[Senate Hearing 117-699]
[From the U.S. Government Publishing Office]
S. Hrg. 117-699
OVERSIGHT OF THE U.S. SECURITIES AND EXCHANGE COMMISSION
=======================================================================
HEARING
BEFORE THE
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED SEVENTEENTH CONGRESS
FIRST SESSION
ON
EXAMINING OVERSIGHT OF THE U.S. SECURITIES AND EXCHANGE COMMISSION
__________
SEPTEMBER 14, 2021
__________
Printed for the use of the Committee on Banking, Housing, and Urban
Affairs
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Available at: https: //www.govinfo.gov /
__________
U.S. GOVERNMENT PUBLISHING OFFICE
52-997 PDF WASHINGTON : 2023
COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
SHERROD BROWN, Ohio, Chairman
JACK REED, Rhode Island PATRICK J. TOOMEY, Pennsylvania
ROBERT MENENDEZ, New Jersey RICHARD C. SHELBY, Alabama
JON TESTER, Montana MIKE CRAPO, Idaho
MARK R. WARNER, Virginia TIM SCOTT, South Carolina
ELIZABETH WARREN, Massachusetts MIKE ROUNDS, South Dakota
CHRIS VAN HOLLEN, Maryland THOM TILLIS, North Carolina
CATHERINE CORTEZ MASTO, Nevada JOHN KENNEDY, Louisiana
TINA SMITH, Minnesota BILL HAGERTY, Tennessee
KYRSTEN SINEMA, Arizona CYNTHIA LUMMIS, Wyoming
JON OSSOFF, Georgia JERRY MORAN, Kansas
RAPHAEL WARNOCK, Georgia KEVIN CRAMER, North Dakota
STEVE DAINES, Montana
Laura Swanson, Staff Director
Brad Grantz, Republican Staff Director
Elisha Tuku, Chief Counsel
Dan Sullivan, Republican Chief Counsel
Mark Uyeda, Republican Detail
Cameron Ricker, Chief Clerk
Shelvin Simmons, IT Director
Charles J. Moffat, Hearing Clerk
(ii)
C O N T E N T S
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TUESDAY, SEPTEMBER 14, 2021
Page
Opening statement of Chairman Brown.............................. 1
Prepared statement....................................... 37
Opening statements, comments, or prepared statements of:
Senator Toomey............................................... 3
Prepared statement....................................... 38
WITNESS
Gary Gensler, Chair, U.S. Securities and Exchange Commission..... 5
Prepared statement........................................... 39
Responses to written questions of:
Chairman Brown........................................... 46
Senator Toomey........................................... 46
Senator Menendez......................................... 59
Senator Cortez Masto..................................... 60
Senator Sinema........................................... 60
Senator Scott............................................ 61
Senator Rounds........................................... 64
Senator Tillis........................................... 66
Senator Kennedy.......................................... 74
Senator Moran............................................ 77
Senator Daines........................................... 84
Additional Material Supplied for the Record
Letter from American Securities Association...................... 86
(iii)
OVERSIGHT OF THE U.S. SECURITIES AND EXCHANGE COMMISSION
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TUESDAY, SEPTEMBER 14, 2021
U.S. Senate,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Committee met at 10:06 a.m., via Webex and in room 538,
Dirksen Senate Office Building, Hon. Sherrod Brown, Chairman of
the Committee, presiding.
OPENING STATEMENT OF CHAIRMAN SHERROD BROWN
Chairman Brown. The Senate Committee on Banking, Housing,
and Urban Affairs will come to order. This hearing is in a, our
first time, a hybrid format. Our witness is in person. Mr.
Gensler is here in person. Thank you. Members have the option
to appear both in person or virtually.
For those joining remotely, a few reminders. Once you start
speaking there will be a slight delay before you are displayed
on the screen. To minimize background noise, please click the
Mute button until it is your turn to speak or ask questions.
You should all have one box on your screens labeled ``Clock''
that will show how much time is remaining. For those of you
joining virtually, you will hear a bell ring when you have 30
seconds remaining and then when time has expired. If there is a
technology issue we will move to the next Member.
Our speaking order will be as usual, that is by seniority
of the Members who have checked in before the gavel came down,
either in person or virtually, and then by seniority of Members
arriving, alternating between Democrats and Republicans.
Welcome, Chair Gensler, back to the Committee. Five months
ago today, the Senate confirmed you as Chair of the Securities
and Exchange Commission, one of the historically most important
jobs in the Federal Government. I know you have already gotten
to work for the American people, and you had your work cut out
for you.
Over the past year-and-a-half, the disconnect between the
stock market and most Americans' lives has never been more
painfully clear. Most of the country has been devastated by
this awful virus. Hundreds of thousands have lost loved ones.
People lost jobs, lost family businesses. Mothers were forced
to leave their paid jobs in droves. Millions today are at risk
of evictions from their homes.
But you would never know any of that by looking at the
stock market. It hits new records month after month. Listen to
this: 53 records since the beginning of the year. Eye-popping
gains in the stock market and crypto assets attracted millions
to start investing.
And like during past times of upheaval, the COVID crisis
opened the doors for bad actors looking to seize upon people's
fears and insecurity. Pandemic-related fraud, from Ponzi
schemes to offers to invest in COVID-related medical care,
skyrocketed last year.
The SEC stepped up to educate investors and to punish bad
actors. The dedicated public servants at the Commission have
continued to fight for all the Americans whose pensions and
401(k)s and college savings are at risk. Many have been enticed
by dramatic jumps in the value of new digital assets. They have
dreamed of riding the coattails of professional investors and
celebrities in a new wave of public offerings of more
speculative investments known as ``special purpose acquisition
companies,'' or SPACs.
Some professional investors and celebrities make earning
millions look easy. But as we are reminded time and again
through history, it is never that simple. Too often, someone's
quick profit comes at the expense of workers, sometimes even
entire communities.
Chair Gensler, it is your job to make sure that efficient
markets are balanced with strong enforcement that protects
Americans from the worst Wall Street greed and careless risk,
even if that means challenging practices or shady investment
products that previous chairs had ignored. It means working to
increase transparency that the last Administration simply did
not take seriously. We all know that on this Committee. For
example, the SEC approved new human capital disclosure last
year without requiring companies to provide even basic details
or data. ``Just give us some information,'' we almost
disdainfully said. And let's remember, ``human capital'' is
business school-speak for the tens of millions of Americans who
work for these companies.
Despite the new standard and the investor demand for
essential information used to judge how companies treat and
manage these workers, most companies are barely providing any
additional information.
My colleagues have been working to improve transparency.
Senator Warner of Virginia introduced the Workforce Investment
Disclosure Act to get companies to provide important
information on how they pay, train, and invest in their
workers. His bill will shed light on how companies outsource
and subcontract their workers, such an important part of our
economy now, and something he and I have jointly written to the
GAO about.
Today's tech companies like to say they are more
``efficient'' than companies of the past, when in reality they
hire the same number of workers. Half of them are just
invisible to us under today's disclosure requirements.
Senator Warren of Massachusetts introduced the Climate Risk
Disclosure Act, calling for significant new public disclosures
from public companies regarding the risks climate change poses
to their financial results and to their operations.
These bills are good policy. The largest investors have
been calling for more of this kind of information. I am a
cosponsor of both bills.
Of course this would be just a start. Transparency is only
a first step to getting corporations and the biggest investors
to behave better. There is much you already have the authority
to do to make markets work better for the real economy, outside
of investment firm and hedge fund board rooms.
For too long, the financial system has catered to the big
guys, and left everyone else on their own. There are far too
many stories of how insiders game the system. Big banks abuse
customers while they make record profits. Brokers who have
taken advantage of customers use the system to cover up and
erase their misconduct. Private equity firms buy up companies
and treat workers as a cost to be minimized. Workers as a cost
to be minimized--where have we heard that before? They buy up
houses, they raise rents, they evict families, even during a
pandemic.
And of course no matter what happens to the workers at the
companies they have raided for parts, or to the families in the
mobile home complex where they have jacked up the rents, or to
the larger economy, the big guys--the hedge funds, the SPAC
sponsors, the big banks, the brokers--the big guys seem to do
just fine.
That system is not sustainable.
Increasing people's trust and faith in the market and the
financial system will lead to more saving and broader
participation. Yet some of my colleagues say we should let the
market sort it out. They want to tie the SEC's and other
watchdogs' hands.
We know that is counterproductive. It is the same thinking
that led to a market collapse 13 years ago, and that has led to
decades of more and more investment flowing to a smaller and
smaller share of the country.
The last Administration subscribed to that same always Wall
Street-first view, and left this country worse off than they
found it. The damage is too vast to measure. Our economy and
markets were no exception.
Investors have fewer tools to hold management accountable;
savers--and that means retirees, widows, families--have fewer
protections. And corruption runs rampant; existing, serious
conflicts of interest have too often been ignored.
This Administration is taking a different view, thankfully.
The economy and the markets should work for everyone, not just
the well-connected. They should reflect the economy we all
want, with broadly shared prosperity, and a growing middle
class that all workers can join.
When that happens, people will have confidence that markets
will actually work for them, not just Wall Street. And we will
see more Americans save, and we will see more Americans invest
for the future.
Chair Gensler, I look forward to hearing about the progress
you are making toward those goals.
Ranking Member Toomey, welcome.
OPENING STATEMENT OF SENATOR PATRICK J. TOOMEY
Senator Toomey. Thank you, Mr. Chairman. Chair Gensler.
Welcome back. It is good to see you, despite our significant
disagreements. I do appreciate your dedication and enjoy
working with you.
As you know, the SEC has historically administered
securities laws on a bipartisan basis, generally. During your
confirmation process, I expressed concerns that you might stray
from this tradition and use the SEC to advance a liberal
political agenda, such as combating global warming and
advancing so-called social justice, and push the legal bounds
of the SEC's authorities to pursue disclosures that are not
financially material to the reporting companies. Unfortunately,
this appears to be exactly what you are doing.
You have added mandatory disclosures on global warming and,
quote, ``human capital,'' end quote, such as board and employee
racial and gender identity, to the SEC's agenda. You have
essentially said that if large investment advisors and pension
funds like BlackRock and CalPERS, who invest other people's
money, if they want information about global warming or
workforce diversity, it must be disclosed even if it is
financially insignificant and irrelevant to a particular
business.
Even President Obama's SEC Chair, Mary Jo White, opposed
using the SEC's disclosure powers for the purpose of, quote,
``exerting societal pressure on companies to change behavior,
rather than to disclose financial information that primarily
informs investment decisions,'' end quote. That is exactly what
you are doing, and you are also well on your way to
politicizing the PCAOB after firing all of the existing board
members.
See, it is not the SEC's role, nor its expertise, as an
independent financial regulator with zero democratic
accountability, to address these political and social issues.
Similarly, I have worried that you would favor the
paternalistic push by some on the left to restrict investor
freedom under the guise of protection, while actually harming
retail investors. Such harm may result from your apparent
opposition to payment for order flow, which helped allow
brokers to offer commission-free trading. Payment for order
flow allows a broker to keep a portion of the price improvement
obtained by routing a transaction to a wholesaler. To my
knowledge, the SEC has not demonstrated any failure or harm
associated with payment for order flow, which the SEC has
allowed for many years. Banning payment for order flow could
very well have the effect of eliminating commission-free
trading, which would be a grave disservice to average
investors.
Likewise, you have criticized mobile apps that make
investing easy and fun as, quote, ``gamification,'' end quote.
But in my view, delivering a product that customers like is not
a bad thing.
And I worry that you are attempting to fix problems that do
not exist. Today is the best time ever to be a retail investor
in the United States of America. Retail investors receive the
best execution. A person of modest means can share in the gains
of stock market at negligible transaction costs. We see the
tightest bid/offer spreads ever.
At least four major developments for retail investors made
this all possible--commission-free trading, accounts with no
minimum balances, low- or no-fee mutual funds and ETFs, and
yes, user-friendly technology like mobile apps. Hence,
investors can also voluntarily use a broker who declines
payment for order flow but may, therefore, charge a commission.
Now despite decades of rapidly growing numbers of retail
investors participating in stock market gains, and enjoying
more product opportunities at lower costs, some of my
colleagues suggest that the markets are somehow rigged against
retail investors. I would like to hear how it is rigged. Don't
retail investors receive dividends like institutional
investors? Aren't retail investors entitled to best execution,
like institutional investors? Don't the value of retail
investors' shares and those of institutional investors both
increase when a stock's price increases?
In my view, the SEC's job is not to make retail investing
more expensive, or unpleasant, and difficult. In America,
adults investing their own money should be free to decide how
to do so.
Let me turn to cryptocurrency, which together with the
blockchain technology is a very, very important and very
promising new technology. As you know, cryptocurrencies are
actively traded on many platforms. A really important question
is whether a cryptocurrency is a security for regulatory
purposes under Howey or some other test.
Now based on your public statements, it is pretty clear
that you believe that some are securities but others are not.
So, I am frustrated by the lack of helpful SEC public guidance
explaining how you make this distinction. What makes some of
them securities while others are not securities?
I understand that the SEC staff will privately provide
feedback and analysis on whether a cryptocurrency is a
security, but why keep this analysis private? Why not publicly
announce what characteristics make a cryptocurrency a security
or not a security? In other words, how do you apply Howey and
the Reves tests to these new products? Why wait to make the
SEC's views known only when it swoops in with an enforcement
action, in some cases years after the product was launched?
This is regulation by enforcement, and it is extremely
objectionable, and I am concerned it can stifle domestic
innovation.
So, Mr. Chairman, I hope we will get a better understanding
of your views on these and a number of other issues. There are
many things on which you and I agree and where we could work
together to protect investors, to ensure fair, orderly, and
efficient markets, and facilitate capital formation. I hope
that we can work together on these really important parts of
the SEC's mission.
Chairman Brown. Thank you, Ranking Member Toomey.
Today we will hear Securities and Exchange Commission Chair
Gary Gensler, no stranger to this Committee. This is Chair
Gensler's first appearance here in this role. Chair Gensler,
please proceed.
STATEMENT OF GARY GENSLER, CHAIR, U.S. SECURITIES AND EXCHANGE
COMMISSION
Mr. Gensler. Good morning, Chairman Brown, Ranking Member
Toomey, and Members of the Committee. I am honored to appear
here before you today for the first time, as you said, as Chair
of the Securities and Exchange Commission, and I would like to
thank you all for your support in my confirmation this spring.
I would also note I think, Chairman, you may be the eighth
chairman that I have appeared before in this Committee. I am
aging myself a little bit, but I think Chair D'Amato might have
been the first that I was in this Committee room.
As is customary, I should note that my views are my own. I
am not speaking on behalf of my fellow commissioners or the
staff.
The U.S., as Ranking Member Toomey said, is blessed with
the largest, most sophisticated, and most innovative capital
markets in the world. We actually represent 38 percent of the
world's capital market, and that is when we are only about 23
percent of the world's economy. They are competitive. They are
efficient. They are transparent.
But I think we cannot take our remarkable capital markets
for granted. New technologies continue to change the face of
finance for investors and businesses, and more retail investors
than ever are accessing our markets. Our country and other
countries are also developing deep competitive capital markets
as well. And though I provide greater detail in the written
technology, I would just like to flag three areas for now.
First is market structure. Market structure is fundamental
to our mission, to protect investors, on the other side,
facilitate capital formation, that which is in the middle,
fair, orderly, and efficient markets. How do we do that? It is
through transparency and competition in those markets.
So I have asked staff to take a look at a number of market
structures. The Treasury market, that is the base of all other
fixed income markets. The non-Treasury fixed income markets,
corporate bonds and municipals, which, by the way, in the U.S.
are twice to 2.5 times the lending out of banks are loaned
through our capital markets. Our equity markets and securities-
based swaps as well. In each of these crucial markets I think
companies and investors alike benefit if we can increase
competition, lower costs, and bring more transactions out of
the dark.
