[House Hearing, 111 Congress]
[From the U.S. Government Publishing Office]
SEC OVERSIGHT: CURRENT STATE AND AGENDA
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON CAPITAL MARKETS,
INSURANCE, AND GOVERNMENT
SPONSORED ENTERPRISES
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED ELEVENTH CONGRESS
FIRST SESSION
__________
JULY 14, 2009
__________
Printed for the use of the Committee on Financial Services
Serial No. 111-57
U.S. GOVERNMENT PRINTING OFFICE
53-237 WASHINGTON : 2009
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HOUSE COMMITTEE ON FINANCIAL SERVICES
BARNEY FRANK, Massachusetts, Chairman
PAUL E. KANJORSKI, Pennsylvania SPENCER BACHUS, Alabama
MAXINE WATERS, California MICHAEL N. CASTLE, Delaware
CAROLYN B. MALONEY, New York PETER T. KING, New York
LUIS V. GUTIERREZ, Illinois EDWARD R. ROYCE, California
NYDIA M. VELAZQUEZ, New York FRANK D. LUCAS, Oklahoma
MELVIN L. WATT, North Carolina RON PAUL, Texas
GARY L. ACKERMAN, New York DONALD A. MANZULLO, Illinois
BRAD SHERMAN, California WALTER B. JONES, Jr., North
GREGORY W. MEEKS, New York Carolina
DENNIS MOORE, Kansas JUDY BIGGERT, Illinois
MICHAEL E. CAPUANO, Massachusetts GARY G. MILLER, California
RUBEN HINOJOSA, Texas SHELLEY MOORE CAPITO, West
WM. LACY CLAY, Missouri Virginia
CAROLYN McCARTHY, New York JEB HENSARLING, Texas
JOE BACA, California SCOTT GARRETT, New Jersey
STEPHEN F. LYNCH, Massachusetts J. GRESHAM BARRETT, South Carolina
BRAD MILLER, North Carolina JIM GERLACH, Pennsylvania
DAVID SCOTT, Georgia RANDY NEUGEBAUER, Texas
AL GREEN, Texas TOM PRICE, Georgia
EMANUEL CLEAVER, Missouri PATRICK T. McHENRY, North Carolina
MELISSA L. BEAN, Illinois JOHN CAMPBELL, California
GWEN MOORE, Wisconsin ADAM PUTNAM, Florida
PAUL W. HODES, New Hampshire MICHELE BACHMANN, Minnesota
KEITH ELLISON, Minnesota KENNY MARCHANT, Texas
RON KLEIN, Florida THADDEUS G. McCOTTER, Michigan
CHARLES A. WILSON, Ohio KEVIN McCARTHY, California
ED PERLMUTTER, Colorado BILL POSEY, Florida
JOE DONNELLY, Indiana LYNN JENKINS, Kansas
BILL FOSTER, Illinois CHRISTOPHER LEE, New York
ANDRE CARSON, Indiana ERIK PAULSEN, Minnesota
JACKIE SPEIER, California LEONARD LANCE, New Jersey
TRAVIS CHILDERS, Mississippi
WALT MINNICK, Idaho
JOHN ADLER, New Jersey
MARY JO KILROY, Ohio
STEVE DRIEHAUS, Ohio
SUZANNE KOSMAS, Florida
ALAN GRAYSON, Florida
JIM HIMES, Connecticut
GARY PETERS, Michigan
DAN MAFFEI, New York
Jeanne M. Roslanowick, Staff Director and Chief Counsel
Subcommittee on Capital Markets, Insurance, and Government Sponsored
Enterprises
PAUL E. KANJORSKI, Pennsylvania, Chairman
GARY L. ACKERMAN, New York SCOTT GARRETT, New Jersey
BRAD SHERMAN, California TOM PRICE, Georgia
MICHAEL E. CAPUANO, Massachusetts MICHAEL N. CASTLE, Delaware
RUBEN HINOJOSA, Texas PETER T. KING, New York
CAROLYN McCARTHY, New York FRANK D. LUCAS, Oklahoma
JOE BACA, California DONALD A. MANZULLO, Illinois
STEPHEN F. LYNCH, Massachusetts EDWARD R. ROYCE, California
BRAD MILLER, North Carolina JUDY BIGGERT, Illinois
DAVID SCOTT, Georgia SHELLEY MOORE CAPITO, West
NYDIA M. VELAZQUEZ, New York Virginia
CAROLYN B. MALONEY, New York JEB HENSARLING, Texas
MELISSA L. BEAN, Illinois ADAM PUTNAM, Florida
GWEN MOORE, Wisconsin J. GRESHAM BARRETT, South Carolina
PAUL W. HODES, New Hampshire JIM GERLACH, Pennsylvania
RON KLEIN, Florida JOHN CAMPBELL, California
ED PERLMUTTER, Colorado MICHELE BACHMANN, Minnesota
JOE DONNELLY, Indiana THADDEUS G. McCOTTER, Michigan
ANDRE CARSON, Indiana RANDY NEUGEBAUER, Texas
JACKIE SPEIER, California KEVIN McCARTHY, California
TRAVIS CHILDERS, Mississippi BILL POSEY, Florida
CHARLES A. WILSON, Ohio LYNN JENKINS, Kansas
BILL FOSTER, Illinois
WALT MINNICK, Idaho
JOHN ADLER, New Jersey
MARY JO KILROY, Ohio
SUZANNE KOSMAS, Florida
ALAN GRAYSON, Florida
JIM HIMES, Connecticut
GARY PETERS, Michigan
C O N T E N T S
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Page
Hearing held on:
July 14, 2009................................................ 1
Appendix:
July 14, 2009................................................ 45
WITNESSES
Tuesday, July 14, 2009
Schapiro, Hon. Mary L., Chairman, U.S. Securities and Exchange
Commission..................................................... 11
APPENDIX
Prepared statements:
Kanjorski, Hon. Paul E....................................... 46
Garrett, Hon. Scott.......................................... 48
Schapiro, Hon. Mary L........................................ 50
Additional Material Submitted for the Record
Castle, Hon. Michael:
Op-ed from The Financial Times entitled, ``Protect industry
from predatory speculators,'' by Lawrence Mitchell, dated
July 8, 2009............................................... 65
Hinojosa, Hon. Ruben:
Letter to Chairman Barney Frank and Ranking Member Spencer
Bachus from various undersigned organizations.............. 67
Schapiro, Hon. Mary L.:
Responses to questions submitted by Representative Biggert... 70
Responses to questions submitted by Representative Himes..... 71
Responses to questions submitted by Representative Putnam.... 74
Responses to questions submitted by Representative Sherman... 80
SEC OVERSIGHT: CURRENT STATE
AND AGENDA
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Tuesday, July 14, 2009
U.S. House of Representatives,
Subcommittee on Capital Markets,
Insurance, and Government
Sponsored Enterprises,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 10 a.m., in
room 2128, Rayburn House Office Building, Hon. Paul E.
Kanjorski [chairman of the subcommittee] presiding.
Members present: Representatives Kanjorski, Ackerman,
Capuano, Hinojosa, McCarthy of New York, Baca, Lynch, Maloney,
Klein, Perlmutter, Donnelly, Carson, Speier, Adler, Kosmas,
Himes, Peters; Garrett, Castle, Manzullo, Royce, Biggert,
Capito, Hensarling, Putnam, Bachmann, McCarthy of California,
Posey, and Jenkins.
Ex officio present: Representative Bachus.
Also present: Representatives Gutierrez, Moore of Kansas,
Ellison, and Miller of California.
Chairman Kanjorski. This hearing will come to order.
Pursuant to the committee rules, each side will have 15
minutes for opening statements.
Without objection, all members' opening statements will be
made a part of the record.
I want to recognize Mr. Gutierrez and Mr. Ellison, members
of the full committee participating in today's hearing who are
not members of the subcommittee.
Without objection, it is so ordered.
We meet today to focus on the work of the U.S. Securities
and Exchange Commission. Although she is no stranger to us,
this hearing also represents the first time that Mary Schapiro
will testify in her new capacity as the head of the Commission.
Chairman Schapiro has, of course, taken over the helm of a
much beleaguered agency. In recent months, many have criticized
the Commission for its lack of diligent enforcement. The
Commission showed particular ineffectiveness when, despite
numerous warnings, it failed to uncover the Madoff scandal.
This $65 billion fraud has caused extreme hardship if not ruin
for far too many individuals, pension funds, and charitable
institutions.
Our panel has already examined the Madoff affair in great
detail, using an unfortunate episode as a case study to examine
the gaps in our existing regulatory structure and to identify
solutions to fill these holes. The recent public assessments of
Harry Markopoulos and the Government Accountability Office show
an agency in distress. To restore investor confidence in our
markets, the Commission must expeditiously change the way it
does business.
Since her return to the Commission as Chairman, Mary
Schapiro has moved aggressively to focus the agency on
fulfilling its key mission: protecting the investors. She has
beefed-up the importance of the enforcement unit, pursued
significantly more enforcement actions than her immediate
predecessor, and removed unnecessary hurdles that slowed
progress in enforcement cases. In less than 6 months, she has
also replaced nearly all of the agency senior officials.
In nominating Mary Schapiro, President Obama remarked,
``Mary is known as a regulator who is both smart and tough, so
much so that she has been criticized by the same industry
insiders whom we need to get tough on. . . I know that Mary
will provide the new ideas, new reforms, and new spirit of
accountability that the SEC desperately needs so that fraud
like the Madoff scandal doesn't happen again.''
Without question, I wholeheartedly concur with the
President's assessment. In her short tenure, Chairman Schapiro
has displayed a commitment to implementing the reforms needed
to change the internal culture of external perceptions of the
Commission.
The Commission, however, must continue to take bold and
assertive action as it moves forward to bring enforcement
actions against wrongdoers and to rewrite the rules governing
the industry to better protect investors. Without further
action to finalize regulatory proposals on proxy access, the
custody of client assets, and short-sale restrictions,
investors will lack the real protections that they need. The
hard work on these matters therefore lies ahead.
As the Commission works to put in place new rules, Congress
must also work to update our securities laws. In this regard,
Chairman Schapiro has already transmitted an ambitious set of
42 legislative proposals. The Commission's Inspector General
has also offered us some ideas. And the Obama Administration
has, of course, already relayed general concepts and specific
legislative proposals. I am now developing a bill based on
these useful recommendations.
Of the many suggestions already proposed, one important one
stands out. We ought to put in place new standards that reward
whistleblowers when their tips lead to catching fraudsters. By
encouraging whistleblowers to come forward when they know of
wrongdoing, we will leverage the Commission's limited resources
and increase the number of cops on the beat.
Improving the Commission's overall operation and
performance will additionally require a significant increase in
its budget. Chairman Schapiro has noted that the agency lacks
the resources required to match increasingly sophisticated
markets. Fortunately, the House will soon consider a bill
providing for a modest increase of 8 percent in the
Commission's 2010 budget.
But, we must do even more to remedy these constraints. The
financial crisis shows what happens when unbridled capitalism
lacks a strong regulatory check. We must therefore seriously
consider the Commission's request to raise its 2011 budget
authorization by an additional 20 percent. Alternatively, we
might decide to put the Commission on the same independent
footing as other financial regulators by moving the agency
outside of the appropriations process.
In closing, I look forward to Chairman Schapiro's testimony
today. Her comments will help us as we embark on overhauling
financial services regulation. I would like to recognize
Ranking Member Garrett for 3 minutes for his opening statement.
Mr. Garrett. I thank the chairman.
I welcome you here today and I appreciated the opportunity
to meet with you on Friday to chat about some of these issues
as well before today's hearing.
You know there are so many fronts on which the SEC is
actively engaged, it is a little daunting to know exactly where
to start. You certainly have your hands full as a new chairman
of the agency, and I think it is fair to say it is under a lot
of scrutiny right now for the events that have taken place over
the last several months and years.
One place to start is with the SEC's budget. In the House
Financial Services appropriations bill recently passed out of
the committee, for the first time ever, the SEC will be funded
at more than $1 billion. In a recent letter I just received
from one of Bernie Madoff's group of victims, they asked why,
given the SEC's recent investment protection and enforcement
track record, is Congress seriously considering giving the SEC
even more money and more authority to regulate financial
services? I think similar questions are on a lot of people's
minds, and I look forward to addressing that issue.
And the policy areas on your plate, one of the areas I have
been increasingly engaged in, is the area of over-the-counter
derivatives. As I said a number of times in the past, 94
percent of the 500 largest global companies use derivatives to
manage risk. Policymakers therefore need to tread very
carefully as we regulate options for these markets. The
overregulation or improper regulations might sound good
politically, I am sure, but there is a lot of major unintended
negative consequences that can come about, not just for the
financial markets but for the broader economy as well.
It is my understanding that the SEC and the CFTC along with
the Administration have engaged in discussions over the OTC
derivative regulation, including discussions regarding which
agency should have jurisdiction over particular pieces of the
market. So I will be interested to hear about particular
discussions and any, maybe, disagreements that the SEC has with
the CFTC on derivative regulation.
I am also interested to hear if there are any areas of
current CFTC jurisdiction where you feel they are better suited
for the SEC.
On another front, the Administration last week released
draft legislation seeking to establish consistent standards for
broker/dealers and investment advisors that would give the SEC
powers to ban certain forms of compensation that are, quote,
not in an investors' best interest. This comes on the heels, of
course, of the Administration's proposals of a so-called
Consumer Financial Protection Agency. When you think about it,
both proposals sort of reflect a government-knows-best
mentality that will likely restrict consumer choice and may be
embraced by trial lawyers for unnecessary litigation. So I will
be interested to hear from the Chairman regarding the SEC's
input on those proposals and to what extent you are comfortable
with dictating how a firm should compensate employees.
And finally, I mentioned at the beginning of my statement
that there are a whole host of other issues that you are
currently examining, and I will be interested to hear an update
on your proposed rules to restrict short selling, as well as
your thoughts on different ideas to reform credit rating
agencies that we talked about, which I know the chairman is
also very interested in pursuing as well. So I welcome the
chairwoman being with us today, and I look forward to your
discussion. Thank you.
