. Although the MSM hasn't really picked up on it, I'll bet that there was a lot of soiled underwear at many financial institutions when that came out, if not just before (when word spread through the grapevine).

old trader

2008 Jul 27 12:40 PM

[Gary A:]

Even my MBA son, who does not believe there will be a depression, was stunned when I told him about NAB.

2008 Jul 27 01:37 PM

[Did U Think...:]

bgamall: remind your mba son that greenspan and bernanke are phds and thus outrank him in the elitist intellectual sheepskin dept yet we are in the deepest economic doo doo any nation has ever been in.

Ever.

Remind him that ex-marines have a demonstrated track record for being better traders and let him know that the reason is that a marine sees things for what they are and then acts accordingly or he dies. An intellectualy will quote verses from texts explaining why all the flames around him are not real and will thus self extinguish shortly.

Then have him go read Ron Paul, Peter Schiff, and Robert Prechter to figure out how things really work over the long run.

All you have to do to win right now is put 1/2 your wealth into physical gold and then build a long term speculative position against the market in the form of deep out of the money puts (leaps). Buy them deep and cheap because when the market collapses the way nobody really believes is possible, people who did this will be multimillionaires.

2008 Jul 27 09:37 PM

[RRawat:]

This is time for American action, vision, leadership, and resolve. Only America can serve as an engine of global growth or the whole world will sink into a long economic depression. Deficit will grow for a short term, but bold leadership can revitalize jobs here and abroad, fix energy issues, improve healthcare, fire-up innovation, improve education, and improve the quality of life...for all the world's people. We are the singular entity with authenticity, credibility, and wealth enough to help the world in such a unique way.

2008 Jul 28 01:08 AM