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Testimony of Denise Voigt Crawford
Commissioner, Texas Securities Board and
President
North American Securities Administrators Association, Inc.
Before the
United States Financial Crisis Inquiry Commission
January 14, 2010
Chairman Angelides, Vice-Chairman Thomas, and members of the Commission,
I’m Denny Crawford, Texas Securities Commissioner and President of the North
American Securities Administrators Association, Inc. (NASAA). 1 I am honored to be
here today to focus on the role of state securities regulators in the current financial crisis,
and to provide you with recommendations to enhance our ability to pursue financial fraud
and prosecute the perpetrators of those crimes.
State Securities Regulatory Overview
State securities administrators are responsible for enforcing state securities laws,
licensing firms and investment professionals, registering certain securities offerings,
examining broker-dealers and investment advisers, pursuing cases of suspected
investment fraud, and providing investor education programs and materials to the citizens
of our states. Ten of my colleagues are appointed by state Secretaries of State; five fall
under the jurisdiction of their states’ Attorneys General; some are appointed by their
Governors and Cabinet officials; and others, like me, work for independent commissions.
I have worked for the Texas Securities Board for 28 years and been appointed
Commissioner by both Republican and Democratic Administrations. By nature, we are
the first line of defense for Main Street investors and for us, enforcement is a top priority.
Through the years, states have been the undisputed leaders in criminal prosecutions of
securities violators because we believe in serious jail time for securities-related crimes.
We have successfully exposed and addressed the profound conflicts of interest among
Wall Street stock analysts by requiring changed behavior. We led all regulators on late
1
The oldest international organization devoted to investor protection, the North American Securities
Administrators Association, Inc., was organized in 1919. Its membership consists of the securities
administrators in the 50 states, the District of Columbia, the U.S. Virgin Islands, Canada, Mexico and
Puerto Rico. NASAA is the voice of securities agencies responsible for grass-roots investor protection and
efficient capital formation.
2
trading and market timing in mutual funds. We address on a daily basis abusive sales
practices especially those targeting vulnerable senior investors.
State securities regulators continue to lead the effort to ensure that investors receive
redemptions for their frozen auction rate securities that were marketed as safe and liquid
investments, an effort that already has resulted in the largest return of funds to investors
in history. In the last few years, state securities regulators have been at the forefront of
investor protection. Our record demonstrates clearly that we have the will and ability to
regulate.
Regulatory Accomplishments vs. Regulatory Failures
Deregulation is no longer the presumptive policy prescription; indeed today, the sense is
that the current crisis was deepened by excessive deregulation. Similarly, the naiveté
behind the view that markets are always self-correcting now seems apparent. But clearly,
reliance by the investing public on federal securities regulators, self-regulatory
organizations (SROs), and “gatekeepers” in the years preceding the crisis (and in its very
midst) to detect and prevent even the most egregious of frauds and deceit was equally
naïve.
The most obvious developments over the past 15 years have been the rapid succession of
market scandals. These seem disproportionate in both frequency and severity to prior
periods in U.S. financial history. A consequence of these scandals has been that state
regulators have become the dominant players in addressing many financial scandals.
The National Securities Markets Improvement Act of 1996 (NSMIA) significantly
impacted the role of state regulators and enforcers in dealing with securities offerings and
professionals.
NSMIA preempted many state regulations and transferred significant
enforcement responsibilities from the states to the federal government. NSMIA also
prevented the states from taking preventative actions in areas that we now know to have
been substantial contributing factors to the current crisis. It seems that some have
3
forgotten that the federal securities laws were enacted to supplement preexisting state
securities laws based on enforcement dilemmas occasioned by the jurisdictional
limitations on the states’ police powers, or, as Justice William Douglas pointed out in
Travelers Health Association v. Virginia, “to fill a gap.” Now, more than 60 years later,
Congress, federal regulatory agencies and the courts have created gaps in the securities
laws of the states and in the entire investor protection regime.
Two examples clearly demonstrate these gaps in investor protection: Nationally
Recognized Statistical Rating Organizations (NRSROs) and the private offering
exemption.
Nationally Recognized Statistical Rating Organizations
Whether the rating agencies engaged in self-dealing or were simply incompetent, there is
little question that they failed to investigate the securities offerings thoroughly and issued
ratings that were, at best, highly inflated. Prior to NSMIA, all NRSROs were registered
with the Securities and Exchange Commission (SEC) as investment advisers and subject
to both state and federal oversight. NSMIA bifurcated the oversight of investment
advisers between the SEC and the states. In rulemaking pursuant to NSMIA, the SEC
exempted the NRSROs from investment adviser registration, thus removing them from
review of any kind by the states.
Private Offering Exemption
NSMIA also preempts state regulation of securities offerings of so-called “covered”
securities. If a security is one that is considered “covered” by the statute, states are
prohibited from meaningful review of the offering and are left with ex-post fraud
investigation and prosecution authority.
The stated congressional purpose of these
provisions was to preempt state regulation of offerings that were national in scope and to
eliminate redundant or inconsistent state regulations.
Predictably, under NSMIA,
covered securities include those listed on national securities exchanges and the National
4
Market System of the National Association of Securities Dealers Automated Quotations
(NASDAQ).
The SEC generally regulates these national exchanges and NASDAQ
offerings under federal law, making state regulation duplicative and largely unnecessary.
Paradoxically, however, NSMIA also preempted state regulation of securities offerings
and sales made pursuant to existing federal exemptions including private placements
exempt from federal registration under SEC Regulation D Rule 506.
There is very little in the legislative history of NSMIA that discusses private placements.
What commentary exists defends federal preemption on the grounds that private
placements, like exchange listed securities, involve offerings that are “national in scope.”
Preemption of state regulation of private offerings, however, results in a very different
consequence than preemption of state regulation of public offerings subject to SEC
supervision under the 1933 Act. Unlike listed securities, private placements are exempt
from federal registration and for all practical purposes exempt from federal oversight.
NSMIA’s preemption of state regulation of private placements, therefore, created a
regulatory black hole - today no one regulates these offerings.
While there may be federal requirements for private placements to come within the scope
of Rule 506, in reality there is no federal regulatory enforcement. The SEC does not
review Form D filings and rarely investigates Rule 506 offers.
