How Not to Regulate
If you don’t want a job done, hire someone who thinks the job should not be done.
That sounds perverse, but it is exactly what happened at the Securities and Exchange Commission in the later years of the Bush administration.
I’m not sure that applies to Chris Cox, the Bush administration’s final chairman. But he came in with a mandate to achieve consensus with the other Republican members of the commission, after his predecessor, Bill Donaldson, had worked with the Democratic members to overcome ideological opposition from at least one of the Republican members.
To get that consensus, Mr. Cox agreed to throw up a series of procedural hurdles in the way of the enforcement staff investigating and settling cases. Some former enforcement directors thought Linda Thomsen, the enforcement director Mr. Cox inherited, should have quit in protest. Had she done so, the result might have been an enforcement director who did not believe in enforcement. So she stayed, and took much of the blame.
Mary Schapiro, the new chairwoman of the Securities and Exchange Commission, has removed those hurdles, and put in a new enforcement director who we can assume actually thinks the job he has been hired to do is worth doing.
In a speech today to the Society of American Business Editors and Writers conference in Denver, Ms. Schapiro named some causes of the financial crisis. I have emphasized the two parts that I found most interesting.
How we got to where we are today is a question that many will debate for years to come. But it is clear to me that the responsibility lies with many:
• from the institutions that cobbled together and aggressively sold risky financial instruments
• to ratings agencies that allowed the integrity of ratings to take a back seat to their business interests
• to mortgage originators who made complex loans to those who could not afford them
• to regulators that didn’t fully embrace the need for regulation or didn’t appreciate the significant risks building throughout the entire system
• or, in the case of the S.E.C., simply didn’t hew faithfully to the mission of investor protection — whether because of a lack of resources or because of philosophy
Ms. Schapiro has not had time to prove that her S.E.C. will restore the agency’s reputation. But it is refreshing to have an S.E.C. run by someone who thinks regulation is a good idea."
Speech by SEC Chairman:
Address to the Society of American Business Editors and Writers
by
Chairman Mary L. Schapiro
U.S. Securities and Exchange Commission
SABEW Annual Conference 2009
Denver, Colorado
April 27, 2009
Thank you. And, thank you to Diana (Henriques) for that very kind introduction.
It's an honor to be here with you today because in so many ways we share the same goal. We all strive to achieve an "informed citizenry."
Through your reporting and writing, you help to make Americans smarter and wiser — not just about business in general, but about the financial markets in particular.
And, that actually makes our job at the Securities and Exchange Commission easier.
For me — and for the SEC — it is all about investors. The more high-quality, honest information investors have, we believe the better off they are.
Since becoming Chairman a few short months ago, my focus has been revitalizing the one agency whose primary responsibility is to protect investors.
The Birth of the Investors' Advocate:
As many of you know, the SEC grew out of a tumultuous time in our nation's financial history. Following the Great Crash of 1929, Congress passed two significant pieces of legislation whose goals were clear — protect investors and restore investor confidence.
It was 75 years ago this very day that the House Committee reported out the bill that created our agency.
That Committee report — from April 27, 1934 — references the words of President Roosevelt himself.
At the time, the President was concerned with what he called naked speculation — or investments with significant risk. He said such "speculation has been made far too alluring and far too easy for those who could and for those who could not afford to gamble."
And he talked about his concern that workers were risking their pay checks or meager savings on transactions that they barely understood — or in his words investments "with whose true value they were wholly unfamiliar."
That is why President Roosevelt urged passage of the legislation — legislation he said was "for the protection of investors, for the safeguarding of values, and, so far as it may be possible, for the elimination of unnecessary, unwise, and destructive speculation."
A few weeks later the Exchange Act of 1934 passed. And, the SEC was born.
It wasn't long before one of the early Chairmen, declared the agency the "investors' advocate." And, for 75 years, the agency has largely been known by that moniker. But not unfailingly, and that is part of what I want to talk to you about today.
Now, More than Ever:
It is perhaps stating the obvious to note that given the current state of our economy, the value of our pensions and 401k's, our aging demographic and the complexity of financial transactions, that there has never been a time when investors have needed a strong advocate more than they do today. They understandably lack confidence in the markets as vehicles to support their financial security.