Second is a rapid change in technology. We are living in a
transformational time, perhaps as transformational as the
internet itself. Now I expect some Members might ask a question
or two about crypto, but actually the first thing I just want
to mention is artificial intelligence. AI, predictive data
analytics, and machine learning are shaping and will continue
to shape many parts of our economy, and while these
developments, I believe, can increase access, increase choice,
and lower costs, they also raise new questions about potential
conflicts, biases in the data, and yes, even systemic risk.
And now, for the crypto, because I know that you are all,
you know, keenly interested. We just don't have, I believe,
enough investor protection in crypto--finance, the issuance of
these tokens, the trading, and particularly the lending.
Frankly, as I have said before, I think it is more like the
Wild West. I have asked the SEC staff, working with our fellow
regulators--the Commodity and Futures Trading Commission, the
bank regulators, the Treasury as well--using our current
authorities, how can we best bring investor protection to these
markets? I stand willing also to work with this Committee and
other committees of Congress if you take up any legislative
initiatives.
And then third, issuer disclosure. You see, since the
1930s, we have had a basic bargain. Investors get to decide
what risks they take. That is up to the investors. But Congress
said that it should be based on full and fair disclosure of the
issues. Over the decades we have updated what those disclosures
are, and today's investors are increasingly looking for
consistent, comparable, and decision-useful disclosures around
climate risk, so-called human capital, cybersecurity, and other
areas.
So I have asked staff to develop proposals for the
Commission to consider these potential disclosures, and yes,
put these proposals out to public comment, put rigorous
economic analysis again, and what it is that investors want to
see and have the public comment.
Beyond these policy areas, the SEC employees oversee 28,000
registered entities, more than 3,700 broker-dealers, and 24
national security exchanges. You have got the picture. A lot
going on in our capital markets--$110 trillion capital markets.
Last month, we authorized voluntary return to work, but we
have been largely remote for 18 months now. This speaks to the
dedication of the SEC staff. I cannot compliment them enough.
And while capital markets have grown, the SEC has not grown to
meet the needs of the 2020s, though. Over 5 years ago we were
about 4 or 5 percent bigger, and so I just think that it would
be helpful to be a little bit wise and add to our staff. I hope
that you can agree with me on that.
Thank you. I look forward to your questions.
Chairman Brown. Thank you, Chair Gensler. How a company--as
we have discussed, privately, and you have spoken publicly--how
a company treats its employees matters. The SEC can require
companies to disclose that information, but instead of crafting
a rule that would provide information and data that could give
real insight, the last SEC chair wrote a vague rule that
companies can interpret to require as much or more of, and as
little information as they like. That lets companies say they
pay their workers a living wage with ample paid leave and
retirement contributions while subtracting out half their
workforce while subcontracting out half their workforce to
companies that pay lower wages with stingy benefits. We know
that is a business model for many companies.
Why is it important to have disclosures standards that are
consistent and comparable across companies?
Mr. Gensler. I think that investing in a company, the human
capital, the workforce, is a key asset. I remember when I
started on Wall Street at Goldman Sachs and we used to sell
companies. And when we sold companies we would always have a
section in that private offering memo about the employees--what
they are paid, how many part-time and how many are full-time,
where they are located, retention, and the like. It is even
more important in the 2020 than when I was young on Wall Street
because it is so critical to the valuations of the company.
Now again, we will put to this out--if my fellow
commissioners concur, we will put it out to public comment and
see what investors have to say, and then their feedback is
going to guide us on any final rulemaking.
Chairman Brown. I think it is pretty clear investors are
going to want more information, like you suggest, in your
Goldman days.
We have talked before about how Wall Street has treated the
markets as a game for decades, a game they always seem to win
at the expense of pretty much everyone else, including
communities in Wyoming and Louisiana and Rhode Island and Ohio
and Pennsylvania. SPACs, for instance, draw in companies that
want to please Wall Street, sometimes make promises that they
cannot deliver on. Look at Youngstown, Ohio. There is a lot to
unpack with what is happening at Lordstown Motors, whether or
not the company is only able to succeed, and I hope it does. It
seems clear there were outside investors looking at this not as
a long-term investment in a community with a proud
manufacturing heritage and a talented workforce but as a way to
make a quick buck with no follow-through.
There will always be people, of course, like that, but that
does not mean we need to encourage risky financial mechanisms
to encourage speculation over a long-term investment.
In a situation like that one, investors make their money
and pull out, companies break promises, and workers and
community pay the price. What are the risks, Chair Gensler,
that the SPAC market has highlighted over the last year and
what can we do about it?
Mr. Gensler. I think the special purpose acquisition
companies, these blank check companies, the risks are to
investors and the disclosure to the investors. I have asked
staff to serve up recommendations that we could consider as a
Commission. But in essence there are a lot of costs in these,
and second, they usually have a 2-year fuse, and in that 2-year
fuse they try to go out and buy something. And a lot of the
institutional investors, when that happens, sell--it is called
a ``redemption right''--and retail investors are often left
holding the dilution or the significant cost of the bankers and
the promoters.
So we are looking at greater disclosure and also looking at
if there are inherent conflicts along the way, and then again,
try to put this out to notice and comment and rulemaking.
Chairman Brown. Thank you. My last question. It has been 11
years since we passed Dodd-Frank. The rules and executive
compensation, as you know, remain unfinished. We have seen
executive compensations soar. We have watched executives leave
with huge bonuses after presiding over fraud and scamming
customers. The phrase ``golden parachute'' has become a cliche.
It is that commonplace.
Why is it important to have strong rules to claw back
incentive-based compensation when executives got that
compensation by breaking the rules, and disclose the
relationship, how important it is to disclose the relationship
between executive pay and financial performance?
Mr. Gensler. Let me break it in two things. For the SEC, it
is important to move forward because this Committee and then
the whole Congress, with the President, put it in law, and it
is a mandate that we shall follow. I remember being a staffer,
sitting on the other side for Senator Sarbanes. I know that
that is how he felt.
But too, in terms of the substance, I think why Congress
addressed this and put it into law is that if there a material
misstatement or omission in the financials, and those
financials need to be restated, then the executives should not
benefit. And there is a certain number of years, a lookback
period, a clawback period that Congress said, well, then you
should give up the performance-based compensation, if it was
based upon faulty numbers.
Chairman Brown. Thank you. Senator Toomey.
Senator Toomey. Thanks, Mr. Chairman. Chairman Gensler, one
area that appears to have nearly universal agreement is the
benefit of a faster settlement cycle for equities securities.
As you know, market participants seem to be confident in a T+1.
My understanding is that you support these efforts. I
appreciate that. I would just encourage the SEC to move ahead
as quickly as reasonably possible so that that can proceed.
I also think there is widespread support for fixing the
money market fund rule by removing the link between the 30
percent weekly average liquidity and the possibility of
imposing fees and gates. You and I have discussed this. I do
not think there is a need for regulatory reforms that would
eliminate or reduce the viability of money market funds as an
investment, but improving this regulation would reduce the risk
that I think the regulatory regime imposes now.
I am concerned about the SEC not adequately fulfilling its
capital formation mission. Last year's appropriation law
instructed the SEC to deliver two reports to Congress by the
end of June, which would help benefit small public companies.
These reports are now past due. I certainly hope the SEC will
submit those reports promptly.
And you testified to the House that the SEC would have a
report on GameStop and Robinhood by this summer. That report
has not been produced yet. We have got a week left in the
summer. I do certainly hope that we will see it soon.
Now let me turn to cryptocurrencies, and my time is limited
so I am going to try to do this as efficiently as I can, Mr.
Chairman. But I think I know your position, among other things,
is that not all cryptocurrencies are inherently securities.
Right? That is true.
Mr. Gensler. There are a small number that are not, but I
think that as Chair Clayton said when he was in front of
Congress, I think very many of these facts and circumstances
are investment contracts.
Senator Toomey. So here is my concern. So some are and some
are not, is basically what you are saying, and I am concerned
that the SEC has not provided sufficient definition and
explained how it would apply the Howey test, which I think is
the court standard for determining when something is an
investment contract.
So, for instance, stablecoins do not have an inherent
expectation of profit. They are just linked to the dollar. Now
you might use them in an attempt to make a profit, but that is
a second-order activity. Is it your view that stablecoins
themselves can be securities?
Mr. Gensler. I think, Senator, they may well be securities.
As Thurgood Marshall wrote in the Reves opinion, in defining
the scope of the market that it, Congress, wished to regulate,
Congress painted a broad brush. And it actually included about
35 different things inside the definition of a security in the
33 Act.
Senator Toomey. OK. I have just got limited time here, so I
acknowledge that. Here is my problem, though. I think what you
just said was that they may be securities, or that some are
securities. To me, a stablecoin does not meet the second prong
of the Howey test, that there has to be an expectation of
profits from the investment. And so if it does not meet the
Howey test it looks to me like it is not a security.
Now maybe you have got a good argument for why some are and
some are not. My whole point is I think we need to have clarity
on this. I think you should publicly disclose this. Apparently,
there are private conversations where you work with people who
are proposing particular structures and you give them advice,
your staff gives them advice. I just think we ought to have
that publicly, and we certainly should not be taking
enforcement action against somebody without having first
provided that clarity.
Mr. Gensler. Well, Senator, this Congress could change the
laws, but the laws that we have right now have a very broad
definition of security, including a note, including an
investment contract and the like. And my predecessor, Chair
Clayton, and others actually put out a lot of guidance with
regard to the Howey.
Senator Toomey. I have just got to push back a little bit
on that. It is broad but it is well defined. There is a very
specific litany of the instruments that constitute securities,
and you know this better than I do. Investment contract is one
of them. And there is a court decision that lays out the prongs
for what constitutes an investment contract.
I am just saying, as a layman who can read English, when I
read those tests, stablecoins do not seem to meet that test, to
me. Maybe I am wrong, but if I can misinterpret this I think
others could too, and some clarity, public clarity I think
would be helpful.
Mr. Gensler. I see the red light, but I agree with you that
some of these tokens have been deemed to be commodities. Many
of them are securities. And the Supreme Court has weighed in a
number of times. You noted the Howey test. We have talked about
the Reves test, which was in the 1990s, as well, as weighed in.
And I think that there is a fair amount of clarity.
Over the years, the SEC has even found, believe it or not,
whiskey caskets, and the courts agreed, in the 1960s, were
investments. And I think at the heart of our securities laws
was protecting investors against fraud. They get to decide.
They get to take the risk. You will find I am not negative or a
minimalist about crypto. I just think it would be best if it is
inside the investor protection regime that Congress laid out.
Senator Toomey. I see my time has expired, Mr. Chairman.
Chairman Brown. Thank you, Senator Toomey. Senator Reed
from Rhode Island is recognized.
Senator Reed. Thank you, Mr. Chairman, and welcome, Mr.
Chairman. Cybersecurity is one of the greatest threats that we
face, both as a national security threat and also as an
economic threat. And in 2018, the SEC issued guidance with
respect to public companies. I have been trying, over the last
several years, to enact legislation. Senate 808, the
Cybersecurity Disclosure Act, was very simple. It would require
a public company to disclose whether they have a cyber expert
on their boards, and if not, why not, i.e., they have other
means to compensate.
In fact, we did precisely that when it came to financial
experts. We do require a financial expert on the audit
committee or an explanation why they do not have one.
Do you believe that the framework in S. 808 would be
appropriate for dealing with cyber?
Mr. Gensler. Senator, I thank you for highlighting that and
our conversations over the last couple of months. I have asked
staff to take up two initiatives on cyber, one, company
disclosure and one with regard to funds, the investment funds.
And on the company disclosure side I have asked them to look
very closely at your bill and see whether we would not only
potentially include that as a recommendation but also some
other issues around, I will call it, cyber hygiene, and then
second, incident reporting. When you do have an event or pay
ransomware, for instance, when does one report. And that is in
the, you know, 6,000 or 7,000 public companies, and then
separately we are looking something around funds, the
cybersecurity of the investment management field.
Senator Reed. Thank you, Mr. Chairman, and I would
encourage you to continue to pursue this, and would very much
like to see my legislation become law and your regulations
become adopted. So thank you.
Another issue that has come up, we are all very happy about
the increased retail participation in the stock market. There
are a lot of people who never owned stocks before that are
buying stocks. And some of it is the result of discount brokers
offering zero commissions, aggressively marketing, et cetera.
But there is another aspect of this, and that is the
payment for order flow issue, where a lot of these brokers have
essentially deals with high-frequency trading firms in exchange
for rebates, and they will send their orders to these firms.
And the question is, is the owner of the security getting the
best deal, or is the intermediary getting a lot of money? And
it looks like there is a disconnect there, an inherent conflict
of interest, I think you described it recently.
So are you trying to move forward efforts to evaluate this
practice of payment and see if it is fair to the consumer?
Mr. Gensler. We are. I have asked staff to take a look at
this. It has been about 16 years since we did a major rewrite
of the national market structure, and I think the inherent
conflicts of payment for order flow and rebates on the stock
exchanges both may make our markets less efficient. And this is
important for capital formation and it is important for the
retail investors, that all three Senators have already raised,
is that retail investors may not be getting best execution,
even if they get a price improvement, but there it is price
improvement versus sort of an out-of-date measuring rod. And if
you measure against the wrong measurement stick it does not
mean you are getting best execution.
So we are looking out for retail investors. If anybody on
this Committee or staff, legally, traded in the retail markets,
there is like a 97 percent chance that it does not go to a
transparent exchange. It goes to the dark markets or the
wholesalers. And so it is harder to get best execution when you
are not competing order to order.
So I am like deeply a markets person and believe in the
competition of markets to bring those orders in competition.
Senator Reed. Well, thank you, Mr. Chairman. You mentioned
in your opening remarks that one area you are looking at is the
Treasury market, and I think that is critical. As you know, in
March 2020, there was a free seizure of the market, not by
opponents but the whole market sort of seized up for a moment.
And a volatility in the Treasury market is very much a danger
to the entire economy.
And so I would ask that you continue to look very closely
at the Treasury markets. I know we have tried to learn lessons
from March 2020, but I do not think we fully learned all the
lessons and incorporated them in action.
Mr. Gensler. I agree with you, and it is one place I hope
that there is maybe even more bipartisanship. I am working
closely with Chair Powell at the Federal Reserve, closely with
Secretary Yellen and her team to try to bring more resiliency,
safer Treasury market, but also more competitive, that we might
lower the cost to all of us, the taxpayers. Because we are the
issuer in that sense.
Senator Reed. Thank you, Mr. Chairman. Thank you, Mr.
Chairman.
Chairman Brown. Senator Kennedy is recognized.
Senator Kennedy. Thank you, Mr. Chairman. I read your
editorial in the Wall Street Journal today about the Holding
Foreign Countries Accountable Act. For what it is worth, I
agree with most of it. It is a damn good bill, by the way, if I
may say so.
Mr. Gensler. I want to thank you. I think it helps us do
our job, both at the SEC and at the Public Company Accounting
Oversight Board.
Senator Kennedy. I appreciate that. I agree with you,
obviously.
There was a 3-year implementation period, as you know.
Foreign companies, including our friends in China, have 3 years
to comply. The Senate has passed a bill reducing that to 2
years. We are having a little trouble getting the House to take
it up. Would you be willing to contribute your considerable
efforts to encouraging the House to take it up?
Mr. Gensler. Senator, I have already had some discussions
and expressed to some of the leadership over there that I
support that.
Senator Kennedy. OK. Who pays corporate income taxes?
Mr. Gensler. Senator, it is the corporation that pays the
taxes, of course, then ultimately the owners of those
corporations are the shareholders.
Senator Kennedy. Corporations just is not a payer. It is a
tax collector, isn't it?
Mr. Gensler. Well, I am not here as an expert on the tax
code. I think the corporation literally----
Senator Kennedy. But you are an expert on corporations. I
think economists are generally in agreement that the
corporation is not a payer. It is a tax collector. The owners
and the customers and the workers that Chairman Brown spoke so
eloquently about actually pay the tax, don't they?
Mr. Gensler. Well again, I never want to mince words but I
think that the corporation, of course, is paying, and then the
shareholders have less net income.
