Structured Products: Legal and Regulatory Materials

“Structured Thoughts” is Morrison & Foerster LLP’s newsletter relating to developments in the structured products industry. This page sets forth hyperlinks to our prior issues, and a list of the articles in these issues.

• 02/17/2021 FINRA Issues Reminder Relating To Mark-Up Disclosure Requirements For Structured Notes
• 11/18/2020 SEC Continues Enforcement Actions Relating to Complex Exchange-Traded Products
• 10/30/2020 SEC Issues Joint Statement Relating to Complex Financial Products
• 11/26/19 Volume 10, Issue 6
  • European Commission consultation on EU benchmark regulation.
  • FINRA: Suitability and sales practices remain an issue.
  • SEC charges Switzerland-based dealer for selling unregistered security-based swaps for bitcoins.
  • Regulators propose delay in initial margin phase-in for swaps with certain financial end users.
• 10/18/19 Volume 10, Issue 5
  • FINRA sanctions for a broker for failing to reasonably supervise sales of complex securities.
  • NASAA’s report warning about the risks of leveraged and/or inverse exchange-traded funds.
  • FINRA’s 2019 report on Examination Findings and Observations, describing effective practices that could help broker-dealers improve their compliance and risk management programs.
• 07/24/19 Volume 10, Issue 4
  • The SEC’s newly released margin rules for security-based swap dealers.
  • U.K.’s Financial Conduct Authority consultation on its proposal to ban the sale, marketing, and distribution of derivatives and exchange traded notes that reference certain types of cryptoassets.
  • FINRA’s Regulatory Notice 19-21, which established higher strategy-based margin requirements for exchanged-traded notes and options.

