IA BRIEF: Trade-data analytics help firms detect insider trading and policy violations

SAN DIEGO/NEW YORK (Thomson Reuters Regulatory Intelligence) - Testing is a key attribute of an advisory compliance program, and examination of trading data is one element of testing that can protect a firm from unnecessary risk.

A man looks at stock market prices on computer monitors inside a securities company in Taipei January 15, 2009.

A recent survey of investment advisers{here} has found that among firms performing trading data analytics, the most common goals are identifying the use of material non-public information (MNPI) and any violations of the firm's best execution and allocation policies. In addition, many are attempting to prevent the risk of market abuse.

The study is in its 13th year and was jointly administered by the Investment Adviser Association and ACA Compliance Group. The survey was conducted online, collecting responses from compliance officers at 454 Securities and Exchange Commission-registered investment advisory firms. Firms of all sizes responded; most were advisory firms managing $1 to $10 billion.


A firm must have established trading compliance policies and procedures that include topics such as achieving best execution, proper allocation, addressing trade errors, treatment of soft dollars and other issues.

Generally speaking and depending on the volume of trading, a firm must review and analyze its executed transactions to ensure client trading is fair and equitable and according to its written policies on a periodic basis. According to the survey, most firms conduct trading surveillance daily followed next by a quarterly basis.

The survey found that one-third of firms surveyed used data analytics in their trade monitoring; 16 percent used third-party software and 17 percent used internal means.

Over 50 percent of advisory firms rely on compliance personnel or staff to initially flag or monitor trade surveillance data.

The most common triggers to flag an item of interest during the review is a combination of large price movement and volume.


The surveillance and analysis of trading data is the best way to ensure that the trading of client accounts is consistent with a firm’s policies and procedures. The policies and procedures are set up to protect the client and the financial markets but also protect the firm from regulatory scrutiny.

Therefore, goals typically align with a firm’s policies and procedures and the adviser’s most risky trading activities. The survey identified MNPI, best execution exceptions, misallocation among clients and market abuse as the four primary goals of trading analytics.


The most common goal of trading analytics of those surveyed is to identify the use of material non-public information. The use of MNPI to place a trade can violate both a firm’s own code of ethics as well as the law, and can result in charges of insider trading.

Employee trading records and employee calendars regarding meetings with corporate employees/representatives were considered among the top inputs used when reviewing trading data. The firms surveyed also used restricted lists, watch lists and corporate announcements or marketing moving news as inputs for the surveillance process.


The goal of identifying best execution exceptions follows closely behind MNPI as an area of testing focus. Nearly 56 percent of those surveyed review trading to find best execution exceptions. Investment advisers have a fiduciary and fundamental duty to seek best execution for client transactions, requiring the adviser to consider many factors when selecting a broker.

The SEC has focused on an investment adviser's best execution obligations, and it issued a recent risk alert{here} highlighting the most common deficiencies cited during recent examinations.

Advisers are failing to perform best execution reviews, consider relevant factors, make broker comparisons and have adequate best execution policies and procedures, the SEC has said. Others failed to disclose their best execution practices and address soft dollars, according to the Risk Alert.


Identifying the misallocation of securities among clients is a goal for many advisers. An adviser must employ an allocation system that is reasonable and one which does not favor one class of client over another.

In many cases, advisers use aggregated or “bunched orders” and they must be allocated properly among the clients.

A firm must have proper disclosure in the firm’s core documents and a set of policies and procedures that describe its methods of allocating bunched trades. An allocation statement is often employed, the statements allow for procedures if certain situations arise, like varied prices within the block or a situation where the order was only partially filled. For example, if a firm pays more than one price for a block of securities, each client may receive the average price paid for the block to ensure a fair allocation.

The policies and procedures must be consistent with the terms and conditions of the client/firm advisory agreement and the disclosures within the adviser’s Form ADV Parts 1 and 2. In addition, the adviser should have a policy to address whether firm principals allocate their own trades along with those of clients and some procedures to ensure fair practices.


Lastly, firms review with the purpose of preventing market abuse. The insider trading or the dissemination of false financial information from an advisory firm could directly or indirectly disadvantage financial market investors. The term is often used when enforcement actions are taken against cases involving manipulation on a large scale or internationally.

The firms surveyed have used the review of trading in conjunction with corporate announcements and/or marketing moving news to help prevent this abuse.

(By Jason Wallace, Regulatory Intelligence, in San Diego)