The SEC must play a central role in restoring that confidence for a simple reason: Until investors believe that they are not powerless pawns in the financial markets, until they believe in the basic integrity of financial markets, they will put their money in mattresses rather mutual funds — in bread boxes rather than bonds. And, that only serves to further undermine our economy.
As all of you in this room understand, investments fuel our economic growth. They help the factory down the road hire more workers. They make it possible for a recent college graduate to start up a small business. They enable manufacturers to innovate. And, they allow municipalities to build roads, bridges and hospitals.
How we got to where we are today is a question that many will debate for years to come. But, it is clear to me that the responsibility lies with many:
- from the institutions that cobbled together and aggressively sold risky financial instruments
- to ratings agencies that allowed the integrity of ratings to take a back seat to their business interests
- to mortgage originators who made complex loans to those who could not afford them
- to regulators that didn't fully embrace the need for regulation or didn't appreciate the significant risks building throughout the entire system
- or, in the case of the SEC, simply didn't hew faithfully to the mission of investor protection — whether because of a lack of resources or because of philosophy
Reforming the Landscape:
As a result, there is significant debate about regulatory reform — not about whether it should happen, but about what form it will take. You might say the train has left the station, but no one quite knows for sure where it will come to stop.
Whatever form it takes, I support the view that there is a need for system-wide consideration of risks to the financial system and to create mechanisms to reduce and avert such systemic risks.
But, at the same time, I believe that any reform must not — and cannot — compromise the quality of our capital markets or the protection of investors.
If we cannot show investors that we are looking out for their interests as much as the interests of the financial institutions — then we will have little success in restoring confidence.
Investors need to see that we are going after those who engage in wrongdoing. They need to see that we are forcing companies to be truthful and transparent in their reporting. They need to see that we are limiting risk in areas where substantial risk is not what they're buying. And, they need to see that we're rooting out fraud.
In short, they need an agency that's there for them — and primarily them. They need an independent agency that exists not just to protect Wall Street, but to protect Main Street.
By offering that to investors, we can help to restore confidence.
The SEC — Independent and Experienced:
When Congress created the SEC they understood not only that this new agency would be protecting investors, but that it would be advocating for individuals who were disparate in their views and not cohesive in force.
So, Congress ensured we were an independent regulator — one that could champion those who otherwise did not have a voice. A regulator that was not afraid to take on the most powerful interests in the land.
Our job is to promote efficiency, competition and fairness around each and every dollar invested.
- We do this by regulating the exchanges and clearing agencies that make our markets work.
- We do this by helping to reduce transaction times to a nanosecond — and by reducing the costs of trades to just pennies.
- We do this by fostering information that is accurate, meaningful, and timely through thousands of disclosure reviews each year.
- We do this through rules that make mutual and money market funds — which hold over $9 trillion of assets — operate for the benefit of investors and only investors.
- We do this by overseeing 5500 broker-dealers and over 11,000 investment advisers.
- And we do this through vigorous enforcement of the law.
Glancing Back, But Moving Forward:
All this is not to imply that every one of our 75 years has been stellar. Or that we've done all that has been expected of us. No, the past year, in particular, has certainly proven that not to be the case.
In real ways, the SEC has not been where investors most needed it, addressing their most pressing issues, responding to the changing world, in a way that should epitomize a world class regulator.
But that doesn't mean we should let ourselves continue to be defined by what we fail to do, rather than by what we can do. We owe it to the American public to do better. And, that is my commitment.
I spent six years at the SEC — as a Commissioner — in the late 80s and early 90s — under three great chairmen who understood the power of an SEC that keeps its eyes firmly on its mission of investor protection. An SEC with an agenda that puts investors first — not just through an aggressive enforcement program — though that is essential — but also through effective rulemaking, market structure changes and creative use of the bully pulpit — can be a powerful force for good in our financial society.
In the short time I've been Chairman, I have begun the efforts to revitalize the agency. I've looked at things we can do differently. And, I have let it be known far and wide that things must change. But I am fortunate in discovering — with just three months on the job — that there is a deep current of enthusiasm and commitment to public service on the part of the staff — ready to be tapped. We are a small agency, but there is no reason why we can't reclaim our position in the pantheon of federal regulators, as one of the toughest.
Enforcement:
In the area of enforcement, I have brought on a new director with more than a decade's experience as a federal prosecutor.