Chairman Kanjorski. Thank you, Mr. Garrett.
Now we will hear from the gentleman from New York, Mr.
Ackerman.
Mr. Ackerman. Thank you, Mr. Chairman.
Welcome, Chairman Schapiro. There are an awful lot of
people watching this hearing who aren't too interested in
regulatory reform. They are not too concerned about resolution
authority or the clearing of derivatives, and they aren't too
worried about whether Congress complies with your request to
increase funding for the SEC's Enforcement Division.
Madam Chairman, thousands of now penniless victims of
Bernard Madoff's Ponzi scheme are interested in just one thing:
making sure their government lives up to its word.
As you know, the Securities Investor Protection
Corporation, that is investor protection indicating that it has
something to do with protecting the investor, SIPC provides
insurance of up to $500,000 to securities investors in the
event that a broker/dealer fails. It has been 7 months now
since the collapse of Mr. Madoff's fraud, and to date, of the
over 15,400 claims that have been submitted, only 450 victims
have received even a portion of their SIPC insurance. Part of
the delay stems from the confusion over the eligibility
requirements of SIPC coverage.
If you believe the law as interpreted by SIPC's general
counsel, Josephine Wang, SIPC is obligated to provide up to
$500,000 per account for securities to any investor who
believes that they owned securities in Madoff's investment
statements.
But if you believe Irving Picard, the court-appointed
trustee in the Madoff case based on a judicial precedent from
the 1920's, SIPC is obligated to ensure only the funds that
Madoff victims initially invested, minus any withdrawals.
According to Mr. Picard's interpretation, many Madoff victims
are not entitled to their insurance payments.
Madam Chairman, that Madoff was able to conduct his fraud
unmolested by the SEC for decades and despite the repeated red
flags raised by Harry Markopoulos is tragic. That the court-
appointed trustee in the Madoff case is seeking to delay and
ultimately deny the insurance payments due to Madoff's victims
is absolutely shameful.
Many of Madoff's victims are in complete financial ruin.
Many have lost their homes and have moved in with their
children or friends. The lucky ones don't know how to make
their next mortgage payment. At a minimum, they deserve the
insurance they believe and to which the law says they are
entitled. I hope that you can put an end to the confusion today
by clarifying SIPC's eligibility requirements.
And I yield back the balance of my time.
Chairman Kanjorski. Thank you Mr. Ackerman.
Mr. Bachus is recognized for 3 minutes.
Mr. Bachus. Thank you, Chairman Schapiro.
As Chairman Kanjorski said, this is your first appearance
before the Financial Services Committee since you have been
sworn in. And I want to compliment you; in your short tenure as
the agency's chief executive, you have embarked on an ambitious
regulatory agenda and an equally important review of the SEC's
internal operations. And I have been impressed in a very
favorable way over the way you have conducted the affairs of
the agency.
Madam Chairman, there is a strong need for regulatory
reform. I think we all agree on that. You certainly do.
However, I am very concerned that the guiding principle of much
of the Administration's proposals, whether it is health care,
energy or financial services, is what could be a heavy-handed
intervention into what has traditionally been the private
market on private choices and private affairs.
In each of these areas, the key thing seems to be rationing
or permitting certain conducts, but determining others are not
appropriate. The Administration wants to create, as you know, a
government health insurance option. And my fear is that if it
is like those in other countries, it will result in rationing
of health care, limiting choice, and erosion of quality.
The cap and tax plan, I think, is another example where
they will significantly ration energy use, the use of coal and
other things to discourage it.
And with financial services, it appears in many cases the
Administration wants to ration credit to consumers and
businesses to make determinations on whether certain
transactions are appropriate, and to do so, I think, in a very
intervening way.
Let me just give you one example as it relates to the SEC.
With the Consumer Financial Products Agency, and this is not
the example, it appears to me that they could function as a
contract approval and a credit-rationing agency. That is a
fear.
But now, as far as the SEC, last Friday, and I am sure you
heard Treasury Secretary Geithner say that the government will
be looking at every private derivative transaction that isn't
clear to determine if they were spuriously customized to avoid
a clearinghouse. How can the government possibly look at tens
of thousands of daily derivative transactions to determine if
the intention is to avoid clearing? If a derivative trade is
ruled invalid and has to be unwound, what happens to the
contractual rights of the parties? I worry that we are asking
regulators to function as a behavioral psychologist.
Let me conclude by saying if the SEC has no one who could
understand the Bernie Madoff trading strategy, how are they
possibly going to be able to understand a private corporation
and its counterparty's decision to mitigate business risk? What
the Administration is doing is turning the SEC into an IRS
where fear of second-guessing causes decisions to be made based
on fear, fear of excessive punishment, and fear of having to
prove the unprovable rather than basing decisions on sound
business judgment.
Thank you, Mr. Chairman.
Chairman Kanjorski. Thank you.
Mr. Capuano will be recognized for 2 minutes.
Mr. Capuano. Thank you, Mr. Chairman.
Madam Chairman, welcome.
Over the last couple of years, I honestly wouldn't waste my
time coming to a hearing with the SEC Chair because I didn't
like anything that they were not doing, because they weren't
doing anything, so therefore it wasn't I didn't like what they
were doing; they weren't doing anything. And it was a waste of
time because everybody there believed, do nothing, let the
market flow, what, no big deal. Now we are where we are.
Today, to some level, it is a little early, but on some
levels, it is almost I am not sure I want to stick around too
long because everything you are doing I like. Now, that doesn't
mean I am going to like every detail, I am going to like the
final results, and will nitpick here and there.
But, in general, I think you are going exactly in the right
direction. And I will tell you that I encourage you to continue
doing it. I know that you are working with the committee to try
to get some legislative relief on some items that you need. I
think that as--well, not an investor, but an indirect investor
through 401(k)s and the like, and as a person who has some
responsibility for overseeing the current system, I am much
more satisfied and happy that we finally have an SEC that is
awake and understands that there is a role to play to keep the
system within the bounds of propriety, to keep the system so it
won't break again and balancing that, obviously, with the
desire and the benefits of a strong market and a strong system,
with an innovative system that brings risk with it.
There is nothing wrong with risk. The question is, how much
and who pays for that risk? And in general, the things you are
talking about with credit rating agencies, the things you are
talking about with the uptick rule, I think you are headed in
the right direction. And again, I am going to stick around for
your testimony just to make sure that I haven't missed
something. But other than that, if I leave before I get to ask
you any questions, it is not because I am not interested; it is
because on some levels, I think this hearing is a little
premature. Not really, but on some levels it is because a lot
of these things I know they are in the works; we are in the
works trying to deal with the regulatory system. And until we
know where all that goes, I think some of those questions will
have to wait.
But I just want to say thank you, thank you for beginning
to restore--my faith in the system that we have created.
Chairman Kanjorski. Thank you, Mr. Capuano.
Now the gentleman from California, Mr. Royce, for 3
minutes.
Mr. Royce. Thank you.
Thank you, Mr. Chairman, for holding this hearing.
I think it is interesting that we are talking about a 16-
year timeframe that the SEC was in the process of examining or
had an opportunity to examine Bernie Madoff. And I think one of
the most troubling hearings that we had here was the hearing
where we heard from Mr. Markopoulos about the Madoff case.
And prior to that, I had an opportunity to talk to some of
the investigators for the SEC about that particular case
because it was absolutely astounding what Mr. Markopoulos was
telling us. What he laid out was the world's biggest Ponzi
scheme and how, over a period of years, he repeatedly attempted
to reach the SEC and actually found an individual at the Boston
branch, Mr. Ed Manion, who was not like, as he described, the
over-lawyered SEC, the over-lawyered SEC that for years had
failed in this endeavor. And he finally found a guy who had
experience as a portfolio manager who actually knew what he was
doing, who had experience as a trader. And when he looked at
this data, he instantly saw the same thing, the same reality
that Mr. Markopoulos saw.
But Mr. Manion was silenced internally in the organization.
Why? He wasn't a lawyer. He was not part of the over-lawyered
offices in New York and Washington, and they saw to it that
went nowhere.
Now, on several occasions, Mr. Markopoulos attempted on his
own to go in to explain to SEC officials in detail why Mr.
Madoff's returns were simply not possible given the investment
strategy. And he noted, and this was the astounding aspect that
I explained--the SEC investigators explained this to us, they
affirmed this--there was just a lack of understanding within
the SEC of the more intricate aspects of our financial markets
which they just didn't understand. So what Mr. Markopoulos
describes is a combination of a lack of market experience and
knowledge by the over-lawyered SEC, combined with an
investigative ineptitude, which we are well aware of, that
aspect has to be addressed.
And to have somebody examined 8 times by the SEC and other
institutions in 16 years and have this not found when people
were calling attention to it shows a structural flaw. And I
think rather than a lack of resources, this structural flaw is
the heart of this problem. Why? Because it just didn't happen
here. We also had this problem in Brittain, as described to us
by some of the British investigators, where they were over-
lawyered as well.
What is the proposed solution? Well, many have offered the
idea of having retired people with market experience brought in
so that you just don't have, in the words of Mr. Markopoulos,
20-something-year-old lawyers, so that you have people with
real life experience who can spot a Ponzi scheme in a New York
minute in a position of responsibility, where they can't be
shut down by 20-year-old lawyers.
And so I offer that up simply because he was quite
insistent on that structural change in the organization. And we
are appreciative of anything you can do to reset those
priorities so that you actually have people, retired, with the
kind of experience with the industry and the market and who
understand these schemes.
Thank you very much, Madam Chairwoman.
Chairman Kanjorski. Thank you very much Mr. Royce.
And now we will hear from the gentleman from Texas, Mr.
Hinojosa, for 1 minute.
Mr. Hinojosa. Thank you. Thank you, Mr. Chairman.
Welcome, Madam Chair Schapiro. I want to thank Chairman
Kanjorski and Ranking Member Garrett for calling and holding
this important and timely hearing today. This hearing will help
us understand more comprehensively the role that the SEC plays
in protecting investors, maintaining fair, orderly, and
efficient markets, and facilitating capital information. It is
yet another step to help reassure our constituents that Members
of Congress and the regulatory agencies are taking the steps
necessary to address one of the causes of the global economic
crisis and prevent another one from recurring.
We need to provide the SEC with a considerable amount of
funding, such as that included in President Obama's proposed
2010 budget. In fact, we need to increase it beyond his
proposed funding to ensure that the SEC not only is able to
hire staff to fill the void at the SEC, but also increase the
salary level of its employees to ensure continuity of
institutional knowledge at the SEC.
Again, I want to thank you, Mr. Chairman for holding
today's hearing. I look forward to the testimony of SEC Chair
Mary Schapiro.
I yield back.
Chairman Kanjorski. Thank you very much, Mr. Hinojosa.
And now we will hear from the gentleman from Texas, Mr.
Hensarling, for 3 minutes.
Mr. Hensarling. I thank you, Mr. Chairman.
And clearly this hearing is being held against the backdrop
of the Administration's financial markets reform legislation.
It is a piece of legislation of which many of us are concerned.
First of all, it certainly would seem to enshrine us as a
bailout nation. But yet as history as our guide, I know of no
nation that has been able to bail out, borrow, and spin its way
into prosperity.
By designating certain firms as systemically risky, we
almost guarantee that there will be more Fannie Maes and
Freddie Macs, which ultimately will prove to be the mother of
all bailouts, I am sure costing the American taxpayers hundreds
of billions of dollars.
In addition, this Office of Consumer Financial Products, we
would call it financial product polit bureau that ultimately
will decide whether Americans can have credit cards, which home
mortgages they can hold, whether or not they can even have
access to ATM machines is regulatory overkill in the nanny
state at its worse.
The underlying assumption is that our economic turmoil has
somehow been caused by lack of regulation. It wasn't lack of
regulation. It was dumb regulation versus smart regulation. If
you come up with the wrong diagnosis, you are likely to get the
wrong remedy. For example, look at the derivatives issue that
was discussed just last week in a joint hearing between our
committee and the Agriculture Committee.
Again, we know that the most high-profile meltdown in this
area happened at AIG with their credit default swaps. Yet in
sworn testimony, sworn testimony before this committee, the
head of the OTS, AIG's regulators, said, do you know what? We
had the expertise. We had the resources. We had the manpower,
and we had the regulatory authority. We just missed it; we made
a mistake.
It is another data point that it is not always more
regulation that counts; it is perhaps smarter regulators and
smarter regulation.
Now, others have spoken about the Madoff scandal. Clearly,
again, the SEC had the tools, seemingly they had the expertise,
seemingly had the manpower and, in many cases, were notified,
but for whatever reason, they just missed it, and all the
suffering and the setbacks to the economy have occurred.
We look at the matter of the rating agency oligopolies. And
I certainly believe that some good work is being done in this
area by the SEC. But for the SEC to essentially have the NRSRO
rule that created an oligopoly in rating agencies contributed
mightily to our economic turmoil that we see.
Again, I have a number of reservations about the
Administration's plan. There are a number of areas that we can
talk with the Chairman of the SEC. I appreciate her appearance
today. I look forward to the testimony.
I yield back the balance of my time.
Chairman Kanjorski. Thank you very much, Mr. Hensarling.
Now we will hear from the gentleman from Florida for 2
minutes, Mr. Klein.
Mr. Klein. Thank you, Mr. Chairman.
And good morning. Nice to see you again. I appreciate you
taking on this important responsibility as chairman of the
agency.
You have heard from a number of our members about the
concerns of what has happened in the past. And I would probably
respectfully disagree with some of my members. Some of this was
not just a question of lack of regulation or overregulation or
quality personnel. We have talked about the fact that I think
that there has been a, whether it is intentional or otherwise,
it seems like there has been an effort over the years by some
of the Members of Congress and others to say we need less. It
is not a question of less in quantity, but we don't need the
smarter kind of oversight that is necessary.
And in my background, I was a securities lawyer years ago.
I worked with the SEC. I understand what some of the
shortcomings were and some of the strengths. But overall, I
think there has been almost a deliberate attempt over the years
to not compensate people at a fair level and losing some of the
talent, and some of the members have recognized that.