Also of note is that NSMIA, as originally conceived, stripped the SEC of two
Commissioners and 20 percent of its budget. 2 Therefore it does not take an extreme
cynic to view NSMIA’s preemption primarily as deregulation, rather than a systematic
apportionment of appropriate responsibilities between federal and state regulators. This
politically driven reality lessens the temptation to view this issue as part of the broader
philosophical debate on federalism and the recurring question of appropriate state and
federal roles for securities regulation. Regardless of motivation or cause, for private
2
Capital Markets Deregulation and Liberalization Act of 1995, H.R. 2131, 104th Cong. (1995) at § 9
(reducing number of SEC Commissioners from 5 to 3); H.R. 3005, 104th Cong. (1996), at Title IV (cutting
SEC fees by $680 million over 5 years).
5
placements, there is currently no federal or state regulation. This regulatory failure calls
for a meaningful and substantive solution.
State Regulatory Leadership
The resurgence of state securities regulators may have begun with the analyst
independence cases, but it shows no signs of ending. Not surprisingly, the financial
industry has not welcomed this new activism by state securities regulators and would be
happy to constrain or preempt us. Reorganization of financial regulation could provide
political cover for legislation curbing the reach of state regulators. There have been both
agency and legislative proposals to this effect – most recently in the U.S. Treasury
Department’s “Blueprint for a Modernized Financial Regulatory Structure.” 3
Yet it has been the actions of state securities regulators, both as essential fraud detectors
and arbitrators, which have compelled the SEC to take action. The Blueprint’s assault on
state enforcement was straightforward: It should be preempted. This suggestion is not
new. 4 Industry has repeatedly urged preemption of state securities law and enforcement.
H.R. 2179, the Securities Fraud Deterrence and Investor Restitution Act of 2003, would
have preempted state securities regulators from bringing enforcement actions with
appropriate remedies against those firms that violate securities laws in their jurisdictions.
Thankfully, this misguided proposal, which was supported by the securities industry, did
not become law.
The Blueprint focused not on state regulation in the sense of rulemaking and oversight,
but on state enforcement of antifraud rules. Increasingly, state securities regulators have
played a far more aggressive role in prosecuting systemic securities fraud.
The
3
The United States Department of the Treasury, The Department of the Treasury Blueprint for a
Modernized Financial Regulatory Structure, Henry M. Paulson, Jr., Robert K. Steel, David G. Nason, and
others. Washington, DC, March 2008.
4
See, e.g., Kathleen Day, Brokerage Settlement Leaves Much Unresolved: SEC Acknowledges Need for
New, Specific Rules, Wash. Post, Apr. 30, 2003, at E1 (describing Wall Street’s push “to make it clear that
federal securities laws preempt state laws”).
6
Blueprint’s proposal, however, would have precluded state securities regulators from
continuing to play their central role in fraud detection and prosecution. While the authors
of the Blueprint argued for uniformity, recent experience suggests that regulatory
competition among the states and the SEC works to the advantage of investors by
promoting effective and efficient regulation. If one believes securities fraud tends to be
under-enforced, then competition is desirable because it creates a failsafe check and
balance against the prospect of regulatory capture.
State securities regulators were ahead of the SEC in the investigation of securities analyst
conflicts and “market timing” in mutual funds. The same can be said for the Enron
investigation, where the Securities Bureau of the New York Attorney General (NYAG)
used New York’s unusually flexible securities law to investigate the role of the
investment banks in the Enron fraud. Once again, state securities regulators were “out in
front of” the SEC and the investigations by the New York Securities Bureau created
pressure on the SEC to act, which they did by settling with the banks. Indeed, at the time
of New York’s investigation, it was unclear whether the SEC intended to pursue the
banks at all, let alone aggressively.
More recently, state securities regulators have been the most aggressive enforcers in the
auction rate securities (ARS) cases, negotiating settlements with the major investment
banks totaling well over $150 billion. The New York Securities Bureau reached the first
settlements with the credit rating agencies. State securities regulators have also played a
significant role in resolving similar cases. 5
Not only have the state securities regulators frequently been first, they have been tougher.
A recent study of the restitution involved in mutual fund cases is particularly revealing.
It compares restitution in cases involving both a state securities regulator and the SEC,
with those involving the SEC alone. The study concluded that the cases with both
“prosecutors” yielded considerably higher restitution ratios.
The study controlled a
5
See, e.g., Jennifer Bayot, Franklin Places Three on Leave for Fund Trading, N.Y. Times, Dec. 23, 2003,
at C12 (detailing the investigative roles of state regulators in Massachusetts and California).
7
variety of factors to reach the conclusion that the higher restitution in the cases with the
state securities regulator may be attributed to its relative aggressiveness. Further, the
study concludes that the “aggressiveness explanation” is consistent with the career
concerns of the regulator as well as with regulatory capture theories. 6
Ironically, in its own enforcement activities, the SEC has not met the standard of conduct
that it requires of the broker-dealer firms it regulates. On numerous occasions, the SEC
has failed to detect abuses or has failed to take appropriate action despite the appearance
of “red flags,” where similar conduct by a broker-dealer firm would invite SEC
disciplinary action.
When imposing sanctions on brokerage firms for inadequate
supervision, the SEC has stated:
We have repeatedly held that brokers and dealers are under a duty to
supervise the actions of employees and that in large organizations it is
especially imperative that the system of internal control be adequate and
effective and that those in authority exercise the utmost vigilance
whenever even a remote indication of irregularity reaches their attention.
There must be adequate follow-up and review when a firm's own
procedures detect irregularities or unusual trading activity. . . .
It appears that, far from monitoring the securities markets and securities industry in order
to detect and terminate abusive and illegal practices, the SEC was often prompted into
action only after state regulators had unearthed them.
Congressional and internal investigations of SEC enforcement policies and procedures,
prompted in part by the sensational Madoff case, preliminarily indicate that the
Commission’s failure to enforce the securities law was a result of a combination of policy
and ineffectiveness. Regardless, the sheer number and size of its failures point to a
capture of the agency.
6
See, Zitzewitz, Eric, An Eliot Effect? Prosecutorial Discretion in Mutual Fund Settlement Negotiations,
2003-7. Available at SSRN: http://ssrn.com/abstract=1091035
8
By way of example, on April 8, 2002, the New York Securities Bureau announced the
results of an investigation of conflicts of interest of research analysts at Merrill Lynch
(Merrill). The investigation showed that, from 1999 to 2001, Merrill did not publish a
single “reduce” or “sell” recommendation on any stock in its Internet group.
Furthermore, internal Merrill emails by analysts referred to some stocks that the firm was
recommending to its customers as a “piece of junk,” a “piece of crap,” or in even more
disparaging language. The New York Securities Bureau discovered that, unknown to the
general public, Merrill’s research analysts were not giving impartial investment advice to
their customers, rather, that the advice was tailored to attract and keep the investment
banking business of corporate clients.
