On January 17, 2025, the SEC announced that it had settled charges against two Registered Investment Advisers (RIAs), as well as against Merrill Lynch, Pierce, Fenner & Smith Incorporated (Merrill Lynch). Aside from being a broker-dealer, Merrill Lynch is an investment adviser with over $1 trillion in regulatory assets under management. The SEC charged all three firms with failing to adopt and implement written policies and procedures that were reasonably designed to prevent violations of the Investment Advisers Act and its rules. The SEC’s charges arose from the firms’ actions related to cash sweep programs.
Background on the enforcement actions
According to the SEC, the firms offered bank deposit sweep programs (BDSPs) as the only cash sweep option for most advisory clients. The firms received a significant financial benefit from holding advisory clients’ cash in the BDSPs.
The SEC found that the firms, or their affiliates, set the interest rates offered in the BDSPs. During periods of rising interest rates, there was a significant yield differential between the BDSPs and other cash sweep alternatives. At times, the yield differential grew to almost four percent.
According to the SEC, the firms failed to adopt and implement reasonably designed policies and procedures to address the:
- Best interests of clients when evaluating and selecting which cash sweep program options are available to them, especially during periods of rising interest rates; and
- Duties of financial advisors in situations where they are managing clients’ cash in their advisory accounts.
The SEC did find that the firms’ personnel regularly considered what options should be provided to advisory clients regarding cash sweep programs. Nevertheless, these books and records generally did not consider which alternatives were in their clients’ best interest. As an example, the firms did not determine whether choosing a cash sweep option with higher yields, such as government money market funds, would be in the best interest of clients.
In addition, although the firms generally required their financial advisors to manage all client assets according to their goals and objectives, they did not have a reasonably designed process related to cash in advisory accounts. The firms did not monitor whether cash held in the BDSP should be moved to other cash investment options if necessary to meet their clients’ goals. Most advisory clients’ uninvested cash automatically defaulted into the BDSP. Furthermore, during periods of rising interest rates, the firms had no policies or procedures that specifically required financial advisors to evaluate whether clients’ cash should remain in the BDSP option or should be deployed elsewhere.
While the RIAs owed a duty to provide advice on cash and charged an advisory fee on the cash in advisory accounts, the RIAs disclosures were inconsistent and stated in certain materials that they did not have any duty to monitor the cash sweep vehicle or to make changes. This inconsistency made it even more important to implement policies and procedures that specifically addressed the cash allocation within the BDSP.
The SEC concluded that the firms willfully violated Section 206(4) of the Investment Advisers Act and Rule 206(4)-7 thereunder. The rule requires RIAs to adopt and implement written policies and procedures that are reasonably designed to prevent violations of the statute and its rules.
Takeaways
The enforcement actions send a clear message that RIAs must improve their policies and procedures pertaining to the selection of cash sweep options for advisory clients, as well as allocation of client cash.
“Cash sweep programs impact nearly all advisory clients, who often pay advisory fees on assets held in these accounts,” said Sanjay Wadhwa, Acting Director of the SEC’s Division of Enforcement in a press release. According to Wadhwa, “These actions reinforce that advisory firms must have reasonably designed policies and procedures to consider their clients’ best interest when evaluating potential sweep options for cash held in advisory accounts and to ensure that cash held in an advisory account is properly managed by financial advisers consistent with a client’s investment profile.”
The firms agreed to pay a combined civil penalty of $60 million to settle the SEC’s charges. They also agreed to be censured and to cease and desist from violating the charged provisions.
The cases can be reviewed at SEC.gov | SEC Charges Pair of Wells Fargo Advisory Firms and Merrill Lynch with Compliance Failures Relating to Cash Sweep Programs.
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