As a securities broker, Morgan Stanley, which is facing a possible $10 million fine from the Securities and Exchange Commission for failing to keep certain email (see related coverage at right), is subject to tougher record-retention requirements under the Securities Exchange Act than other public companies.
Similarly, investment advisers also have enhanced obligations under the Investment Advisors Act when it comes to retaining records—and they are currently involved in an effort to get the SEC to clarify email obligations that they claim are creating unnecessary compliance burdens.
Tittsworth
David Tittsworth, executive director of the Investment Adviser Association in Washington, tells Compliance Week that it has become common practice for the Commission to request, during the course of an inspection, that all firm email or all email to or from certain individuals be produced promptly and in an electronically searchable format.
“Firms spent a whole lot of money trying to comply with these unprecedented SEC requests,” says Tittsworth, who wrote to Commission in November 2004 seeking “needed clarification” and thus far has heard nothing. “The silence is deafening,” he says.
The IAA has received support from the American Bar Association’s Committee on Investment Management Regulation, which in May of this year wrote to the SEC urging that the uncertainty be addressed through rulemaking, which would give interested parties the opportunities to comment.
Coleman
The ABA letter from committee chair Stuart H. Coleman, a lawyer with Stroock & Stroock & Lavan in New York, noted that the “uncertainty surrounding email retention is even greater for the many investment advisors that are also registered broker-dealers. These advisers must not only comply with the Investment Advisers Act and its rules, but they must also satisfy the email retention requirements imposed both by the Securities Exchange Act of 1934 (and its rules) and by the Self-Regulatory Organizations to which these advisors belong (such as the NYSE or the NASD).”
Coleman urged the SEC to “standardize these requirements such that advisors that are also broker-dealers are not subject to varying email retention regimes.”
‘Informal’ Interpretation Covers Email
According to Tittsworth, the problems for investment advisors began in 2003 when regulators discovered emails reflecting questionable activities in mutual fund activities. Subsequently, Commission examiners began routinely requesting the production of investment advisor email.
The SEC bases its authority to demand these emails on Rule 204-2 of the Investment Advisors Act, which specifies the records and information investment advisors are required to maintain. In his May 2005 letter, Coleman noted that the SEC staff “has, through its inspection and enforcement process, informally interpreted Rule 204-2 to apply to email.”
One problem, Tittsworth says, is that the SEC has been requesting emails that do not include required information under Rule 204-2, which many investment advisors have not bothered to save. Although the SEC has acknowledged that firms are not required to retain email that does not include required information, the Commission has warned firms to have policies in place to ensure that required information is maintained—but has not revealed what procedures it considers sufficient.
In his letter on behalf of the ABA, Coleman noted the financial burden required to review every email individually prior to deletion. “[R]easonable email retention procedures should permit the deletion of email that has been filtered out of a recipient’s emailbox by a recognized ‘spam’ or ‘junk’ email filtering program,” he said.
Another issue for investment advisors has been the Commission’s demand that the emails be produced in a searchable format. But Tittsworth notes that there is no existing rule requiring that these emails be kept in a particular format. As a result, investment firms “have incurred considerable expense obtaining additional storage capacity and hiring specialists to restore the contents and transfer the requested material to a searchable format,” he told the SEC in his November 2004 letter.
The Commission has also upset investment advisors by suggesting that they have an obligation to review or monitor email of employees for violations of federal securities laws. Although the IAA takes the position that investment advisors may want to consider surveillance of email in appropriate circumstance, this should only be “one potential method in their arsenal to detect violations,” Tittsworth told the Commission.
Unfettered Authority
The situation involving email retention “has been one of the hottest for investment management firms” in the past year, Tittsworth tells Compliance Week.
He says his association’s position “has been very consistent—we understand why [the SEC] wants these emails but it needs to require this stuff by rulemaking—to tell the regulating community what they’re supposed to be doing.”
Although the Commission seems to “basically agree in principal … nothing’s happened,” Tittsworth notes.
He says that there have been hints from the Commission that it may address his association’s concerns through a staff interpretation, but that formal rulemaking would be the preferred vehicle.
“In the context of a rulemaking, you have an opportunity to go in and argue,” Tittsworth notes. “Do we think we should give our regulator unfettered authority to come in and ask for anything in any kind of format? Absolutely not. But, if they at least followed the process and gave us an opportunity for comment, we’d feel like we’ve had some sort of process. .... We’re not going to be that wild about it if and when that happens. But at least that would be fundamentally more fair.”
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