Subject: File Number S7-09-09

July 1, 2009

To: Securities and Exchange Commission
Re: Custody of Funds or Securities of Clients by Investment Advisers, File Number S7-09-09

The proposed changes to the custody rules appear to be a regulatory response to recent scandals. It should be noted that current the current regulatory structure is already adequate in determining the illegality of the behavior exposed in recent scandals. This raises the question as to whether or not additional regulatory burdens and costs are an appropriate remedy for what appears to be a failure to competently enforce current regulations.

A surprise examination of our firm would be required under the proposed rule due to our practice of withdrawing management fees from client accounts held at an independent custodian, when this is authorized by our clients. I am not aware that the narrow window of opportunity for fraud to be perpetrated by abusing the ability to withdraw management fees from client accounts held at an independent custodian is a common and extensive problem.

Even if it is a common and extensive problem, the costs associated with a surprise examination, itself of dubious effect in the face of a determined criminal, will either be passed onto customers directly and/or our profit margins will be further eroded. For most small advisers, the cost of the examination would likely be significant as a percentage of their overall revenues. This cost can only be justified if it is clear that fraud associated with the ability to withdraw management fees is clearly a substantial problem, and that there are no other less costly and more effective solutions.

Our clients receive statements directly from their independent custodian, and their current account balance and the amount of the fees withdrawn each quarter are clearly stated. Individual investors are clearly the first line of defense if fraud is perpetrated by their adviser through the mechanism of fee withdrawals. If this line of defense is perceived to be weak, then enhance it through education, public relations campaigns, effective periodic communications from the independent custodian, and other effective means.

The next line of defense is the custodian, in our case an independent custodian. Our custodian has safeguards in place to identify fees withdrawals that exceed a certain percentage of a client account, which then forces additional steps to effectuate the withdrawal. If these safeguards need to be improved, then do so.

Assuming the first two lines of defense are breached, the SEC as a regulator is a final line of defense. Apparently there is room for improvement at this final line of defense in rooting out fraud. However, in our case and I assume other advisers, the two regulatory examinations of our firm in the past six years have addressed fee withdrawals as a potential risk. If there are audit processes and procedures, that need to be improved to more effectively implement this line of defense, then do so. Perhaps other supplemental activities performed by the SEC could be implemented in this area, particularly for advisers who show added risk due to prior regulatory issues or examinations.

To conclude, my view is that requiring all investment advisers to be subject to annual surprise exam is an excessive response to a problem caused by persons violating current regulations, combined by a failure to competently enforce current regulations by regulatory personnel. Requiring added regulatory burdens and costs of dubious benefit and necessity is a poor substitute for what should be an obvious solution: enhance the existing lines of defense and competently enforcing current regulations.

James Denney
Mohawk Asset Management, Inc.