Senator Kennedy. Don't the workers pay it too?
Mr. Gensler. I think that it is a cost of the corporation.
Like all costs of the corporation those costs compete with each
other. Even the cost of the real estate----
Senator Kennedy. Yeah, but do the workers pay it? I am just
trying to--I do not have much time. Sorry about that.
Mr. Gensler. I am not--the workers pay individual income
tax, workers pay Social Security tax, and all that.
Senator Kennedy. I just want to be sure I understand your
testimony, Mr. Chairman. You are saying that the workers are
not impacted at all by the corporate income tax?
Mr. Gensler. I am sorry. I thought you were asking a
different question. All costs in a company compete with each
other, whether it is the real estate costs----
Senator Kennedy. I get that, but----
Mr. Gensler. ----or any other costs.
Senator Kennedy. But are the workers impacted negatively by
corporate income tax? It is a real simple question.
Mr. Gensler. No, I understand it but I think it is best, as
the head of the Sec, to leave----
Senator Kennedy. You do not want to answer it.
Mr. Gensler. ----debates about taxes to Congress. I really
do think that that is----
Senator Kennedy. I understand why you do not want to answer
it. I get it.
Look, I do not mean any disrespect to you. I followed your
career. You have had quite a career in public service. You have
made a lot of money on Wall Street. I respect that. I honor
that. But as to the people and the companies that you regulate,
as Chairman of the SEC, do you consider yourself to be their
daddy?
Mr. Gensler. No. No.
Senator Kennedy. Then why do you act like it?
Mr. Gensler. I try to take the oath of office seriously,
that the SEC is set up to promote investor protection and
facilitate capital formation, and that which is in the middle.
Senator Kennedy. Yeah, but why do you impose your personal
preferences about cultural issues and social issues on
companies, and, therefore, their customers and their workers,
like climate change and the Second Amendment? I mean, I am sure
you have personal feelings about abortion. Do you have plans to
implement or impose those values on companies?
Mr. Gensler. So I want to thank you for the compliment you
gave me, and I have followed your career and have the deepest
respect for you too, sir. I think that I am not doing that. I
think what I have been trying to do is say if investors want
information about climate risk, and it looks like tens of
trillions of dollars of assets under management are asking, we
at the SEC have a role to put something out to notice and
comment, do the economic analysis, and really see what
investors are saying. It is really in that narrow set of chalk
lines that we are operating.
Senator Kennedy. Thank you, Mr. Chairman.
Chairman Brown. Thank you, Senator Kennedy. Senator Tester
from Montana is recognized.
Senator Tester. Thank you, Mr. Chairman, and I want to
thank Chairman Gensler for being here today. I have just got to
say one thing really quickly. I have got a farm. My wife and I
have a farm. We have a corporation. That corporation pays the
taxes, we do not, and we are the only stockholders of that
corporation. And that corporation exists, over the last 30
years or so, has, quite frankly, helped us financially as we
move forward. So just a different perspective.
I want to talk about Citizens United decision, which I
believe is one of the worst decisions that has ever come down
from the Supreme Court. Incredibly detrimental. It has ended up
with literally hundreds of millions of dollars, billions of
dollars, flowing into our political system in an untransparent
way. I do not think it helps with our democracy.
That being said, the SEC has the power to require companies
to disclose corporate political spending. Now the money that
these companies put into campaigns may or may not be determined
as being materially important, but nonetheless it depends on
who you are talking about. If somebody throws a million dollars
at me in a campaign it is materially important for me in that
campaign. It may not be materially important to that
corporation.
Right now, the current appropriations bill prevents the SEC
from doing anything about these contributions. Do you believe
shareholders should have access to that material information
about how companies, who these shareholders own, spend their
money?
Mr. Gensler. Senator, I thank you, and as you noted there
is the appropriations rider. But putting that to the side----
Senator Tester. Yep.
Mr. Gensler. ----you are asking, similar to the other
issues around climate risk and human capital, to the extent
that investors want to see that information, and it looks like
an increasing number of investors do----
Senator Tester. Yep.
Mr. Gensler. ----I mean, we see that each of the
shareholder voting periods, there have been petitions on this
to the SEC, and so forth, I think the SEC has a role,
similarly, putting out to notice and comment and see what the
process brings.
Senator Tester. Thank you. Thank you for that answer. I
have talked about this in this Committee before. I think we
really need to take a strong look at extreme weather events. As
a farmer this year, for example, this is my wife and my 44th
harvest, it was the worst one, by far, ever, due to drought and
due to extreme weather conditions.
If you take a look at the amount of money that the American
taxpayer is putting out for extreme weather events in this
country, it is billions and billions and billions of dollars,
and it may even be trillions and trillions and trillions of
dollars. I think it is irresponsible for us not to look at the
impacts that climate has had on our lives and on our economy,
because this ain't going away, and it is getting worse.
And so as Chairman of the SEC, how do you view your work in
considering the impacts of climate change as they pertain to
your role as a regulator?
Mr. Gensler. So again, as I have said to other Senators,
our role is prescribed by Congress about the issuing companies,
these 7,000 or so companies, and the investing public, and to
bring consistent comparable disclosure where investors want it.
So in climate risk, investors have been asking for it, and
hundreds of companies--amongst the 500 largest I think it is
80-plus percent--disclosed something. But we can bring
consistency, comparability, and make the decision useful
information.
Senator Tester. For the investor.
Mr. Gensler. For the investor, and it would be regarding to
some of the physical risks that you mentioned, but also the
transition risk over time.
Senator Tester. OK. Senator Reed talked to you a little bit
about cybersecurity. Could you briefly, in the next minute,
talk about the list of cybersecurity requirements that the SEC
is looking at implementing?
Mr. Gensler. I am willing to meet with you or your staff to
go through.
Senator Tester. I should have prefaced this by saying, not
unlike climate change, this problem is going to continue to get
worse.
Mr. Gensler. I could not agree with you more. So there are
two lists we are looking at. One is those activities, how are
you managing your cyber risk, because it is a real risk. How
are you governing and managing it, and what are your sort of I
will call cyber hygiene?
Second is incident reporting. If you have a breach and you
are paying ransomware and the like, what are you saying to the
public when this occurs, especially if you have private
information. Some companies have tens of millions, sometimes
hundreds of millions of the American public's confidential
information, then taken by the bad actor who has just breached
the wall.
Senator Tester. So it would be--your work is going to be in
the realm of hygiene and reporting the attacks.
Mr. Gensler. That is correct.
Senator Tester. And the system they have in place.
Mr. Gensler. Yeah, the system they have and incident
reporting, but any advice you have, and your staff, we would
look forward to having good conversations.
Senator Tester. We look forward to it. Thank you. Thank
you, Mr. Chairman.
Chairman Brown. Thank you, Senator Tester. Senator Lummis
of Wyoming is recognized.
Senator Lummis. Thank you, Mr. Chairman, and thank you for
joining us, Chair Gensler. It is nice to see you.
I have two questions. One is specific and the other very,
very general. So I will start with the specific. In your
previous tenure at the Commodity Futures Trading Commission you
were an advocate of providing no-action relief to regulated
financial entities within your jurisdiction. Now over the last
few years the SEC has not provided no-action relief to
innovators in my opinion nearly enough. The SEC has also
provided 21(a) investigatory reports on matters of general
interest under the Exchange Act.
What would you say to innovators who are nervous about
approaching the SEC, and how can you improve the use of no-
action relief and other public statements, like 21(a) reports?
Mr. Gensler. Senator, I thank you for that question, and
thank you for our continuing dialogue about innovation. I do
think that Congress gave the SEC important authorities, not
only to do what you call no-action letters but exemptive
authorities and the like. And so I have said come in, whether
it is in the cryptocurrency space or in other innovative
spaces, come in, talk to us, and see if our rules for custody,
for instance, which I know we have talked about, or transfer
agents or something, do not quite fit because they were written
in a bricks-and-mortar time and now we are in a digital time.
Let's talk about that, and if we need to go to Congress, go to
Congress. But maybe we can cobble together something.
We did this in money markets in the 1970s. Good people in
the State of Pennsylvania, Senator Toomey's State, came into
the SEC and sought authorities to do money markets, and that is
now a $5 trillion asset class.
So I think there is room here to sort things out and try to
figure it out, to keep things investor protection-focused, but
to sort out the new innovations.
Senator Lummis. And my adjunct question is the general
question, just about innovation. Do you support responsible
innovation?
Mr. Gensler. Oh, my gosh, yes. It has brought us these
lights in the room. It has brought us this ability to have a
hybrid hearing with your fellow Members. I mean, innovation is
what supports access, economic activity, and gives so much of
us better opportunities in life.
Senator Lummis. So given that, how do you right-size the
protections that are within your ambit to innovation,
generally?
Mr. Gensler. It is an excellent question that I am sure
this Committee grapples with decade after decade. I think it is
the core public policy framework around ensuring that the
public is not defrauded, that somebody is not misleading them
and lying to them. To ensure that if you hold somebody's asset
you do not misuse it or abuse it, so to speak, the physical
asset.
And then on trading platforms, at the heart of our 1934
act, was that competition basically drives to more efficient
market and people do not manipulate that market, do not front-
run, for instance, in those markets. And I think that these
basic tenets of antifraud, antimanipulation, but
procompetition, lower the cost of capital for companies raising
money and innovators and entrepreneurs, even if they are using,
for instance, cryptocurrencies and the like.
But I think that inside that policy envelope that we have
is a great deal of opportunity. I think it is at the heart of
our economic success these last 90 years, that we have deeply
market-based economy. We have the largest capital markets in
the world, almost 70 percent greater than our economic share,
38 points versus 23 points. There is a reason, and I think it
helps our economy. But it is also because it is regulated,
antifraud, antimanipulation.
Senator Lummis. So what gaps do you think exist, and what
additional regulatory authority would be useful, both at the
CFTC and at the SEC, specifically with regard to digital
assets?
Mr. Gensler. I think that we have a great deal of
authority. I think there is more clarity than some Members on
this Committee--I mean, I know we are maybe a little bit
different on that. But I think that in terms of the gaps, we
have a great deal of clarity on, I think, what is a security,
but the gaps is the coordination amongst our agencies. So, for
instance, the coordination with the banking agencies on stable
value coins, that Senator Toomey raised earlier. The
coordination with my sibling agency that I was honored to
chair, the Commodity Futures Trading Commission, on the tokens
themselves and the platforms. Because to the extent that
something is a commodity, even the CFTC does not have
regulatory authority. They have enforcement authority, a
wonderful piece that Dawn Stump wrote recently that I thought
was worth reading.
But working together with the CFTC in how to coordinate,
and then in the, I would say, infrastructure side, things
around transfer agents, custody, and the like, that I think we
could work with Congress to help clarify.
Senator Lummis. Thank you very much.
Chairman Brown. Thank you, Senator Lummis. Senator Warner
from Virginia is recognized.
Senator Warner. Thank you, Mr. Chairman, and thank you for
your comments, in your opening comments, about my legislation
that deals with disclosure around the workforce. I want to come
to that topic but I want to quickly, Chair Gensler, respond to
a couple of my colleagues' comments. One, I want to agree with
Senator Reed. This payment for order flow, we have been talking
about for close to a decade, and we need to sort through it. I
think there would be broad bipartisan agreement about that.
Let's make sure we make that happen.
On incident reporting, in terms of cyber, I think the
Intelligence Committee probably has as much visibility into
that space as anyone, anywhere. We have virtually every member
of the Intelligence Committee, Democrat and Republican,
together on a bipartisan mandatory incident reporting bill for
critical infrastructure, for Federal contractors. We are trying
to work through details. My hope is we can work with you. If
you are going to have a mandatory reporting requirement you
have got to have a penalty or it is toothless. But we are
trying to work with industry to make that happen, because I
think, echoing Senator Tester, it is only going to get worse.
And, you know, as someone who shares some of your concerns
about crypto, I will acknowledge that you have only put one
``wild'' in front of ``West,'' as opposed to two, Wild, Wild
West. And as somebody who has worked with Senator Toomey and
Senator Lummis, and somebody who managed to do pretty well
financially because of innovation, I am all in. But we do need
some guidance. We do need some direction. I would go to the two
wilds in terms of the description of this area, as good as some
of the innovation is. Some of the things that I see from the
intel side scare the dickens out of me. So we need to figure
out a way to, you know, maybe I ought to join the caucus,
because we have got to find a way to come together on this area
of innovation but also area where I can assure you of abuse.
I will give the industry one credit here. When we were
going through this definitional process, I heard from more
newspapers, newsletters, entities. For a group that says they
are not very well organized, I have never seen a group that has
got as many publications as the cryptoworld already has.
Let me get to my last, two-and-a-half minutes, get to the
topic I wanted to address, which is human capital investment. I
think we have all acknowledged that every CEO says, ``My
biggest asset walks out the door each day--human capital.''
Yeah, we do not have virtually any reporting. I agree with the
Chairman. You know, when companies offload their workers as
contractors, they are really not putting their money where
their mouth is.
So I think our Workforce Investment Disclosure Act, which
passed the House, I hope will be part of the guidance of what
kind of activities you take. We have got to make sure we have
ways, because I believe employers--I am sorry, investors, want
to know employee retention. They want to know what kind of
skills and training is taking place. As a matter of fact, I
hope that you will also go beyond workforce and really look at
the whole realm of ESG reporting. Investors want this, yet
there are no standards at this point. I am not saying we need
to move to mandatory across the board, but we really need some
more look there.
And I do want to make sure I get a question in here, and
this is, again, a topic you and I have talked about in the
past. I have got other legislation that would create the
equivalent of an R&D tax credit, which was a radical notion, as
you know, in the accounting world back in the 1970s and early
'80s, to create an R&D tax credit type equivalent for companies
that invest in upskilling particularly low- and moderate-paid
workers. I think creating an asset class around human capital
make some sense, or at least is worthy of a discussion, and I
hope you will be willing.
You can pick any of those items along the way, Chair
Gensler and comment back, but I hope you will focus on the
workforce piece.
Mr. Gensler. Senator, I thank you on cyber. I look forward
to working further with your staff, and I share your view. In
the cryptospace there is an intersection that it is almost--it
a way to subvert our current anti-money laundering laws and
subverts various things within the intelligence community, and
we are all trying to protect on.
I did not use that term. I want to be respectful. I mean, I
just used one ``wild.'' Also, I do look forward to getting out
to your great State of Wyoming with all these masks go away and
everything.
But on the workforce, just to say we have looked closely at
your bill and other Committee Members. It is like ultimately
what investors tell us during the notice and comment period
too. So when we put something out, hopefully that you will
weigh in also, all of the Members will weigh in and say, do
investors really want this information? I have always found
that if you are going to buy a company, or sell a company, when
I was doing that at Goldman Sachs, that people really wanted to
have a thorough review of that workforce and its ups and downs.
It is an asset, and it is a critical asset. So I could not
agree with you more on that, sir.
Chairman Brown. Thank you, Senator Warner. Senator Tillis
of North Carolina is recognized.
Senator Tillis. Thank you, Mr. Chairman. Chair Gensler,
thank you for being here.
Are you familiar with Rule 17j-1 under the Investment
Company Act of 1940, and Section 10(b) of the Securities
Exchange Act of 1934?
Mr. Gensler. Yes, generally, sir. Yes.
Senator Tillis. Just for others' edification, 17j-1, under
the Investment Company Act of 1940, and Section 10(b) of the
Securities Exchange Act of 1934, are the two provisions used by
the SEC, combined with judicial precedent, to prosecute
individuals for the practice of frontrunning. This prohibition
on frontrunning includes any efforts to do so, including via
information obtained through payment for order flow.
So is the practice of frontrunning already illegal?
Mr. Gensler. The practice of frontrunning is against the
rules that you said but also the exchanges. A number of the
exchanges, self-regulated organizations, have that, and it is
really to protect the public, that if I put an order in that I
can get that inside the market and somebody is not going to
take that and use it in front of me.