Two weeks after New York’s announcement, the SEC announced that it was making an
inquiry into the practices of research analysts at Merrill. Eventually, it became clear that
the conflicts of interest of Merrill’s analysts were far from unique; the problem pervaded
the securities industry. In April 2003, the New York Securities Bureau, NASAA, the
NYSE, the then-NASD, and the SEC announced the details of a “global settlement” with
ten of the largest investment banking firms and two individual analysts. The settlement
with the firms included monetary relief of $1.4 billion, including civil penalties and
disgorgement of profits, as well as various procedural reforms.
It does not appear that the SEC took any action in the research analyst scandal until an
announcement by a state securities regulator prompted it to act. For at least two years,
the largest broker-dealer firms made a practice of betraying their customers by publishing
tainted research reports, apparently without the SEC noticing.
A more recent example is the ARS scandal mentioned previously. Auction rate securities
are long-term bonds or preferred stock whose interest rates or dividends are reset by
auctions that typically occur at intervals of between seven and thirty-five days. These
auctions provide the primary source of liquidity for investors who wish to sell their
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investments. Investors who buy ARS typically seek a cash-like investment that pays a
higher yield than a money market fund or certificate of deposit.
During recent years, billions of dollars of ARS were sold to investors by major brokerage
houses as cash alternatives. In February 2008, the ARS market collapsed, with the result
that investors were left holding illiquid securities. In June 2008, William F. Galvin,
Secretary of the Commonwealth of Massachusetts, brought a civil action against UBS
Securities, LLC and UBS Financial Services, Inc. (together, UBS), charging that UBS
had sold ARS to customers with false representations that they were liquid, safe, moneymarket instruments that could be sold at the next auction, whereas “no true auction
existed for many of these securities.” A month later, the New York Securities Bureau
announced its own lawsuit against UBS, charging that “UBS customers are holding more
than $25 billion in illiquid, long-term paper as a result of UBS’s fraudulent
misrepresentations and illegal conduct.” On July 31, the state securities regulator from
Massachusetts brought a similar action against Merrill Lynch; and on August 7, NASAA
announced a settlement with Citigroup pursuant to an investigation led by the Texas State
Securities Board under which the company would fully reimburse 40,000 customers who
had been unable to sell their ARS since February 12, 2008, and pay civil penalties of $50
million each to the New York Securities Bureau and NASAA. On August 11, NASAA
announced that it was expanding its investigation to JPMorgan Chase, Morgan Stanley,
and Wachovia.
The SEC took no public action with respect to the ARS matter until August 7, 2008,
when its enforcement chief announced a preliminary settlement with Citigroup
compatible with the agreements already reached with members of NASAA.
It is both evidence of the efficacy of state securities regulators and support for the
proposition that a federal agency has been permanently captured that, before the ARS
market collapsed in February 2008, several of the largest brokerage firms were selling
many billions of dollars of securities to their customers throughout the country by means
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of misrepresentations as to the nature of these securities, while the SEC either was
unaware of this or, if it was aware, took no action to stop them.
During a House Financial Services Committee hearing in September 2008, Chairman
Barney Frank recognized the crucial role of state securities regulators intervening on
behalf of ARS investors, stating that “in a number of states, it has been the state
securities officials and law enforcement officials that have taken the lead.”
Texas Enforcement
While NSMIA was touted as a way to reduce regulatory burdens on issuers in national
securities offerings by preempting states’ authority, it also had the consequence of
severely limiting oversight of an offering made within a single state. A Rule 506 offering
can be made in any number of jurisdictions. Regardless of whether the offering is made
in several states or in only one state, the preemption applies.
Specifically, NSMIA prohibits a state from being able to scrutinize Rule 506 private
offerings and those who market them. States are prohibited from conducting reviews and
from regulating disclosure documents such as proxy statements and annual reports. No
conditions may be imposed on offering documents, including advertising and sales
literature used in connection with the offerings. No longer able to screen offerings on the
front end, states retained jurisdiction only to investigate and bring enforcement actions
with respect to fraud or deceit in connection with securities or securities transactions.
Inherently, some indication of fraud or deceit is required to do that. Further hampering
state law enforcement, certain securities violators, referred to as “bad boys,” were given a
green light by NSMIA to participate as issuers and promoters of unregistered offerings.
Here are two examples from Texas:
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Raymond Minardi
Minardi was the managing member of the issuer’s general partner, i.e. a promoter, in a
Rule 506 offering by RSM Forex Fund II, LP. After millions of dollars in investments
were made by Texas citizens, it was found that Minardi made material misstatements and
material omissions in relation to the offering. Pursuant to state action, RSM was placed
in receivership and Minardi was ordered to cease from engaging in fraud. However, due
to the restraints imposed by NSMIA, even while his prior offering was in receivership
Minardi was not prohibited from participating in subsequent offerings.
Due to the
limitations on enforcement relative to 506 offerings, Texas could not investigate or
require him to submit offering materials related to the new offering prior to its sale to the
public. We are concerned that Minardi may be able to mislead new investors to their
financial detriment.
Randy Weaver and TierOne Converged Networks, Inc.
An Emergency Cease and Desist Order was entered against Weaver and TierOne, based
on findings of intentional failure to disclose material facts.
Among the failures to
disclose were: liability in an arbitration proceeding in excess of $300,000 and
compensatory liability in excess of $100,000; a prior finding that Weaver had fraudulently
misrepresented and omitted material facts in connection with the sale of securities, was
barred from associating in any capacity with any FINRA member firm, and was ordered to
pay $547,468 in restitution exclusive of interest to 23 individuals; and that Weaver had filed
and been discharged in a voluntary bankruptcy proceeding, prior to which Weaver was
subject to actual or potential creditor claims of over $900,000 based on additional arbitration
actions. In addition, Weaver and TierOne represented that Weaver started his "Stock Broker"
career in 1997 and thereafter maintained a successful business as a top-producing broker for
several firms, which is materially misleading or otherwise likely to deceive the public in light
of the material facts I just described.
The bottom line is that NSMIA hampers the states’ ability to investigate known securities
law violators when they become participants in subsequent offerings. We are constantly
12
faced with playing catch up and often the result is that new investors are harmed before
we can investigate and take enforcement action. Criminals have been given the upper
hand and regulators are forced to triage investor harm in a cycle that plays out again and
again.
National Life Settlements LLC
On a much more positive note, another Texas enforcement case is well worth mentioning
today, an investigation that resulted in an outstanding return of investors’ funds.
