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The Stock Record Department
The Stock Record Department performs various reconciliation's that are intended to ensure the operational integrity of the firm's books and records. The reconciliation's, performed daily, weekly, monthly or quarterly, are designed to identify bookkeeping discrepancies and to alert operations management to potential problems or errors.
Historically, the Stock Record Department was charged with the identification and reconciliation of any differences or exceptions in the Securities Record or Stock Record - hence the name Stock Record Department. But as brokerage firms started to enter into new and different businesses, additional reconciliation procedures were required. Consequently, the role of the Stock Record Department was expanded to include these new procedures.
Because of the varying nature of the tasks performed by the modern Stock Record Department, and to reflect the increased responsibilities of the department, the Stock Record Department is commonly referred to as the Operations Control Group or Department.
The following are typical reconciliation's performed by the Operations Control Group:
Stock Record Exceptions or Breaks
The Stock Record or Securities Record is a detailed listing of the firm's holdings - separated by security - on an account by account basis. It is a required record pursuant to SEC rule 17a-3. For each security position held by the firm the Stock Record must identify each account - client or firm - for which the security is held, the quantity of the security held for each account and the location(s) where the securities are held or deposited. The Stock Record also identifies any open Fails (both Fails to Deliver and Fails to Receive) and any open Stock Loan Contracts.
On the Stock Record, ownership of securities is designated by a debit or (+) quantity. Investors or accounts that have debit quantities on the Stock Record are said to have a 'long' position. Short investor and accounts representing offset locations - offset - the location where securities are held - are designated by a credit or (-) quantity. Investors or accounts that have credit quantities on the Stock Record are said to have a 'short' position.
Consider the following Stock Record for XYZ Co. common stock:
Based on the following Stock Record the firm holds a total of 110,000 shares of XYZ Co. common stock for the benefit of three customer accounts. Additionally, all 110,000 shares are held on deposit at the Depository Trust Company. Notice that the offset account for DTC is represented as a credit (-) or short position. The three customer accounts are represented with debit (+) or long positions.
Because the total quantity of XYZ Co. held for customers 1, 2 and 3 (+110,000) is equal to the number of shares held on deposit at DTC (-110,000), the Stock Record for XYZ Co. is said to be in balance. The firm's position in a particular security is in balance when the total debits (+) or long positions on the Stock Record are equal to the total credits (-) or short positions on the Stock Record.
Now, lets assume that the firm receives 10,000 shares of XYZ Co. via DTC delivery for the account of a new customer - Customer 4. If the proper, balanced entries are processed to record the receipt of shares the new Stock Record would appear as follows:
To properly record the receipt of shares the quantity for both the DTC Position account (credit) and the account for Customer 4 (debit) must be increased. Again, the Stock Record is in balance because the total debits (+) or long positions (+120,000) are still equal to the total credits (-) or short positions (-120,000).
But what would have happened if the journal entry to record the receipt of shares for Customer 4 was not processed correctly. Let's assume that the credit entry to increase the DTC Position account was in fact processed correctly, but the debit entry to increase the long position in the account for Customer 4 was incorrectly keypunched as 1,000 shares instead of 10,000 shares. The resulting Stock Record is no longer in balance because the total debits (+) or long positions and the total credits (-) or short positions on the Stock Record no longer equal.
The difference between the total debits (+) or long positions and the total credits (-) or short positions on the Stock Record is called a Stock Record Break or a Stock Record Exception. The total Stock Record Break for XYZ Co. in this example is 9,000 shares:
The Stock Record Break or Difference must be displayed on the Stock Record, as is typically done as follows:
Note that the credit (-) break is displayed as a debit (+) quantity. This is done by design - the+9,000 Stock Record Break Amount carried on the Stock Record enables the total debits (+) or long positions to equal the total credits (-) or short positions.
Therefore, when the total Stock Record credits (-) exceed the total debits (+) the break quantity is displayed on the Stock Record as a debit (+) quantity. If the total debits (+) exceed the total credits (-) the break on the Stock Record is displayed as a credit (-) quantity.
The Stock Record - or Operations Control - Department receives a daily listing of each Stock Record Break or Exception. The Stock Record employee must identify the cause of the break and take steps to ensure the timely resolution of the exception.
The Securities Record or Stock Record - required under SEC rule 17a-3 - must indicate the location where the actual securities are held or on deposit. When the actual securities held are on deposit at the Depository Trust Company (DTC) the total number of securities on deposit at DTC must be properly recorded on the firm's books and records and reflected on the Stock Record. The total number of securities held on deposit at DTC - as reflected on the Stock Record - is called the firm's DTC Position.
Each day a reconciliation is performed - on a security by security basis - between the firm's DTC Position and the actual quantity of securities on deposit at DTC - the Actual DTC Position. The brokerage firm typically receives its Actual DTC Positions in a nightly file transmission from the depository.
A daily exception report is generated for each security where the firm's DTC Position does not equal the Actual DTC Position on the file transmission. The daily exception report typically provides the following information:
For example, Firm A has a DTC Position of 100,000 shares of XYZ Co. on its Stock Record. Firm A's Actual DTC Position is 90,000 shares - as verified in the nightly file transmission received from DTC. The firm's total DTC Break in XYZ Co. is 10,000 shares:
The Stock Record Department must review each DTC Break on a daily basis to identify the cause of the break, and must take appropriate steps to ensure the timely resolution of the difference.