I think as we move forward, it is not just a question of
more or less; it is a question of the right type of oversight
that can help investors understand what they are buying, what
they are selling, and companies understand what their
responsibilities are. It is not that complicated.
And I think a little common sense would go a long way here
instead of sort of political posturing. This is the right thing
to do at this moment.
I also want to touch briefly on the Madoff situation
because there is a lot of concern. I am from Florida. A lot of
people from Florida unfortunately lost a lot in this situation.
And the SIPC, at least in my impression so far, has not been
moving very quickly, and the trustee has not been moving as
quickly as necessary to get these people made whole.
Some of these people lost everything. Some people lost part
of their assets, and they are not getting responses from the
SIPC. And I believe there is a responsibility of the SEC to
provide statutory oversight of the SIPC. And I would ask that
you with your staff take a greater role in helping resolve this
as quickly as possible. We don't want to have to spend millions
and millions of dollars for these people in court with lawyers.
We want to get them whole, to the extent that they are
permitted to be whole, with the Securities Investor Protection
Act backing them up.
So I would just like to ask for that and I look forward to
working with your staff and working on some new oversight
regulations that will help our investors and the United States
establish confidence. Thank you.
Chairman Kanjorski. Thank you, Mr. Klein.
Now we will hear from the gentleman from California for 3
minutes, Mr. McCarthy.
Mr. McCarthy of California. Thank you, Mr. Chairman.
Thank you for scheduling this hearing today so we can hear
from the new SEC Chair, Mary Schapiro, about your agenda. The
last time this committee heard from the SEC was to discuss the
Bernie Madoff scandal prior to your tenure. And I will tell
you, I was frustrated with the responses that the Members
received regarding the SEC handling of the Madoff Ponzi scheme.
It seemed as if the right hand didn't know what the left hand
was doing.
To try to fix this, I introduced legislation to restructure
the SEC to return inspections and examination functions to
their original location within the Division of Investment
Management, Trading and Markets. This change would streamline
operations at the SEC and reduce their current stovepipe
structure where those charged with inspecting and examining
organizations are entirely separate from those who set the
policy.
With that said, I do appreciate you coming, and I look
forward to a new direction and a new restructuring.
I yield back the balance of my time.
Chairman Kanjorski. Thank you very much, Mr. McCarthy.
And now we will hear from the gentleman from Michigan, Mr.
Peters, for 2 minutes.
Mr. Peters. Thank you, Mr. Chairman.
And thank you, Chairman Schapiro, for testifying today. The
current financial crisis, of course, has numerous causes. But,
in my view, one of the principal concerns that must be
addressed is the way in which corporations have stopped serving
the interest of their shareholders.
Too often we have seen large companies run for the benefit
of management and corporate boards that no longer answer to the
shareholders who actually own the company. I would like to hear
more today about the efforts that the SEC has undertaken
pursuant to its statutory authority to empower shareholders to
have more control over board elections, executive compensation
packages, and other major corporate decisions.
I am also interested in hearing your thoughts about other
steps that may need to be taken by Congress to supplement the
efforts that the SEC is taking. This committee is currently
working on comprehensive regulatory reform legislation that
will give the SEC and other agencies the resources they need to
look after shareholder interest.
I believe, in addition to empowering regulators with new
and improved authority to watch over our Nation's financial
health, we should also empower the owners of these companies to
have more control and to align management interest with long-
term shareholder value.
I look forward to your testimony today and having an
opportunity to hear your thoughts on these very important
issues.
Chairman Kanjorski. Thank you very much, Mr. Peters.
That concludes our opening statements.
So I now with great pride introduce and welcome as our only
witness at today's hearing, Mary Schapiro, Chairman of the
Securities and Exchange Commission.
Without objection, your statement, Ms. Schapiro, will be
made a part of the record. You are recognized for 5 minutes for
a summary of your testimony. And then I suspect you should be
prepared for a barrage of questions.
STATEMENT OF THE HONORABLE MARY L. SCHAPIRO, CHAIRMAN, U.S.
SECURITIES AND EXCHANGE COMMISSION
Ms. Schapiro. Thank you very much, Chairman Kanjorski, and
thank you for your lovely introduction.
Chairman Kanjorski, Ranking Member Garrett, members of the
subcommittee, thank you for the opportunity to testify today on
behalf of the Securities and Exchange Commission.
In my 5 months at the SEC, we have been singularly focused
on rebuilding investor confidence in the capital markets and in
the SEC itself. To that end, we have begun implementing many
changes designed to better serve and protect investors and
promote investor confidence. Indeed, there is an invigorating
sense of urgency among the staff of the agency to demonstrate
that we are up to the job.
Since I returned to the agency, we have been working to
fill regulatory gaps exposed by the financial crisis; seeking
to strengthen the protections for investors against crimes,
such as those perpetrated by Madoff and other operators of
Ponzi schemes; enhancing corporate governance to hold boards
more accountable to shareholders; improving our risk-assessment
capabilities; bolstering our ability to respond to enforcement
more quickly and effectively; and bringing on new leadership
and new skill sets throughout the agency.
As I conveyed to you in February, the Madoff fraud is one
that the agency tragically did not detect, and not a day goes
by that we do not regret that. In a few weeks, our Inspector
General will be issuing his report outlining why he believes
the SEC missed the Madoff fraud. But I understood when I
arrived that we could not wait to begin making significant
changes. And that is why we have been implementing many new
investor protections, some of which I would like to highlight.
First, we are reinvigorating the SEC's Enforcement Division
by streamlining our procedures. Within days of becoming
chairman, we changed our procedures so that enforcement staff
can issue subpoenas and negotiate corporate penalties without
first getting full Commission approval. And our enforcement
focus has squarely shifted to higher-impact cases brought in a
timely way.
Additionally, our new enforcement director, Rob Khuzami, is
reducing bureaucracy by streamlining management within the
Enforcement Division, putting many more talented investigators
directly to work on cases. He is also creating specialized
units which will help to concentrate staff expertise and better
coordinate investigations.
Since the end of January, as compared to the same period
last year, we have filed 3 times as many emergency restraining
orders, opened up more than 40 additional investigations, and
issued over 100 more formal orders of investigation.
In terms of cases, we have brought fraud charges against
operators of the Reserve Primary Fund, which broke the buck
last fall unsetting the money markets; pursued high-profile
figures in connection with an alleged kickback scheme involving
New York's largest pension fund; brought the first ever hedge
fund insider trading case involving credit default swaps;
charged the former Countrywide CEO and other former executives
with securities law violations; and expanded our case involving
Allen Stanford to include the former head of Antigua's
financial regulatory commission, who allegedly received bribes
and helped Stanford to thwart various inquiries.
This is just a small slice. There are many more
investigations in the pipeline.
Second, we are strengthening our examination program. And
we are doing that by recruiting more professionals with new
skill sets and expertise in complex financial instruments,
trading, financial analysis, risk management and valuation.
Significantly enhanced training in fraud detection is also
being provided to our examination staff.
Further, because we have only 425 examiners for the more
than 11,000 regulated investment advisors and 8,000 mutual
funds, we are improving our risk-based methodologies for
detecting and focusing on potentially fraudulent firms and
activities to maximize our ability to protect investors.
Third, we have proposed rules to substantially strengthen
the controls of our custody of client assets held by investment
advisors or their affiliates. Among other things, these custody
safeguards would encourage investment firms to place their
clients' assets in the care of truly independent custodians.
Under the proposal, firms that do not do so would have to
obtain a special custody controls report from an independent
audit firm, and in addition, all advisors with control of
client assets would be required to undergo annual surprise
exams by independent auditors to verify client assets.
Enhancing custody controls is just one of the many
rulemakings we have undertaken at the SEC. We have also sought
comment on several proposals to restrict short selling. We have
proposed a series of rules to empower shareholders through
proxy access as well as through provision of better information
in the proxy. We have sought comment on a series of money
market fund reforms to tighten credit quality, maturity and
liquidity standards. We have been actively considering ways to
strengthen the integrity of the credit ratings process, and we
have been reconsidering a decade-old proposal to challenge the
so-called pay-to-play practices by investment advisors to
public pension funds. And finally, tomorrow we will be
considering a proposal that would result in greater and more
timely information being provided to investors in municipal
securities.
Mr. Chairman, I want to thank you and the committee for
your support of the SEC, and I look forward to discussing with
you our other activities, our thoughts for additional
legislation, and the state of our resources, and reform of the
regulatory landscape.
Thank you.
[The prepared statement of Chairman Schapiro can be found
on page 50 of the appendix.]
Chairman Kanjorski. Thank you very much, Madam Chairman. It
sounds like you are off to a great start.
Part of the question I have is something I hear from many
of my constituents, particularly after the most recent
financial crisis in the country; they ask the question why,
after mistakes are made by people in various positions of
government, particularly in the regulatory area of government,
you never seem to hear of anyone being fired?
I do not want to suggest you have wholesale firings, but
what is your philosophy in terms of, if they are a failure at
the agency, not only from the past but on into the future,
implementing some sort of more stringent accountability to
employees so that they are not necessarily lax in how they
pursue enforcement or investigations. I will be honest with
you, in the Madoff situation, I sympathize with the
constituents of my friend from New York, Mr. Ackerman. When you
hear some of the stories from the testimony of the Inspector
General, that if only somebody turned around when they were
examining the Madoff operation and just asked Mr. Madoff, where
are the securities, that would have resolved the problem that
there weren't any and therefore that there was something
fraudulent going on. And yet nobody asked that question.
And now I think it is important enough to highlight so
other people do not miss those questions in the future. So
maybe if you could lay out your philosophy in how you intend to
get a higher response to regulatory activities within the
agency during your tenure.
Ms. Schapiro. I would be happy to talk about that. I am a
very big believer that we have to hold people accountable at
all levels of the agency for performing the responsibilities
that have been entrusted to us by the American people. We also
have to be honest to undertake what I think we are doing right
now, a very honest assessment of what were our failings and
what were our shortcomings with respect to Madoff and, frankly,
any other issues where we were not perhaps as quick to the draw
as we should have been or could have been.
One of the things that we are engaged in right now, as you
know, is the review by our Inspector General; that, I expect,
will reveal much more the fundamental causes of our failure to
detect early on and prevent or stop early on the Madoff fraud.
In the meantime, we have tried to pull all the lessons we can,
whether it is from the stovepipe structure of the organization
creating issues, whether it is from a lack of skill sets so
that the people who received the information from Mr.
Markopoulos didn't understand what they were looking at,
whether it was a resource issue, whether it was an inability to
track and follow up on the material received; we tried to pull
all the lessons we can from those failings and move very
quickly to put in place as many different changes in how we
operate as possible.
So, for example, the goal of creating specialized units
within our Enforcement Division is really a response to the
Madoff failure; the new custody rules to fill a gap in
regulation that would have made it, if not impossible, very
difficult for Madoff to do what he did. Those new rules that we
have proposed are a response to that failure.
Bringing in new skill sets across the agency through our
risk assessment program as well as directly into the
examination program again are a response very much to the
Madoff failure. The fact that we have asked this committee to
create whistleblower legislation to allow us to work more
closely with whistleblowers and leverage those third-party
resources and expertise, again, is a very direct response.
So my view is, we have to be absolutely open to learning
all the lessons that this tragedy can teach us and moving ahead
to put those kinds of changes in place in a very aggressive
way.
Chairman Kanjorski. Thank you very much. I am sure that you
are going to do your best.
We are going to be watching, though, I assure you of that,
too.
I am going to pose my second question quickly if I can
because my time is running out, but it is not done with the
intention of embarrassing you or the Administration. But I am
curious, should we not now take the opportunity to reform some
of the structure of government, particularly by merging the
CFTC and the SEC? I understand all the political ramifications,
we have had meetings on end over the last several weeks on
those discussions, but I asked the question the other day to
the Secretary of the Treasury as to why in their White Paper
they didn't discuss that seemingly natural possibility. And if
we don't do it now after this disaster, what is the future plan
of this Administration or Government as to what to do about
what appears to be conflicting agencies that could logically be
merged and accomplish better ends? I am going to end it there
and not put you any further on the spot than that.
Ms. Schapiro. Well, I think that the Administration having
made the decision not to seek full merger of the two agencies
really puts the burden on the SEC and the CFTC to work together
more effectively than they have over the course of the last 35
or so years that the CFTC has been in existence. And we are
both quite committed to doing that. We have been charged with
an effort to harmonize our rules to the greatest extent
possible, and we are fully engaged in that process right now.
But there will still be areas of uncertainty. There will
still be the potential for products to be created that fall
between the lines of the two agencies, and we will have to be
extremely cognizant of that possibility so that we don't allow
new unregulated markets to flourish between our two areas of
authority.
Chairman Kanjorski. Thank you. Again, we are going to be
watching that, too.
Ms. Schapiro. I appreciate that.
Chairman Kanjorski. And that concludes my time.
And now we will hear from Mr. Garrett of New Jersey for 5
minutes.
Mr. Garrett. I thank you.
Again, I thank the chairwoman. As the American public
watches this hearing today, they probably think, in some
respects, that we have been here before.
I appreciate Mr. Capuano's comment, he is gone now, where
he said, in light of everything that has happened in the past,
he appreciates the fact that everything is going in the right
direction now, which is good.
But the public might say, well, we have been here before,
because you know, if you think over history, and some of these
things happened before I was in Congress, you had the mutual
fund market timing issue in the past. You had the missed
accounting scandals in the past. You had the analyst-conflict
issues during the dot-com issues in the past. All these errors,
if you will, by the SEC in the past, and I assume that there
were probably other hearings like this after each one where the
SEC, someone else other than you, would come back and say, we
realized we have made some mistakes, and now we are going to
fix them with X, Y, and Z. And probably somebody on this panel
sat here and said, well, we are glad that they are now going in
the right direction.
I mean, we have already talked about the Madoff situation.
What somebody hasn't mentioned so far of course is the SEC is
also responsible for investment bank oversight in the Bear/
Lehman situations as well. So the list just continues. In one
respect, it seems like the SEC is always coming in after the
fact to the table, always a different chairman, saying, we
realized our errors, and now we are going to try to correct
them.