Senator Tillis. I know that you have been critical of
payment for order flow, contending that it presents conflicts
of interest for broker-dealers, and that retail customers are
harmed through inferior execution quality. Do you still stand
by that?
Mr. Gensler. I think that we need to take a look at this
whole market structure, because many orders are not competing
with other orders. If you placed an order to an exchange--with
a broker, I am sorry--if you placed an order it might be bought
by one party, and has been publicly disclosed there is one
wholesaler that has 50 percent of their market share in the
retail market.
And so it is really about are the orders competing with
other orders. So I am procompetition, and I am not sure that
this payment order flow system really is the best competitive
landscape.
Senator Tillis. Is it accurate to say there is another
safeguard designed into the system, this one by retail brokers,
to cure potential conflicts of interest for payment for order
flow arrangement from all of their execution partners? In other
words, this means that the execution partners will pay the same
rate and act within the same system, essentially putting all
execution partners in competition with one another on execution
policy and not payment for order flow.
Mr. Gensler. I think the challenge is, if a party is buying
all the order flow, or a bulk of the order flow, then the
order-by-order competition does not exist, so the retail public
does not benefit from that competition. When I was growing up
you had competition. It was not modern technology but it was
competition on the floor of the New York Stock Exchange, and
brokers could scream and yell at each other about what they
were going to pay. Now if one party is buying literally half
the retail flow in America of these market orders, that could
actually have diminished competition in the marketplace.
Senator Tillis. Do you think the retail brokers should
route orders to the market center where they have the highest
likelihood of obtaining the most favorable execution for their
customers? Why or why not?
Mr. Gensler. I have asked staff to consider the economic
analysis and really think about the whole market structure. How
can we lower the cost of capital formation and raise the
returns for the retail public, and the institutional public?
And we have not updated, in 16 years, that national market
structure.
So I think it is really--it is almost like a sweater where
everything is knitted together. I was quoted recently about if
something was on the table, and I said, ``Yes, because I think
in this area, kind of it is all on the table,'' to think about
the rebates at the exchanges, what is called the tick size, the
national best offer, all with one goal--competition the
marketplace to lower the cost and raise the efficiency. That
helps capital formation and it helps investors.
Senator Tillis. Thank you. I will probably add a couple of
questions for the record to expand on that, but thank you for
your answers.
I want to talk a little bit, in my remaining time, about
the gamification of retail investing. How would you describe
gamification?
Mr. Gensler. It is a term that I must admit I had only
heard in the last year or so, but if I can broaden it out, it
is----
Senator Tillis. And do you think Governments should prevent
gamification?
Mr. Gensler. I think the role of the SEC is about
protecting investors, so I think the question is are there
conflicts that arise by doing behavioral prompts to encourage
Senator Lummis to trade and sending Senator Lummis a different
prompt than Senator Warner or Warren. And they have sort of
differentially marketed to the three.
Senator Tillis. If we go down that path--and I want to be
respectful of time--but if we go down that path, in States like
mine that have an educational lottery--I think in Maryland you
have a similar lottery--if we go down that path and we look at
possible restrictions or eliminating gamification in the
investment sector, why wouldn't we apply that same logic to
lottery systems across the Nation, or any publicly gamified
ventures?
Mr. Gensler. I think what I am interested in learning, and
we just put out a public comment, a request for comment, not
even a rule, to ask could you help us, the public comment on if
a platform is maximizing to revenues by marketing to each of
these Senators in this room differently, could there be a
conflict rather than considering what is best for each of you
in your families for your investment needs.
And so it is that. These platforms are now optimizing based
upon our Fitbit, based upon our mobile apps, based upon how we
drive our cars. They are maximizing based upon all this data,
and that brings us greater innovation. It is a plus to
innovation, a plus to access. It can be a plus to lower costs.
What we are just raising is could it be a conflict as well if
they are trying to market to everybody differently.
Senator Tillis. Thank you.
Chairman Brown. Thank you, Senator Tillis. Senator Menendez
from New Jersey is recognized.
Senator Menendez. Thank you, Mr. Chairman. Chair Gensler,
good to see you. As we all know, the asset management and
investment consultant industries are overwhelmingly White and
male. We also know that study after study has shown that
greater diversity leads to greater profitability.
So in an effort to improve performance in these industries
and thereby benefit everyday investors, the SEC's Asset
Management Advisory Committee unanimously recommended that the
SEC take several tangible, concrete actions to improve
diversity in the industry in a way that is aligned with the
SEC's own diversity and inclusion goals and its mandate to
protect investors and promote fair and open markets.
Have you had the opportunity to read the full Advisory
Committee's report?
Mr. Gensler. Sir, I am familiar with the report. I have
read a summary, to be candid with you.
Senator Menendez. OK. Have you been briefed by the authors
of the recommendations on the Advisory Committee's Diversity
and Inclusion Subcommittee leadership?
Mr. Gensler. I have met with the leadership of the
committee.
Senator Menendez. Uh-huh. Have they advised you about it?
Mr. Gensler. Oh yes. Yes.
Senator Menendez. OK. Well, these recommendations, they are
simple, they are straightforward. For example, one is to
require enhanced disclosure requirements on gender and racial
diversity of advisory firms. Some firms already report this
information voluntarily. And others to establish a procedure to
allow the SEC, when it receives reports of discriminatory
practices, to direct reporting parties to the Government agency
best equipped to investigate the complaint.
None of this is particularly difficult or controversial, as
is evidenced by the unanimous vote of the Advisory Committee.
So given that broad support, can you commit to bringing these
items before the Commission for a vote before the end of the
year so we can bring transparency and diversity to the industry
and ultimately deliver better market outcomes for investors?
Mr. Gensler. I have asked staff to look very closely not
only at these recommendations but other recommendations with
regard to issuers, but you are speaking about on the investment
management side and make recommendations up to the Commission.
With a full docket I do not want to say what time that will be.
It might be after----
Senator Menendez. Let me just say----
Mr. Gensler. ----after the end of this year.
Senator Menendez. Let me just say I have been around here
for a while, and I get similar answers from every chair. And
the problem is we never end up with any concrete steps to
creating the diversity that everybody claims that they support.
So I am tired of hearing about we are going to study it, we are
going to get more recommendations. I want to know what is our
pathway to action.
Mr. Gensler. So, sir, we are doing more than just studying.
I have asked staff for recommendations on the issuer side, as
we have talked about earlier, about human capital, and that is
the 7,000-plus issuers, and that includes diversity. It
includes workforce statistics, as Senator Warner and I were
discussing earlier as well, and Chair Brown.
So I have asked to bring that up in front of the five-
member commission. It is a lot to take on to do the economic
analysis, and it be very investor focused, because we have to
live within the chalk lines. This is about investors and what
investors make their decisions upon.
Senator Menendez. Well, we will be following up with you.
This is an issue I have been pursuing for some time, and
without satisfaction, to be honest with you.
Should shareholders of companies that make public pledges
expect their company to act in a manner consistent with the
stated company policy?
Mr. Gensler. I think it is at the bedrock of our securities
laws. President Roosevelt called the first action front of
Congress, the '33 Act, the Truth in Securities Law. And so you
are talking about that if you make a pledge to your
shareholders about building a factory or any pledge, that you
not defraud the public, that it be honest rendition of the
disclosures you are making.
Senator Menendez. Well, after the insurrection attempt
earlier this year, many companies made public pledges to stop
donating money to the 147 Members of Congress who objected to
Congress' certification of President Biden's victory. However,
since then, many of these companies resumed their political
donations, in direct contradiction to their public pledges. So
I do not believe necessarily that they follow what they say.
So, therefore, do shareholders have the right to know
whether their companies' political donations contradict their
public commitment and whether those companies may be supporting
outcomes which might pose a material risk to the companies'
bottom line?
Mr. Gensler. If it poses, as you said, material risk and
there has been a material misstatement to the public, that is
at the center of our securities laws.
Senator Menendez. Well, I look forward to seeing some
enforcement on that.
Finally, due to public health concerns, in November of
2020, FINRA provided member firms the option to complete branch
office inspections remotely for calendar years 2020 and 2021.
What is your assessment of the quality of those remote
inspections? Do you think regulators sacrificed any oversight
by allowing these remote inspections, and because we are still
facing, with the Delta variant pretty high, is the SEC
considering extending remote inspections, given the current
public health?
Mr. Gensler. Senator, we are. I mean, we, as a Nation, are
living through the most challenging time, well at least in my
life, health-wise and economically related to that. When I have
conversations with our head of examinations, we have about a
1,200-person examination unit, I ask that very question. What
do we lose, what do we gain being remote? And there are
tradeoffs. We have gained--people are not commuting as much.
The people have a better work-life balance and so forth, our
examiners. What we lose is you are not sitting in a room,
eyeball to eyeball, talking to somebody as you are trying to
inspect a fund or a company, and so forth.
But yes, we are looking at extending this, just because of
the realities of this health pandemic that we are in.
Senator Menendez. Thank you. Thank you, Mr. Chairman.
Chairman Brown. Senator Scott from South Carolina is
recognized.
Senator Scott. Thank you, Chairman, and thank you for
holding this important hearing today, and thanks to the Ranking
Member for his comments earlier on, his opening statement,
about the importance of having market accessibility to all
Americans. It seems like we have been heading in the right
direction for quite some time here, over the last 10 years or
so. Some of the concerns I have, Chair Gensler, is that what I
have seen from a policy position from you so far seems to
actually jeopardize that path to financial opportunity for the
average American.
I think back to my days in business when I was in the
insurance and, for a small time, in the financial services
business, I would tell my clients oftentimes that there are
really only three ways to create wealth in America. The first
is real estate, and one of the reasons why we focus on the
American dream is synonymous with home ownership. There is no
question in my mind that the fact is that you build equity in
your house and you are actually building equity in this Nation.
It is your share of the American dream that is so powerful and
important that we focus on.
The second way that you create wealth in this Nation and
experience more of the American dream is through having a
business, and have that business grow, and it becomes more
profitable, and that net worth that you see accumulating is
part and parcel to the American dream.
And then finally it is having an equity position in the
marketplace. And to the extent that we make it more affordable
for the average person to invest in this marketplace they have
a chance to literally experience the American dream, to exceed
their wildest imaginations financially.
If you think back 32 years ago, do you have any idea what
percentage of American households that were investing in the
stock market?
Mr. Gensler. Well, we have grown. I mean, particularly in
the last 10 years.
Senator Scott. But 32 years ago, any idea what it was?
Mr. Gensler. I mean, I do not know the specific number, but
lower than today, about 10 points lower.
Senator Scott. Good answer. So 32 percent of American
households, 32 years ago, had access to one of the three
streams that leads to creating wealth in this Nation, and much
of the reason why they had such limited access is because the
fees to make a trade were so darn high.
Imagine today the average stock price is around $119, the
S&P 500. If you invested in a stock in the '70s and '80s, your
stock would have to increase to $139 before you made a penny,
because you were using that increase to pay the transactional
costs. Today, it is zero. So literally you have a chance to
invest in the marketplace because we have gotten rid of those
high transactional costs.
So, as you said, today the actual number of households that
are able to invest in the market, 53 percent of households are
invested in the market. Why? Because the price to get involved
in the market has plummeted. And so when we hear things like
banning payment for order flow, it sends shivers down the
spines of people who have waited for this day to come. Fifteen
years ago it was $15 or $20 to make your trade. Today it is
nothing. Literally, you have access to a market. If you are in
rural America, living in Saluda, South Carolina, or inner-city
Chicago, for the first time you have a chance to be in the
marketplace.
Under the Biden administration, those opportunities could
vanish away so quickly, and that is painful, as a kid who grew
up in poverty, who now has access to the market. Forty percent
of the households in this Nation who make less than $75,000,
they are in the market. Why? Because it is affordable. We have
to trust Americans to make their own decisions on their own
investments and not have a paternalistic regime helping protect
Americans because they cannot figure it out for themselves.
I am concerned about that, and my question for you is, what
is your plan to ensure that the existing system, the potential
for innovation within that system, continues so that the
average retail investor benefits from that and we do not see
ourselves going backwards that leads to higher trade costs, so
that fewer Americans are able to invest their hard-earned money
in the way that they see fit?
Mr. Gensler. Senator, I am sitting here thinking, one, how
much my father, Sam Gensler, if he was alive today, would like
you, because he would have agreed on your three points about
real estate, start a small business, which he did--he never had
more than 30 employees--and as a kid he used to toss us value-
line tear sheets and he would say, ``What do you think of this
stock?'' and he would try to buy 50 shares of something.
Senator Scott. Yes.
Mr. Gensler. I could not agree with you more. In terms of
the retail investing, I think that is a positive thing in
America, and it was when I was a kid as well.
On the cost, we can always do better. And what I am saying
is, technology has driven down, and competition has driven down
the cost of, as you said, investing. But there is still a cost
left, the payment for order flow. Even if it is a couple of
pennies out, it is a cost. So it is buried behind the scenes.
What I have raised to the economists, with Jessica Wachter and
her whole team, is can we do better to have more competition,
that orders compete with orders rather than one wholesaler
buying half of the retail flow in America?
And so it is about trying to even do better in these great
capital markets we have, but we cannot take anything for
granted. So I think we are more aligned. It is about trying to
drive it down even lower cost.
Senator Scott. And, Chair, I will take you at your word,
and frankly it sounds like your father was an amazing guy who
had a chance to own his house, start a business, and invest in
the marketplace.
Mr. Gensler. He never went to college and raised five kids.
Senator Scott. Yep, and that is the story of the American
dream. One of the things that I hope that we protect is the
notion that the American dream is accessible for all Americans.
And we have within the Administration parts of the puzzle that
can make it worse for the average person in our Nation, I think
we should pause and take a serious look at how the market works
and how can we make it better. Thank you.
Chairman Brown. Thank you, Senator Scott. Senator Warren
from Massachusetts is recognized.
Senator Warren. So thank you, Mr. Chairman. We hear a lot
about how crypto is all about financial inclusion, a way for
people who do not have a lot of money to be able to manage it
or invest it.
Now the banks have done a pretty lousy job on financial
inclusion, so I want to test out with you whether or not crypto
is an improvement. Last Tuesday, the cryptomarket tanked once
again. The prices of Bitcoin and Ether each fell by about 10
percent, while a bunch of other tokens failed by as much as a
third. So in a matter of hours, $400 billion in market value
disappeared. Poof. It was just gone.
And meanwhile, several of the biggest crypto exchanges had
outages, which kept customers from making withdrawals or
trades. So how did that affect people who do not have a lot of
money to lose?
Chair Gensler, let's say that last Monday I took out the
last sliver of my savings. I went on the crypto exchange,
Coinbase. I bought $100 worth of Ether. Then I woke up early on
Tuesday morning, I saw that the market looked like it was
beginning to tank, and I thought I better sell right now. But
when I tried to sell, Coinbase, the exchange, was down.
So Chair Gensler, was there anything I could do to get my
money out?
Mr. Gensler. Not at a Federal agency, because they have not
yet registered with us, even though they have dozens of tokens
that may be securities.
Senator Warren. Yeah. OK. So that sounds pretty risky to
me. But let's say that instead of buying Ether on Coinbase last
Monday I decided instead to put that $100 toward buying a cool,
new token, let's call it Newcoin, that was being hyped on
Twitter. Now Newcoin is available only on a quote/unquote,
``decentralized'' crypto exchange, so to buy it I had to pay a
fee, about $20, to the cryptominers who process the
transactions. That is $20 to buy $100 worth of tokens. But I
figured that was OK because Twitter told me that Newcoin was
going to make me a lot of money. But then, of course, I woke up
on Tuesday morning and the market was tanking.
So let's ask about this one. Chair Gensler, on Tuesday,
when I wanted to sell Newcoin and get back to dollars fast,
that exchange had not shut down. But remember, I had to pay $20
on Monday to get into decentralized finance. So how much would
I have had to pay to get out of DeFi on Tuesday to sell my
coins? Would I have had to pay a second $20 fee, or might I
have had to pay even more?
