Faulty Computer Coding and Inadequate Compliance Blamed for $200 Million Client Losses

A large institutional quant manager has agreed to pay over $200 Million and overhaul its compliance infrastructure in response to SEC charges that it failed to disclose errors in its quantitative trading model.  The SEC alleges that the firm knew about coding errors that affected risk management procedures within the system but failed to take action for several months.  The SEC also alleges that the firm’s compliance policies and procedures did not include quality control testing over the coding process and did not sufficiently identify and mitigate the risks associated with the quantitative model’s development, testing, and change control procedures.  The SEC also charges that the firm violated its compliance policies because known issues were not properly escalated within the firm.

OUR TAKE: Most compliance manuals focus primarily on regulatory risk.  In this case, the SEC states that a firm’s policies and procedures must also address operational risk such as computer coding, which if written incorrectly, could cause a firm to make misrepresentations to clients.