And that of course probably leaves the American public
questioning the veracity of the SEC and also the Congress as
well in order to do its job. And that probably leads to the
tremendous frustration that the public has for all of this.
One of the issues that has been addressed so far is the
Administration's proposal in a number of different areas. One
of them is the President wants to give the SEC the power to
ensure in the area of compensation. And he wants to make sure
that it does not skew investment advice. So just three quick
questions. Is that something that the SEC specifically asked
for from the Administration for that power? If so, did you work
closely to try to come up with it? And how would you try to
address that issue?
Ms. Schapiro. Thank you.
Let me just say that I think, to some extent, all
regulators, not just the SEC, play catch-up with the
fraudsters. And perhaps that will always be the unfortunate way
for us to operate, although we are not going on that
assumption, we are really working very hard to build a risk-
assessment capability to try to get ahead of the curve of the
problematic practices. And we could I guess end all problematic
practices, but it would be a pretty heavy-handed regulation in
order to ensure that none of them were ever perpetrated against
the public.
Mr. Garrett. Well, that is a good point. Because it can
either go in the over heavy-handed approach which is suggesting
what some of us suggest may be coming out of the Administration
right now, or you can go in completely the other direction.
Maybe we have to find in the middle where you still ask for
personal responsibility from the individual in these cases. But
if you can get to the point.
Ms. Schapiro. Yes. What the SEC has been interested in and
what we worked with the Administration on was the ability--
first of all, we have done compensation disclosure rules at the
SEC within the last couple of weeks to try to require forced
disclosure, required disclosure, of how compensation plans
incentivize long-term and short-term risk-taking within the
corporation. And we have always approached compensation from a
disclosure basis at the SEC.
We have sought the ability to regulate investment advisors
and broker/dealers as to the standard of care that they need to
provide to customers. Right now, they are actually regulated
under different regimes because of their different compensation
models. Investment advisors seek compensation for a fee;
broker/dealers seek transactional compensation. As a result,
even though they may both be providing advice to retail
investors--
Mr. Garrett. I don't have much time. Is that a fiduciary
standard?
Ms. Schapiro. We are looking for a fiduciary standard from
the perspective of investors on getting advice from a financial
services professional.
Mr. Garrett. Again, I apologize. I don't have much time.
Can an advisor receive a commission and still come under a
fiduciary standard in your understanding?
Ms. Schapiro. Well, advisors generally don't get
compensation related--a transaction-related compensation;
broker/dealers do. And what we are saying is that it should not
be how they are compensated but what they are doing that gives
rise to a fiduciary standard. So if you are giving advice,
whether you are a broker or an investment advisor, the act of
giving advice should require that you adhere to a fiduciary
standard.
Mr. Garrett. But then the aspect of the first part of the
question, as far as giving you the power to set compensation
schemes, would then commission-type compensation schemes go in
an opposite direction from where you want to go with meeting
that fiduciary standard or meeting those--making sure that it
is in line with what the Administration wants to come out of
this?
Ms. Schapiro. I guess I am not exactly sure how directly we
would set compensation schemes. We would like to see, for
example, the end of retail price maintenance that would allow
brokers or advisors to offer mutual funds without having to
adhere to the sales prices that are quoted in the prospectus.
We would like to be able to see much better disclosure with
respect to compensation schemes so that investors understand
exactly what it is they are paying for.
Mr. Garrett. Thanks a lot.
Chairman Kanjorski. Thank you, Mr. Garrett.
The gentleman from New York for 5 minutes, Mr. Ackerman.
Mr. Ackerman. Thank you, Mr. Chairman.
Madam Chairman, the issue that I addressed in my opening
statement, to refresh your memory, is the Madoff victims and
the terrible situation that we are looking at where we actually
have classes of victims pitted against each other in addition
to all the other confusion. Which Madoff investors are eligible
for SIPC insurance?
Ms. Schapiro. Congressman, let me just say that this
shouldn't be such a difficult issue, but it is, and of course,
it is a very heartbreaking issue, because the tragic truth is
there is not enough money available to pay off all the customer
claims. And as you point out--
Mr. Ackerman. That leaves, if I could just interject there,
a larger problem because that means that our citizens are not
entitled to have confidence in the system.
Ms. Schapiro. Well, there is no doubt that what has
happened with Madoff has shaken everybody's confidence in the
integrity of the financial services industry and in the
regulatory system to protect investors.
With respect specifically to the specific question, as you
know, the trustee has chosen a cash in/cash out view when
determining net equity on which claims and at what amount to
pay out. There are a group of investors who believe that net--
so that if you paid in $2 million, over time you took out $1
million, your net equity would be $1 million. There is a group
of investors--
Mr. Ackerman. But these, unfortunately, are people that we
have encouraged and assured by virtue of the fact that we
provide the supervision. Now, these people knew that there were
questions raised about Madoff, and the government basically
gave him a clean bill of health year after year. People knew
about Mr. Markopoulos. People knew about other people as well
who had raised questions that were dismissed and then felt the
government is saying that this guy is okay, and the million
dollars I put in has grown over the years, and I have this much
money to live on now.
Ms. Schapiro. I understand that. And there is a group of
investors who feel very deeply that their net equity on which
they would be paid should be determined by looking, as you
point out, at their last account statement. So they may have
paid in $2 million, but that amount of money has grown to $10
million, and they were relying on that $10 million to be there
for them.
Mr. Ackerman. Well, they weren't relying on the $2 million,
which they were of course, they were relying on the
government's assurance that they had the $2 million, and they
made life decisions based on that.
So where do you come down, Madam Chair?
Ms. Schapiro. Well, we have been meeting with SIPC and with
the lawyers for the investors who would like to calculate the
net equity based on the last account statement in hopes of
trying to find a way to settle this matter between the two
groups to expedite getting these payments out to people who are
very dependent upon them. These investors have challenged the
trustees' cash in/cash out methodology in court, and that is
before the bankruptcy court--
Mr. Ackerman. We are going to have to make a decision.
Someone has to make a choice here.
Ms. Schapiro. I understand.
Mr. Ackerman. Here is a case. A woman who has a small
business, a publishing business, she sells it for $3 million--
she is taking out of, and that is everything she owns in the
world, $3 million. It is in Madoff. She gets a check for
$30,000 a month that she is taking out, which is the money she
is making on it and still has the equity in there. She buys a
huge apartment in Manhattan. That is the only asset that she
has. The asset is now underwater. She spends the $30,000 a
month paying her taxes, paying her mortgage and her maintenance
and her living expenses. She has done this for a couple of
years.
Suddenly one month, when Madoff turns himself in, she has
no income. The unit she lives in is upside down, as they say.
She can't sell it for what it is worth, she owes $15,000 to
$20,000 in carrying charges and can get nothing from it if she
sells it and has $1,500 in her bank and is waiting for her
$30,000 return from Madoff. She is homeless. She has no assets.
Her $3 million has been stolen. And then, on top of that, she
is being told that the $30,000 a month that she has gotten that
she has paid taxes on with half and half to her mortgage, she
suddenly owes back because of a clawback thing that they are
claiming.
Where is she going to get the $30,000 a month that she has
collected to give back? I mean, these people are absolutely
destitute. And they were reliant on the government's seal of
approval that this guy is legit, that he is on the up and up.
How can we turn our back on these people?
Ms. Schapiro. We cannot turn our back on them, and we
should not turn our back on them. And I am committed to working
as aggressively as we possibly can with SIPC to take the most
expansive possible view of how to repay these claims and to do
it in as quick a fashion as they possibly can.
That specific issue is before the bankruptcy judge right
now. I don't have, although I would be happy to get for you,
some indication of timing when it might be resolved. But I
agree that we need to push very hard to make people whole to
the greatest extent possible.
Mr. Ackerman. I thank you for your concern and your
actions.
Mr. Chairman, if I can just have another couple of seconds
to add. Some of our colleagues have raised an accountability
question. And I just want to compliment the chairman. That
rather bombastic initial hearing that we had with people from
the agency before us that got an awful lot of attention because
it was the first one, the chairman called me immediately after
the hearing and said she was aghast at some of the things that
she had heard during the testimony.
Chairman Kanjorski. You mean she called you, too?
Mr. Ackerman. Yes, she did, even me.
And by the end of that week, two of those people were gone
from the agency. And I just want to say that is accountability
that I have never seen in my 14 terms here. And I want to thank
the chairman for her swift action and dedication to her
mission.
Ms. Schapiro. Thank you.
Mr. Ackerman. I yield back the balance of my time.
Chairman Kanjorski. Thank you, Mr. Ackerman.
And now we will hear from the gentleman from Alabama, Mr.
Bachus.
Mr. Bachus. Thank you, Mr. Chairman.
Chairman Schapiro, I mentioned last Friday that Secretary
Geithner made this statement that they would require regulators
to carefully police any attempts by market participants to use
spurious customization to avoid central clearing and exchanges.
Now, my concern is that, every day, American companies
enter into hundreds if not thousands of these derivative
agreements and customized derivative agreements, today, and yet
there is no requirement that they clear them today. So they are
not fashioning them today. They are not customizing them today
to avoid this rule that the Administration says they are going
to put in place.
So, number one, I mean, do you agree that this is going to
be pretty complex and difficult to police these derivative
agreements.
Ms. Schapiro. I think that is a great question.
I do believe in the approach that should encourage the
maximum standardization as possible to get as many of these
instruments cleared through central clearinghouses which will
reduce systemic risk pretty dramatically, even to get some of
them on exchanges so we can actually have real pre- and post-
trade transparency.
But I also agree that there is a need and will continue to
be a need for businesses to be able to hedge their particular
needs for commodities or financial protection in a customized
way.
And I think we--I honestly can't tell you that I know how
we would police specifically at this point, whether or not
products that could have been standardized are for some other
reason being customized and what we would do about that.
I do think the incentives will be there to move things into
the more standardized format even without the regulators
necessarily policing them, because it is envisioned that for
the standardized product, the capital requirements, the margin
requirements are likely to be lower, the costs of transacting
are likely to be far lower than they are for the customized
products.
So I believe the incentive will be for any industrial
business that wants to hedge its exposure to a commodity or to
a currency, for example, will be inclined to go the
standardized route because it will be the most efficient thing
to do.
But where it is not going to work for them, they will have
to bear the additional costs, likely, of taking the customized
approach. And we, as regulators, will have to figure out
exactly how we are going to police them.
Mr. Bachus. Yes. You know, he didn't say whether it was a
preapproval process, which I don't think would be workable at
all. I guess you would have to decide ex post facto. And, you
know, to me, you would have get inside the minds of these
corporations, and I am not sure that you have the expertise or
could hire that expertise.
Ms. Schapiro. Well, I think that the industry would have a
right to expect from the regulators some significant guidance
on exactly what constitutes standardized and what constitutes
customized. And it would almost surely have to be a look-back
and not a preapproval process.
Mr. Bachus. But even reviewing all these customized
derivatives would be an incredibly complex job.
Ms. Schapiro. I don't disagree. And I can't tell you that
we have thought through exactly how that would happen at this
point.
Mr. Bachus. All right. And you would have to make the
business decisions that really--you know, as to what the
corporations did and why they did it. And, as I said, they are
doing that today, so it is not, obviously, to avoid a rule.
You are going to increase supervision of credit rating
agencies. One of the things that has been talked about,
preventing companies from shopping around for favorable credit
ratings, how do you envision doing that?
Ms. Schapiro. Well, that is an issue I am particularly
interested in. As you know, the SEC has engaged in multiple
rulemaking since it got authority under the Credit Rating
Reform Act in 2006 to provide disclosure for the prevention and
the disclosure of conflicts of interests and so forth.
But I have been particularly interested in the idea that I,
as an issuer of a structured product, would like to get a good
high rating for that product to be able to sell it. And so I
will shop around and get preliminary ratings from multiple
rating agencies and then be in a position to pick the highest
rating.
One of the areas we are looking at--there are two things we
are looking at specifically to respond to that. One is that we
could require issuers to disclose all of those preliminary
ratings so that if some of them weren't AAA, investors would at
least know that.
The second would be to require on a confidential basis
disclosure of the underlying loan data for a structured
product, for example, to all the other rating agencies, who
could then perform an unsolicited rating and make that rating
available to the marketplace. So, again, you would have some
competition and you would have some diversity of perspective
about the quality of a particular security being brought into
the marketplace.
Mr. Bachus. All right. I think every member of this
committee applauds you on your focus on credit rating agencies.
I think if they had done their job properly, we could have
avoided the majority of the problems we find ourselves with
today. And I suppose your special examination on their role in
the financial crisis will shed more light on that.
Ms. Schapiro. That is right. And we are also looking at
whether--because ratings are enshrined in many SEC regulations,
we are looking at creating a roadmap to lessening SEC reliance
on ratings in our regulatory--
Mr. Bachus. And just the three of them, the oligarchy that
I think has been set up.
Ms. Schapiro. Yes, it is a highly concentrated business. I
think over 95 percent of ratings are done by the top three
firms.
Mr. Bachus. Which our Republican plan also addresses.
Thank you.
Chairman Kanjorski. Thank you, Mr. Bachus.
Now we will hear from the gentlewoman from New York, Mrs.
McCarthy.
Mrs. McCarthy of New York. Thank you, Mr. Chairman.
And thank you, Chairwoman Schapiro.
We have talked before, have met and asked questions back
and forth, and especially on the confidence, what the SEC has
to do to bring to the consumer and the investor. And I know
that, you know, everybody looks at the Madoff case and how many
millions and billions of dollars were lost there. What I think
everybody is forgetting--and anybody who looks at their 401(k),
they are not forgetting--people who were thinking of retiring
can't retire; those that are retired are in dire straits.
And so your job, to build up confidence with the American
people again, is going to be a difficult one. And even when we
see the reaction of the financial institutions and the banks,
that they don't want any of these regulations--and they are
fighting us. The lobbying that is going on here is
unbelievable. And yet we are supposed to be taking care of our
constituents.
