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12 November 2019
In July 2019, the North American Securities Administrators Association ("NASAA") issued a report that provided a warning as to the risks of leveraged and/or inverse exchange-traded funds. The report urges broker-dealers to tailor their supervisory procedures if they allow ETF transactions in these products.
The report is based in part on information that was collected through an inquiry sent to broker-dealers, which was designed to obtain a better understanding of whether broker-dealers are recommending these products, and how these broker-dealers are supervising these transactions. This inquiry resulted in 118 responses. Of the responding firms, 86 (73%) allowed leveraged and/or inverse ETFs to be held in retail customer accounts. With respect to these 86 firms:
However, the report noted that only 59% of the respondents address the review of customer suitability and only 26% generate an exception report for positions held longer than one trading session. These responses resulted in a recommendation that firms review and update their supervisory procedures as they apply to these products.
The full text of the report, including its additional analysis of the practices of other broker-dealer responses, may be found at the following link: https://s30730.pcdn.co/wpcontent/uploads/2019/07/2019-BD-Study-ofExchange-Traded-Funds-FINAL.pdf.
The report concludes with recommendations for broker-dealers who offer these products. In particular, they should consider:
The report also concludes that broker-dealers should carefully consider whether to permit purchases of leveraged and/or inverse ETFs in retail customer accounts. If permitting transactions in leveraged and/or inverse ETFs, a firm's supervisory procedures should be sufficiently tailored to address the risks associated with these products.
Of course, many of the conclusions of the report are appropriate to consider in connection with sales of other leveraged and inverse products, including exchange-traded notes, which typically raise comparable considerations.
For further information on this topic please contact Lloyd Harmetz, Yiyang Huang or James Schwartz at Morrision and Foerster's New York office by telephone (+1 212 468 8000) or email (email@example.com, firstname.lastname@example.org or email@example.com). Alternatively, please contact Jeremy Jennings-Mares at Morrison & Foerster LLP's London office by telephone (+44 20 7920 4000) or email (firstname.lastname@example.org). The Morrison & Foerster LLP website can be accessed at www.mofo.com.
This update has been reproduced in its original format from Lexology – www.Lexology.com.
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