Defrauded investors in National Life Settlements LLC (NLS) received $19.8 million, or
69 percent of the amount they invested in the company. Many of the 320 investors were
teachers and state retirees who turned over retirement funds to the company, which sold
promissory notes that were purportedly backed by life insurance policies. It is very rare
to have such a large recovery in a securities receivership case so I’m pleased to report
that investors were able recoup a significant part of their losses.
The NLS case highlights two areas of concern for investors: The danger of speculative
investments and the importance of knowing the background of investment salespeople.
The chief executive and chairman of the board of NLS was a three-time convicted felon
whose most recent conviction was in federal court in New York for conspiracy to commit
wire fraud.
NLS sold about $30 million in unregistered investments, allegedly secured by life
settlements, mostly through insurance agents. A life settlement is the sale of an insurance
policy to a third-party in exchange for a one-time cash payment. The purchaser then
continues to pay the premiums and becomes the beneficiary of the policy.
The company marketed their investments as safe products that would pay investors a
steady return of 10% a year. The company solicited money from retired state employees
and retired public educators; millions of dollars were rolled out of retirement plans and
into NLS investments.
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This case is an example of how state securities regulators are early detectors who act
swiftly. We discovered the scheme by reading an investment advertisement that included
a solicitation for employment of agents, offering significant sales bonuses. One of our
investigators applied for a sales position and we were able to get a clear, immediate and
inside view of how the investments were structured and marketed. In court, the receiver
told the judge that “…the State Securities Board acted in this case before they had a
single complaint.”
Investigative techniques like the ones used in NLS are trademarks of state securities
regulators: Watch Main Street closely, make early inquiries, then expend limited
resources effectively. No lead is too small to warrant at least a cursory review. The
failure, at times, is to see similarly swift action at the federal level on cases we refer
because they are beyond our jurisdiction and/or resources. Even more significant in the
recent financial crisis - and a problem going forward - is the policy position of some
federal enforcement agencies not to conduct undercover investigations at all.
State Securities Enforcement
State securities regulators have a century-long record of investor protection, and NASAA
has long supported that effort. The Enforcement Section Committee within NASAA
helps coordinate large, multi-state enforcement actions by facilitating the sharing of
information and leveraging the limited resources of the states more efficiently. Members
of this Section also help identify new fraud trends such as scams disguised as offers to
help homeowners caught up in the turbulent housing market “save” their homes or “fix”
their mortgages usually for a fee paid in advance.
Other trends we are seeing include
leveraged Exchange-Traded Funds (ETFs), which are being offered to individual
investors who may not be aware of the risks these funds carry, a rise in energy and
precious metals scams, and fraudulent offerings of investments tied to natural gas, wind
and solar energy and the development of new energy-efficient technologies.
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State securities regulators respond to investors who typically call them first with
complaints or request information about securities firms or individuals. They work on
the front lines, investigating potentially fraudulent activity and alerting the public to
problems. Because they are closest to the investing public, state securities regulators are
often first to identify new investment scams and to bring enforcement actions to halt and
remedy a wide variety of investment-related violations. The $61 billion returned to
investors to resolve the demise of the ARS market is the most recent example of the
states initiating a collaborative approach to a national problem.
Attached to my testimony is a chart, “States: On the Frontlines of Investor Protection,”
which illustrates many examples where the states initiated investigations, uncovered
illegal securities activity, then worked with federal regulators or with Congress to achieve
a national solution.
These high profile national cases receive greater public attention, but they should not
obscure the more routine and numerically much larger caseload representing the bulk of
the states’ enforcement work. Those cases affect everyday citizens in local communities
across the country.
In the past three months alone, state securities regulators in California obtained a court
order to stop a multi-million dollar investment fraud in which two men defrauded
investors through a series of sham companies and diverted investor funds for their
personal use. In Massachusetts, state securities regulators won the return of more than
$3.6 million to investors after stopping a scheme involving the sale of unregistered, highrisk securities to seniors through an unregistered broker who targeted victims at various
senior centers and churches.
Montana securities regulators secured the return of nearly $1.3 million to victims of a
Ponzi scheme perpetrated against investors in Montana and Idaho who thought they were
investing in a “day-trading” program. In fact, the investors received proceeds taken from
money contributed by newer investors. The New Jersey Bureau of Securities helped
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secure a guilty plea from a financial adviser who stole nearly $10 million from mostly
elderly clients in yet another Ponzi scheme. The adviser abused the trust of his longtime
clients by representing that their investments were safe, free from federal income tax, and
promised semi-annual interest payments of 7.5 percent to 9 percent. The investments did
not exist.
And in Oregon, state securities regulators levied fines in excess of $2 million against
American-, Mexican-, and Panamanian-based companies and individuals for unlawfully
soliciting funds from Oregon residents in a complex investment scheme that raised more
than $428 million from investors nationwide. The securities involved the sale of time
shares in Mexico’s Yucatan Peninsula. Oregon is not the only government entity to take
action against some of those involved: at least 10 state securities regulators also have
filed or concluded civil action. Federal civil and criminal cases are pending.
Our proximity to individual investors puts state securities regulators in the best position,
among all law enforcement officials, to deal aggressively with securities law violations.
Just one look at our enforcement statistics shows the effectiveness of state securities
regulation. Over the past few years, ranging from 2004 through 2008, state securities
regulators have conducted more than 11,700 enforcement actions, which led to $238
million in monetary fines and penalties assessed and more than $3.7 billion ordered
returned to investors. And, we are responsible for sending fraudsters in those actions
away for a total of more than 4,030 years in prison.
Impediments to State Securities Regulation
In thinking about the roles of state and federal enforcement authorities, it is instructive to
examine the regulatory responses to the major financial scandals over the past decade.
From the investigation into the role of investment banks in the Enron fraud, to exposing
securities analyst conflicts, “market timing” in mutual funds, and the recent ARS cases,
state securities regulators have consistently been in the lead. Indeed, in some cases, at the
time the states began their investigations, it was unclear whether the federal regulators
16
intended to pursue any investigation at all. There have been numerous accounts in the
press and in academic journals detailing the criticism of the SEC for its failure to
investigate fraud allegations as quickly as state regulators. 7
State securities regulators are often first to discover and investigate our nation’s largest
frauds.