So one of the things that I was thinking when you were
giving your testimony with regard to the many open
investigations and cases the Enforcement Division is now
working on, how is that being relayed to the public and the
consumers. And, in your opinion, should enforcement updates
fall within the CFPA, or is that something you would like to
maintain within the SEC?
Ms. Schapiro. Thank you.
Well, I think everything we are doing at the SEC now is
geared towards trying to reorient the agency towards investor
protection. We have spent a lot of time, I think historically,
worrying about capital formation and the ability of U.S.
businesses to compete internationally, and those are all
important. But right now our focus is very much on restoring
and rebuilding investor confidence which, frankly, is critical,
I think, to the success of our economy over the long run.
And the important part of that, as you point out, is
enforcement cases, because that shows the public we are there,
on the job, trying to protect them. And we have stepped up our
enforcement efforts very significantly.
We relay them to the public really through the media, and
we count on the press to write about the cases that we bring,
the dozens of temporary restraining order cases that we have
done. Over 40 in the last several months have gotten very good
publicity, particularly in local markets. And those help to
both educate people going forward about the problems, but it
also helps them to think of the SEC as a place where they can
bring information so that we can pursue it.
I feel very strongly that the SEC's enforcement program is
under terrific new leadership, a new director, a new deputy
director, a new head of the New York office, a new
organizational structure being rolled out over the next several
weeks, new skill sets, and new resources that we hope to bring
in over time will make this once again the premier civil law
enforcement agency in the Federal Government.
I think the enforcement of the securities laws very much
needs to stay with the Securities and Exchange Commission. And
the dislocation and disruption that would be created by trying
to move it into the CFPA or to take investor protection out of
the SEC, in all of its different permutations because it is
about so much more than just enforcement, would really leave us
with a very fragmented regulatory regime.
So I would expect that if a CFPA is created, we will work
very closely with that agency. There will be areas of overlap
and adjacencies that we will want to coordinate on. But I feel
very strongly that SEC enforcement needs to stay integrated
with the rulemaking and the policy functions that we engage in.
Mrs. McCarthy of New York. The final thing that I will
say--and I am speaking for my constituents. They didn't lose
the millions and millions of dollars that might have been
invested in the Madoff scheme, but, you know, their $200,000
that they might have had in their retirement--and they are not
going to get that back. You know, when reports come out that
someone in their 60s, middle 60s, even higher, it will take 12
to 15 years for them to get that money back. They feel kind of
burnt that they are not getting any help and they won't be
getting any help. And I think that is a shame, because you are
turning off an awful lot of people. There is probably more
money under somebody's mattresses these days than even going
into the banks, which haven't been of any help.
I hope that you are going to be able to stand up to the
financial institutions. I hope that you can restore the credit
to all the financial institutions, because there are a lot of
good people who work in those jobs. But I have to say, the pain
that the majority of my constituents and probably so many
constituents around the country--they are not going to trust
any of us. And, to be very honest with you, I can't blame them.
But thank you for your job, and I wish you luck in it.
Ms. Schapiro. Thank you.
Chairman Kanjorski. Thank you very much, Mrs. McCarthy.
And now the gentleman from California, Mr. Royce, for 5
minutes.
Mr. Royce. Thank you, Mr. Chairman.
Again, Madam Chairwoman, let me ask you a couple of
questions here. And this goes to a couple of the observations
that Mr. Markopolos made.
And one was the vast differences in fraud cases that he was
focused on that had come from industry tips as compared to
those that had come from an audit. And, clearly, his desire was
to try to get resources into running down these tips that are
turned in. But let me just read you what he said in his
testimony here before the House and then get your comment on
it.
He said, ``First, I would replace the senior staff at the
SEC, because they have the wrong senior staff right now. And
then I would go to the bottom of the organization. You need to
change who the people on these teams are down at the bottom.
They can't be young 20-somethings without industry experience.
You need to get higher, senior, seasoned professionals. And the
third thing you need to do, you need an Office of the
Whistleblower to centralize these thousands of complaints that
they get so that they are handled ad hoc by 11 regional
offices. You need one centralized location, the Office of the
Whistleblower, instead.''
That is his view on that. Now, I know some of the senior
staff have stepped down since that hearing. What do you make of
the other suggestions?
Ms. Schapiro. I would be happy to address those. Let me
start with the Office of the Whistleblower to handle
complaints.
First of all, we have asked Congress to enact a
whistleblower statute to give us the authority to compensate
whistleblowers, in the hopes that they will bring us well-
formed and well-developed evidence of fraud that the SEC can
then prosecute much more quickly. And we are very hopeful that
will pass, and it was also included in the Administration's
legislative package.
Mr. Royce. And the concept of the Office of the
Whistleblower instead of doing it through 11 regional--
Ms. Schapiro. In fact, very shortly after I arrived, I
learned that we receive between 700,000 and 1.5 million tips
every year at the SEC. We are a tiny agency to handle that kind
of volume. And they come in, as Mr. Markopolos points out, to
every district office around the country and multiple offices
in Washington. There is no central computer system. There is no
tracking. There is no ability to look for a trend or a pattern
of conduct across complaints coming from different areas. And
there is no capability to combine that information with
external sources of information.
I brought in the MITRE Corporation's Center for Enterprise
Modernization almost within a month after I arrived, I believe,
to do a top-to-bottom review of exactly how we are handling all
of these tips and how we might get to a system that could
centralize them for triage, tracking, and resolution purposes.
They have completed phase one of the work, which was a
complete review of all existing processes. We are in phase two
now, which will create new procedures for the entire
organization. And then phase three is procurement of a
technology that will provide a centralized IT solution for
handling these tips agency-wide.
So we are moving very aggressively on that count.
Mr. Royce. Let me ask you, then, one other question he
brought up, while I have time. He said he thought the SEC was
``over-lawyered,'' to use his words. And he believed, and the
SEC officials later affirmed, that there was a fundamental lack
of understanding of some of the more intricate aspects of the
financial markets within the SEC.
The exception to that that he cited was Ed Manion in the
Boston office who had actually been a trader and been a
portfolio manager but, therefore, was frozen out by the
Washington and New York offices, which he viewed also as being
over-lawyered.
Can you comment on this idea of the SEC being over-lawyered
and whether that kept them or maybe prevented them from
uncovering the Madoff incident over the years?
And I know you have taken some reform measures already, but
what specifically is the SEC doing to address this problem?
Ms. Schapiro. I would be happy--
Mr. Royce. Maybe along the lines that we had talked about
with him, bringing in retired people who really had the kind of
experience in the market that they could identify scams like
this. Well, just like Ed Manion, you know, people like that.
Ms. Schapiro. Let me start by saying that we have really an
amazing staff at the SEC. We have people who are committed to
their core to serving the public interest, to enforcing the
law, to getting to the right answer that will serve investors.
And it is important to be said because it is, in fact, true,
and that is the backdrop against which all the changes are
being made, that we have something very important there that we
need to grow and provide the resources and the training to make
better.
That said, we are recruiting actively for people with
trading experience, risk management experience, portfolio
valuation experience, forensic accounting, financial analysis.
I mean, Wall Street's bad news, in terms of having to lay off
many people, has been very much good news for the SEC. And we
are able to recruit people with tremendous industry experience
and expertise and bring them into the SEC. And we are taking
full advantage of that opportunity right now.
Mr. Royce. Thank you, Chairwoman Schapiro.
Chairman Kanjorski. And now we will hear from Mr. Lynch of
Massachusetts for 5 minutes.
Mr. Lynch. Thank you, Mr. Chairman.
Madam Chair, I thank you for your attendance at this
hearing today, and I appreciate the work that you have done. I
think the SEC is in good hands, and I think you have made a lot
of changes in an institution that isn't necessarily inclined to
change.
To follow up on Mr. Royce's questions, he talked about Mr.
Markopolos's valid complaint that the SEC was over-lawyered. As
well, Harvey Pitt, former chairman, as well, of the SEC, wrote
a great piece called, ``Over-Lawyered at the SEC'' that raised
a lot of the same points.
What are you doing specifically to get folks in who could
help make these more, I think, financial-based analyses rather
than simply a legal analysis?
Ms. Schapiro. In two ways, we are actually specifically
recruiting for those new skill sets to come into the agency.
The first is within our examination program. As we post
positions, as we have available a head count, we are actually
seeking people with very particular skill sets like valuation,
risk management, trading, sophisticated structured products,
over-the-counter derivatives, and so forth.
Mr. Lynch. Great, great.
Ms. Schapiro. The second is that we have an Office of Risk
Assessment that is quite small. We are building it rather
significantly. And this year we created a risk fellows program.
We have a very successful accounting fellows program. We bring
in very senior people for a period perhaps only of 2 years, but
to come to the agency and both train our people in very current
ways of Wall Street but also to help us build risk assessment
capabilities so that we can take the resources we have and
focus them where they are most likely to do the maximum amount
of good for the integrity of the markets and the protection of
the investors.
So through the risk fellows program and through our general
recruiting, we are really looking to broaden our skill sets in
examination and in enforcement.
Mr. Lynch. All right. Let me ask you then, following up on
that--and that is all good news--the President's regulatory
reform framework envisions an exchange for derivatives, let's
call them standard linear derivatives, over an exchange, but
then also custom derivatives, trading privately and in a more
opaque system. These are custom derivatives; they are the more
complex ones. These are the ones that generate a big payday for
these banks and are custom derivatives for the individual
client, and yet those are often exchanged.
So I am just wondering, from your standpoint, not from the
systemic risk perspective that the Fed has to worry about, but
from your standpoint, how do you think you are equipped to deal
with that type of bifurcation? Are you going to be able to
handle both of those situations as at least the President now
envisions them?
Ms. Schapiro. The SEC has a long history of dealing with
both exchange-traded and centrally cleared products, as well as
over-the-counter products. So I think we have the institutional
expertise to do it.
I do think for the custom derivatives that are not
centrally cleared, the key to success will be both transparency
and the regulation of the dealers who are engaged in those
transactions. So, examination of those dealers, review of their
risk management processes to make sure that they are stress-
testing, that they know their counterparties, that they are
collecting margin, that they have credit limitations on
traders, they have adequate documentation, and that they have
appropriate sales practices and business conduct rules in
place.
I think it is going to be really critical for the
regulators, the bank regulators for many of the dealers, the
SEC, for others, to have very hands-on oversight of the dealers
in the customized products.
Mr. Lynch. Okay.
Mr. Chairman, my time has expired. I yield back.
Thank you.
Chairman Kanjorski. Thank you very much, Mr. Lynch.
Now we will hear from the gentlelady from Illinois, Mrs.
Biggert.
Mrs. Biggert. Thank you, Mr. Chairman.
And thank you, Chairman Schapiro, for being here. I have
just a couple of questions.
First of all, what is your opinion of the new derivative
tax that has been proposed in the recently passed cap-and-trade
bill? Do you support it, or do you have fears that such a tax
and additional restrictions will send U.S. businesses and jobs
abroad?
Ms. Schapiro. I am afraid I am not that familiar with the
cap-and-trade bill. I would love to be able to come back to you
with a more thoughtful response.
Mrs. Biggert. Could you do that in writing?
Ms. Schapiro. Absolutely. Thank you.
Mrs. Biggert. I would appreciate that.
Then, in response to Mr. Royce's question, you mentioned
forensic accounting and risk management and that you are
recruiting individuals with expertise in this area. Are you
also looking into new technologies and outside firms with that
kind of expertise? You know, I am thinking of whether it is
modeling or a central database.
Ms. Schapiro. Absolutely. We have a program going on right
now where our risk assessment office is reviewing multiple
different technologies and services that do valuation, that can
run tests of performance numbers, for example, for hedge funds
and others to help us understand whether we have a pattern of
improbably consistent and good results coming out of a
particular investment vehicle. And it will be very important
for us to enhance our technological capabilities.
I will tell you the agency's technology--well, I was a
Commissioner 20 years ago at the SEC and left about 15 years
ago. I haven't seen a dramatic improvement in those 15 years
from when I arrived to this year. And I think, given sufficient
budget resources, we really need to devote some time and
attention to building the technology that will allow us to keep
up with the most technologically enabled financial institutions
in the world.
Mrs. Biggert. Thank you.
Then, last year, former SEC Chairman Chris Cox banned
short-selling of stocks in nearly a thousand financial firms,
and later I believe he stated that he regretted imposing the
ban and that its cost appeared to exceed its benefits.
Given that these rules and comments were made at the
beginning of our current financial crisis, why does the SEC now
seem to think it is a good idea to heavily restrict the short-
selling?
Ms. Schapiro. Well, I think what Chairman Cox was referring
to were outright bans on short-selling, as well as some other
requirements the SEC put in place. And the analysis that was
done after that period does show that, while it resulted in
lower short-selling, as you would imagine, it also resulted in
lower liquidity and much higher volatility.
What we are doing is quite a different thing. We are
looking in a very deliberate and thoughtful way at whether
reinstatement of the uptick rule that had been in place for
many, many years up until 2007 ought to be reconsidered in our
marketplace, which does not stop short-selling but only permits
short-selling when the last prior transaction was done at a
higher price.
So we are looking at reinstatement of that rule or, as an
alternative, a circuit breaker, so that if a particular stock
declined by, say, 10 percent, short-selling might be prohibited
for a period of time thereafter in that stock.
We put all of our proposals out for comment. We had a 60-
day comment period. We have gotten 4,000 comment letters that
we are now working our way through to determine what our next
steps might be.
Mrs. Biggert. So the comment period is over, and now you
are--
Ms. Schapiro. The comment period ended June 19th. But it is
not an emergency action; it is not being done in haste. It is
being done in what we believe is a very thoughtful and
deliberative way. We had a roundtable publicly held and brought
in all different perspectives to talk about this issue. And we
are trying to take it in a very thoughtful, deliberate way.
Mrs. Biggert. Do you have any date for when you expect that
this will be--
Ms. Schapiro. I am hoping that by the end of the summer, we
may be able to come back to the Commission with a proposal. I
honestly don't know where the full Commission stands on the
multiple proposals that we published for comment.
Mrs. Biggert. Okay. Thank you very much for being here.
