The Office of Compliance Inspections and Examinations (OCIE)

Informed by the revelations of the Bernard Madoff and Allen Stanford cases, during the first three years of the 2010s OCIE reinvented itself. By greatly involving the regions, this undertaking helped promote new unity and consistency in the exam program. At the same time, OCIE helped execute the largest rulemaking effort in recent history and incorporated private funds and credit rating agencies into the examination regime.

No Silos, New Expertise

A Senior Specialized Examiner program and a new emphasis on asset verification were already in place when Carlo di Florio arrived at the SEC. But a fundamental problem remained. “We had really good regional teams running programs in very disparate ways,” recalled di Florio.⁽⁵¹⁾ The Madoff scandal indicated that so long as the SEC’s examination function was an assemblage of different regional and national efforts it would always be possible for wrongdoers to hide in the cracks.

The Allen Stanford scandal, which resulted when Fort Worth examiners convinced of wrongdoing were overruled by regional enforcement staff, put the problem in another light. If the chain of command had gone beyond the region, Fort Worth examiners could have escalated their concern. The Stanford case underscored to di Florio the need for a truly national program instead of what he called “a confederation of regions.” ⁽⁵²⁾

These were the guiding principles as personnel from headquarters and across the regions came together in March 2010 to begin a comprehensive self-assessment of the SEC examination program. The effort began with an airing of the friction that had long existed among the regions and between the regions and the home office. Next, exam staff identified what had historically worked and what had not. The group then broke down into multiple teams to scrutinize OCIE issue by issue. That effort yielded 150 recommendations for strengthening the program.⁽⁵³⁾

Reforms that followed included recruiting more industry veterans, building up the training program, improving the planning of examinations, and making risk assessment more accurate through innovative technology. Better data analytics became possible largely because the SEC rule makers were finally willing to require industry firms to submit more data for this purpose. Examination protocols now routinely included custody and asset verification, and the entire program was made more responsive to tips, complaints, and referrals.

The rebuilding hinged heavily on technology, including a new centralized manual that automated the examination process from end to end. But the reforms also hinged on better use of expertise—old highly specialized exam teams gave way to “open architecture” groups with a mix of diverse types of professionals depending on the particular situation. Overlaying these teams were readily deployable working groups with deep expertise in such areas as structured products, valuation, equity market structure, trading practices, private funds, fixed income securities, microcap fraud, and sales and marketing practices.

As exam teams became more complex it was necessary to bridge the gaps between competencies, ensuring that specialists, lawyers, and accountants were all working together. To improve communications, OCIE instituted monthly video calls for the entire staff, a newsletter, and a common digital interface. To oversee all of these efforts OCIE built a strong governance structure with participants drawn from the regions and the home office, which could plan long-term and tackle short-term challenges as they arose.

The self-assessment also took up resource allocation, identifying ways in which the exam process could be re-engineered to eliminate time-consuming marginal activities and prioritizing ones that added the most value. OCIE put more “boots on the ground,” for example, by reassigning branch chiefs to an exam manager role and sending them out into the field with examiners more often.⁽⁵⁴⁾

Beyond the initiatives resulting from it, the self-assessment effort had a transformative effect. Prior to 2010, Pete Driscoll had seldom worked beyond the Chicago Regional Office. During the self-assessment he collaborated closely with colleagues from across the country, building enduring relationships that, said Driscoll, “really made it a national program.”⁽⁵⁵⁾

Dodd-Frank and Rulemaking

The six-month process of reinvention occurred in an atmosphere of urgency in large part because the most comprehensive financial legislation since the Great Depression was nearing passage. Signed by President Obama in July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act had considerable impact on OCIE. In 2011 alone, staff members took part in more than fifty working groups charged with Dodd-Frank rulemaking.

At the same time, OCIE participated in other Commission-wide initiatives which included developing a consolidated audit trail following the May 2010 Flash Crash and participating in the Large Firm Monitoring Program, undertaken with the Federal Reserve and the Office of the Comptroller of the Currency to enlist the boards and leaders of the largest financial institutions in compiling a detailed catalogue of risk among chief market participants. “So if something happens,” as Drew Bowden put it, “we’re not starting at square one.”⁽⁵⁶⁾

Private Funds and Presence Exams

Bowden, who took over the IA/IC program in November 2011, understood that meeting the new Dodd-Frank requirements would require specialized expertise. He had already recruited industry veterans Marc Wyatt and Igor Rozenblit as senior specialized examiners. After Dodd-Frank passed, Bowden tasked Wyatt and Rozeblit with creating a unit to monitor the private funds (including hedge funds) brought under SEC oversight by the legislation.

It was difficult to build a private fund exam program, it was even tougher to get 2,000 private fund participants accustomed to their new regulated status. The solution to both problems had its roots in the “never before examined registrant” program developed by Jane Jarcho when she was director of the IA/IC program in the Chicago Regional Office.⁽⁵⁷⁾ Bowden and his team launched a series of examinations intended to collect information about private funds and to let fund officials know that they were regulated. The private funds team tailored these exams to focus on a few “plain vanilla” subjects. Inspectors were reluctant as ever to conduct incomplete examinations, but after a great deal of reassurance in the Fall of 2012 the “Presence Exam Initiative” was underway.

By early 2014 Bowden was director of OCIE, and the presence exams were showing some alarming trends. The IA/IC team summarized the findings in a speech entitled “Spreading Sunshine in Private Equity” which Bowden delivered at a private fund compliance forum in May 2014. Bowden revealed that OCIE found material weaknesses in controls and violations of law in about half of its examinations. The greatest areas of concern, Bowden said, were highly inconsistent fees, expenses, and company valuations.⁽⁵⁸⁾

The industry took exception to the “Sunshine Speech,” resurrecting old arguments that private funds were for sophisticated investors who did not need SEC assistance. For years insiders had complained about the SEC’s lack of expertise, but private fund critics did not contest the findings themselves. “What they didn’t say was that we didn’t know what we were talking about,” noted Bowden.⁽⁵⁹⁾

Efforts involving special expertise like the Private Equity Initiative did much to demonstrate to the regions the value of the National Exam Program. Marc Fagel, Director of the San Francisco Regional Office noted that he and his examiners in the field could not help but appreciate the role that the home office played in enabling them “to do a much different sort of exam than we had historically done.”⁽⁶⁰⁾