He understands my desire to bring meaningful cases that have the greatest impact and send a strong message. He understands that it is essential to speed up investigations so that cases are brought when they will have the greatest deterrent effect — meaning, right away.
He understands my insistence on removing the stove-piped approach that inhibits information sharing and prevents one office from knowing what another office has already learned. And, he is considering structural changes so that our limited resources are used smarter and more efficiently.
We are both committed to working in partnership with the criminal authorities, state regulators and the Special Inspector General for TARP to leverage the resources of all of the enforcement authorities.
In addition, I have streamlined our enforcement procedures by no longer requiring full Commission approval to launch an investigation. And, I've eliminated the need for full Commission approval before negotiating a settlement with a corporate defendant.
Before these directives, enforcement attorneys will tell you that they worried about red lights at every turn — now they see green.
Additionally, I brought on a consulting firm to assess and revamp the way we handle the nearly 1 million tips and complaints we get each year. Because we do not have unlimited resources we cannot pursue every lead — we get about 2,000 every day. But we can do a better job ensuring that each tip lands on the right desk and that the person reviewing it has the necessary skills.
Further, we are looking at improving our training programs and hiring new skill sets — from financial analysis to experts in complex trading strategies. It's all an effort to keep pace with the fraudsters and the ever-changing financial concoctions of the day.
For me, the progress cannot be fast enough.
When I review the pipeline of cases I see how much we are confronting.
- We have approximately 150 active hedge fund investigations, some of which include possible Ponzi schemes, misappropriations, and performance smoothing.
- We have about two dozen active municipal securities investigations possibly involving offering frauds; arbitrage-driven fraud; public corruption; and price transparency.
- And, we have more than 50 current investigations involving Credit Default Swaps, Collateralized Debt Obligations and other derivatives-related investments.
… and that's just a small slice.
Policies/Rules:
Enforcement has been the most visible program at the SEC in recent history. But the financial crisis teaches us that there are policy and regulatory gaps that the SEC must also address.
Again, if investors are to have confidence in the ratings assigned to securities, that corporate boards are working on behalf of stockholders, that investment advisers are not running Ponzi schemes, that money market funds won't break the buck, then the SEC needs to be pushing forward a real agenda of reform.
Let me just highlight a few of these:
Money Market Funds:
Nearly $4 trillion are invested in money market funds. When the Reserve Fund broke the buck last fall, it called into question the stability of all funds and has led us to ask how we can bolster the resilience of these funds that have become so important to our economy and to investors.
This June, we will propose enhancements to the rules governing the credit quality, maturity and liquidity provisions that currently apply to money market funds. In addition, we are reviewing whether more fundamental changes are needed to protect investors from runs on the funds, including floating rate net asset values.
Custody:
In response to major investment scams — such as Madoff — and a rash of Ponzi schemes, we will be considering two proposals as part of a package of initiatives designed to better assure the safekeeping of investor assets.
In short order, the Commission will consider a proposal to strengthen the controls applicable to investment advisers with custody of client funds and securities. I anticipate that this proposal will include a consideration of "surprise" examinations by a certified public accountant, and a requirement that investment advisers undergo third-party compliance audits.
Also, as part of this package, I have asked the staff to draft a Commission requirement that a senior officer from broker-dealers and investment advisers with custody certify that controls are in place to protect investor assets.
Proxy:
Finally, the Commission will be considering a proposal next month to remove the barriers that make it costly and difficult for a company's owners to nominate directors. I believe such proxy access is in no small measure about making boards more accountable for the risks undertaken by the companies they manage.
We want to ensure that any procedural requirements for access are rational, and not a means to thwart effective investor participation, yet we want to act expeditiously to resolve these longstanding issues.
In addition to these we are looking at expanding the pay-to-play rules, better disclosure regarding municipal securities; regulating hedge funds and seeking whistleblower authority. These are of course just a few of the many proposals we are considering in the interest of investors.
While much has changed since I was last a Commissioner at the SEC, what hasn't changed is the commitment I see on the faces of every employee. We all were drawn to the SEC because we believe we can make a difference — in the lives of investors and in the strength of America's capital markets and economy.
The economic situation has impacted most every American. And it has profoundly affected the confidence of investors. They deserve to know that the SEC is working to restore that confidence and protect their interests. And I pledge to them that is my mission.
Thank you.
http://www.sec.gov/news/speech/2009/spch042709mls.htm
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