Possession and Control Monitoring
The Operations Control Department is responsible for monitoring Possession and Control (P&C) violations and must take steps to both properly report such violations and to ensure the proper and timely resolution of the violation. But what is Possession and Control Monitoring?
Possession and Control Monitoring is related to SEC rule 15c3-3 - The Customer Protection Rule. The Customer Protection Rule prohibits a brokerage firm from commingling fully paid for customer securities with non-fully paid for customer securities and/or firm securities.
When a client of the firm purchases securities through the firm and pays for those securities in full, the firm must "lock-up" or "segregate" those securities for the protection of the client. The segregation of fully paid for customer securities protects those client owned securities from the firm's creditors in the event that the firm can no longer continue as a going concern - that is, the firm goes belly up.
SEC rule 15c3-3 also prevents the brokerage firm from using full paid for segregated shares to satisfy any delivery commitments that might result from the firm's trading activities. If, for whatever reason, the firm does use segregated customer shares to satisfy a firm delivery a 'SEG Violation' or Possession and Control violation occurs.
The Operations Control group receives a daily P&C monitoring report that identifies any 'SEG Violations' committed by the firm. Rule 15C3-3 requires that the firm take action, within a specified amount of time, to rectify any SEG Violations. The specified period of time provided to the broker dealer to resolve the violation is dependent on the origin of the deficit. To cover a SEG Violation the firm can either:
It is the role of the Operations Control Group to monitor all SEG Violations to ensure that they are resolved in a proper and timely manner in compliance with rule 15C3-3.
Reconciliation of Foreign Depositories
The concept and process of reconciling foreign depositories is very similar to the daily DTC position reconciliation performed by the Operations Control Department.
The total quantity of International Securities held - on behalf of the firm and/or its clients - in a foreign depository or location must be properly recorded and reflected on the firm's Stock Record. The reconciliation of a foreign depository is a comparison between the actual quantity of securities held by the foreign depository on the firm's behalf and the quantity of securities reflected on the firm's Stock Record as being held at that depository.
The main difference between DTC Position Reconciliation and the Reconciliation of Foreign Depositories are typically the frequency and mode of the reconciliation.
Whereas DTC Reconciliation is typically an automated process performed on a daily basis, the frequency and level of automation of Foreign Depository Reconciliation depends on the individual depository and the sophistication of its record keeping systems.
Depositories in less developed countries and regions often lack the technology facilities to provide to the US brokerage firm with daily position totals. For this reason, the reconciliation of foreign depositories is often performed on a weekly or monthly basis.
The foreign depository might also lack the technological means to provide position information in a usable data file format for computerized reconciliation. Therefore, the reconciliation is often a manual procedure that requires visual comparison of printed position statements received from the foreign depository by fax or mail to the firm's Stock Record as of the statement date.
Reconciliation of Mutual Fund Networking Accounts
With the advent of more sophisticated book-entry trade settlement systems the level of technology utilized to process mutual fund transactions was greatly increased to facilitate both trading and settlement of book-entry mutual fund securities. Mutual fund securities that were at one time held by the brokerage firm in the form of physical certificates - and as such were subject to all the difficulties associated with physical securities - are now held in book-entry format by the individual mutual funds.
This book-entry processing is facilitated by the NSCC Mutual Fund Networking System. The NSCC Networking System creates an electronic network that links the brokerage firm to the many participating mutual fund families for the electronic communication of trade and settlement instructions.
The processing and accounting procedures for book-entry mutual fund securities are very similar to the procedures for processing transactions for securities held on deposit at DTC - or in Foreign Depositories.
Mutual fund securities held in book-entry form by the fund on behalf of the firm and/or its clients are represented as long (debit (+)) positions in the appropriate firm or client accounts on the firm's Stock Record.
An offsetting short (credit (-)) position is booked to an appropriate mutual fund offset or location account. Typically, a separate offset account is maintained on the firm's records for each fund or fund family.
The total long positions or debits must equal the total short positions or credits.
Similar to both DTC and Foreign Depository Reconciliation, the Operations Control Group receives periodic position statements from the various mutual fund families that hold book-entry securities on behalf of the firm and/or its clients. A reconciliation is performed between the position statement received from the fund and the firm's offset position on the Stock Record to verify that the actual number of securities held by the Mutual Fund in its book-entry system is equal to the number of securities represented on the Stock Record.
The reconciliation of Mutual Fund Networking Accounts is typically a manual process performed by the Operations Control Department on periodic intervals as position statements are received from the various mutual funds.
Quarterly Security Cycle Counts
SEC Rule 17a-13 requires the brokerage firm to verify - on a periodic basis - the quantity of securities it holds in its securities vault. The reconciliation is performed on a security by security basis.
This examination must be performed on a quarterly cycle - once each quarter - and requires that the broker dealer verify that the quantity of securities held in its securities vault is equal to the quantity of securities recorded on the firm's Stock Record.
The verification is accomplished by taking a physical inventory of each security held in the firm's vault and comparing that inventory to the quantity booked in the vault location on the Stock Record.
Where differences between the quantity of securities on hand and the quantity represented on the Stock Record are identified, the rule provides specific handling procedures for the documentation and resolution of the difference.