SEC Inspector General Report Finds Lack of Impartiality

Posted on September 30, 2009 by Jack J. Gravelle

Recently the SEC’s Inspector General reported on recommendations to the Commission’s Enforcement Division to improve enforcement in direct response to the Bernie Madoff scandal. The report focuses on what went wrong that allowed the Madoff scandal to happen and what can be done to make sure it does not happen again.

The answers in the report to the question of “What went wrong?” can be separated into two categories: failures that resulted from the enforcement staff not having the proper tools and failures that resulted from the enforcement staff not using the proper tools it had.

How one designates a failure depends in large part on whether one wants to blame the actual investigators for shirking their duties or the policymakers for having ineffective systems for catching fraud. To some extent, the Inspector General blames both. For example, the IG recommends both (i) a better tip and complaint handling system with a record of how a complaint is vetted and who is accountable and (ii) increased resources and time for evaluating complaints.

Of all the findings, the most troubling is that 99 respondents (13.2%) to the IG’s questionnaire said they have been involved in a situation where they felt there was a lack of impartiality in the performance of official duties, such as preferential treatment toward former SEC employees or improper external influences. If true, this problem may require a culture change that cannot necessarily be fixed with increased resources or better control mechanisms.
 

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SEC Proposes New Credit Rating Agency Rules

Posted on September 19, 2009 by Jack J. Gravelle

Back in January when securities lawyers were predicting what 2009 held in store for the SEC, lots of people predicted more credit rating agency regulations. Thursday, the SEC followed through with a number of credit rating agency proposals.

The proposals with the most potential to shake up the current ratings environment are:

1. Create a system that allows competing rating agencies to obtain access to the same information about a structured finance product to enable competing ratings of the same product. The increased competition may result in more accurate ratings;

2. Require the disclosure of “preliminary ratings” obtained from a previous rating agency to discourage ratings shopping; and

3. Require that an issuer that includes a credit rating in a registration statement obtain the consent of the rating agency, thus resulting in potential liability for the rating agency under the Securities Act similar to how other experts are treated. The SEC acknowledges this could be a far-reaching change and is only seeking comment as to whether it should propose such a rule at this time.
 

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Schapiro's Open Letter to Broker-Dealer CEOs Questions Incentives

Posted on September 11, 2009 by Jack J. Gravelle

SEC Chairman Schapiro has reminded broker-dealer CEOs in an Open Letter dated August 31, 2009, that they have a responsibility to oversee the sales practices of their registered representatives.  Schapiro states she is concerned with reports of offers of compensation inducements such as large up-front bonuses to prospective registered representatives.  The fear is that enhanced compensation for hitting increased commission targets will encourage registered representatives to “churn customer accounts, recommend unsuitable investment products or otherwise engage in activity that generates commission revenue but is not in investors’ interest.”

The sentiment of the letter parallels current congressional and agency discussions regarding executive compensation: Beware incentives for employees that are counter to the goals of investors.
 

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ABA Sues FTC over Red Flags Rule

Posted on September 1, 2009 by Jack J. Gravelle

Corporate clients still need to comply with the FTC’s Red Flags Rule by November 1, 2009, but it’s their lawyers who are really unhappy about the regulations.  Last week the American Bar Association sued the FTC to stop the FTC’s enforcement of the Red Flags Rule against attorneys. The FTC says the law applies to creditors, which includes lawyers who extend credit by billing for services previously rendered. The ABA counters with some compelling arguments:

  1. There’s no rational connection between the practice of law and identity theft;
  2. Traditionally, states regulate lawyers, not the FTC;
  3. Compliance with the Rule will increase legal costs and impede the attorney-client relationship; and
  4. Lawyers should not be considered “creditors” simply because ethics rules generally prohibit receiving payment in advance.

Despite the ABA’s legal fight, it should be relatively easy for most lawyers to develop written policies to ensure their clients are not using identity theft to procure legal advice.  A court may soon decide if lawyers will need to implement their own red flags policies.
 

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