Mr. Gensler. I do not know because it would be all in the
user agreement. And, by the way, you put quotes around
``DeFi.'' I think that is helpful, because they are really
decentralized in name only. There is a user agreement. There is
something you are doing with this platform. There is a
governance token. There are usually some fees. But I do not
know what the particular fees would be.
Senator Warren. Well actually, we do know some of the fees
from last Tuesday. The fee to swap between two cryptotokens on
the Ethereum network was more than $500, obviously way more
than the $100 I was trying to trade in the first place.
So the question I have is, in the face of these high,
unpredictable fees, small investors could easily get jammed and
wiped out entirely. Chair Gensler, advocates say cryptomarkets
are all about financial inclusion, but the people who are most
economically vulnerable are the ones who are most likely to
have to withdraw their money the fastest when the market drops.
Does this sound like the path to financial inclusion to you?
Mr. Gensler. It is a highly speculative asset class. It
does not sound like the path that you mentioned.
Senator Warren. Yeah. You know, there are a whole list of
problems with crypto--unreliable tech, scams, devastating
climate impact--but high unpredictable fees can make
cryptotrading really dangerous for people who are not rich.
Regulators need to step up to address crypto's regulatory gaps
and ensure that we are actually building the inclusive
financial system that we need. And, Chair Gensler, I expect you
and the SEC to take a leading role in getting this done. Thank
you.
Mr. Gensler. Thank you.
Chairman Brown. Thank you, Senator Warren. Senator Daines
from Montana is recognized.
Senator Daines. Thank you, Mr. Chairman, and thank you,
Chair Gensler, for being here today. I want to, I think, join
my colleagues by expressing my concern with the SEC's posture
toward cryptocurrency and blockchain. The keyword here is
``innovation.'' As I have said before, I believe a lighter
touch regulatory approach is what is called for here, and that
overregulating this young and emerging industry could drive
jobs and innovation overseas in the global race, which we
should all agree on would be a very bad outcome.
America has long led the world in innovation, and we must
do our very best to ensure that the conditions continue to
exist for America to lead in this space, and especially in the
cryptosector.
Chair Gensler, you have, on multiple occasions, asked
cryptocompanies to come in and speak with you. However, many of
these companies that have come to speak with you have soon
after found themselves the targets of enforcement actions, or
even legal threats. The question is, what is the process for
the SEC to provide guidance, and what might companies expect
from talking directly with you?
Mr. Gensler. I thank you. I want to say, I think the way we
innovate is within public policy frameworks. But we have asked
companies to come in, talk to us. If they are trading or
lending a security there is a registration regime, and
companies, since the 1930s on for 90 years, have found ways to
innovate but register, or seek an exemption, or seek a no-
action letter, and work with us to ensure that they are
registered but there is a public policy framework around that.
Senator Daines. So you are drawing lines, I think, through
public statements without actually going through, you know, APA
process. What kind of responsibility do you have to provide
clarity to market participants as opposed to really chilling
the marketplace through some of these vague speeches, vague
remarks, vague interviews?
Mr. Gensler. So with all respect I think that actually the
SEC has the authorities that Congress granted, and it is a very
broad definition of security that includes investment contract,
that includes note, includes 35 other things. My predecessors
put out various guidance. Chair Clayton, and so forth, put out
guidance in this area as well.
And so I think come in, talk to us. Not you, Senator, but,
you know, the entrepreneur, and work within an investor
protection regime that also facilitates capital formation. I
fear if it stays outside, this field that I studied for 3\1/2\
years at MIT, I have a belief that this has been a catalyst for
change. But I think if it stays outside of the public policy
framework for anti-money laundering, tax compliance, investor
protection, it is not going to long persist.
Senator Daines. I want to shift gears for a moment and talk
about China. You have made it clear that you will be increasing
oversight of Chinese firms who are trading in the U.S. markets.
However, it is not clear to me that the SEC is doing enough as
it relates to the oversight of Chinese broker-dealers who have
substantial U.S. customer bases, and frankly they are growing
rapidly.
My question is, what is the SEC doing to ensure that
Americans are not unknowingly having sensitive personal and
financial information transferred to the Chinese Government?
Mr. Gensler. Senator, if I could ask if we could meet, you
know, one on one or with your staff and so forth, because I
want to understand more about your concerns there, because I do
think that is an important issue to ensure that Americans are
protected, their personal information and their privacy is
protected, just as if they were working with a U.S. firm.
Senator Daines. Yeah. Having spent a lot of years in the
cloud computing world it is a real threat where this data
resides and the access the Chinese Government have to this very
sensitive and important personal information.
I want to shift to the CFTC for a moment. You have
previously acknowledged the need to work together with the CFTC
to provide effective oversight on the cryptomarket. At the same
time, you have stated that, quote, ``Many tokens may be
unregistered securities,'' end quote. What role do you see the
CFTC playing with respect to oversight of the cryptosector and
in your capacity as SEC chair, and have you had any
conversation with the CFTC on this topic to date?
Mr. Gensler. Yes, I have had some really good conversations
with Acting Chair Behnam. I was honored to chair the agency
once as well and think the world of the agency. I think we each
have respective jurisdictions. They have an enforcement
authority on commodities, not a regulatory authority. We have a
regulatory authority where we can write rules and we can
register companies that are trading platforms and the like. But
on those trading platforms there may be some commodities on it.
So what Chairman Behnam and I have been talking about is how
could we partner up, using our existing authorities, to best
protect investors.
Senator Daines. Chair Gensler, thanks for your time.
Mr. Gensler. Thank you, and I look forward to following up
on that China issue.
Chairman Brown. Thank you, Senator Daines. Senator Cortez
Masto from Nevada is joining us remotely.
Senator Cortez Masto. Mr. Chairman, thank you. Chair
Gensler, thank you for joining us.
Let me jump back--this seems to be the topic of
conversation with my colleagues--the cryptocurrency. One thing
I just want to verify. Is the SEC sufficiently equipped,
whether by regulation or funding, to appropriately ensure
compliance and keep pace in the cryptocurrency market? Do you
believe so? And if you do not, then what should we be doing in
the Committee? What do we need to know to help you?
Mr. Gensler. I think you have raised both points. I think
funding-wise we could use a lot more people. I just have to be
frank with you. I mean, there are 6,000 projects, and while
some of those are commodities, many of them are securities
under the laws, and many of the platforms are. So we could use
some more funding.
In terms of legislation, I think what I have said earlier
in this hearing is the coordination between the market
regulators is strong, and Chair Behnam has been talking through
how to do this, but there may be things that Congress can weigh
in and help on the coordination, and also around stablecoins,
the coordination with the banking regulators.
And then there are some things, frankly, a bit in the weeds
about transfer agents and custody and the like.
Senator Cortez Masto. Thank you. And so let me just say, I
look forward to working with you on that. Whatever we can do
here, on the Committee, to support how we address and look at
the cryptocurrencies, please know that you have got support
from me.
Let me talk a little bit about gamification. When you were
here in March for your confirmation hearing I raised concerns
about behavioral prompts and gamification, and I said that free
apps that encourage trading could be detrimental to some retail
investors.
So I know that you are looking at this. Senator Toomey
mentioned that you had talked about doing a report sometime
this summer and putting a report out, if I remember correctly.
Can you talk a little bit about where you are and your concerns
with gamification and how it impacts investors?
Mr. Gensler. So three things. One, on the GameStop report,
we are pretty close. It is in front of my fellow commissioners,
and I would assume it will be out shortly. On the, quote,
``gamification,'' we have asked the public, through a request
for comment, to give us feedback. I think the issue there is we
are living through a transformation time in America, and we are
seeing this is in every bit of our society, and so forth. But
if Netflix figures out that I am a rom-com guy, and yes, I am a
rom-com type of guy, I might see a bad rom-com for an hour-and-
a-half. But this is about people's investing future.
So what I have asked, I think the core question is, is if
the data analytics are maximizing the platforms' revenues,
optimizing for revenues, optimizing for data collection, that
may be in conflict with maximizing for the users' investment
returns, and how do we square that.
And last, if I could, and I apologize, respectfully, to say
it is not actually free on these apps. It might be zero
commission, but you are still paying. The payment for order
flow is underneath the hood, and it is still there, and my real
concern is about whether the competition is there, whether it
is sufficient order-by-order competition.
Senator Cortez Masto. Thank you. I appreciate that
clarification.
And then let me just add one final thing, and I know
Senator Tester talked about this, but climate risk. We have
seen, from the West, and particularly in Nevada and California,
some of the worst wildfires we have ever seen, because of the
extreme weather, impacting the air quality as well that we
breathe.
And so I know there was discussion earlier about why should
the SEC be concerned about the climate crisis and climate risk,
but would you talk a little bit about this? I understand you
have said that investors should be able to understand what is
under the hood of green or sustainable funds. What do you mean
by that?
Mr. Gensler. So we have--I thank you for asking that--we
have a separate rule docket where I have asked for
recommendations from staff. There are funds, asset managers
that are making themselves as green or sustainable or carbon-
free, and just as we walk into a grocery store and it might say
fat-free, it is like what is behind that marketing? And I think
that actually probably will unite Senators on this Committee. I
mean, what is behind the marketing and the name? So staff will
make recommendations, but I hope that we would say something
about that there has to be some metrics standing behind if you
are marketing yourself, so to speak, as carbon-free or green.
Senator Cortez Masto. Thank you. And I would assume there
is a reason why they are making themselves that way, because
that is what investors, some investors are looking for. Is that
correct?
Mr. Gensler. I think that is right. I think that investors
increasingly are interested. Investors get to decide. In the
basic bargain of our capital markets, investors get to decide.
But investors also get to decide how they make their decisions.
And all the SEC is trying to do is response to investors, say
here is how we can maybe help bring consistency, comparability,
and some decision-useful information.
Senator Cortez Masto. Thank you. Chair Gensler, thank you
again for joining us.
Mr. Gensler. Thank you.
Chairman Brown. Thank you, Senator Cortez Masto. Senator
Warnock of Georgia is recognized.
Senator Warnock. Thank you, Chairman Brown, and thank you,
Chairman Gensler, for your testimony.
America's capital markets are some of the most robust and
transparent markets in the world, but not everyone has equal
access to them. In Georgia, people of color account for nearly
half of the total Georgia population while only about 23
percent of Georgia's startups are minority owned. Women-owned
businesses are also lagging, with women accounting for only 38
percent of business owners in the State.
According to a study by the Kauffman Foundation, Black
entrepreneurs are three times as likely as White entrepreneurs
to report that their businesses' profitability is negatively
impacted by a lack of access to capital, and almost twice as
likely to cite the cost of capital as hurting their businesses'
profitability. Needless to say, all of us have a stake in the
ability of entrepreneurs to pursue the American dream, to
create jobs.
Chair Gensler, what initiatives is the SEC leading right
now to increase diversity within the venture capital industry?
Mr. Gensler. We have a number of tools in the toolkit, and
this question came up earlier for Senator Menendez too. We had
some recommendations from Investment Advisory Committee earlier
this year, and I have asked staff to say, all right, now what
can we do with regard to disclosure regimes in the investment
management side?
We have more clear disclosure regimes in the company side,
the issuer side, than the investment management side, but there
is something, it is in the weeds, Form ADV, that we are taking
a look at more closely.
Senator Warnock. What tools do we have to increase
diversity?
Mr. Gensler. We are very much, at the SEC, a disclosure-
based regime, and disclosing to decisionmakers, investors,
about those funds or the companies they invest with, and
ensuring that that disclosure is what those investors want. So
it is sort of like it has got to come from investors, we stay
in the chalk lines we talked about earlier, and both on the
issuer side and the investment management side what investors
wish to make their decisions.
Senator Warnock. And so the role you play in providing that
kind of transparency and disclosure, I understand that. Let me
ask it in a different way. What is the SEC doing, or, in your
view, what could SEC do to help encourage investor capital
funds to look outside of their traditional geographical areas
for investment opportunity in other areas of the country, and
not just in big cities like Atlanta but small cities like
Augusta and Macon and Columbus? I think a lot of this happens
because without intentionally doing something else, there is a
way in which the way things are traditionally done has its own
momentum.
Mr. Gensler. You know, I could not agree with you more, and
I think it might sound like back to basics but fundamentally it
is the middle part of our mission, making sure that the markets
are efficient and competitive. And even in the private funds
space, we have some projects to promote competition in that
space so that the person raising money, in Georgia or
elsewhere, of any background--ethnic, racial background--that
the cost of them raising money is lower as well, for that small
business entrepreneur raising money, that it is not just a
friends and family round but they can go to a venture
capitalist, as you say, and raise money efficiently.
Senator Warnock. All right. I am going to shift to another
topic. It is vitally important, and I think we all agree, that
investors have confidence that financial regulators are keeping
their protection top of mind so that our markets work for
everyone. The pandemic has wreaked havoc on our Nation, caused
significant strains for every aspect of Americans' lives,
including hardworking families in Georgia and throughout the
country. Georgians face layoffs, small businesses permanently
closing and having constantly to worry about the health of
their families and loved ones.
Through all of this, criminals saw an opportunity to prey,
particularly on vulnerable populations, and commit fraud,
whether it is tricking folks into investing in companies
falsely claiming to be producing medical equipment or
businesses using the pandemic to disguise their own fraudulent
dealings.
What tools and resources do you believe Congress can
further provide your agency with to support in its work to
fight fraud and protect retail investors?
Mr. Gensler. I thank you for that question. I think two
areas. One is, frankly, funding. We have shrunk during the
prior Administration by about 5 percent. We have grown a little
bit since this new Administration. But we are about 4 percent
down in head count, and yet retail investing is up. We are in
the middle of a pandemic. We have got the challenges of doing
things remotely.
So it would be good, at a minimum, just to get back to
where we were in 2016, and I think we actually should get a
little bit further than that.
And two, in some areas--and we have talked about the
cryptocurrency area--is really just to help bring people into
the investor protection remit, because right now there are many
individuals in this country that have already been hurt, and
there are unfortunately going to be more spills on aisle three,
so to speak--an old grocery store term--because this crypto
area is trying to stay outside an investor protection
perimeter.
Senator Warnock. Thank you so much, Chairman. We certainly
want to see job growth. We want to see the economy continue to
thrive. And my first question, I guess, is about equity, and
the other about integrity. We need both of these things in
order for the market to perform for everybody.
Mr. Gensler. Thank you so much, sir.
Chairman Brown. Thank you, Senator Warnock. Senator Smith
is recognized, from her office.
Senator Smith. Thank you so much, Chair Brown and Ranking
Member Toomey, and welcome, Chair Gensler. It is nice to be
with you virtually.
Mr. Gensler. It is good to see you.
Senator Smith. I have a specific question to start with.
Having a safe and secure retirement is a crucial goal for so
many American families, and here is my specific question.
Registered index-linked annuities has become a rapidly growing
savings option for many Americans. In the first quarter of 2021
alone, more than $9.2 billion of these annuities were sold.
So here is the problem. The SEC does not have a
registration form for these products. Now this might seem like
not a big deal, but it is a big problem, and kind of a classic
bureaucratic quagmire. Because what it means is that for big
portions of the year these new products cannot be registered at
all, and when they are registered reporting costs are higher,
the disclosure forms have a bunch of information that actually
is not that useful to investors, as they are trying to find the
information that really matters.
So I have introduced a bipartisan bill to fix this problem,
and I am really glad that the Consumer Federation of America, a
leading investor advocacy organization, is supporting my bill.
But I think you know, the reality is that we do not need
legislation to fix this problem, and we do not need
congressional action. The SEC has the authority to create a new
registration form itself. And, in fact, I think the SEC has
literally dozens of product-specific registration forms in
place.
So my question to you, Chair Gensler, is can you commit to
me today to issuing a new registration form for registered
index-linked annuities?
Mr. Gensler. Senator, I know that we have different regimes
for index-linked annuities, and so I look forward to working
with you and your staff and learning more. Just 5 months into
the job, I have to admit that I do not know all the details of
the RILAs, but I look forward to working with you and your
staff about the potential of doing, as you say, another form,
because I think we do have different forms for index-linked
annuities.