FINRA Releases and Publications Relating to Structured Products

• 5/2020 FINRA Regulatory Notice 20-14, Sales Practice Obligations With Respect to Oil-Linked Exchange-Traded Products
  Due to significant declines in the prices crude oil, several oil-linked ETPs have experienced significant decreases in value. In this notice, FINRA reminds members of their sales practice obligations, including basing recommendations on a full understanding of the terms, fair and accurate disclosures, maintaining reasonably designed supervisory procedures, and proper training of registered representatives.
• 1/2019 Interpretive Guidance Regarding the Use of Pre-Inception Index Performance in Institutional Communications
  This interpretive letter to Foreside Fund Services, LLC relates to back-tested or hypothetical performance data for a new market measure. The letter updates and restates the guidance set forth in the 2013 “ALPS” letter set forth below.
• 12/2018 Report on FINRA Exam Priorities
  In this report, FINRA discusses issues arising from its examinations of broker-dealers, including potentially unsuitable sales of structured products, and the findings from its 2018 “sweep letter” relating to VIX-linked products.
• 4/2018 FINRA Sweep Letter Relating to VIX-Linked Products
  In this sweep letter, FINRA seeks information relating to products linked to the Chicago Board Options Exchange (“CBOE”) Volatility Index (“VIX”). This recent sweep focused on the supervisory processes broker-dealer firms follow in order to identify and mitigate sales practice risks associated with recommendations to retail investors of VIX-linked products, such as unsuitable recommendations, misrepresentations and the appropriateness of any required disclosures to customers. In addition, FINRA will also review firms’ due diligence processes with respect to product vetting, testing, and approval in connection with VIX-linked products.
• 2/2018 FINRA Annual Regulatory and Examination Priorities Letter
  Each year, FINRA publishes its Annual Regulatory and Examination Priorities Letter to highlight issues of importance to FINRA's regulatory programs. In recent years, including in its most recent letter), FINRA has highlighted a variety of concerns, some of which, including suitability, relate to structured products.
• 10/2017 FINRA Regulatory Notice 17-32, Volatility-Linked Exchange-Traded Products
  In this action, a broker-dealer was sanctioned for, among other things, insufficient procedures and supervision relating to the sale of leveraged and inverse ETFs to retail investors.
• 10/2017 FINRA Consent Agreement Relating to Volatility Products
  In this action, FINRA fined a broker-dealer for unsuitable recommendations, training and supervision relating to sales of volatility-linked products.
• 8/2017 FSC Securities Corporation
  In this action, a broker-dealer was sanctioned for, among other things, insufficient procedures and supervision relating to the sale of leveraged and inverse ETFs to retail investors.
• 6/2017 Coastal Equities, Inc.
  In this action, a broker-dealer was sanctioned for, among other things, insufficient due diligence and post-sale reviews in connection with the sale of leveraged and inverse ETFs.
• 6/2016 Remarks from the SIFMA Complex Product Forum, Thomas Selman, Executive Vice President Regulatory Policy, FINRA
  In this speech, Mr. Selman addresses issues for broker-dealers arising in connection with offerings of products that feature multiple contingencies.
• 2/2016 Investor Alert— High-Yield CD Offers Can Be Bait for High-Commission Investments
  In this alert, FINRA warns investors that advertisements promoting CDs with high rates may be improperly used to interest investors in completely different investments with high commission structures, such as fixed or equity-indexed annuities. The alert results from calls made to FINRA’s helpline for senior investors.
• 8/2015 Sweep Letter Relating to Broker Dealer Compensation
  A letter to FINRA members requesting information about their broker compensation practices, including the identification of conflicts of interest arising from compensation policies.
• 10/2013 FINRA Report on Conflicts of Interest 
• 4/2013 Interpretive Guidance Regarding the Use of Pre-Inception Index Performance in Institutional Communications
  This interpretive letter to ALPS Distributors relates to back-tested or hypothetical performance data for a new market measure.
• 4/2013 Remarks From the National Compliance Outreach Program for Broker-Dealers
  Chairman and CEO Richard G. Ketchum addresses regulatory concerns regarding complex and structured products and conflicts of interest.
• 12/2012 FINRA Regulatory Notice 12-55 – Suitability
  In November 2010, the Securities and Exchange Commission (SEC) approved FINRA Rule 2111(Suitability), which became effective on July 9, 2012. In May 2012, FINRA issued Regulatory Notice 12-25, which provides guidance on the rule in a "frequently asked questions" (FAQ) format. This Notice addresses two issues discussed in Regulatory Notice 12-25: the scope of the terms "customer" and "investment strategy." In addition, FINRA has created a suitability Web page that, among other things, locates in one place questions and answers regarding FINRA Rule 2111.
• 7/2012 FINRA Investor Alert: Exchange-Traded Notes—Avoid Unpleasant Surprises
