FINRA fines Merrill Lynch for deficient supervision of employees’ communications
The United States Financial Industry Regulatory Authority (FINRA) has reached a settlement with Merrill Lynch, Pierce, Fenner & Smith Incorporated whereby the firm agrees to pay a $450,000 fine.
From on or about September 1, 2013 through approximately June 2016, Merrill did not reasonably supervise certain types of public and private side employee communications under the firm’s policies and procedures, in violation of NASD Rule 3010 and FINRA Rules 3110 and 2010.
During the Relevant Period, Merrill maintained supervisory and compliance procedures that governed the management of information barriers and wall crossings. Those procedures included a firm-wide Enterprise Information Wall Policy, a Global Wealth and Investment Management (GWIM) Information Wall Policy, a Global Banking and Markets/Global Commercial Banking (GBAM) Information Wall Policy, and a Need to Know Policy. The firm’s policies required functional and physical separation of its private side and public side designated employees, and generally prohibited the flow of potential material nonpublic information (MNPI).
During the Relevant Period, however, the firm’s systems and procedures for designating and training public and private side personnel, supervising communications between them, and escalating communications that disclosed potential MNPI, were not reasonable with respect to certain GWIM groups.
A group within Merrill’s GWIM business unit (the GWIM sub-group) managed a proprietary distribution platform through which the firm offered certain exchange-traded notes (ETNs) issued by third parties. The GWIM sub-group included personnel responsible for the development of products on the platform and certain capital markets functions, who were generally designated as private side under the GWIM Information Wall Policy. It also included personnel responsible for the marketing and sale of ETNs offered through the platform, who were generally designated as public side personnel. The GWIM sub-group’s private and public side employees were permitted to engage in communications about the ETNs.
In 2013, Merrill designated certain personnel in the GWIM sub-group as private side under the GWIM Information Wall Policy in connection with a physical relocation, even though their principal responsibilities included marketing of the ETNs and other investment products. The re-designated personnel also worked in physical proximity to private side personnel in the GWIM sub-group responsible for product development. The re-designated personnel, however, did not receive reasonable training concerning the responsibilities of private side personnel with respect to the identification and monitoring of potential MNPI.
During the fourth quarter of 2013, employees on the private side of the GWIM sub-groups came into possession of potential MNPI concerning a price dislocation in a thinly-held ETN. At least one employee whom GWIM had re-designated as private side earlier in 2013 discussed the potential MNPI in electronic mail with two public side Merrill employees who did not have a need to know the information as defined by the firm’s policies.
Merrill employees in the GWIM sub-group and in a group within the firm’s GBAM business unit also shared the potential MNPI externally through the firm’s electronic mail and instant messaging systems.
The firm’s systems did not identify these communications and, although an external recipient questioned whether the communications contained potential MNPI, these communications were not escalated for further review.
Although Merrill had electronic communication review procedures in place during the Relevant Period designed to detect the disclosure of potential MNPI, those procedures were not reasonably designed at the time.
Specifically, in addition to a general lexicon search, Merrill had a targeted electronic review of communications between Merrill’s public side and Merrill’s private side that was triggered by Watch List and Restricted List securities, as well as triggered by the request for an employee wall cross. Those procedures, however, did not provide for the reasonable review of communications between public and private side employees because the firm’s procedures did not describe a reasonable process for escalating for further review communications that contained potential MNPI.
The firm also failed during the Relevant Period to reasonably enforce its procedures requiring functional and physical separation of public and private side personnel within the GWIM sub-group, to reasonably train re-designated private side personnel on how to identify and monitor communications containing potential MNPI, and to maintain reasonable procedures regarding monitoring and escalation of communications of potential MNPI.
These failures to establish, maintain and enforce such procedures and systems excluded from supervisory review certain categories of communications between public and private side employees and created the risk that potential MNPI could be impermissibly disclosed.
In addition, these failures inhibited the firm’s ability to identify any such potential disclosure and to take reasonable steps to mitigate or remediate any potential harm from such disclosure. As of June 2016, the firm had enhanced its GWIM and GBAM procedures to address the deficiencies described herein.
By reason of the foregoing, Merrill violated NASD Rule 3010 and FINRA Rules 3110 and 2010.
On top of the fine, Merrill has agreed to a censure.