Senator Smith. Right. Thank you. Yeah, it is a specific
thing and it is something that I think we could solve
relatively easily, and I hope your agency, when you are
releasing your updated regulatory agenda soon, I would love to
see a fix for this issue on that regulatory agenda.
Mr. Gensler. Again, I look forward to meeting with you and
getting our staffs together to understand. I think our staffs
have already chatted, but to understand that even better.
Senator Smith. I think so too. We will follow up, and I
look forward to working with you on this.
So let me ask you a slightly broader question. You know, we
often have conversations in this Committee about risk
disclosure to investors, and I think there is general agreement
that the market works better when investors have clear and
trusted and transparent information about the risks that
businesses face, and that that information is provided in a
systematic way so that investors can compare risks across
organizations.
But some of my colleagues on this Committee just take a
completely different approach when it comes to risk disclosure
for climate change, and this just does not make any sense to me
when, as we, as Senator Tester pointed out, we are seeing
billions and billions of dollars in costs for extreme weather
events caused by climate change, and that is not only a public
sector cost, it is also a private enterprise cost as well.
So right now, when companies release climate-related
information, if they release any at all, it is not in a
systematic format or with any specific guidelines, and I think
this is a problem for investors, and it gets, as you say, the
goal of the SEC should be to protect investors. It is also a
problem for regulators, as Chair Powell has laid out and talked
about to this Committee earlier this year.
So I just want to commend the work that you and
Commissioner Allison Herren Lee have done so far on climate
risk disclosure. I am glad that you are working to solicit
comments on how best to address this problem, and I understand
that you are reviewing those comments right now.
So let me just ask you a question about this, Chair
Gensler. Why do you think that climate risk disclosure is an
important priority for investors, to help them understand
climate risk?
Mr. Gensler. Well, I think investors have spoken loudly to,
to your question, and companies right now are making
disclosures. They are just not consistent disclosures, and it
is better when it is consistent. But why it is important is
there can be physical risks, as we have seen, whether it is
from flooding or weather events and the like, but it also can
be transition risks, the transitioning to a new economy as we
globally address this. But investors are really demanding it,
and the role the SEC might have is to help bring some
consistency and comparability to all of this.
Senator Smith. Well, thank you. Thank you for your work on
this. Mr. Chair, I do not see climate risk disclosure as a
social issue. I see it as systemic risk that investors face,
because of climate change, and it is important, we all
understand that, including investors. Thank you.
Chairman Brown. Thank you, Senator Smith. Senator Van
Hollen of Maryland is recognized, and thanks for your patience,
Chris.
Senator Van Hollen. No, thank you. Thank you, Mr. Chairman,
and, Mr. Chairman, great to see you. Let me start by thanking
you for your efforts to move forward on a rulemaking on 10b5-1
plans. Senator Fischer and I had bipartisan legislation that
would have directed the SEC to look at this, because you know
well that public confidence in the markets requires confidence
that there is not insider trading, and I look forward to your
rulemaking in that regard.
I just want to try and cover a couple other points. One
involves the whistleblower provisions. As you know, we have
whistleblower laws designed to encourage individuals to surface
cases of fraud. And beginning in 2010, a Marylander, John
McPherson, he was a former forensics accountant, gave the SEC
what the SEC described as, quote, ``extraordinary and
continuing,'' unquote, assistance, that helped the agency shut
down a $1.4 billion investment scam by a company called Life
Partners Holdings, Inc.
Despite his substantial assistance, Mr. McPherson did not
receive the whistleblower award, because the company went
bankrupt, and as a result the SEC did not collect its fine. But
the case did require over $1 billion for investors. As you
know, in bankruptcy, all the lawyers and accountants got paid,
but the person who was the most instrumental in bringing this
case to light and exposing the fraud did not receive his
whistleblower award.
So I want to work with you and the SEC to see if you can,
through your existing authorities, make sure that he gets what
would normally be expected in this case, or if a change in law
is required to work with us, because I think you would agree,
would you not, that we do want to continue to incentivize
people to bring these cases to light.
Mr. Gensler. Senator, I agree wholeheartedly. I know the
work that Senator Grassley did to bring this whistleblower
regime into place. The SEC, to date, has had a really robust
whistleblower program, and it has helped the American public
and the investors public. But I look forward to working with
your office on this matter.
Senator Van Hollen. Right. I mean, this kind of situation
obviously may discourage people from coming forward at great
risk, potentially, to themselves, at the end of the day.
Mr. Gensler. What I do not know yet is whether it will need
a change in law rather than something in our current authority.
Senator Van Hollen. That is what we are exploring now with
your team, but I look forward to continuing to do that.
So turning to DiDi, in July, following the collapse of the
share prices of DiDi, I urged the SEC to thoroughly investigate
the incident to see if investors were intentionally misled by
DiDi's public disclosures. As you know, that collapse in share
price came shortly after that happened. I know you cannot
disclose whether there is an ongoing investigation, and I
commend you for the statements you have made generally about
reviewing listings of Chinese companies on the U.S. exchanges.
Can you expand on that? I heard Senator Kennedy also
reference your op-ed piece in the Wall Street Journal regarding
implementation of the legislation that he and I introduced on
holding companies responsible to ensure that we are allowed to
see their books, through an independent entity, to protect
American shareholders and investors. Can you just talk about
both those pieces of the need to better protect American
investors?
Mr. Gensler. So there is about 270 Chinese-related
companies in our capital markets, between $1.5 and $2 trillion,
to give you a sense of scope and scale, but many of these
actually, the U.S. cannot invest directly. See, in China, they
prohibit foreign ownership in the internet and telecom and
other fields. So there has been a form of setting up a shell
company in the Cayman Islands. That Cayman Islands company
raises money in the U.S., and it has some operating
arrangements with the Chinese company, which, by the way,
usually is still owned 100 percent in China by friends and
family, and so forth.
So I sort of got to the SEC; you all had passed the Holding
Foreign Companies Accountable Act. I think there are two
issues. One is 19 years after Sarbanes-Oxley, Chair Sarbanes
sitting in this chair, in this room, passed, and our good
friend, our Maryland mentor--I consider a mentor--passed that
bipartisan bill, 50-plus jurisdictions have complied, and 2
have not--China and Hong Kong. So Congress, on a bipartisan
basis, again said, let's address that. We have got 3 years. We
have had discussions directly with the Chinese authorities. The
clock is ticking.
But I also think, in the meantime, in the meantime we
should enhance the disclosures of the existing companies, these
200-plus companies, as to the political risks, the regulatory
risks, and the real financials between China and the Cayman
Islands.
Senator Van Hollen. Thank you. Thank you, Mr. Chairman.
Chairman Brown. Thank you, Senator Van Hollen. Senator
Ossoff is joining us from his office.
Senator Ossoff. Thank you, Mr. Chairman, and thank you,
Chair Gensler, for joining us.
The COVID-19 pandemic has presented the most immediate and
ongoing threat to the U.S. economy and the global economy of
the last 2 years. But beyond the risks presented by the
pandemic, Chairman Gensler, as a voting member of the Financial
Stability Oversight Council and in your capacity as SEC Chair,
can you please provide to this Committee your assessment of the
greatest systemic risks to financial stability in the United
States?
Mr. Gensler. We work together at the Financial Stability
Oversight Council on an annual report, and we are sort of in
the midst of that right now. And I think that systemic risk
issues are something that can spill over into the whole
marketplace. Though our capital markets have weathered the
storm of this pandemic, and actually weathered, I think, better
than it would have because of the reforms of DoddFrank and the
greater capital in the system, there is still risk in the
system, whether it is in the commercial real estate area, the
reach for yield--a second area I am mentioning is a reach for
yield, that many investors, not just retail investors but
investors more broadly are reaching for yield.
We, in our country, are also transitioning off of something
that created systemic risk in the past called the London
Interbank Offered Rate, and the transition away from LIBOR to
another set of rates is, I think, being managed well, but it
still presents some risk in that transition because there are
$200 to $300 trillion of assets on top of that.
But I would say the biggest risk is the health care risk
itself, and the health care risk and how that is managed as a
Nation, and the economic risk associated with that are probably
the biggest risks.
Senator Ossoff. You have a three-part mission, Mr.
Chairman, to protect investors to maintain fair, orderly, and
efficient markets and to facilitate capital formation. Could
you please inform the Committee how you view climate change as
impacting that three-part mission, and the actions you are
going to take in order to protect investors maintain fair,
orderly, and efficient markets and facilitate capital
formation, given the projections of significant negative
impacts from climate change?
Mr. Gensler. I think that we are taking up two initiatives,
and I think both of them relate to all three of the pieces. I
think investors increasingly want to know about the climate
risk of their companies they own, and I think by bringing
consistent, comparable information and standards into this that
the companies themselves will benefit. The companies will
benefit because they will say, Oh, now we can compete
efficiently in the capital markets by presenting this set of
standards around their greenhouse gas emissions and around
their management of climate risk.
The second docket is around the fund management side, and
if they are saying that they are green or sustainable or
carbon-free, what stands behind that. But again, I think that
that helps investors make decisions and companies raise money.
So I think it helps all three of our mission points.
Senator Ossoff. Thank you, Chairman Gensler. Returning to
the question of systemic risk and financial stability, in
recent testimony before this committee the Fed Chair testified
about his concerns regarding money market funds and Treasury
markets, the performance of money market funds during
conditions of financial stress in March of 2020, requiring
Federal intervention. And he testified regarding Treasury
markets, quote, ``that at that time the Treasury market really
lost functionality. The most important financial market lost
functionality significantly during the acute phase of the
crisis,'' that being the initial onslaught of COVID-19.
Do you share the Fed Chairman's assessment and concerns
regarding money market funds and Treasury markets?
Mr. Gensler. I thank you for reminding me. To your earlier
question I should have said that Treasury market itself does
present, the functioning of that market, some systemic risks.
Three times--October 14, the fall of '19, and the spring of
'20--we had more than hiccups inside the Treasury market, and
it is about the structuring of that market. And so working with
Secretary Yellen, Chair Powell, even Acting Chair Behnam, I
would hope we can produce more resilience through central
clearing in that market and also bringing the principal trading
firms, the high-frequency trading firms, into that remit.
To your other question about money market and open-end
funds, we do have that on our docket, as Ranking Member Toomey
asked earlier. We do hope to do that, I would say, maybe by Q1
of the year, to address money market funds around the
connection between the liquidity provided and what are called
gates, but also to look at the liquidity rules themselves in
that market as well as open-end bond funds.
Senator Ossoff. Thank you, Mr. Chairman. I appreciate your
testimony, and Chairman Brown, I yield back.
Chairman Brown. Thank you, Senator Ossoff. Thank you, Chair
Gensler, for joining us today.
For Senators who wish to submit question for the record
those questions are due 1 week from today, Tuesday, September
21st. Chair Gensler, per our Committee rules, we ask that you
respond to any questions within 45 days from the day you
receive them. Thank you again.
With that the hearing is adjourned.
[Whereupon, at 12:03 p.m., the hearing was adjourned.]
[Prepared statements, responses to written questions, and
additional material supplied for the record follow:]
PREPARED STATEMENT OF CHAIRMAN SHERROD BROWN
Welcome Chair Gensler.
Five months ago today, the Senate confirmed you as Chair of the
Securities and Exchange Commission. I know you have already gotten to
work for the American people, and you had your work cut out for you.
Over the past year-and-a-half, the disconnect between the stock
market and most Americans' lives has never been more painfully clear.
Most of the country has been devastated by COVID-19. Hundreds of
thousands have lost loved ones. People lost jobs and family businesses.
Mothers were forced to leave their paid jobs in droves. Still today,
millions are at risk of eviction from their homes.
But you would never know any of that by looking at the stock
market. It hits new records month after month--53 records since the
beginning of the year. Eye-popping gains in the stock market and crypto
assets attracted millions to start investing.
And like during past times of upheaval, the COVID crisis opened the
door for bad actors looking to seize upon people's fears and
insecurity. Pandemic related fraud--from Ponzi schemes to offers to
invest in COVID-related medical care--skyrocketed last year.
The SEC stepped up to educate investors and punish bad actors. The
dedicated public servants at the Commission have continued to fight for
all the Americans whose pensions and 401(k)s and college savings are at
risk.
Many have been enticed by dramatic jumps in the value of new
digital assets. They've dreamed of riding the coattails of professional
investors and celebrities in a new wave of public offerings of more
speculative investments known as ``special purpose acquisition
companies,'' or SPACs.
Some professional investors and celebrities make earning millions
look easy. But, as we are reminded time and again, it's never that
simple--and too often, someone's quick profit comes at the expense of
workers and entire communities.
Chair Gensler, it's your job to make sure that efficient markets
are balanced with strong enforcement that protects Americans from the
worst Wall Street greed and careless risk--even if that means
challenging practices or shady investment products that previous chairs
ignored.
It also means working to increase transparency that the last
Administration didn't take seriously. For example, the SEC approved new
human capital disclosure last year without requiring companies to
provide even basic details or data.
And let's remember--``human capital'' is business school-speak for
the tens of millions of Americans who work for these companies.
Despite the new standard and investor demand for essential
information used to judge how companies treat and manage these workers,
most companies are barely providing any additional information.
My colleagues have been working to improve transparency.
Senator Warner of Virginia introduced the Workforce Investment
Disclosure Act to get companies to provide important information on how
they pay, train, and invest in their workers.
His bill will finally shed some sunlight on how companies outsource
and subcontract their workers, something he and I have jointly written
to the GAO about.
Today's tech companies like to say they're more ``efficient'' than
companies of the past, when in reality they hire the same number of
workers--half of them are just invisible to us under today's disclosure
requirements.
Senator Warren of Massachusetts introduced the Climate Risk
Disclosure Act, which calls for significant new public disclosures from
public companies regarding the risks climate change poses to their
operations and financial results.
These bills are good policy, and the largest investors have been
calling for more of this kind of information. It's why I'm a cosponsor
of both bills.
Of course this would be just a start. Transparency is only a first
step to getting corporations and the biggest investors to behave
better.
And there's much you already have the authority to do to make
markets work better for the real economy, outside of investment firm
and hedge fund board rooms.
For too long, the financial system has catered to the big guys, and
left everyone else on their own.
There are far too many stories of how insiders game the system.
Big banks abuse customers while they make record profits. Brokers
who have taken advantage of customers use the system to cover up and
erase their misconduct. Private equity firms buy up companies and treat
workers as a cost to be minimized. Or they buy up houses, raise rents,
and evict families, even during a pandemic.
And of course no matter what happens to the workers at the
companies they've raided for parts, or to the families in the mobile
home complex where they've jacked up the rents, or to the larger
economy, the big guys--the hedge funds, the SPAC sponsors, the big
banks, the brokers--the big guys seem to do just fine.
That system isn't sustainable.
Increasing people's trust and faith in the market and the financial
system will lead to more saving and broader participation. Yet some of
my colleagues say we should let the market sort it out. They want to
tie the SEC's and other watchdogs' hands.
We know that's counterproductive. It's the same thinking that led
to a market collapse in 2008, and that has led to decades of more and
more investment flowing to a smaller and smaller share of the country.
The last Administration subscribed to that same Wall Street-first
view, and left this country worse off than they found it. The damage is
too vast to measure. Our economy and markets were no exception.
Investors have fewer tools to hold management accountable; savers--
and that means retirees, widows, families--have fewer protections. And
corruption runs rampant--existing, serious conflicts of interest have
been ignored.
The Biden administration is taking a different view--that the
economy and the markets should work for everyone, not just the well-
connected. And they should reflect the economy we all want--with
broadly shared prosperity, and a growing middle class that all workers
can join.
When that happens, people will have confidence the markets will
actually work for them, not just Wall Street. And we'll see more
Americans save and invest for the future.
Chair Gensler, I look forward to hearing about the progress you're
making toward those goals.
______
PREPARED STATEMENT OF SENATOR PATRICK J. TOOMEY
Thank you, Mr. Chairman. Welcome, Chair Gensler.
The SEC has historically administered securities laws on a
bipartisan basis.