  This investor alert describes ETNs, leveraged and reverse ETNs, ETN trading, issuance, and redemption. This alert also warns investors of indicative value and market price as well as the various risks associated with ETNs.
• 5/2012 FINRA Regulatory Notice 12-25 - Suitability
  On May 21, 2012, FINRA issued Regulatory Notice 12-25, in which FINRA provided additional guidance on its new suitability rule, FINRA Rule 2111. Some of the additional guidance applies to sales practices in the structured products industry.
• 1/2012 FINRA Regulatory Notice 12-03 - Complex Products
  FINRA Regulatory Notice 12-03 discusses the heightened supervision of complex products, gives guidance to firms about supervision, and attempts to identify the characteristics that render a product “complex” – which is largely focused on structured products.
• 11/2011 FINRA Investor Alert: The Grass Isn’t Always Greener—Chasing Return in a Challenging Investment Environment
  This investor alert discusses high yield investment products such as floating-rate loans, structured retail products, and leveraged products in the context of a challenging investment environment. The alert advises investors to ask certain key questions before changing investments as well as to be wary of as well as of fraudulent high-yield investments.
• 11/2011 FINRA Targeted Examination Letter: Spread- Based Structured Products
  FINRA’s November 2011 targeted exam letter relating to spread-based structured products.
• 5/2011 FINRA Regulatory Notice 11-25 - Know Your Customer & Suitability
  On November 17, 2010, the Securities and Exchange Commission (SEC) approved FINRA’s proposal to adopt rules governing know-your-customer and suitability obligations for the consolidated FINRA rulebook. On January 10, 2011, FINRA issued Regulatory Notice 11-02, which provided guidance regarding the new rules and announced an implementation date. This Notice announced the new implementation date of July 9, 2012, and provides additional guidance in response to some recent industry questions and concerns.
• 1/2011 FINRA Regulatory Notice 11-02 - Know Your Customer and Suitability
  The SEC approved FINRA’s proposal to adopt rules governing know-your-customer and suitability obligations for the consolidated FINRA rulebook. The new rules are based in part on and replace provisions in the NASD and NYSE rules. The text of the new rules is set forth in an attachment to this Notice.
• 10/2010 FINRA Regulatory Notice 10-51 - Commodity Futures-Linked Securities
  FINRA Regulatory Notice 10-51 focuses on four key areas: (1) Possible deviation between the performance of the commodity futures-linked security and the performance of the referenced commodity; (2) Ensure communications are fair and balanced and provide appropriate disclosures; (3) Conduct reasonable suitability assessments prior to recommending commodity futures-linked securities to customers; (4) Supervision and training of the firm’s registered representatives.
• 10/2010 FINRA Regulatory Notice 10-52 - Free Writing Prospectuses
  The content standards, principal review requirements and applicable filing requirements contained in NASD Rules 2210 (Communications with the Public) and 2211 (Institutional Sales Material and Correspondence ) now apply to free writing prospectuses (“FWPs”) distributed by broker-dealers in a manner reasonably designed to lead to their broad unrestricted dissemination, as described in Rule 433 of the Securities Act. As a result, FINRA is withdrawing, in part, previous interpretative guidance from August 2006 that excluded FWPs from the requirements of Rules 2210 and 221.
• 2/2010 FINRA Regulatory Notice 10-09 - Reverse Convertibles
  FINRA Regulatory Notice 10-09 focuses on three key areas: (1) Communications with the public regarding the promotion of reverse convertibles; (2) Review suitability before recommending purchase; (3) Supervision and training of a firm’s registered representatives.
• 12/2009 FINRA Regulatory Notice 09-73 - Principal-Protected Notes
  FINRA Regulatory Notice 09-73 focuses on three key areas: (1) Ensure communications are fair and balanced and provide appropriate disclosures; (2) Conduct reasonable suitability assessments prior to recommending principal-protected notes to customers; (3) Train the firm’s registered representatives.
• 11/2009 FINRA FAQ - Non-Traditional ETFs
  This FAQ describes leveraged/inverse ETFs, the effects of the reset feature of a leveraged or inverse ETF on suitability, the requirements for suitability analysis, the suitability of leveraged and inverse ETFs for retail investors, guidance for firms as new complex or non-traditional ETFs are introduced to the market, and leveraged/reverse mutual funds.
• 9/2005 NASD Regulatory Notice 05-59 - Structured Products
  NASD Regulatory Notice 05-59 focuses on five key areas: (1) Provide balanced disclosure in promotion efforts; (2) Ascertain accounts eligible to purchase structured products; (3) Suitability and fair dealing with customers; (4) Supervision and supervisory control system; (5) Training.
• 4/2005 NASD Regulatory Notice 05-26 - New Products
  NASD Regulatory Notice 05-26 focuses on two key areas: (1) Written formal procedures; (2) Survey of best practices.
• 10/2002 NTM 02-69 - Brokered Certificates of Deposit
  In this notice, FINRA provides guidance about these instruments (including structured certificates of deposit), including sales practices and disclosures on customer account statements.

