On February 9, the Securities and Exchange Commission (“SEC”) voted to propose rule 206(4)-9 under the Advisers Act and 38a-2 under the Investment Company Act (collectively, “Proposed Rule”). In general, the Proposed Rule would require all advisers and funds to adopt and implement cybersecurity policies and procedures containing several elements. While acknowledging spending on cybersecurity measures in the financial services industry is considerable, the SEC suggested it may nonetheless be inadequate, citing a recent survey finding that 58% of financial firms self-reported “underspending” on cybersecurity measures.
For financial services firms, the stakes are particularly high—it is where the money is.
The Proposed Rule would apply to advisers and funds that are registered or required to be registered with the SEC. Covered advisers include those who provide a variety of services to their clients, such as: financial planning advice, portfolio management, pension consulting, selecting other advisers, publication of periodicals and newsletters, security rating and pricing, market timing, and educational seminars. Compliance will be particularly important for those advisors and funds serving the retirement plan industry and now facing increased cybersecurity scrutiny by plan fiduciaries under the Department of Labor’s cybersecurity guidance.
The SEC recognizes the level of risk can vary advisor to advisor, but also notes that those advisors on the lower end of the risk continuum do not have a pass on compliance. A data breach at an adviser that only offers advice on wealth allocation strategies may not have a significant negative effect on its clients due to the limited personal information it maintains. Compare that to a breach experienced by an adviser performing portfolio management services which holds greater quantities of more sensitive personal information, and may have a degree of control over client assets. But even if personal information is not acquired by hackers, a ransomware event could cause a disruption to the advisor’s services adversely impacting their clients, such as limiting their ability to access funds.
So, there is not a one-size-fits-all approach to addressing cybersecurity risks and the Proposed Rule would allow firms to tailor their cybersecurity policies and procedures to fit the nature and scope of their business and address their individual cybersecurity risks. This is not unlike other cybersecurity frameworks, such as the Security Rule for healthcare providers and plans under the Health Insurance Portability and Accountability Act.
According to the SEC’s Fact Sheet, the Proposed Rule would:
- Require advisers and funds to adopt and implement written policies and procedures that are reasonably designed to address cybersecurity risks. This requirement includes a comprehensive, documented risk assessment of the adviser’s or fund’s business operations. At least annually, advisors and funds would need to review and evaluate the design and effectiveness of their cybersecurity policies and procedures, which would allow them to update them in the face of ever-changing cyber threats and technologies.
- Require advisers to report significant cybersecurity incidents to the Commission on proposed Form ADV-C, with similar reporting for funds.
- Enhance adviser and fund disclosures related to cybersecurity risks and incidents. For instance, the Proposed Rule would amend adviser and fund disclosure requirements to provide current and prospective advisory clients and fund shareholders with improved information regarding cybersecurity risks and cybersecurity incidents.
- Require advisers and funds to maintain, make, and retain certain cybersecurity-related books and records. This would include records related to compliance with the Proposed Rule and the occurrence of cybersecurity incidents.
The SEC hopes the rules would promote a more comprehensive framework to address cybersecurity risks for advisers and funds, resulting in a reduction in risk and impact of a significant cybersecurity incident. But the SEC also hopes to give clients and investors better information with which to make investment decisions, and itself better information with which to conduct comprehensive monitoring and oversight of ever-evolving cybersecurity risks and incidents affecting advisers and funds.