When we bring enforcement actions pursuant to these investigations, the
penalties states impose are more meaningful and the restitution component is
significantly greater. In fact, it has been shown that in cases where state and federal
regulators work cooperatively, the more aggressive actions of state securities regulators
cause a significant increase in the penalty and restitution components of the federal
regulator’s enforcement efforts. 8
And yet, over a number of years there has been a concerted industry assault on state
securities regulation, with calls for the preemption of both state regulation and
enforcement. Some of the more recent attempts to preempt state regulation have resulted
in a strain between federal and state regulators. In some instances, state investigations
into corporate abuses that federal officials missed resulted not in reform at the federal
level, but in criticism of the states. Some federal agencies have responded by issuing
7
See, e.g., Susan Antilla, Bankers Would Love to Kneecap State Regulators, Bloomberg News, Nov. 14,
2008 (“This year, regulators from Massachusetts and 11 other states brought cases against major banks and
securities firms that had marketed auction-rate securities to investors as `safe,’ only to see that market
collapse. The states negotiated agreements that got customers' money back. The SEC hopped on those
auction-rate cases after the tough work already had been done”); Gretchen Morgenson, Call In the Feds.
Uh, Maybe Not,The New York Times, Feb. 29, 2004 (the SEC’s failure to protect investors in Washington
State is Exhibit A for why state regulators should stay in the oversight mix); Editorial, Wall Street and the
States, The Washington Post, Wednesday, July 23, 2003 (“ANYONE WHO'S WATCHED the scandals
that engulfed Wall Street over the past few years understands the importance of the role played by state
officials in going after corporate wrongdoing. While the Securities and Exchange Commission snoozed,
New York state Attorney General Eliot L. Spitzer led the way in cracking down on firms whose stock
analysts simultaneously evaluated companies for investors and milked them for investment banking
business.”); Susanne Craig, Local Enforcers Gain Clout on Street, The Wall Street Journal, June 21, 2002
("’States have stepped up to fill the void’ left by what some perceive to be weak federal regulators, says
John Coffee, a U.S. securities-law professor at Columbia University.”)
8
Eric Zitzewitz, An Eliot Effect? Prosecutorial Discretion in Mutual Fund Settlement Negotiations, 2003-
7, http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1091035.
17
regulations broadly preempting state law. 9
Federal agencies have also aggressively
moved to preempt state law by bringing suit against state officials. 10 It is troubling that
states have faced efforts to preempt state authority through federal rules and regulations
that ignore clear statements of Congressional intent.
States have found themselves
engaged in a battle with certain federal authorities simply to retain the authority to protect
the interests of investors and consumers.
These calls for preemption or for more SRO authority at the expense of state jurisdiction
defy common sense, if only because the evidence clearly demonstrates that the statefederal regulatory structure actually works for the investor. State involvement drives the
performance level of all participants upwards and provides protection against the
possibility of regulatory capture.
Recommendations
Restore State Authority of Regulation D Rule 506. Since the passage of NSMIA, we
have observed a steady and significant rise in the number of offerings made pursuant to
Rule 506 that are later discovered to be fraudulent. Further, most hedge funds are offered
pursuant to Rule 506, so state securities regulators are prevented from examining the
offering documents of these investments, which represents an enormous dollar volume.
Although Congress preserved the states’ authority to take enforcement actions for fraud
in the offer and sale of all “covered” securities, including Rule 506 offerings, this power
is no substitute for a state’s ability to scrutinize offerings for signs of potential abuse and
to ensure that disclosure is adequate before harm is done to investors. In light of the
9
See Office of Comptroller of the Currency, Investment Securities: Bank Activities Operations; Leasing,
66 Fed. Reg. 34784, 34788 (2001); see also Office of Comptroller of the Currency, Notice: Preemption
Determination and Order, 68 Fed. Reg. 46264 (Aug. 5, 2003) (declaring state Consumer Protection laws
dealing with mortgage lenders preempted); see also Office of Thrift Supervision Opinion Letter No. P2004-7, “Authority of a Federal Savings Association to Perform Banking Activities through Agents
Without Regard to State Licensing Agreements” 10 (Oct. 25, 2004), available at
http://www.ots.treas.gov/docs/5/560404.pdf.
10
State Farm Bank, FSB v. Reardon, No. 07-4260 (Aug. 22, 2008), (Opinion Letter from the Chief Counsel
for the Office of Thrift Supervision effective to preempt state law as it affects exclusive agents for a federal
thrift) See also, State Farm Bank v. Reardon, --- F.3d ---, 2008 WL 3876196 (6th Cir. Aug. 22, 2008)
18
growing popularity of Rule 506 offerings and the expansive reading of the exemption
given by certain courts, NASAA believes the time has come for Congress to reinstate
state regulatory oversight of all Rule 506 offerings by repealing Subsection 18(b)(4)(D)
of the Securities Act of 1933.
State securities regulators enthusiastically support Section 928 of Senate Banking
Committee Chairman Chris Dodd’s Committee Print, the Restoring American Financial
Stability Act of 2009, which would reinstate the authority of state regulators over Rule
506 offerings. We urge its prompt enactment into law.
Restore Provisions of Glass-Steagall. Enacted in 1933 in the wake of the 1929 stock
market crash, the Glass-Steagall Act established a wall between commercial and
investment banking to protect depositors’ money from being put at risk by Wall Street
speculation. Since the repeal of Glass-Steagall through the enactment of the GrammLeach-Bliley Act of 1999, we have seen an excessive risk taking culture emerge within
institutions with federally insured deposits. When the wall dividing banks and securities
firms was dismantled, we saw the focus turn toward short-term gains through risky
trading strategies rather than long term gains through sound banking principles.
Key activities of investment banks are incompatible with the special character of
commercial banking, namely: 1) operating the payments system; 2) taking deposits; 3)
making commercial loans, and; 4) serving as the transmission belt for monetary policy.
These investment banking activities include underwriting and dealing in corporate debt
and equities, asset-backed debt and certain other securities, derivatives of such securities
including credit default swaps, principal investing and managing in-house hedge funds.
These activities are also incompatible with access to Federal Reserve discount facilities,
debt guarantees and other sources of government support intended to safeguard the public
utility attributes of commercial banking.
With a return to a Glass-Steagall-type model, the legacy investment banks that converted
to bank holding companies in the crisis to gain full access to the government safety net
19
(Goldman Sachs and Morgan Stanley) would revert to broker-dealer status and would be
functionally regulated as such alongside oversight by a systemic risk regulator. The
investment banking divisions of commercial banks would be sold, floated or spun-off to
shareholders, and similarly regulated. Investment banking divisions of foreign financial
conglomerates would have to be similarly divested or operate in the US as separately
capitalized subsidiaries
The survival and even prosperity of financial specialists in the presence of government
supported and subsidized bank holding companies suggests that a modern version of
Glass-Steagall would not be ruinous when benchmarked against the four aforementioned
criteria. In asset management and private equity, the dominant players like BlackRock,
Vanguard, TPC and Carlyle have performed well against competing units of financial
conglomerates, and in some cases have turned from clients to competitors in corporate
finance. All of this is only anecdotal evidence, but it suggests that a powerful non-bank
financial intermediation industry would quickly emerge following Glass-Steagall type reregulation, one populated by transparent firms that lend themselves to straightforward
oversight by functional regulators in tandem with a systemic risk regulator.