Chairman Kanjorski. Thank you, Mrs. Biggert.
And we will now hear from the gentlelady from California,
Ms. Speier.
Ms. Speier. Thank you, Mr. Chairman.
And thank you, Chairman Schapiro. I have to just add my
praise to all that has been showered upon you today. It is
remarkable what you have done in a very short period of time.
I was astonished to read the new GAO report, though, that
suggests that, in the last 3 years, the SEC has reduced the
number of disgorgements by something like 80 percent and the
number of enforcement actions by 60 percent.
We can't have that happen again. And I want your advice on
what we should do to make sure that your agency becomes the
toughest, most scrupulous cop in the Nation. And if it takes
more staff, I want to give you more staff.
I am concerned by this chart here, which I presume has been
given to us by you, that shows that the growth in the
enforcement staff is something like 23 percent, but the growth
in tips and complaints has gone up 146 percent. The growth in
SEC staff is up 15 percent but the growth in trading volume is
up 264 percent.
If we have learned nothing else in the last few months, it
is that there wasn't the vigilance at the SEC. And so many
people on Main Street are hurting today because the SEC wasn't
doing its job.
Ms. Schapiro. I will say on the budget that the SEC had a
long period, from 2005 to 2007, of flat or declining budgets.
And, in fact, even with the President's request for 2010, we
will still have 4 percent fewer staff than we did in 2005.
So, in the last 2 years, Congress has been very good and
very supportive of a growing SEC budget, but the fact is we
are, as I said before, a pretty small agency. We have over
35,000 regulated entities; we have 3,600 employees. And that is
not a great ratio by any standard. If you think about the
11,000 investment advisors and 8,000 mutual funds where so many
Americans entrust their money, we have 400 examiners.
Ms. Speier. We need to give you more staff, and that is my
point.
Next question: I am concerned about what I perceive to be a
potential revolving-door problem at the SEC. Whether he was
involved or not in decision-making, the attorney who was
overseeing the Madoff case ends up marrying the niece of Mr.
Madoff, who was also employed at the business. Another firm was
being scrutinized. The particular lawyer, I believe, at the SEC
then leaves the SEC and goes to work for that particular
company.
I do not believe that any SEC employee who has had a
responsibility over an enforcement action should be allowed to
go and work for that company in the next 2 years. What is your
opinion of that?
Ms. Schapiro. It is a very fair question. And the revolving
door is a problem for many agencies. It is a problem for the
SEC, certainly.
We are looking at a couple of different models. The bank
agencies have some limitations on your ability to leave the
banking agencies and go into a regulated institution for some
period of time. And so we are looking at those.
Here is my dilemma: I need to get the best and the
brightest to come to the SEC and do what we do. And I fear that
if I put too many limitations on their exits down the road,
they might not be willing to come in the first instance.
So I am acutely aware of the revolving-door problem, and I
would like to find a solution to it, and I haven't figured out
the correct balance yet. But I am committed to working on that.
Ms. Speier. Rating agencies: I was astonished to find out
that when they testified before our committee, they take the
information that the issuer provides them and do not do any due
diligence to determine whether that information is accurate or
not. So, question number one, should there be a higher
responsibility there?
Secondly, should there be some kind of liability that the
rating agencies incur when they rate an AIG as a AAA or a
Lehman at an A- and then 2 days later both of those
institutions are defunct.
Ms. Schapiro. Well, I will say that the SEC has very
recently done rules that require disclosure about the level of
due diligence that they engage in when they are rating
structured products, and the extent to which they go beyond
information they have been handed directly by the issuer. So
hopefully that disclosure will be helpful.
I think with respect to liability, I would speak for myself
and not for the SEC because I don't know the views of my
colleagues on this, that I think private liability could have a
very important effect on the quality of the efforts that rating
agencies are making.
Ms. Speier. My time has expired. Thank you, Mr. Chairman.
Chairman Kanjorski. The gentleman from Delaware, Mr.
Castle, for 5 minutes.
Mr. Castle. Thank you, Mr. Chairman.
Chairman Kanjorski, I have an op-ed that appeared in the
Financial Times, authored by Lawrence Mitchell, who is a law
professor at George Washington University. I ask that it be
entered into the record.
Chairman Kanjorski. Without objection, it is so ordered.
Mr. Castle. Thank you, sir.
It is entitled, by the way, ``Protecting Industry from
Predatory Speculators.'' And that, Chairman Schapiro, is what I
want to ask you about. And I want to cite from that article. I
won't read the whole thing; it is pretty long.
But in the article, he stated, ``In the first place,
shareholders are hardly an oppressed class. The beneficiaries
of shareholder access rules will be the pension funds and
mutual funds who hold billions of dollars of corporate stock.
True, they hold it on behalf of ordinary Americans, but the
managers of these funds have their own interests that often
conflict with those of their beneficiaries. Managers thrive by
increasing their portfolios value. That is a hard thing to do,
and it takes time. So, for years, fund managers have increased
their pay by putting pressure on corporate managers to increase
short-term stock prices at the expense of long-term business
health. Doing business that way puts jobs and sustainable
industry at risk, now and in the future.''
He goes on and says, ``For example, managers responded to
the pressure by using their retained earnings to engage in
large stock buy-backs. In the 3 years to September 2007,
companies in the S&P 500 used more money to buy back stock than
to invest in production. With retained earnings gone, all that
was left to finance production was debt. When the credit
markets collapsed, these corporations could not borrow and,
thus, could not produce. Are boards and managers to blame?
Sure. But so are the big shareholders who have been pushing
management for this kind of behavior for years. They are more
the problem than the solution. Enhancing their voting rights
will only make things worse.''
I would be interested in your comments concerning that
portion of his statement.
Ms. Schapiro. Okay. It is a great question.
My view on this is that, at the end of the day, the
shareholders are the owners of the corporations and ought to
have the ability to influence the election of directors in a
meaningful way. And you and I have had some limited discussion
about the Commission's new proposals on access to the proxy.
But that is what our goal has been, as we have proposed ideas
about which I expect we will get thousands and thousands of
comment letters. But it is a view that the shareholders of the
corporation are entitled to vote for directors who are
overseeing management and that we need to make that as
meaningful an opportunity as possible.
That said, there is clearly a lot of short-termism in the
perspectives of managers and boards and shareholders, which has
not necessarily been completely healthy for the U.S. economy.
One of the areas we see this particularly has been with
compensation plans that reward short-term risk-taking or reward
short-term results to the detriment of longer-term planning and
investment and R&D.
And through our new compensation disclosures proposals, we
are hoping to get at some of those issues in a very direct way
that will allow shareholders to see the benefits of
compensation plans that promote a longer-term perspective on
the affairs of the corporation and less short-term focus.
Mr. Castle. I, first of all, agree with your answer. I am
very concerned that, in the name of small shareholders, that we
are encouraging a lot of shareholder and proxy involvement when
it may not be beneficial, even to the small shareholders.
Obviously, a lot of the bigger shareholders are trying to drive
this, and I would hope that we keep that balance in mind. I am
aware that, you know, the stockholders are ultimately the
owners and should have some proxy rights and control. But, on
the other hand, we certainly don't want decisions being made by
corporations which could end up being counterproductive.
So I appreciate your answer. I hope we will keep an eye on
this as time goes by.
If I could just ask quickly, some would suggest that, if
that the SEC repealed mark-to-market accounting and reinstated
the uptick rule, that capital markets would return to normal.
Is this an oversimplification of a rather complex issue? And
your thoughts on those two subjects?
Ms. Schapiro. Yes, I would say it is rather an
oversimplification.
I think the uptick rule we are obviously exploring very
carefully. You know, when the SEC took the uptick rule off
several years ago, it was one of the most thoughtful, careful
rule-makings that probably had almost ever been done. There was
a pilot period, there were economic studies, there were
multiple roundtables held, there were, you know, comment
periods and so forth.
Nonetheless, the markets have changed rather dramatically
since that period of time, and investor confidence is something
we have to be very concerned about. And so, that is why we are
doing this very careful examination of the uptick rule. And I
am not clear at all, as I said before, where we will land with
that.
On the accounting issues, the SEC did a study at the end of
last year, before my time, on fair value accounting. And one of
the takeaways from it, while there were things to be tinkered
with around the edges, was that investors, who we very much
need in our marketplace and corporations need in order to raise
money, value fair value accounting. It is important to them in
making investment decisions. And the idea that we could
eliminate fair value accounting and solve our problems--I think
we would create many, many more problems down the road.
So I think the approach that has been taken with respect to
fair value, to provide interpretive guidance and other
assistance from FASB, I think has helped alleviate some of the
pressure on that issue.
Mr. Castle. Thank you.
And I yield back, Mr. Chairman.
Chairman Kanjorski. The gentleman from New Jersey, Mr.
Adler.
Mr. Adler. Thank you, Mr. Chairman.
Madam Chairwoman, for a number of years, predating your
time at the SEC, there has been some sense from the regulated
community that the Commission was very good at nitpicking and
not so good at catching some of the bigger things.
I don't want to refer specifically to the Madoff situation
because I think, for a number of years before that, there was
just a sense that personnel at the Commission were very good at
finding little detailed mistakes and doing enforcement with
respect to those detailed mistakes but weren't so good at
seeing the bigger problems that might be present there.
Do you have a sense of whether that is a fair criticism of
the Commission predating your time, whether you think it is an
ongoing program, and, if you think it is a problem, how you
think you can combat that?
Ms. Schapiro. I don't think it is an entirely fair
criticism. I think the agency, over the last several years, has
brought some very important and some very major cases, with
respect to the Foreign Corrupt Practices Act, with respect to
auction rate securities, insider trading, and so forth. So I
think they have done a great job in many areas.
That said, we are making it very clear now that our goal is
to refer to State regulators and to other self-regulatory
organizations cases that are not going to have a major investor
protection impact so that we can really focus our attention on
very high-impact cases done in a much more timely way, because
that is really how we protect investors. We shut down Ponzi
schemes faster, we end accounting frauds faster, we stop
insider-trading rings faster.
So we are trying to shift the focus to larger cases brought
more quickly, but I don't think it is entirely fair to suggest
that only small matters were brought before.
Mr. Adler. Thank you, Madam Chairwoman.
I hear you say it is not entirely unfair either, I think,
implicitly in your answer.
You had a colloquy a moment ago with the gentlewoman from
California regarding personnel and a revolving-door concern. I
wonder if, given the fact that Wall Street has something of an
unemployment problem right now, you are seeing an upturn in the
quality of resumes to look at some of those bigger issues that
you are describing the Commission doing such a good job
pursuing.
Ms. Schapiro. We absolutely have. And just to give you one
small anecdote, we posted several positions, I think four, for
risk assessment experts to come and join us, and we got over
500 resumes, some of which had just amazing experience on Wall
Street. So we are fully taking advantage of Wall Street's pain.
Mr. Adler. It is good, from a Commission point of view.
I heard another discussion you had with the gentlewoman
from California regarding rating agencies. And I want to make
sure I heard what you said, because I think I agree with you,
and I want to have you articulate it a second time.
Would you believe, from a personal perspective, Mary
Schapiro's perspective, that imposing liability upon rating
agencies would be a helpful check in the process of their
rating various equities?
Ms. Schapiro. I think it could certainly make a very big
difference. And we would obviously want to be careful in
crafting it. We want rating agencies to work; we want them to
work effectively. And we want them to align their interests
with those of investors. They are paid by issuers, but their
audience is the investing public. And that is what we need to
work on, incentives that will encourage that alignment much
more effectively.
Mr. Adler. I think you would agree with me that the three
rating agencies didn't work so effectively in the last year and
a half on some of the big failures where the market didn't have
the information that rating agencies perhaps could have shared
more accurately.
Ms. Schapiro. I would agree, they didn't work perfectly.
Mr. Adler. Are there other measures, other than what the
Commission has already undertaken, that you would recommend
that Congress consider, separate from the liability discussion
you had with the gentlewoman and with me, that might help
perfect markets which, right now, in a rating agencies context,
are clearly not perfect?
Ms. Schapiro. I would be happy to provide some additional
thoughts on that in writing or in a separate meeting.
As I said, we are looking at the rating shopping issues
from two different perspectives because we are very concerned
about that. We would like, I think, to move forward with more
complete disclosure of the track history of how ratings have
performed over time so investors can see basically the quality
of ratings and whether they measured up over time or they would
upgrade and then downgrade and how those were achieved.
So we are look at some additional disclosure, as well.
Mr. Adler. I know I would welcome and I believe the
subcommittee would very much welcome additional information,
additional guidance on that.
Ms. Schapiro. I would be happy to do that.
Mr. Adler. Thank you. I yield--
Ms. Schapiro. If I could just go back to your question on
the enforcement, because I do think it is important for me to
say: The Enforcement Division at the SEC is full of people with
tremendous energy and desire to bring cases. That is what they
are there to do, and they are committed to doing it.
And to the extent the Commission made that difficult for
them, they may have focused on some of the less significant
cases. But what I have found in my 5 months with just taking a
few of the handcuffs off, that they have really stepped up to
plate and done a phenomenal job.
And so I don't want anything I said to in any way suggest
that these aren't public servants who have been really knocking
themselves out over the last 10 years to try to do the best
they can for American investors.
Mr. Adler. I suspect your work just empowered them further.
Thank you very much.
Chairman Kanjorski. Thank you very much.
And now we will hear from the gentleman from Texas, Mr.
Hensarling.
Mr. Hensarling. Thank you, Mr. Chairman.
Madam Chair, welcome.
I believe that, in an earlier colloquy with one of my
colleagues, you articulated a concern that the proposal to
create a CFPA potentially could erode the investor protection
mission of the SEC.
I don't want to put words in your mouth. Did you say
something along those lines?
Ms. Schapiro. What I said was the transfer of SEC
enforcement responsibility to the CFPA would erode the SEC's
overall ability to protect investors and to keep our rule-
making and policymaking connected to the enforcement arm of the
agency, a linkage I think is--
Mr. Hensarling. And what would be the consequences of that,
ultimately, for the investing public, if Congress were to enact
legislation that ultimately had that result?