FINRA Enforcement Actions Relating to Structured Products

• 8/2015 Wells Fargo Advisors LLC
  Consent agreement addresses internal brokerage communications and training as to relevant transaction terms and risk factors in connection with complex products.
• 3/2014 LPL Financial 
  Action does not arise out of structured products, but from other non-traditional investments. FINRA’s findings provide a useful “case study” as to the types of issues that a firm should consider in evaluating its own processes for sales of complex products.
• 12/2011 FINRA Enforcement Actions: Wells Fargo Investments, LLC
  FINRA fines Wells Fargo $2 million for unsuitable sales of reverse convertibles to elderly customers and failure to provide breakpoints on UIT sales. Firm agrees to pay restitution to affected customers.
  
  • Press Release
  • Consent Agreement
  • Action against Alfred Chi Chen
• 4/2011 FINRA Enforcement Actions: Santander Securities Corporation
  FINRA fines Santander Securities $2 million for deficiencies in its structured products business and unsuitable reverse convertible sales. Firm reimburses more than $7 million for reverse convertible losses.
  
  • Press Release
  • Consent Agreement
• 4/2011 FINRA Enforcement Actions: UBS Financial Services, Inc.
  FINRA fines UBS financial services $2.5 million and orders UBS to pay restitution of $8.25 million for omissions that effectively misled investors in sales of Lehman-issued principal-protected notes.
  
  • Press Release
  • Consent Agreement
• 10/2010 FINRA Enforcement Actions: Ferris, Baker Watts LLC
  FINRA orders Ferris, Baker Watts to pay nearly $700,000 for inappropriate sales of reverse convertible notes. Firm to pay restitution of $189,723 for unsuitable sales.
  
  • Press Release
  • Consent Agreement
• 2/2010 FINRA Enforcement Actions: H&R Block Financial Advisors, Inc.
  FINRA fines H&R Block Financial Advisors $200,000 for inadequate supervision of reverse convertible notes sales, suspends and fines broker for unsuitable sales to retired couple. Regulator issues guidance for firms and for retail investors regarding risks, potential rewards and complexity of this popular structured product.
  