The bipartisan bill recently introduced by Senators Maria Cantwell (D-WA), John
McCain (R-AZ), Russ Feingold (D-WI) and others would prohibit commercial banks
from affiliating in any manner with investment banks.
By separating the commercial
banks from the investment banks, the Cantwell-McCain bill would end speculation with
depositors’ money and return stability and confidence to Main Street.
Increased State Regulation of Investment Advisers. As evidenced by the Inspector
General’s report on the Madoff affair 11 and the testimony of SEC Chairman Schapiro and
other SEC staff before Congress, 12 the bulk of federally covered investment advisers are
11
See, Report of the Office of Inspector General, U.S. Securities and Exchange Commission, Review and
Analysis of OCIE Examinations of Madoff Investment Securities, LLC, September 29, 2009 at Page 8.
12
See, Testimony of SEC Chairman Mary L. Schapiro before the Subcommittee on Financial Services and
General Government, June 2, 2009, Testimony of Andrew J. Donohue, Director, SEC Division of
Investment Management before the Subcommittee on Securities, Insurance, and Investment of the U.S.
20
examined infrequently.
To the extent examinations are conducted, the SEC has
demonstrated a lack of fundamental understanding as to the business of registrants, even
with experienced staff. 13 A clear “oversight gap” has existed for some time and is now
emerging into public view. NASAA members are fully prepared and equipped to fill this
gap by accepting responsibility for the oversight of investment advisers with up to $100
million in assets under management.
Again, NSMIA is a cause in the creation of the “oversight gap” of investment advisers.
With respect to the regulation of investment advisers, Congress developed a “dividing the
pie” approach, allocating regulatory authority to the states for investment advisers with
less than $25 million in assets under management and to the SEC for all others. The
Congressionally mandated inability of the states to examine any investment adviser with
assets under management of over $25 million, combined with the ill-equipped
examination staff at the SEC have constructed a perverse synergy that served as the
foundation for the current “oversight gap” with respect to investment advisers.
NASAA members possess a number of unique qualifications that ensure the permanent
closure of the “oversight gap.”
NASAA members are geographically close to the
investment adviser population, and this proximity ensures accessibility. Investors may
walk into the offices of state securities regulators and be assured that their complaint will
be evaluated. Because of this accessibility, state regulators are most often the investor’s
first point of contact when there is a problem with their adviser. NASAA members have
frequent contact with registrants, which in turn, allows for the detection of wrongful
conduct in its nascent stage. Further, wrongful conduct is generally prevented in the first
instance due to the frequent contact with state examiners. Plus, NASAA members are the
Senate Committee on Banking, Housing, and Urban Affairs, July 15, 2009. See also, Appendix to
Testimony of Chairman Mary L. Schapiro before the United States Senate Committee on Banking, Housing
and Urban Affairs, March 26, 2009 (noting 86 percent of SEC registered investment advisers were
unexamined in 2008).
13
Testimony of H. David Kotz, Inspector General, U.S. Securities and Exchange Commission before the
U.S. Senate Committee on Banking, Housing and Urban Affairs, September 10, 2009. See also, Report of
the Office of Inspector General, U.S. Securities and Exchange Commission, Review and Analysis of OCIE
Examinations of Madoff Investment Securities, LLC, September 29, 2009.
21
only regulators that license investment adviser representatives – the individuals providing
investment advisory services. Our members thereby have a view of not only the entities
providing investor advisory services, but also the individuals who interact with investors.
Additionally, NASAA members have nearly 50 years of experience conducting
examinations and taking enforcement actions against investment advisers.
The
experience of NASAA members in the application of fiduciary duty sets them apart from
SROs whose experience is limited to the suitability standard. Because investment adviser
regulation is complex and substantively different from the regulation of broker-dealers,
the experience of NASAA members is all the more critical. It is vital that the “oversight
gap” be closed as quickly as possible, yet training to the level of basic competence would
take years.
NASAA members are trained in investment adviser regulation and are
already experts in such oversight. NASAA members are ready to deploy their resources
now.
State securities regulators have a long record of investor protection and adviser oversight
that is superior to the federal regime and any contemplated SRO model because of the
advantages of proximity, experience, and knowledge.
Establishment of a Systemic Risk Council. Because individual behavior is not reliably
rational during just those times when systemic safety is in jeopardy, NASAA believes
that optimal communication and associated systemic risk mitigation could best be
accomplished by establishing an independent “Systemic Risk Council,” in which both
state and federal financial services regulators would conduct high-level strategy meetings
where analyses would be shared and prophylactic risk assessments and recommendations
would be made.
Any solution ultimately decided by Congress must provide enhanced communication
among state and federal regulatory authorities.
A “Systemic Risk Council” would
effectively establish a crisis management protocol with clear and regular lines of
communication among all regulators.
22
State and federal governments are the natural providers of systemic safety including the
need to insure liquidity, stability and reliability, and a well-functioning financial system.
The private sector cannot provide such systemic safety.
Including state regulators on the council is necessary and appropriate. In all financial sectors,
state regulators gather and act upon large amounts of information from industry participants
and from investors. Consequently, they serve as an early warning system. As a general
proposition, state regulators are usually the first to identify risks and related trends that are
substantial contributing factors to systemic risk. The complexity of financial markets has
exceeded the competency capacity of federal regulators alone.
This provides further
evidence for the need of a state banking, insurance, and securities regulator on the “Systemic
Risk Council.” By formalizing regulatory cooperation and communication among state and
federal regulators, the oversight of our intertwined financial markets will be infinitely more
effective.
State securities regulators support amended Sec. 1001 of the Wall Street Reform and
Consumer Protection Act of 2009, which establishes a Financial Services Oversight Council
including a state banking supervisor, a state insurance commissioner and a state securities
administrator as nonvoting members who shall not be excluded from any of the Council’s
proceedings, meetings, discussions and deliberations.
Securities Prosecutions. In many states, criminal prosecutors may request that a duly
employed attorney of a state securities division be appointed a special prosecutor to
prosecute or assist in the prosecution of criminal violations on behalf of the state.
Deputizing a state securities attorney gives a prosecutor the ability to formally utilize the
expertise of the state securities division attorney in prosecuting complex securities cases.
This is a valuable leveraging of talent and resources and should be encouraged in all
jurisdictions and at the federal level.