Ms. Schapiro. That took the SEC's enforcement authority
away?
Mr. Hensarling. Yes.
Ms. Schapiro. Well, I think what you would find is that,
over time, the rule-making function, which is often informed by
enforcement cases, would be damaged.
So, for example, when we bring enforcement cases because we
have found problems within a brokerage firm or an investment
adviser, the results of that enforcement directly inform the
policymakers about whether a new rule is necessary in a
particular area. And it works going back the other way.
I think of investor protection as all of a piece. It is
enforcement, it is examination, it is rule-making, it is the
accounting standards and the disclosure requirements. Those are
all part of the fabric of investor protection.
Mr. Hensarling. I believe you also said, or acknowledged,
that you believe there would be some areas of overlap with a
potential CFPA. What do you believe those areas of overlap may
prove to be, and what are your concerns in that regard?
Ms. Schapiro. I think the possibility--first of all, I
should say that, as the legislation is currently drafted, there
are actually some definitional issues that I think create
concerns.
Mr. Hensarling. Well, there are several different pieces of
legislation floating out there.
Ms. Schapiro. Well, the last one I saw talks about the CFPA
will not regulate entities registered with the SEC but have
virtually everything else. The concern of that is public
companies issue stock. That is very much an SEC-centered
function that we bring enforcement actions for. We would not
want to see this legislation preclude that, and I don't believe
that is what was intended.
But the areas I see where we have a potential are hybrid
products. Credit products are intended to be part of the CFPA.
There is a possibility for hybrids, I think, to be created.
Undoubtedly, as we sit here, a rocket scientist somewhere is
devising a product that will fall in an unusual place within
the regulatory regime. And so it will require a lot of
coordination, I think, to make sure that doesn't happen.
Mr. Hensarling. With respect to a hybrid product, some type
of investment product, isn't it true that an investment product
may actually lower risk for one investor, yet the same
investment product could increase the risk, depending upon what
investment portfolio the investor has, what his investing goals
are? Is that not true?
Ms. Schapiro. Sure. I mean, that is why the SEC's rules and
customer protection rules are really built on a concept of
suitability: that a broker recommending a product must make a
determination that product is suitable for that investor.
Mr. Hensarling. So, again, one product could be helpful to
one investor and may prove to be harmful to another investor.
That is why many of us have the concern that, under all of the
pieces of legislation we have seen with respect to the CFPA,
that we have a body that ultimately can proscribe and simply
outlaw certain consumer credit products. And so, again, I just
make the point that a consumer credit product may be right for
one consumer and may be wrong for another consumer.
Let's move on in the very brief time I have to executive
compensation. I believe I heard you say in your testimony that
it is an area, certainly, the SEC is moving. I know there are
at least two broad proposals that are out there. I think we are
in the comment period, I believe, on those.
My question is this: Has the SEC undertaken a study to look
at the compensation proposals of, say, JPMorgan, Bank of
America, Citi? And is there any data that indicates that the
compensation structures for those that were hardest hit by the
credit crisis were somehow different than the compensation
structures of those who navigated the crisis more successfully?
And, with the limited time I have, also with respect to the
firms that have returned their CPP money, were they judged to
have superior compensation structures than those that didn't
return their CPP money as of yet?
Ms. Schapiro. I am not aware of a study undertaken by the
SEC.
I do believe that compensation practices can contribute
very significantly to risk-taking within a company. But our
rules have been designed to get at the maximum clarity and
disclosure about how that happened. So we have already, and
have had for years under my predecessors, very complete
disclosure of compensation and a discussion by the compensation
committee about how they arrive at different kinds of
compensation programs within the company.
What we are proposing to do now is expand that disclosure,
to ask for a discussion by the comp committee about the linkage
between compensation programs and risk-taking and also to
disclose conflicts of interests of compensation consultants to
the board who may also be doing work for management.
Mr. Hensarling. Thank you.
I see I am out of time.
Chairman Kanjorski. Thank you very much, Mr. Hensarling.
And now we will hear from Mr. Himes of Connecticut.
Mr. Himes. Thank you, Mr. Chairman.
I have a couple of questions relating to a specific matter
I would like to submit for the record, if that is okay.
Chairman Kanjorski. Without objection, it is so ordered.
Mr. Himes. Thank you.
Madam Chairman, thank you for joining us. And I would like
to add my voice in praise for the efforts you have taken to
date.
I have two maybe paradoxical observations and questions.
The first is with respect to investor responsibility. And you
are going to hear me say momentarily how important I think it
is that we get the regulatory apparatus correct.
But I get concerned, frankly, as we talk about the
regulatory apparatus, that we may lose the critical concept of
the responsibility that investors have for understanding the
risk of the instruments that they employ. As we talk about
money market funds, which were never designed to be guaranteed
against the breaking of a buck, or about alternative
investments like the Bernie Madoff deal, I think it is critical
and the system will not work unless people understand that
unless their instrument says ``guaranteed by the Federal
Government,'' it is not and they can lose it.
And I guess I would just love to hear you say that this is
a thought and a concern of the SEC, as well.
Ms. Schapiro. It very much is.
This is a personal view. As a Nation, we don't do a very
good job educating, starting with our young people, about
investment and why it is important, what the risks are, and
what the individual's responsibility really is. And it is
something I hope that perhaps this Congress or another Congress
will take up in a serious way.
Mr. Himes. Thank you. I am sorry, but I have very limited
time, and I am actually more concerned about question number
two, which is: It staggers me, frankly, that the conclusions
drawn by this debacle often on the other side of the room are
that, because the regulatory apparatus failed, we should just
throw the enterprise over the edge.
It is dangerous, and it is ahistorical. The history of the
last 120 years in this country has been of a gradual
development of a regulatory apparatus that has protected
American families--120 years ago, Americans ate rotten fruit,
they burned to death in shirt factories that were not
regulated, they bought securities that would make Madoff look
easy, they bought snake oil. For 120 years, we have evolved a
regulatory apparatus that has dramatically increased the
quality of life and the safety of the American citizenry.
And the conclusion, therefore, that because we did it
wrong--and, boy, did we do it wrong in the last 4 or 5 years--
that we should just throw the enterprise away and leave
everything to individual responsibility is dangerous and
ahistorical.
We have talked a lot today about the rules and the changes
that have been proposed, but we haven't talked enough about the
topic that I would love to devote the rest of my time to
hearing you talk about, which is the culture of your agency.
We can get the rules right and everything else absolutely
right, but unless the SEC has an entrepreneurial culture, where
people feel like they can take some risk, where they can raise
their hand if they think that something is wrong, where they
think that they are adequately compensated for doing their job
well, we are going to fail.
So I guess I would love to, just in whatever remaining time
I have left, hear you talk about what your vision is for the
culture, the compensation of the SEC and its people.
Ms. Schapiro. It is a great question, and it is absolutely
fundamental to our being able to do any of the things that we
have laid out as being important.
And I would agree with you that writing rules is great and
bringing enforcement cases is great and necessary and getting
the structure right is necessary, but we have to be able to tap
into a deep well of energy and enthusiasm on the part of our
people in order to make any of that happen.
And I have to say, in my 5 months, I have been stunned by
the willingness of people, after a pretty long period of not
raising their hands and not taking risks, I have been stunned
by their willingness to do just that now.
And some of the cases I mentioned in my opening statement,
those are cutting-edge cases for the SEC. The willingness of
people to come up with new ways to approach problems like
Madoff, it gives us a list of actions that we have been able to
take very quickly to try to respond. It didn't prevent Madoff,
but hopefully going forward it helps us to prevent the next
one.
Those things are all important. And my experience, as
having been in and out of government my entire career, is that
if you entrust people with the ability to make those decisions
and do what they came to government to do, the results will be
pretty good. And I will tell you, in my 5 months, that is
exactly what I have seen at the SEC.
Mr. Garrett. I see the gentleman has time, but will the
gentleman yield?
Mr. Himes. I will yield.
Mr. Garrett. If the gentleman would please supply the
committee with which Members on either side of the aisle has
called for the entire scrapping of the entire system, I would
be curious. I think I have heard from both sides of the aisle.
Over here, Mr. Ackerman saying that Members from his
constituency having problems with the system. I have met people
from our side of the aisle saying they have problems with the
system and that we are trying to get the right regulation. But
if he has heard anyone say that they want to scrap the entire
system and go back to absolutely no regulation, I would
appreciate hearing from you, because I have never heard that.
And I yield back.
Mr. Himes. Thank you.
Mr. Chairman, I yield back the balance of my time.
Chairman Kanjorski. Thank you very much.
And now we will hear from the gentleman from Florida, Mr.
Putnam.
Mr. Putnam. Thank you, Mr. Chairman. I don't think I was
next in line.
I think the gentleman from California beat me here.
Chairman Kanjorski. Oh, he did? Well, we will withdraw your
recognition, and we will hear from the gentleman from
California for 5 minutes.
Mr. Miller of California. Well, thank you very much.
Welcome, Madam Chairman.
It was probably February last year I introduced an
amendment to one of the housing bills, and it required the SEC
and the Feds basically to look at the mark-to-market issue and
consider suspending mark-to-market or modifying it in some
fashion.
And it was funny, back then, many people you talked to,
when you mentioned mark-to-market, they kind of looked at you
like a deer in the headlights, like, what are you talking
about? I know Chairman Frank understood the issue, and the
committee accepted it on a voice vote. And I think it took me
three more times putting it in bills, and every time we would
put it in the bills, the Senate would pull it out of a bill and
not recognize the situations we are going through today.
And, according to the Feds, they give investors up to 90
percent of asset current market value today, and then the Feds
hold that asset and collateral in a non-mark-to-market account.
Is that correct?
Ms. Schapiro. I am sorry; I don't know the answer to that.
Mr. Miller of California. Okay. Have you been very involved
in the mark-to-market issue?
Ms. Schapiro. Well, I have been involved in the mark-to-
market issue from the perspective of FASB and the SEC's
oversight of FASB. And the SEC produced a report last year on
fair value of mark-to-market accounting, which led to FASB's
April guidance that was issued, with respect to how companies
should value assets for fair market purposes, meaning that it
is the price that you would get for an asset sold in an orderly
market as opposed to having to go with a fire sale price.
Mr. Miller of California. Okay. Under the terms and
conditions of the Taft program, it states, ``Taft loans will
not to subject to mark-to-market or remargining requirements.''
Is that correct?
Ms. Schapiro. I assume so. I am sorry, I just don't know. I
would be happy to provide information--
Mr. Miller of California. Having been involved in the real
estate industry for well over 35 years, you could see the
problems that lenders were facing with the mark-to-market
concept, especially in a declining market when you could not go
out and determine the value of an asset because there was no
market for the asset. Lenders not only made the loan, they were
setting up huge reserves for prospective losses or, in some
cases, losses they were taking on current foreclosures. It
created a situation where the market basically became illiquid.
It is an interesting marketplace we are facing today with
banks. It seems like the Feds have put a lot of money in the
banking industry today, and the banks are sitting on money. But
the anomaly of that is they are not making loans, and for the
average citizen who has money they want to put in a savings
account, banks don't want the money.
And so we have created an unusual situation that I think is
having a dramatic impact on the marketplace. And if you look at
how the mark-to-market has really had a negative impact on the
banks today as it applies to residential loans, I think you see
the same problem coming in the near future in commercial/
industrial loans.
Are you current on the situation that the market is facing
with those two areas?
Ms. Schapiro. Very generally.
Mr. Miller of California. We have experienced a huge
decline in the residential marketplace in the last 2 or 3
years. Probably by the fourth quarter of this year--and I have
been saying it for about 6 months now--you are going to see a
huge foreclosure hit on the commercial/industrial sector. But
the problem with that is the bottom to that trough is probably
not going to hit for 3 years.
So we have a situation now where banks are not lending,
they are not wanting loans because they have so many funds from
the Federal Government they are holding, and they are going to
be taking huge hits again on the commercial/industrial sector.
How are the revisions in the mark-to-market going to impact
them or benefit them in the future?
Ms. Schapiro. Well, I think the way that--they are really
two areas. One is the fair value guidance that was issued by
FASB that makes it clear they do not have to price assets at
fire sale prices, that they can use prices that would be
received in an orderly market. And the second is with respect
to other than temporarily impair, which allows the banks to
recognize fair value declines that result from volatility,
interest rates, liquidity, to include those in other
comprehensive income and not have to include them in any--
Mr. Miller. But how do the regulators apply this to the
holdings of the banks at that point in time?
Ms. Schapiro. I don't know how the bank regulators would
apply the accounting rules or use them with respect to their
capital requirements.
Mr. Miller of California. But don't you think that is
germane to what we are trying to deal with there? Or it is
going to be significant. If you have two agencies looking at it
from a different perspective, you trying to resolve the mark-
to-market issue in some limited fashion and the regulators are
looking at it from a different perspective, don't you think we
need to do something to get those two together?
Ms. Schapiro. Well, we do talk with the bank regulators on
these issues, and FASB has a very open door and an open line of
communication with the bank regulators on all these issues. So
for example, when the banks were going through their stress
tests they were utilizing information provided by FASB about
what might be expected in the future, for example, with respect
to off balance sheet accounting so that those tests could be
more comprehensive. So there is quite close communication.
Mr. Miller of California. I think Ranking Member Bachus and
Chairman Frank have a bill that they are putting on suspension,
it should be next week. And the banks are in a difficult
situation. They are having to take homes back, and then the
regulators are basically forcing them to put those homes in the
marketplace because of mark-to-market and liquidity and they
are sitting aside because they are nonperforming assets at that
point in time. And basically what the bill does is it says that
a lender can have up to 5 years that they can put the unit on
the market as a rental, thereby getting it off the declining
asset again, performing asset market, which would change the
mark-to-market value of it. Because in California, like San
Bernardino County--they are part of this--probably 78 percent
of the homes in the marketplace are distressed sales from
lenders. L.A. County is like 56 percent. Even Orange County,
which is a very good market, is about 43 percent. And dealing
with the same situation of trying to give them some relief
because the regulators are forcing the banks to put these units
out there instead of holding them because banks are really not
in the real estate business by law, but this gives them a 5-
year window to try to deal with it.