  • Press Release
  • Consent Agreement  

• 11/2020 SEC Actions Relating to Complex Exchange Traded Products
  In these related cases, the SEC sanctioned investment advisors, and dually-registered broker-dealers and investment advisors, for improper sales of volatility-linked exchange traded notes, finding violations of the Securities Act of 1933, the Securities Exchange Act of 1934 and the Investment Advisers Act of 1940.
• 10/2020 Joint Statement Regarding Complex Financial Products and Retail Investors
  In this statement, SEC Chairman Jay Clayton, together with the directors of three SEC divisions, issued a joint statement relating to complex financial products, and how retail investors access them. The statement addresses in particular a number of sophisticated leveraged and inverse structured products, including ETFs and exchange-traded notes (ETNs).
• 9/11/2018 SEC Order re Unsuitable Sales of Leveraged ETNs
  In this order, the SEC sanctioned a broker-dealer that made unsuitable buy and hold recommendations relating to a leveraged ETN linked to the price of crude oil.
• 8/6/2018 Investor Bulletin: Smart Beta, Quant Funds and other Non- Traditional Index Funds
  The SEC’s Office of Investor Education and Advocacy issued this Investor Bulletin to inform investors about features and potential risks of non-traditional index funds. Many of the issues addressed in this bulletin are relevant to structured notes and structured CDs linked to proprietary indices.
• 6/25/2018 SEC Order re Trading in Structured Notes and CDs.
  In this order, the SEC fined a broker-dealer where certain of its representatives recommended to clients that they resell their structured notes and CDs prior to maturity, and reinvest in new and similar instruments. These transactions reduced the investors’ returns due in part to the fees charged in connection with these transactions, and the fees embedded in the terms of these instruments.
• 9/2016 SEC Order Relating to Broker-Dealer Training Materials
  In this order, the SEC challenged a broker-dealer’s internal training materials due to the absence of certain information relating to volatility of the underlying assets and the option-like features of the relevant structured products.
• 12/2015 SEC Investor Bulletin: Exchange Traded Notes (ETNs)
  The SEC’s Office of Investor Education and Advocacy issued this investor bulletin to educate investors about exchange-traded notes, in particular, how they differ from exchange-traded funds, and certain risk factors that are associated with an investment in ETNs.
• 10/2015 SEC Cease and Desist Order
  SEC Cease and Desist Order relating to alleged misstatements and omissions in offering documents for notes linked to a proprietary index tracking G10 currency foreign exchange forward rates.
• 8/2015 OCIE – Broker-Dealer Controls Regarding Retail Sales of Structured Securities Products
  Report by the SEC Office of Compliance Inspections and Examinations, focusing on branch offices, and discussing potential deficiencies in controls relating to determining suitability of structured product recommendations and related written supervisory procedures.
• 5/2015 Speech: Structured Products – Complexity and Disclosure – Do Retail Investors Really Understand What They Are Buying and What the Risks Are?
  Comments of Amy M. Starr, Chief, Office of Capital Market Trends.
• 1/2015 Office of Investor Education and Advocacy – Investor Bulleting Relating to Structured Notes
  Designed to explain key features and risk factors of structured notes to retail investors.
• 2/21/2013 SEC Follow-up Letter to Sweep Letter Recipients re Estimated Initial Values
  Letter contains the SEC’s updated guidance to issuers relating to the disclosure of estimated value of structured notes, including the discussion of the bond component and derivative component, secondary market values, related risk factors, and timing of conveyance of information. (Text of letter adapted from the SEC EDGAR website.)
• 8/2012 SEC Investor Bulletin: Exchange-Traded Funds
  This investor bulletin discusses various types ETFs, factors to consider before investing in an ETF, the differences between ETFs and mutual funds, certain regulatory requirements, NAV and intraday value, premiums and discounts, and arbitrage.
• 4/13/2012 SEC Sweep Letter re Structured Products  
  The SEC sent this letter to certain financial institutions regarding their structured note offering disclosures in their prospectus supplements and Exchange Act reports. It addresses certain issues with products names, products pricing and value, use of proceeds and reasons for offerings, plans of distribution, liquidity, issuer credit risk, tax consequences, referenced asset/index disclosures, disclosure formats, and exhibits.
• 7/27/2011 OCIE Report: Staff Summary Report on Issues Identified in Examinations of Certain Structured Securities Products Sold to Retail Investors
  This report looked at retail structured securities products business of 11 broker-dealers, covering a cross-section of the industry, for time period 2008 – 2009, and found that firms (1) recommended unsuitable structured securities products to retail investors; (2) traded at prices disadvantageous to retail investors; (3) omitted material facts about structured securities products offered to retail investors; (4) engaged in questionable sales practices with customers. In response, it recommends larger broker-dealers focus on: (1) having adequate procedures and controls to prevent and detect possible abuses in the secondary market; (2) disclosing material facts; (3) requiring registered representatives and their supervisors to complete specialized training before selling these products; (4) accurately listing structured securities products on customer statements; (5) having controls to independently review their desk prices of structured securities products in the secondary market; (6) having controls to adequately review suitability and customer concentrations.
• 6/2/2011 SEC/FINRA Investor Education Alert: Structured Notes with Principal Protection: Note the Terms of Your Investment
  This investor education alert discusses the unique features of structured notes with "principal-protection," how these notes may protect investments and questions a potential investor should ask before investing.
• 8/18/2009 SEC/FINRA Investor Education Alert: Leveraged and Inverse ETFs - Specialized Products with Extra Risks for Buy-and-Hold Investors
  This alert discusses the unique features of leveraged and inverse ETFs, addresses investor concerns confusion regarding the performance objectives of leveraged/inverse ETFs, and recommends research investors should conduct prior to purchasing these instruments.
• 10/12/2007 SEC Letters re Exchange-Traded Note Programs and Regulation M
  These SEC no-action letters address registered exchange-traded note (“ETN”) programs with continuous distribution periods, and the circumstances under which relief from Regulation M restrictions may be provided for market-making and repurchase / redemption transactions.
  
  • Barclays Bank PLC
  • Deutsche Bank AG
• 10/12/2006 SEC on Equity-Linked CDs
  This report discusses equity-linked certificates of deposit and advises investors to understand the specific terms and features of these products before making investment decisions.
• 5/21/1996 SEC “Morgan Stanley” Letter re Abbreviated Underlying Issuer Disclosures
  This SEC no-action letter applies to registered offerings of securities exchangeable for underlying securities. It addresses the need for disclosures about the issuer of such underlying securities, and the circumstances in which these disclosures can be abbreviated.