23
Resources. There are a number of legislative proposals now pending to significantly
increase funding for federal law enforcement agencies responsible for investigating and
prosecuting financial fraud. State securities regulators have the determination, willpower
and experience to pursue perpetrators of financial crime.
We’ve learned how to
accomplish more with less. However, there’s little doubt that additional resources would
enhance our ability to uncover and prosecute securities fraud during this economic
downturn, which has resulted in vulnerable investors looking to recover their losses.
One innovative approach proposed last year is the Senior Investor Protection Act of 2009,
which has been incorporated into H.R. 4173, the Wall Street Reform and Consumer
Protection Act of 2009.
It would make grant funding available to states that adopt
NASAA’s model rule prohibiting the misleading use of “senior designations,” which are
titles that unscrupulous agents often used to defraud senior investors. The bill addresses
a serious form of elder abuse while at the same time making significant funding available
to the states for enforcement.
The current levels of funding for law enforcement agencies is low, given the billions
upon billions of dollars being used to shore up distressed banks and other institutions,
some of which undoubtedly contributed to the current financial crisis through illegal or
reckless behavior. Increasing enforcement and more effectively deterring fraud is vastly
more cost effective than trying to compensate victims and repair the damage to our
economy once the frauds have occurred.
Remedies. The nature and extent of the unlawful conduct occurring in our financial
markets today requires that there be a thorough review all of the civil and criminal
remedies that apply in all sectors to ensure they more effectively deter misconduct.
In 1990, Congress granted the SEC its first comprehensive authority to seek monetary
penalties in both administrative and civil enforcement actions for violations of the federal
securities laws. For the most serious or “third tier” offenses, penalties for each violation
may be up to, but not more than, $100,000 for natural persons and $500,000 for
24
entities. 14 It does not appear that these penalty amounts are high enough, at least relative
to the scope of the fraud still evident in our markets.
In 2002, Congress substantially increased the criminal penalties under the Exchange Act
of 1934. 15 Fines rose to a maximum of $5 million for individuals and $25 million for
entities, and jail terms rose to a maximum of 20 years. Yet, these criminal penalties have
not had the deterrent effect that one might expect.
The effectiveness of stronger sanctions hinges in large part on the willingness of
regulators to use them. In 2006, the SEC issued a release explaining the factors that it
considers when determining the appropriate monetary penalty to seek against a corporate
wrongdoer. See “Statement of the Securities and Exchange Commission Concerning
Financial Penalties,” SEC Release 2006-4 (Jan. 4, 2006). While that release includes
some helpful guidance, it also reflects an attitude of restraint in the use of monetary
sanctions, especially where the impact on corporate shareholders may be adverse. If
Congress provides federal regulators with better enforcement tools, then it is equally
important that regulators use them aggressively.
Reexamine and Remove Hurdles Facing Private Plaintiffs. Private actions are the
principal means of redress for victims of securities fraud, but they also play an
indispensable role in deterring fraud and complementing the enforcement efforts of
government regulators and prosecutors. Congress and the courts alike have recognized
this fact. The Senate Report accompanying the Private Securities Litigation Reform Act
of 1995 (PSLRA) described the importance of private rights of action as follows:
The SEC enforcement program and the availability of private rights of action
together provide a means for defrauded investors to recover damages and a
powerful deterrent against violations of the securities laws. As noted by SEC
14
See 15 U.S.C. Sec. 78u (codifying provisions of the Securities Enforcement Remedies and Penny Stock
Reform Act).
15
See The Sarbanes-Oxley Act of 2002, Sec. 1106 (codified at 18 U.S.C. Sec. 1513).
25
Chairman Levitt, “private rights of action are not only fundamental to the success
of our securities markets, they are an essential complement to the SEC’s own
enforcement program.” [citation omitted] 16
The problem, of course, is that over the last 15 years, Congressional actions and Supreme
Court decisions have restricted the ability of private plaintiffs to seek redress in court for
securities fraud. These restrictions have not only reduced the compensation available to
those who have been the victims of securities fraud, they have also weakened a powerful
deterrent against misconduct in our financial markets.
The Supreme Court has issued decisions that further limit the rights of private plaintiffs
in two important ways. The Court has narrowed the class of wrongdoers who can be held
liable in court, and at the same time, it has expanded the pleading burdens that plaintiffs
must satisfy to survive immediate dismissal of their claims. As Justice Stevens lamented
in his dissent in Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc., 128 S.
Ct. 761, 779 (2008), the Court has been on “a continuing campaign to render the private
cause of action under Section 10(b) toothless.”
In short, the pendulum has swung too far in the direction of limiting private rights of
action. It’s essential to examine whether private plaintiffs with claims for securities fraud
have fair access to the courts. In that process, I’d like to see a Congressional review of
the PSLRA and passage of the Liability for Aiding and Abetting Securities Violations Act
of 2009 to reverse one of the Supreme Court’s most anti-investor decisions in Central
Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 114 S.Ct. 1439 (1994).
The Court ruled that the private right of action under Section 10(b) of the Securities
Exchange Act of 1934 cannot be used to recover damages from those who aid and abet a
securities fraud, only those who actually engage in fraudulent acts. The Court’s decision
insulates a huge class of wrongdoers from civil liability for their often critical role in
support of a securities fraud.
16
See S. Rep. No. 104-98, at 8 (1995), reprinted in 1995 U.S.C.C.A.N. 679, 687; see also Basic Inc. v.
Levinson, 485 U.S. at 230-31 (observing that the private cause of action for violations of Section 10(b) and
Rule 10b-5 constitutes an “essential tool for enforcement of the 1934 Act’s requirements”).
26
It bears repeating that removing excessive restrictions on access to the courts would not
only provide more fair and just compensation for investors, it would also benefit
regulators by restoring a powerful deterrent against fraud and abuse: the threat of civil
liability.
State/Federal Coordination
State securities regulators welcome the opportunity to work with our federal regulatory
counterparts to collectively use our resources to protect investors.
To facilitate
communication and coordination on all financial services issues, NASAA believes the
President’s Working Group on Financial Markets should be expanded to include
representatives from the state agencies that regulate banking, insurance, and securities.
Our current coordination and cooperation ranges from statutorily mandated meetings to
working cases together to informal information sharing networks. NASAA and the SEC
cosponsor an annual Conference on Federal-State Securities Regulation in accordance
with Section 19(d) of the Securities Act of 1933.
As part of the conference,
representatives from the SEC and NASAA divide into working groups in the areas of
enforcement, corporation finance, broker-dealer regulation, investment advisers, and
investor education. Each group discusses methods to enhance cooperation in its subject
area and to improve the efficiency and effectiveness of federal and state securities
regulation.