During your confirmation process, I expressed concerns that you'd
stray from this tradition and use the SEC to advance a liberal
political agenda, such as combatting global warming and advancing so-
called social justice; and push the legal bounds of the SEC's authority
to pursue disclosures that are not financially material to the
reporting companies. Unfortunately, your actions at the SEC have not
alleviated these concerns.
You added mandatory disclosures on global warming and ``human
capital''--such as board and employee racial and gender identity--to
the SEC's agenda. And you've essentially said that if large investment
advisors and pension funds like BlackRock and CalPERS--who invest other
people's money--want information about global warming or workforce
diversity, it must be disclosed even if financially insignificant and
irrelevant to a particular business.
Even President Obama's SEC Chair, Mary Jo White, opposed using the
SEC's disclosure powers for the purpose of ``exerting societal pressure
on companies to change behavior, rather than to disclose financial
information that primarily informs investment decisions.'' That's
exactly what you're doing. You are also well on your way to
politicizing the PCAOB after firing all of the existing board members.
It's not the SEC's role nor expertise--as an independent financial
regulator with zero democratic accountability--to address these
political and social issues.
Similarly, I worried that you'd favor the paternalistic push by
some on the Left to restrict investor freedom under the guise of
protection, while actually harming retail investors. Such harm may
result from your apparent opposition to payment for order flow, which
helped allow brokers to offer commission-free trading.
Payment for order flow allows a broker to keep a portion of the
price improvement obtained by routing to a wholesaler. The SEC hasn't
demonstrated any failure or harm associated with payment for order
flow, which the SEC has allowed for years. Banning payment for order
flow could very well have the effect of eliminating commission-free
trading, and would be a grave disservice to average investors.
Likewise, you've criticized mobile apps that make investing easy
and fun as ``gamification.'' Since when has delivering a product that
customers like been a bad thing?
I worry that you're attempting to fix problems that don't exist.
Today is the best time ever to be a retail investor. Retail investors
receive best execution. A person of modest means can share in the gains
of stock market at negligible transaction costs. We see the tightest
bid/offer spreads ever.
Four major developments made this possible. Retail investors can
access commission-free trading, accounts with no minimum balances, low-
or no-fee mutual funds and ETFs, and user-friendly technology like
mobile apps. Investors can also voluntarily use a broker who declines
payment for order flow but may charge a commission.
Despite decades of rapidly growing numbers of retail investors
participating in stock market gains, and enjoying more product
opportunities at lower costs, some colleagues suggest that the markets
are rigged against retail investors. I'd like to hear how it is rigged.
Don't retail investors receive dividends like institutional investors?
Aren't retail investors entitled to best execution like institutional
investors? Don't the value of retail investors' shares and those of
institutional investors increase when a stock's price increases?
The SEC's job is not to make retail investing expensive,
unpleasant, and difficult. In America, adults investing their own money
should be free to decide how to do so.
Let me turn to cryptocurrency, which we should further study and
support. Cryptocurrencies and blockchain are important new technologies
that are actively traded on many platforms.
A key question is whether a cryptocurrency is a security for
regulatory purposes under Howey or some other test. Based on your
public statements, you believe that some are securities but others are
not. So, I am frustrated by the lack of helpful SEC public guidance
explaining how you make this distinction. What makes some of them
securities and others not?
I understand that SEC staff will privately provide feedback and
analysis on whether a cryptocurrency is a security. Why keep this
analysis private? Why not publicly announce what characteristics make a
cryptocurrency a security or not a security? Why wait to make the SEC's
views known only when it swoops in with an enforcement action, in some
cases years after the product was launched?
This regulation by enforcement is extremely objectionable and will
kill domestic innovation.
Chair Gensler, there are many things on which you and I agree and
that the SEC can do to protect investors, ensure fair, orderly, and
efficient markets, and facilitate capital formation. I hope that we can
productively work together on this mission.
______
PREPARED STATEMENT OF GARY GENSLER
Chair, U.S. Securities and Exchange Commission
September 14, 2021
Good afternoon, Chairman Brown, Ranking Member Toomey, and Members
of the Committee. I'm honored to appear before you today for the first
time as Chair of the Securities and Exchange Commission. I'd like to
thank you for your support in my confirmation this spring. As is
customary, I will note that my views are my own, and I am not speaking
on behalf of my fellow Commissioners or the staff.
We are blessed with the largest, most sophisticated, and most
innovative capital markets in the world. The U.S. capital markets
represent 38 percent of the globe's capital markets. \1\ This exceeds
even our impact on the world's gross domestic product, where we hold a
24 percent share. \2\
---------------------------------------------------------------------------
\1\ See Securities Industry and Financial Markets Association,
``2021 SIFMA Capital Markets Fact Book'', available at https://
www.sifma.org/wp-content/uploads/2021/07/CM-Fact-Book-2021-SIFMA.pdf.
\2\ See World Bank data: https://data.worldbank.org/indicator/
NY.GDP.MKTP.CD.
---------------------------------------------------------------------------
Furthermore, companies and investors use our capital markets more
than market participants in other economies do. For example, debt
capital markets account for 80 percent of financing for nonfinancial
corporations in the U.S. In the rest of the world, by contrast, nearly
80 percent of lending to such firms comes from banks. \3\
---------------------------------------------------------------------------
\3\ Ibid.
---------------------------------------------------------------------------
Our capital markets continue to support American competitiveness on
the world stage because of the strong investor protections we offer.
We keep our markets the best in the world through efficiency,
transparency, and competition. These features lower the cost of capital
for issuers, raise returns for investors, reduce economic rents, and
democratize markets. That focus on competition is in every part of the
SEC's work, particularly with respect to market structure.
We can't take our remarkable capital markets for granted, though.
New financial technologies continue to change the face of finance for
investors and businesses. More retail investors than ever are accessing
our markets. Other countries are developing deep, competitive capital
markets as well.
The SEC is a remarkable organization. In just under 6 months, I
have gotten to know many of the dedicated 4,400 people across 12
offices. Our agency covers nearly every part of the $110 trillion
capital markets. Those markets touch many Americans' lives, whether
they're investing for their future, borrowing for a mortgage, taking
out an auto loan, or taking a job with a company that's tapping our
capital markets. We engage with companies raising money and with the
key parties that sit in between companies and investors, including
accountants, auditors, and investment managers.
While just last month we authorized voluntary return to office,
we've largely been remote for 18 months now. I cannot compliment the
dedication of this staff enough for their service to the American
public.
In this testimony, I will cover some of the broad themes from the
SEC's unified agenda, \4\ before closing with a few words on our
enforcement and examinations divisions.
---------------------------------------------------------------------------
\4\ See https://www.sec.gov/news/press-release/2021-99.
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Market Structure
Predictive Data Analytics
Issuers and Issuer Disclosure
Funds and Investment Management
Market Structure
I'll start with market structure. In every generation, we have to
look at how we can revisit our rule sets to better enhance efficiency
and competition in our markets.
Markets work best when they are transparent and competitive.
Issuers and investors alike benefit from that competition because it
lowers the cost of capital.
I have asked staff to take a look at five market structure-based
projects across our $110 trillion capital markets: the Treasury market,
non-Treasury fixed income markets, equity markets, security-based
swaps, and crypto asset markets.
Treasury Market
First, let me turn to the Treasury market. This $22 trillion market
\5\ is integral to our overall capital markets as well as to global
markets. It is the base upon which so much of our capital markets are
built. Treasuries are embedded in money market funds; myriad other
markets and financial products are priced off of Treasuries; and they
are an essential part of our central bank's toolkit. They are called
the ``risk-free asset'' not just here in the U.S. but globally. They
are how we, as a Government and as taxpayers, raise money: we are the
issuer.
---------------------------------------------------------------------------
\5\ Statistics from Securities Industry and Financial Markets
Association: https://www.sifma.org/resources/archive/research/
statistics/.
---------------------------------------------------------------------------
During the start of the Covid crisis, liquidity conditions in the
Treasury market deteriorated significantly. This wasn't the first time
we observed challenges in this market, though. Back in October of 2014,
there was the Treasury ``Flash Crash''. In the fall of 2019, we had
significant dislocations in Treasury funding markets, called the
Treasury repo market.
I've asked staff to work with our colleagues at the Department of
the Treasury and the Federal Reserve on how we can better enhance
resiliency and competition in these markets.
To the extent that this market is more efficient, that could
potentially save money for U.S. taxpayers and lower the cost of our
debt. To the extent that this market is more resilient, it is less
likely to add to systemic risks during times of stress.
We will seek to consider some of the recommendations that external
groups, like the Group of Thirty \6\ and Inter-Agency Working Group for
Treasury Market Surveillance, \7\ have offered around potential central
clearing for both cash and repo Treasuries.
---------------------------------------------------------------------------
\6\ See Group of Thirty, ``U.S. Treasury Markets: Steps Toward
Increased Liquidity'', available at https://group30.org/publications/
detail/4950.
\7\ See Brian Smith, ``Remarks at the Federal Reserve Bank of New
York's Annual Primary Dealer Meeting'' (April 8, 2021), available at
https://home.treasury.gov/news/press-releases/jy0116.
---------------------------------------------------------------------------
Further, I've asked staff to reconsider some initiatives on
Treasury trading platforms, and also to consider how to level the
playing field by ensuring that firms that significantly trade in this
market are registered as dealers with the SEC.
Non-Treasury Fixed Income Market
Additionally, I've asked staff for recommendations on how we can
bring greater efficiency and transparency to the non-Treasury fixed
income markets--corporate bonds, a $11 trillion market; municipal
bonds, a $4 trillion market; and asset-backed securities (which back
mortgages, automobiles, and credit cards), a $13 trillion market. \8\
This market is so critical to issuers. It is nearly 2.5 times larger
than the commercial bank lending of about $10.5 trillion in our
economy. \9\
---------------------------------------------------------------------------
\8\ Statistics from Securities Industry and Financial Markets
Association: https://www.sifma.org/resources/archive/research/
statistics/.
\9\ See Federal Reserve, ``Assets and Liabilities of Commercial
Banks in the United States'', available at https://
www.federalreserve.gov/releases/h8/current/default.htm.
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Equity Market
Next, I'd like to discuss equity market structure.
Every so often, in response to new technologies, the SEC updates
its rules around market structure. After the internet came along,
buyers and sellers could meet in new trading venues. An earlier
Commission created a new rule in the 1990s to facilitate that. In 2005,
the Commission further addressed this fragmented structure under
Regulation National Market Structure.
In the last 16 years, though, technology has expanded by leaps and
bounds. It has changed how market makers interact, how trading
platforms compete, how investors access those markets, and the economic
incentives amongst these various market participants. Retail investors
can trade over commission-free brokerage apps. Telecommunication has
transformed the speed of high-frequency trading. That wasn't the case
even a few years ago.
Despite these new technologies and developments affecting the
structure of equity markets, we are often relying on rules written in
an earlier period. Rules mostly adopted 16 years ago do not fully
reflect today's technology.
I believe it's appropriate to look at ways to freshen up the SEC's
rules to ensure that our equity markets reflect our mission and are as
efficient and competitive as they could be.
I think it's time we take a broad view about what the market
structure should look like today. The Commission started this exercise
with regard to market data under former Chairman Jay Clayton. I've
asked staff for recommendations, particularly around two key questions:
First, how do we facilitate greater competition and efficiency on
an order-by-order basis--when people send each order into the
marketplace?
While there is fragmentation amongst trading platforms, past
reforms and new technologies may have led to more segmented markets and
higher concentration amongst market makers. Nearly half of the volume
transacted is executed in ``dark pools'' or by wholesalers. One firm
has publicly stated that it executes nearly half of all retail volume.
\10\ Further, I wonder whether this means that the consolidated tape--
the so-called National Best Bid and Offer--fully reflects the full
range of activity on exchanges.
---------------------------------------------------------------------------
\10\ See Citadel Securities, ``Equities & Options'', available at
https://www.citadelsecurities.com/products/equities-and-options/.
---------------------------------------------------------------------------
Second, how do we address financial conflicts in the market? As I
have stated previously, I believe payment for order flow and exchange
rebates may present a number of conflicts of interest.
Around those two key principles, I've asked staff for
recommendations as to how we can ensure a more level playing field,
enhance competition, and improve resiliency in our markets.
Moreover, I believe shortening the standard settlement cycle could
reduce costs and risks in our markets. I've directed the SEC staff to
put together a draft proposal for the Commission's review on this
topic.
Security-Based Swaps
The security-based swaps market is not a large market compared to
the fixed income and equity markets, but it was at the core of the 2008
financial crisis. More recently, total return swaps were at the heart
of the failure of Archegos Capital Management, a family office.
This year, the SEC is implementing rules related to securities-
based swaps. Security-based swap dealers and major security-based swap
participants will begin registering with the Commission by Nov. 1.
Further, on Nov. 8, new post-trade transparency rules will go into
effect, requiring transaction data to be reported to a swap data
depository and thus available to the SEC and, under appropriate
circumstances, other regulators. Then, beginning on Feb. 14, 2022, the
swap data repositories will be required to disseminate data about
individual transactions to the public, including the key economic
terms, price, and notional value.
In addition, the Commission has yet to finish the rules for the
registration and regulation of security-based swap execution
facilities. I've asked staff for recommendations on how the Commission
can finalize mandates to stand up the regime established under the
Dodd-Frank Act and to consider whether it would be best to do this
consistent with the regime established by the Commodity Futures Trading
Commission for security-based swap execution facilities. The CFTC has
had swap execution facility rules that have worked well since they were
adopted nearly a decade ago.
Further, to allow the Commission and the public to see aggregate
positions, Congress under Exchange Act Section 10B gave us authority to
mandate disclosure for positions in security-based swaps and related
securities. I've asked staff to think about potential rules for the
Commission's consideration under this authority. As the collapse of
Archegos showed, this may be an important reform to consider.
Crypto Assets Market
Next, I'll turn to a newer market structure issue: crypto assets.
Right now, large parts of the field of crypto are sitting astride
of--not operating within--regulatory frameworks that protect investors
and consumers, guard against illicit activity, and ensure for financial
stability.
Currently, we just don't have enough investor protection in crypto-
finance, issuance, trading, or lending. Frankly, at this time, it's
more like the Wild West or the old world of ``buyer beware'' that
existed before the securities laws were enacted. This asset class is
rife with fraud, scams, and abuse in certain applications. We can do
better.
I have asked SEC staff, working with our fellow regulators, to work
along two tracks:
One, how can we work with other financial regulators under current
authorities to best bring investor protection to these markets?
Two, what gaps are there that, with Congress's assistance, we might
fill?
At the SEC, we have a number of projects that cross over both
tracks:
The offer and sale of cryptotokens
Cryptotrading and lending platforms
Stable value coins
Investment vehicles providing exposure to crypto assets or
crypto derivatives
Custody of crypto assets
With respect to investor protection, we're working with our sibling
agency, the CFTC, as our two agencies each have relevant, and in some
cases, overlapping jurisdiction in the cryptomarkets. With respect to a
broader set of policy frameworks, we're working with not only the CFTC,
but also the Federal Reserve, Department of Treasury, Office of the
Comptroller of the Currency, and other members of the President's
Working Group on Financial Markets on these matters. \11\
---------------------------------------------------------------------------
\11\ See ``Readout of the Meeting of the President's Working Group
on Financial Markets to Discuss Stablecoins'' (July 19, 2021),
available at https://home.treasury.gov/news/press-releases/jy0281.
---------------------------------------------------------------------------
Further, I've suggested that platforms and projects come in and
talk to us. Many platforms have dozens or hundreds of tokens on them.
While each token's legal status depends on its own facts and
circumstances, the probability is quite remote that, with 50, 100, or
1,000 tokens, any given platform has zero securities. Make no mistake:
To the extent that there are securities on these trading platforms,
under our laws they have to register with the Commission unless they
qualify for an exemption.
I am technology-neutral. I think that this technology has been and
can continue to be a catalyst for change, but technologies don't last
long if they stay outside of the regulatory framework. I believe that
the SEC, working with the CFTC and others, can stand up more robust
oversight and investor protection around the field of cryptofinance.