• 7/2018 MoFo FAQ on Structured Certificates of Deposit
  This FAQ discusses Structured Certificates of Deposit with regards to FDIC insurance, banking laws, securities laws, and documentation and marketing of CDs.
• 6/25/2018 SEC Order re Trading in Structured Notes and CDs
  In this order, the SEC fined a broker-dealer where certain of its representatives recommended to clients that they resell their structured notes and CDs prior to maturity, and reinvest in new and similar instruments. These transactions reduced the investors’ returns due in part to the fees charged in connection with these transactions, and the fees embedded in the terms of these instruments. In this action, the SEC treated certificates of deposit as “securities” for some purposes.
• 2/2016 Investor Alert— High-Yield CD Offers Can Be Bait for High-Commission Investments
  In this alert, FINRA warns investors that advertisements promoting CDs with high rates may be improperly used to interest investors in completely different investments with high commission structures, such as fixed or equity-indexed annuities. The alert results from calls made to FINRA’s helpline for senior investors.
• 5/17/2012 FDIC Warning on Market-Linked CDs
  This warning addresses questions potential investors should ask before investing in market-linked CDs, such as principal guarantee, CD maturity, consequences of early withdrawals, return calculations, and CD redemption.
• 4/23/2012 FDIC on Certificates of Deposit
  This report discusses essential information on CDs and offers tips to potential investors who are considering investing in a CD.
• 10/14/2010 Structured Thoughts, Volume 1, Issue 13
  The fourth article in this issue of Structured Thoughts provides a general overview of Structured Certificates of Deposit (SCDs), including a discussion of their advantages and disadvantages, the legal treatment of SCDs, and the documentation of SCD programs.
• 12/3/2008 SEC on High-Yield Certificates of Deposit
  This report discusses issues relating to certificates of deposit that are important for potential investors to consider before making any investment decisions, such as maturity, call features, early withdrawal penalties, and various special considerations for brokered CDs.
• 10/12/2006 SEC on Equity-Linked CDs
  This report discusses equity-linked certificates of deposit and advises investors to understand the specific terms and features of these products before making investment decisions.
• 3/17/2006 NYSE Statement re Structured CDs
  This statement issued by the NYSE addresses the disclosures and sales practices concerning market indexed/linked certificates of deposit.

• 1/25/2021 NYSE Regulation, Inc. Listed Exchange Traded Products (ETP) Compliance Guidance This memorandum provides a summary of NYSE policies and rules that most commonly apply to listed exchange traded products.
• 03/17 Massachusetts Secretary of State, Consent Order In this action, a broker-dealer was sanctioned for, among other things, making unsuitable sales of market-linked CDs.
• 10/2016 DTC 871(m) Requirements for Equity Linked Instruments Seeking DTC Eligibility as of 1/1/2017 In this notice, DTC sets forth new requirements, effective January 2017, for obtaining and maintaining DTC eligibility for security in light of IRC 871(m) provisions.
• 2016 North American Securities Administrators Association, Annual Enforcement Report The report summarizes the enforcement activity of its members during the most recent year, including its efforts relating to structured products.
• 7/29/2013 New Jersey Bureau of Securities, Consent Order Relating to Sales of Non-Traditional ETFs, July 2013 (Subversion, training, unsuitable sales.) 
• 7/10/2013 Secretary Galvin Begins Investigatory Sweep of the Sales of High Risk Alternative Investments to Seniors 
• 8/24/2012 Massachusetts Secretary of State - Guidance in Connection with the Retail Sales of Structured Products by Massachusetts Registrants This guidance discusses structured products, retail sales of structured products, written procedures and supervisory system, maintenance of records, and product-specific training. 
• 04/2012 Office of the Comptroller of the Currency, Activities Permissible for a National Bank Discussion of securities and derivatives activities begins on page 52. 
• 8/23/2011 NH Enforcement Action: UBS Financial Services, Inc. UBS consent order with NH Securities Bureau based on sale of Lehman investments. 
  • Press Release 
  • Consent Agreement 
• 12/3/2009 FDIC Statement of Policy Regarding Use of Offering Circulars in Connection with Public Distribution of Bank Securities This statement of policy concerns the use of offering circulars in connection with the public distribution of bank securities by insured state nonmember banks. The FDIC is issuing this statement in view of its statutory duties relating to capital adequacy, the safety and soundness of insured banks, and its review responsibilities with respect to mutual-to-stock conversions of FDIC-regulated financial institutions. The statement of policy also is intended to protect insured state nonmember banks against the risk of serious capital loss or litigation that could result if bank securities are sold in violation of the antifraud provisions of the federal securities laws.Content