A NASAA representative attends meetings of the Securities and Commodities Fraud
Working Group, which is an informal association of law enforcement departments and
regulatory agencies at the federal, state, and international levels. Organized under the
auspices of the Justice Department in 1988, the Group seeks to enhance criminal and civil
enforcement of securities and commodities laws through meetings and other information
sharing activities that include discussions of current developments, and presentations on
specific topics such as a major cases, sting operations, and policy initiatives.
27
All U.S. members of NASAA are members of the National White Collar Crime Center
(NW3C). The NW3C is a non-profit, federally funded support organization for state and
local law enforcement that has been in existence for the past 26 years. NW3C provides
enforcement tools such as training for securities regulatory staff, investigative support
services, and case research assistance. NW3C offers on-site classroom and computerbased trainings that have been utilized by securities regulators in 45 states. Every year,
the NW3C also hosts economic crime conferences that enable state and local regulators
to keep abreast of the latest trends and techniques in fighting economic crime.
NASAA is also a participant in the National Examination Summits. These are quarterly
meetings attended by representatives from NASAA, the SEC, and FINRA in which
complaint data and trends are shared and discussed. The information shared at these
meetings often results in cross-referrals for potential enforcement action or scheduling of
joint examinations.
Several years ago, NASAA accepted an invitation from the U.S. Treasury Department to
become a member of the Financial and Banking Information Infrastructure Committee
(FBIIC), which is sponsored by President’s Working Group on Financial Markets. As an
active FBIIC member, NASAA helps coordinates public-sector efforts to improve the
reliability and security of the U.S. financial system. FBIIC also develops procedures and
systems to allow federal and state regulators to communicate among themselves and with
the private sector during times of crisis.
NASAA also serves as a member of the Federal Reserve’s Cross-Sector Group. The
group’s bi-annual meetings are hosted by the Federal Reserve and include representatives
from the state and federal banking, insurance and securities regulators.
As you know, investment fraud knows no borders. That’s why state and provincial
securities agencies, through NASAA, have reached out to their colleagues in the
international arena. NASAA plays an active role in the International Organization of
28
Securities Commissioners (IOSCO) and the Council of Securities Regulators of the
Americas (COSRA).
Conclusion
The unique experiences of state securities regulators on the front lines of investor
protection have provided the framework for my testimony. As the regulators closest to
investors, state securities regulators provide an indispensable layer of protection for Main
Street investors. As you continue to examine the causes of our current financial crisis
and develop recommendations to prevent a reoccurrence, I respectfully suggest that you
consider how the role of state securities regulators may be expanded through the
restoration of authority that was preempted over the past 14 years. Our presence did not
contribute to the crisis; rather, the fact that our regulatory and enforcement roles had been
eroded was a significant factor in the severity of the financial meltdown.
29
States: On the Frontlines of Investor Protection
PROBLEM: $2 billion/yr. Losses in Penny Stocks
State Initiative
1989: States determined penny stock offerings by newly formed shell companies to
be per se fraudulent. These “blank check” companies had no business plan except
a future merger with an unidentified company.
National Response
1990: Congress passed Penny Stock Reform Act, which mandated SEC to adopt
special rules governing sale of Penny Stocks (<$5.00 per share) and public
offerings of shares in blank check companies (SEC Rule 419).
PROBLEM: $6 billion/yr. Losses in Micro-cap Stocks
State Initiative
1996-97: 33 States participated in sweep of 15 broker-dealer firms that specialized
in aggressively retailing low priced securities to individual investors. States found
massive fraud in firms’ manipulation of shares of start-up companies, most of which
had no operating history.
National Response
1997-98: Congress held hearings on fraud in the micro-cap securities markets
(shares selling between $5-10). 2002: Congress passed Sarbanes-Oxley Act, which
made certain state actions a basis for federal statutory disqualification from the
securities industry.
PROBLEM: Risks of Securities offerings on the Internet
State Initiative
1996-97: States issued uniform interpretative guidance on use of Internet for
legitimate securities offerings and dissemination of product information by licensed
financial services professionals.
National Response
1998: SEC issued interpretative guidance based on the States’ Model on the use of
Internet for securities offerings and dissemination of services and product
information by licensed financial services professionals.
PROBLEM: Risks of Online Trading
State Initiative
1999: In a report on trading of securities on the Internet, States found that investors
did not appreciate certain risks, including buying on margin and submitting market
orders.
National Response
2001: SEC approved a new NASD rule requiring brokers to provide individual
investors with a written disclosure statement on the risks of buying securities on
margin.
PROBLEM: Risks of Day Trading
State Initiative
1999: In a report on individuals engaged in day trading, States found that day
trading firms failed to tell prospective investors that 70% of day traders would lose
their investment while the firm earned large trading commissions.
National Response
2000: SEC approved new NASD rules making day trading firms give written risk
disclosure to individual investors. 2001: SEC approved new NASD and NYSE rules
governing margin extended to day traders.
PROBLEM: Research Analyst Conflict of Interest
State Initiative
2002-03: States investigated and helped focus attention on conflicts of interest
between investment analysts and major Wall Street firms.
National Response
2002-03: The SEC, NASD, NYSE, and states reached a landmark $1.4 billion
global settlement and firms agree to reform practices.
PROBLEM: Illegal Mutual Fund Trading Practices
State Initiative
2003: States uncovered illegal trading schemes that had become widespread in the
mutual fund industry.
National Response
2003-2004: SEC, NASD and NYSE launch investigations; reform legislation
introduced in Congress but fails to gain support; SEC initiates wide-ranging effort to
reform certain fund regulations.
PROBLEM: Senior Investment Fraud
State Initiative
2008: After calling attention to widespread fraud against senior investors, NASAA
members approved a model rule prohibiting the misleading use of senior and retiree
designations and numerous states have adopted the model through legislation or
regulation.
National Response
2008: Sen. Herb Kohl, chair of the U.S. Senate Special Committee on Aging,
introduced legislation that would provide grants to states to enhance the protection
of seniors from being misled by false designations.
PROBLEM: Auction Rate Securities
State Initiative
2008: Based on investor complaints, states launched a series of investigations into
the frozen market for auction rate securities. The investigations led to settlements
with 11 major Wall Street firms to return $50 billion to ARS investors.
National Response
2006: SEC looked into underwriting and sales practices of auction rate securities.
While it did discover and try to remedy certain manipulative practices, the SEC
failed to identify or correct fundamental conflicts of interest and self dealing that
pervaded the auction rate market.
SOURCE: North American Securities Administrators Association
Updated: January 2009
@FedFRASER