Financial brokerages like to back up their self-images of rock-like strength and probity with audited results — but that might not mean very much. Regulators reviewing 23 audits of broker-dealers — the firms that trade securities on behalf of both investors and themselves — found that every audit failed to meet federal standards aimed at maintaining independence between brokerage firms and those checking their books. In the two starkest cases, auditors actually helped prepare the financial documents they were reviewing, according to the report of the federal Public Company Accounting Oversight Board. Other deficiencies included auditors failing to look into risks of fraud and not testing the accuracy of firms’ revenue filings.
Allowing broker-dealers to go without real audits may have serious consequences. In two cases separate from the federal review, lax auditing allowed now-defunct firms MF Global Holdings and Peregrine Financial Group to lose track of millions of their clients’ dollars, according to federal investigators.
The finding of faulty audits serves as yet another example of the inability of the financial sector to police itself. Whether it’s auditors of brokerage firms or the rating agencies that assess the value of investment banks’ products, these financial-market middlemen haven’t been the independent actors they should be. When the middlemen aren’t doing their jobs, the losers are investors, who need and expect them to give unvarnished and accurate advice to make sound financial decisions.
The Public Company Accounting Oversight Board will be reviewing another 170 audits by next year. But because this is just a pilot program, created in the 2010 Dodd-Frank financial regulatory law in response to fraud perpetuated by Bernie Madoff, the transgressing firms and auditors won’t be publicly named. To improve oversight, the Securities and Exchange Commission should finish a rule, also authorized by the Dodd-Frank law, that would require broker-dealers to use auditors that register with the federal government and that follow conflict-of-interest standards stricter than the current industry-created ones. Then regulators will need to actually enforce them.