Division of Examinations’ 2021 Exam Priorities for Registered Investment Companies

On March 3, 2021, the U.S. Securities and Exchange Commission’s (SEC) Division of Examinations (the Division) (formerly, the Office of Compliance Inspections and Examinations) released their FY2021 examination priorities. The 2021 priorities release offers more of a focus on registered funds¹ than did the 2020 examination initiatives, which solely addressed third-party sponsored trusts, never-before examined funds, and management of similarly-managed accounts. As a recap to 2020, the priorities release notes that the Division completed more than 100 fund complex examinations in its 2020 fiscal year, and conducted 100s of outreach calls to funds and registered investment advisers during the COVID-19 pandemic. The current priorities release describes the following fund focus areas:

• ETFs – The Division broadly indicates its focus on ETFs, though this can likely be further broken down into three distinct focus approaches: (i) those ETFs that are able to rely on Rule 6c-11 under the Investment Company Act of 1940 (IC Act) (and in particular the use of custom baskets and adequacy of practice and policies); (ii) leverage and inverse ETFs relying on current exemptive relief²; and (iii) newly created semi- and non-transparent actively managed ETFs relying on newly acquired exemptive relief.
• Liquidity risk management programs – Notably absent from last year’s examination priorities following a long implementation and compliance period, the Division will focus on funds’ liquidity risk management programs this year. Examinations will focus on whether programs are “reasonably designed to assess and manage the funds’ liquidity risk” as well as review the “implementation of required liquidity classifications, particularly in light of the recent stresses in the market due to the COVID-19 pandemic.”
• Valuation – In focusing on valuation and the resulting impact on fund performance, liquidity, and risk-related disclosures, the Division will review for investments in market sectors that experienced, or continue to experience, stress due to the COVID-19 pandemic, such as energy, real estate, or products such as bank loans and high yield corporate and municipal bonds. Keep in mind that during the course of 2021 and 2022, funds and their investment advisers will be working on implementing the requirements of new Rule 2a-5 under the IC Act addressing fair valuation.
• Fund filings and reports to the fund board – The Division often reviews funds’ compliance programs and governance practices, with a focus on disclosures to investors (i.e., securities lending), valuation, filings with the SEC, personal trading activities, and contracts and agreements. The Division will review fund filings and reports to funds’ boards for compliance with regulatory requirements and for valuation issues.
• Advisory fee waivers – In perceived conjunction with last year’s settled enforcement action in this area, and 2019 guidance on how to properly present recoupment of fee waivers in fund reporting, the Division will focus on advisory fee waivers during examinations.
• Money market funds – The Division will review such funds’ compliance with stress-testing requirements, website disclosures and board oversight as required under Rule 2a-7 under the IC Act.
• Never-before examined or not recently examined – With this recurring focus area, the Division will continue to review funds that have never undergone a Division examination, or those that have not been examined in “a number of years.”

Outside of the above, the Division’s 2021 priorities release also carries over several 2020 focus areas that may be factored into fund examinations:

• Transition from LIBOR – The Division intends to engage with registrants to assess their understanding of any exposure to LIBOR, their preparations for the expected discontinuation of LIBOR and the transition to an alternative reference rate.
• ESG – Environmental, Social, and Governance (ESG) investment strategies are of particular interest to the Division. In part, it is interested in the accuracy and adequacy of disclosures made to investors in fund documents and advertisements, as well as reviewing proxy voting policies and procedures and votes to assess alignment with the stated strategy.
• AML – Funds’ anti-money laundering (AML) programs will be assessed for whether the funds “have established appropriate customer identification programs and whether they are satisfying their SAR filing obligations, conducting due diligence on customers, complying with beneficial ownership requirements, and conducting robust and timely independent tests of their AML programs.”

Our guidance

The Division’s examination priorities highlight its assessment of risks and issues anticipated to face the fund industry over the course of the coming year. As such, funds should consider the examination priorities provided by the Division as they implement their compliance program initiatives, risk inventory, and monitoring and testing for 2021. The Division’s examination priorities highlight its assessment of risks and issues anticipated to face the fund industry over the course of the coming year. As such, funds should consider the examination priorities provided by the Division as they implement their compliance program initiatives, risk inventory, and monitoring and testing for 2021.

How we help

ACA offers compliance consulting services to registered funds along with:

• mock SEC examinations and compliance program reviews
• liquidity risk management program assessments
• focused performance reviews
• ESG program management, portfolio oversight and assurance

To learn more about how ACA can help enhance or strengthen your compliance program, please contact your ACA consultant or contact us here.

¹Given the Division’s continued focus on protecting retail investors in the 2021 priorities, the Division singles out “mutual funds” and “ETFs” (or exchange-traded funds) in its discussion. ACA, however, will use the more generic terms “fund” and “registered fund” so as not to limit our remarks to the two product types named by the Division.

²The Division also notes that compliance with exemptive relief more generally is a focus area during examinations.