But I think the concern I have is that the regulators and
you might not be on the same page on this.
Ms. Schapiro. Well, I can tell you, as I said, we have
regular communication with the bank regulators with respect to
accounting issues. And I think they have obviously great
flexibility in the application of their capital requirements
for banks, greater flexibility than we have--
Mr. Miller of California. I hope they demonstrate their
flexibility in working through these difficult times.
Ms. Schapiro. I am sorry?
Mr. Miller of California. I hope they demonstrate their
flexibility in working through these difficult times. And I
thank you for your patience, Mr. Chairman. I yield back.
Chairman Kanjorski. Thank you, Mr. Miller. And now we will
hear from the gentleman from Michigan, Mr. Peters.
Mr. Peters. Thank you, Mr. Chairman. Thank you, Chairman
Schapiro, as well for your testimony here today. And I would
like to join others in applauding your efforts and appreciate
several of your comments.
One of your comments that I found particularly welcome was
that everything at the SEC now is related to investor
protection, and I appreciate that statement. And I believe it
has also been consistent with your record, particularly as head
of FINRA. I had the opportunity to be an arbitrator for a
number of years at FINRA and know that under your tenure that
organization continued to strive for excellence in protecting
investors. And in follow-up to my colleague here, Mr. Himes,
about investor education, I also had an opportunity to be part
of an investor seminar that FINRA hosted in my district not too
long ago to really work to make sure that investors understood
the risk related to investments and to make sound investment
decisions. And I know that occurred under your tenure so I
appreciate your efforts.
I also appreciated your comments to a question that at the
end of the day it is the shareholders who are the owners of
these companies. And in a capitalistic system of course it is
fundamental to capitalism that the owners have the ability to
exercise the authority that they have because of their
ownership interest of those organizations.
So my question is related to a speech that was given before
the Society of Corporate Secretaries and Governance
Professionals last month by Commissioner Walter. She discussed
the SEC's efforts to enact new rules to empower investors in
that speech. She specifically discussed proposed rules to give
shareholders access to management proxy materials for the
purposes of board elections, an SEC-approved rule on
unrestricted broker voting, and improved disclosure of
executive compensation and corporate governance. And in that
speech she stated that, ``legislation that reaffirms our
authority would remove the distraction of challenges to
authority that Congress had previously granted to the SEC.''
Do you also believe that it would be helpful for Congress
to provide specific statutory authority to the SEC as it
undertakes what I believe are very important reforms?
Ms. Schapiro. I do believe it would be helpful. The agency
has gone down these paths before and frequently been challenged
in court over these issues. And we may well be challenged this
time around, particularly with respect to proxy access.
So while we have gone ahead and done proposed rules that we
believe make sense, it would certainly not be harmful in any
way to have backstop statutory authority.
Mr. Peters. And in follow-up, are there other reform
measures with respect to corporate governance that you feel may
be important but would also explicitly require some statutory
authority on our part to assist you in these efforts? Maybe you
can answer broadly as to where you think we should be going,
but also where Congress can be helpful to you in those efforts.
Ms. Schapiro. Well, I think we are very focused right now
on the issues. We have outstanding access to the proxy, the
additional proxy disclosure requirements that we have gone
forward with. We will be looking later this year at disclosures
related to environmental issues as those become very, very
prominent topics of public policy and enormous costs for public
companies as they seek to meet different standards under
environmental legislation. We will be looking at those issues.
Again, those are disclosure related, so I don't think they will
require legislation. I know that Congress has talked from time
to time about whether there ought to be say-on-pay legislation.
The SEC has gone forward with rules that were required under
the Economic Stabilization Act to require say-on-pay advisory
votes for companies that are recipients of TARP funding, and it
would be a question whether say-on-pay should be extended more
broadly to other public companies although many of those
advisory votes are being done now pursuant to shareholder
proposals.
Mr. Peters. Thank you. Mr. Chairman, I yield back.
Chairman Kanjorski. Thank you very much, Mr. Peters. And
now we will hear from the gentleman from Florida, Mr. Putnam.
If you start talking very quickly, that is it.
Mr. Putnam. Thank you, Mr. Chairman. And I want to thank
the Chairlady. Let me begin with short sales. Your predecessor
suspended them in the beginning of the economic crisis. He
later stated that he regretted having done so and that the
costs outweighed the benefits.
What is your take on that?
Ms. Schapiro. Yes, Chairman Cox did make the statement that
it was one of the worst mistakes that he felt that they had
made. And I will say that what the agency did last fall was
done in a series of very quickly implemented emergency measures
of different sorts; banning short selling, along with a number
of other things. As we have reexamined short selling, we have
determined not to do it in any kind of an emergency context but
rather to do it in a very thoughtful deliberative rulemaking
process. So we published several months ago two different
approaches to not banning short selling but restricting short
selling.
One would essentially bring back a marketwide uptick rule
that would require that you could only short sell when the last
prior transaction was implemented on an uptick or an up bid.
The other is a very focused rule that would apply to individual
stocks but not across the whole market where if a stock
declined by say 10 percent in a day there might be a short
selling restriction for some period of time thereafter.
The comment period on those proposals closed on June 19th.
We have close to 4,000 comment letters that we are working our
way through. We also held a roundtable where we brought lots of
experts, investors, financial services firms, exchanges and
others in to talk about the impact on the markets of short
selling rules and the impact on investor confidence. We are
factoring all of that into our process and our thinking and we
have come to no conclusions yet about whether or not to go
forward.
Mr. Putnam. Let me jump ahead to money markets. One of the
most telling signs that we were in a noncyclical economic
crisis last fall was when a money market broke the buck and
another closed just before breaking the buck. Your new rules--
first of all, the additional government protection that has
been placed in the money market funds world, will that in your
view cause greater risk taking among the money market pool of
funds?
Ms. Schapiro. Well, that cover guarantee program, I
believe, expires in a couple of months. So what we have
actually seen, though, is given the events of the Reserve Fund
breaking the buck, money market funds actually tightened up on
their quality and liquidity and maturity standard. So they went
to higher quality, not lower quality, despite the presence of
the guarantee fund. And I don't know that the Fed and the
Treasury have come to any conclusion yet on whether or not to
extend that.
Our proposed rules are geared towards really bolstering the
resiliency of money market funds going forward, so they are
higher quality standards. We also propose that money market
fund boards of directors be able to suspend redemptions when a
fund breaks the buck as the Reserve Fund did so that all
shareholders will get equal treatment in the distribution of
assets rather than those who are just quick to the draw getting
in first when the fund has broken a buck and getting a higher
payout. And we have also asked for comments on whether money
market funds should move away from the $1 stable net asset
value to a floating net asset value that might cut down on the
chances for a run on money market funds.
Mr. Putnam. And finally, the regulatory reform bill package
that is being discussed, it is my understanding does not
include GSE reform.
Ms. Schapiro. No, that is right. I believe the decision of
the Administration was to engage in further study with respect
to the GSEs and come back to that issue later this year.
Mr. Putnam. Is it your view that these entities which hold
up to 50 percent of the mortgages in the country would need to
be part of a regulatory overhaul?
Ms. Schapiro. I think at some point we as a government are
going to need to address the future of the GSEs, yes.
Mr. Putnam. Thank you. Thank you, Mr. Chairman.
Chairman Kanjorski. Thank you very much, Mr. Putnam. Now we
have a request for a second round. I have passed, and Mr.
Garrett has passed, but we recognize the ranking member of the
full committee, Mr. Bachus, for 5 minutes.
Mr. Bachus. Thank you, Mr. Chairman. Recently FASB
announced some changes in the securitization accounting rules.
The Federal Reserve and other bank regulators have cautioned
that the rule changes threaten the viability of the Federal
Government's economic recovery plan because that plan is
partially dependent on restarting the securitization markets.
And there has been some comment and concern that the accounting
changes would actually throw into question the securitization
model that we have been using in the past.
Are you concerned about the timing of the scope of their
accounting rule changes, particularly given the emphasis that
the government and I think private economists have in
restarting the securitization market?
Ms. Schapiro. I should say as a prelude to that, that the
SEC is very interested in doing what we can to help assure a
vibrant asset-backed securities market. And we have made a
number of proposals that would require legislation that would
allow for a more continuous disclosure, and so forth, for
asset-backed securities. I think what FASB has done with
respect to off balance sheet is really very important. There
has been a conclusion or at least a view widely expressed,
frankly, by governments around the world that off balance sheet
accounting is a contributor to the financial crisis.
And so FASB and other accounting standard setters have
worked very hard to eliminate the exception that allowed a
company to remove financial assets from their balance sheet
when they transferred them to a special purpose entity even
though they retained an interest in the loans--in the cash flow
from the loans. And I think it was a very important gap for
them to close.
I recognize, and maybe there is never a good time for new
accounting standards to be put in place from the perspective
particularly of regulated entities, but I think it was a very
important gap that needed to be closed. It goes into effect at
the end of the year, and obviously we will watch it very
closely.
Mr. Bachus. Now, you are aware that the bank regulators and
the Federal Reserve has expressed some real concerns about it.
Ms. Schapiro. Well, I haven't heard that they had recently
expressed real concerns about it, although it doesn't
completely surprise me. We will certainly have conversations
with them.
Mr. Bachus. And when you do, when you talk to them could
you maybe, if you maybe respond in writing as to whether you
think that if they still have those concerns, if there is
merit.
Ms. Schapiro. I would be happy to.
Mr. Bachus. Okay. Thank you. You know, for the first time
in the SEC's history, your budget is likely to cross the $1
billion mark. And with all the current responsibilities you
have and the likelihood that you are going to have a greatly
increased number of entities subject to your Commission
oversight, you know, that is not surprising.
Do you think that the Commission can leverage the expertise
of the existing and potentially new self-regulatory
organizations to supplement its work? How do you perceive it?
Ms. Schapiro. Well, my bias is I come from a self-
regulatory organization where I spent 13 years. And so I think
self-regulatory organizations with close oversight from the
Federal Government, from the SEC in the case of FINRA or the
New York Stock Exchange or the Nasdaq Stock Market, with close
oversight can bring tremendous value to the protection of
investors, and in the case of exchanges the assurance of market
integrity.
So it is an area that we are willing to explore, because
even though our budget is growing we are likely to never have
all the resources we need to do everything we would like to do.
And the extent to which we can leverage SROs, accounting firms,
other whistleblowers, I am game to do that because I think it
will allow us to do a better job.
Mr. Bachus. And to focus on the Bernie Madoffs of the
world. Any specific ideas on where you might go with that?
Ms. Schapiro. Well, we have engaged in quite a lot of work
to try to be very responsive to the Madoff tragedy.
Mr. Bachus. No, I didn't mean the Madoff. I meant the
private, the self-regulator.
Ms. Schapiro. Again, I think the key to the success of
self-regulation is really vigilant oversight by the SEC, and it
is something that we don't have a self-regulatory organization,
for example, with respect to investment advisers. We have not
opined as an agency about whether that would be an appropriate
thing for us to do. But I think given our resources, we need to
consider every opportunity to leverage third parties.
Mr. Bachus. Could I have one more question, Mr. Chairman?
You know, for almost 30 years we have had a financial
products regulatory structure which is divided into two
categories, securities and futures, where you had two different
regulators, and I know there has been a lot of discussion about
where to go. I am not going to ask you whether you think we
ought to merge the CFTC and the SEC. I don't think you probably
want to volunteer your opinion on that, but if you do you are
welcome to. I know we are the only nation that still has
separate regulators. But given that there is a unique situation
which does present some regulatory challenges, do you--and you
are supposed to prepare, you and the CFTC are supposed to
prepare a report to harmonize the offering rules, the
regulations, and the regulatory approaches on securities and
futures. What are some of the challenges facing you with this
September 30th date coming up and do you think you are going to
be able to do it by the 30th? And I will throw in, and do you
think there ought to be one regulator? But you don't have to--
Ms. Schapiro. I have said that I believe there is a logic
and efficiency to merging the two agencies. I think we have
overlapping authorities, we have some arbitrary lines that have
been drawn between the agencies over many years, and I
absolutely understand the origins of all that. There would be a
logic and an efficiency. But if we are not going to do that
then it really does behoove the two agencies to work together
as effectively as we possibly can. And we are both, Chairman
Gensler and I, very committed to doing that.
As you point out, we have been charged with creating a
report on harmonization initiatives by September. We are well
into working through that and trying to identify those areas
where the agencies have different rules and requirements. It is
challenging in part because we also have very different
approaches to regulations and we grew up under very different
circumstances. CFTC largely regulates an institutional market
with a vertically integrated exchange and clearing structure.
We regulate largely retail markets with multiple exchanges and
clearinghouses that are not vertically integrated. And just
those two perspectives alone make this a challenge, but we are
working in good faith to get as far as we can in this process
of identifying the areas of difference.
Mr. Bachus. And if you can't make that deadline of course
you will ask for a--will you put--do you anticipate putting out
some agreement and then working towards other areas of
harmonization?
Ms. Schapiro. We haven't really talked through what we
would do if we don't make it on the theory that we have to put
the pressure on our staffs to see if we can make it, but my
guess is we would put out some kind of interim statement at
least about our progress.
Mr. Bachus. All right. Thank you very much. Thank you, Mr.
Chairman.
Chairman Kanjorski. Thank you very much, Mr. Bachus.
The Chair notes that some members may have additional
questions for this witness which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 30 days for members to submit written questions to this
witness and to place her responses in the record.
I will just take a moment. We normally dismiss the panel,
but thank you very much, Chairman Schapiro, for I think really
being forthcoming to the committee since your entry into this
position and working with us over the last 5\1/2\ months in a
very positive way. We look forward to a continuation of that
progress and want to thank you for being here. We thought we
would have you out before noon but it is pretty close, and for
government time that is very good.
Ms. Schapiro. Thank you very much.
Chairman Kanjorski. Thank you. The panel is dismissed, and
this hearing is adjourned.
[Whereupon, at 12:25 p.m., the hearing was adjourned.]
A P P E N D I X
July 14, 2009
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