Predictive Data Analytics
The second theme is predictive data analytics.
We are living in a transformational time, perhaps as
transformational as the internet itself. Artificial intelligence,
predictive data analytics, and machine learning are shaping and will
continue to reshape many parts of our economy.
To take just one example, I believe we're in an early stage of a
transition toward driverless cars. Policymakers already are thinking
through how to keep passengers and pedestrians safe, if and when these
changes take hold.
Finance is not immune to these developments. Here, too,
policymakers must consider what rules of the road we need for modern
capital markets and for the use of predictive data analytics.
Today, trading platforms have new capabilities to tailor marketing
and products to individual investors. While this can increase access
and choice, such differential marketing and behavioral prompts raise
new questions about potential conflicts within the brokerage, wealth
management, and robo-advising spaces, particularly if and when
brokerage or investment advisor models are optimized for the platform's
revenue and data collection.
These models also could inadvertently reflect historical biases
embedded in data sets that may be proxies for protected
characteristics, like race and gender.
Advances in predictive data analytics also could raise some
systemic risk issues when we apply new models and artificial
intelligence across our capital markets. This could lead to greater
concentration of data sources, herding, and interconnectedness, and
potentially increase systemic risk. We've just put out a request for
comment on digital engagement practices.
Issuers and Issuer Disclosure
The third theme relates to issuers and issuer disclosure.
Disclosures
Since the 1930s, when Franklin Delano Roosevelt and Congress worked
together to reform the securities markets, there's been a basic bargain
in our capital markets: investors get to decide what risks they wish to
take. Companies that are raising money from the public have an
obligation to share information with investors on a regular basis.
Those disclosures changes over time. Over the years, we've added
disclosure requirements related to management discussion and analysis,
risk factors, executive compensation, and much more.
Today's investors are looking for consistent, comparable, and
decision-useful disclosures around climate risk, human capital, and
cybersecurity. I've asked staff to develop proposals for the
Commission's consideration on these potential disclosures. These
proposals will be informed by economic analysis and will be put out to
public comment, so that we can have robust public discussion as to what
information matters most to investors in these areas.
Companies and investors alike would benefit from clear rules of the
road. I believe the SEC should step in when there's this level of
demand for information relevant to investors' investment decisions.
Special Purpose Acquisition Companies, China, and 10b5-1 Plans
There are three other important topics relating to issuers that we
have prioritized at the SEC.
First, given the surge in special purpose acquisition companies
(SPACs), I have asked staff for recommendations about enhancing
disclosures in these investments. There are a lot of fees and potential
conflicts inherent within SPAC structures, and investors should be
given clear information so that they can better understand the costs
and risks.
Second is related to China. We have another basic bargain in our
securities regime, which came out of Congress on a bipartisan basis
under the 2002 Sarbanes-Oxley Act. If you want to issue public stock in
the U.S., the firms that audit your books have to be subject to
inspection by the Public Company Accounting Oversight Board. While more
than 50 jurisdictions have complied with this requirement, two do not:
China and Hong Kong.
Once again on a bipartisan basis, Congress last year said that it's
time for all jurisdictions around the world to comply with Sarbanes-
Oxley. The SEC has acted quickly to meet our requirements under the
Holding Foreign Companies Accountable Act.
Further, we are working to enhance disclosures with regard to how
Chinese companies issue securities in the U.S. Chinese companies
conducting business in certain industries, such as internet and
technology, are prohibited from selling their ownership stake to
foreigners. As a workaround, they use structures called variable
interest entities to raise capital on U.S. exchanges through shell
companies in the Cayman Islands and other jurisdictions. We are working
to ensure that the heightened risks related to these structures and
other risks related to operating in China are clearly and prominently
disclosed to investors.
The last priority area with respect to issuers is trading by
corporate insiders. I have asked staff for recommendations on how we
might tighten Rule 10b5-1 to modernize this 20-year-old safe harbor and
fill perceived gaps in our insider trading regime.
Funds and Investment Management
The fourth theme I will discuss is the potential reforms we are
exploring in the funds and investment management space.
First of all, we've seen a growing number of funds market
themselves as ``green'', ``sustainable'', ``low-carbon'', and so on.
I've asked staff to consider ways to determine what information
stands behind those claims and how we can ensure that the public has
the information they need to understand their investment choices among
these types of funds.
Additionally, staff are developing a proposal for the Commission's
consideration on cybersecurity risk governance, which could address
issues such as cyber hygiene and incident reporting.
The third topic centers on private funds, and in particular the
conflicts of interest their managers may have and the information they
are providing investors about the fees they charge. I believe we can
enhance disclosures in this area, better enabling pensions and others
investing in these private funds to get the information they need to
make investment decisions. Ultimately, every pension fund investing in
these private funds would benefit if there were greater transparency
and competition in this space.
Fourth, following the challenges of the spring of 2020, I believe
we can build greater resiliency in both money market funds and open-end
bond funds. I've asked staff for recommendations to address those
issues, building upon feedback we received on the President's Working
Group report as well as other information.
Given the disruptions in the nearly $5 trillion money market fund
sector in spring 2020, particularly amongst prime money market funds, I
believe it is time to reflect upon the reforms of 2014 and 2010 to see
if we can further improve resiliency, particularly in times of stress.
Given significant growth in open-end funds and some lessons learned
last spring, I believe it also is appropriate to take a close look at
this $5-plus trillion sector, to enhance resiliency during periods of
stress.
Enforcement and Examinations
Beyond the new policy areas we are exploring, we also have robust
enforcement and examinations regimes. About half of SEC staff work in
these two divisions, ensuring that firms are inspected and wrongdoers
are held accountable for their misconduct. These functions are
essential to protecting investors, maintaining fair, orderly, and
efficient markets, facilitating capital formation, protecting the
competitiveness of our capital markets, and holding those who violate
our securities laws accountable.
Our Division of Enforcement continues to be the cop on the beat,
build on its successes, and focus on matters important to investors and
the marketplace in order to ensure that investors are being protected.
We cover the entire securities waterfront--investigating and litigating
every type of case within our remit. This fiscal year, despite our
remote work posture, the Division of Enforcement is on track to exceed
the number of stand-alone actions against wrongdoers.
Moreover, our Division of Examinations continues to play the role
of the ``eyes and ears of the Commission.'' This staff is dedicated to
protecting investors and working families through examinations of
investment advisers, investment companies such as mutual funds and
exchange traded funds, broker-dealers, and other SEC registrants. This
fiscal year, this division is again on track to complete approximately
3,000 examinations, which are critical to ensuring that firms comply
with our Federal securities laws and regulations.
Conclusion
Having started at the SEC in the spring, I have been struck by the
sheer breadth and scope of the operations of this great agency and
remarkable staff. The SEC's employees oversee 28,000 registered
entities, more than 3,700 broker-dealers, 24 national securities
exchanges, and 7 clearing agencies. \12\ A record 67 million U.S.
families held direct and indirect stock holdings in 2019. \13\
---------------------------------------------------------------------------
\12\ See Securities and Exchange Commission, ``Fiscal Year 2021
Congressional Budget Justification--Annual Performance Plan'',
available at https://www.sec.gov/files/secfy21congbudgjust.pdf. Numbers
from fiscal year 2019. See Securities and Exchange Commission,
``National Securities Exchanges'', available at https://www.sec.gov/
fast-answers/divisionsmarketregmrexchangesshtml.html.
\13\ Data drawn from the public version of triennial Survey of
Consumer Finances (SCF): https://www.federalreserve.gov/econres/
scfindex.htm. The SCF is sponsored by the Board of Governors of the
Federal Reserve System with the cooperation of the U.S. Department of
the Treasury. The 2019 SCF is the most recent survey.
---------------------------------------------------------------------------
As our capital markets have grown, though, the SEC has not grown to
meet the needs of the 2020s. At the end of fiscal year 2016, the SEC
had 4,650 people on board. Nearly 5 years later, though, that number
had decreased by about 4 percent.
Despite that, the agency has worked hard to keep up our mission. I
hope you all agree that, as more Americans are accessing the capital
markets, we need to be sure that the Commission has the resources to
protect them.
Thank you and I look forward to answering your questions.
RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN BROWN
FROM GARY GENSLER
Q.1. In his 2020 Report to Congress, the SEC Investor Advocate
indicated his willingness to work with Congress and other
regulators to implement the ``Senior Investor Protection Grant
Program'' established by Sec. 989A of the Dodd-Frank Act if
Congress were to pass a change moving the program to the SEC
for implementation. Do you support this change? How would the
SEC implement the program if Congress acted to make the change?
A.1. If Congress were to move the implementation of the Senior
Investor Protection Grant Program to the SEC, I would welcome
the addition of this function to the SEC's other important
responsibilities. In order to implement the program, we would
need additional resources for Commission offices to support
implementation and administration, as well as the appropriation
to fund the grants. The amount of resources required would
depend on the size of the grant program that is ultimately
approved.
Q.2. In 2013, the Commission proposed rules to enhance
transparency in the marketplace for so-called private
offerings, but the proposal was never finalized. Since then the
market for private offerings has continued to grow, but without
sufficient transparency. What are some ways for the Commission
to address this information deficit and enhance investor
protection?
A.2. As indicated on the spring regulatory agenda, the Division
of Corporation Finance is considering ways to further update
the Commission's rules related to exempt offerings to more
effectively promote investor protection, including ensuring
appropriate access to and enhancing the information available
regarding Regulation D offerings. Division staff will continue
to study these issues and make recommendations to the
Commission.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR TOOMEY
FROM GARY GENSLER
Q.1. At the Banking Committee hearing on September 14, 2021, in
response to questions, you stated ``I agree with you that some
of these tokens have been deemed to be commodities. Many of
them are securities.'' Please identify the specific
characteristics that distinguish a cryptocurrency that is a
security from one that has been deemed a commodity.
A.1. Congress established the definition of a security, which
includes about 20 items, like stock, bonds, and notes. One of
the items is an investment contract. The Supreme Court took up
the definition of an investment contract, stating that it
exists when ``a person invests his money in a common enterprise
and is led to expect profits solely from the efforts of the
promoter or a third party.'' The Supreme Court has repeatedly
reaffirmed this Howey Test. Thus it depends upon the particular
facts and circumstances, whether any particular financial
instrument, including a crypto asset, is being offered or sold
as a security. The SEC's Section 21(a) 2017 Report of
Investigation on The DAO and subsequent settled enforcement
orders set forth the SEC's views on how the Federal securities
laws apply to particular crypto assets. Under the Commodities
Exchange Act, derivatives on commodities that are not
securities are subject to the CFTC's exclusive jurisdiction.
Q.2. At the same hearing, I asked whether stablecoins that are
linked to the dollar and lack any inherent expectation of
profit are securities. Your response was that ``they may well
be securities.''
Is it your contention that such a stablecoin constitutes an
``investment contract'' and is therefore a security? If so,
could you please explain why you believe such a stablecoin
would meet the ``expectation of profit'' prong of the Howey
test? \1\
---------------------------------------------------------------------------
\1\ SEC v. W.J. Howey Co., 328 U.S. 293 (1946).
---------------------------------------------------------------------------
If your response is that such a stablecoin may be a
security under one of the other types of securities listed in
the definition of a security in Section 2(a)(1) of the
Securities Act (U.S.C. 77b(a)(1)), please specify which type
and explain your analysis.
Let's say there is a proposed stablecoin called
ProposedCoin that is linked to the dollar and the holder of
ProposedCoin does not expect any profit or return from holding
ProposedCoin. Underlying dollars received by ProposedCoin will
be held in multiple FDIC-insured bank accounts held at
thousands of Federal or State-charted banks throughout the
country. Holders intend to use ProposedCoin as a medium of
exchange for goods and services within the ProposedCoin
ecosphere and do not view ProposedCoin as a means of
investment. Is ProposedCoin a security? Why or why not? Please
explain your analysis. Please do not address any potential
effects of ProposedCoin on the banking system or systemic risk
implications.
If additional information is needed in order to determine
whether ProposedCoin is a security, please specify what
information is missing.
A.2. The existing stablecoin market is worth nearly $138
billion and is embedded in cryptotrading and lending platforms.
Though they represent only about 5 percent of all crypto
assets, more than 75 percent of trading on all cryptotrading
platforms occurred between a stablecoin and some other token.
While I appreciate your inquiry regarding a particular
hypothetical fact pattern, there are many facts that come into
play when determining whether any particular financial
instrument is or is not a security. As the President's Working
Group report on stablecoins notes, ``stablecoins, or certain
parts of stablecoin arrangements, may be securities,
commodities and/or derivatives.'' Thus, the use of stablecoins
presents a number of public policy challenges with respect to
protecting investors.
Stablecoins may facilitate those seeking to sidestep a host
of public policy goals connected to our traditional banking and
financial system, such as anti-money laundering, tax
compliance, sanctions compliance, and other safeguards against
illicit activity. We at the SEC will be working with our
sibling regulators, including the CFTC, to deploy the full
protections of the law to these products and arrangements where
appropriate.
Q.3. At the September 14, 2021, hearing, you referenced that
the SEC had previously taken the position, upheld in the
courts, that the acquisition interests in whiskey caskets were
securities. In what ways are interests in whiskey caskets are
comparable to interests in stablecoins for purposes of
analyzing whether a security exists. For example, is each
whiskey casket, and its contents, viewed as indistinguishable
from other whiskey caskets? If not, would that analysis apply
comparably to stablecoins within a particular cryptocurrency?
A.3. Congress created a definition of security that is intended
to be broad, in order to encompass new and different types of
investments that are presented to investors and that invoke the
protections of the Federal securities laws. The definition of
security includes ``investment contract'' among the list of
other types of securities. Whether a particular instrument is
within the definition of security is based on the facts and
circumstances. As it relates to investment contracts, the U.S.
Supreme Court's Howey case and subsequent case law have found
that an ``investment contract'' exists when there is the
investment of money in a common enterprise with a reasonable
expectation of profits to be derived from the efforts of
others.
For example, in the late 1960s and early 1970s, the
Commission published releases that warned about investment
contracts that were sold in the form of whiskey warehouse
receipts. In the whiskey warehouse scenario, the promoters sold
receipts to finance the aging and blending processes of Scotch
whiskey, where purchasers expected a return from the promoter's
efforts in developing and selling the Scotch. These cases
highlight the fact that whether something is a security or not
will depend on the economic reality of the transaction or
product, not on any name or label given.
Q.4. Please list all no-action letters, arranged in
chronological order, issued since January 1, 2021, through the
date of your response, that reference cryptocurrencies, tokens,
digital assets, and similar items. Please also provide the
number of pending no-action letter requests that involve such
items.
A.4. All issued no-action letters are publicly available on the
SEC's website. A list of digital asset-related staff no-action
letters can be found at the SEC's website at https://
www.sec.gov/finhub under the ``Blockchain/Distributed Ledger''
section and ``Regulation, Registration, and Related Matters''
drop-down tab. More specifically, there have been a number of
SEC staff no-action letters issued that relate to
``cryptocurrencies, tokens [and] digital assets,'' including
staff letters to TurnKey Jet, Inc., Pocketful of Quarters,
Inc., Paxos Trust Company, LLC, and IMVU, Inc. Staff also
issued a no-action letter to the Financial Industry Regulatory
Authority (FINRA), and the Commission published a no-action
statement, relating to the custody of digital asset securities
by special purpose broker-dealers. There have been no such no-
action letters issued since January 1, 2021.
Pending no-action inquiries with the staff are nonpublic
and in most cases are submitted to the staff subject to claims
of confidential treatment. As pending inquiries are not staff
actions that are public, I am unable to provide any information
about them.
Q.5. Please list all exemptive orders, arranged in
chronological order, issued since January 1, 2021, through the
date of your response, that reference cryptocurrencies, tokens,
digital assets, and similar items. Please also provide the
number of pending applications for exemptive orders that
involve such items.
A.5. The SEC has not issued any exemptive orders that reference
cryptocurrencies, tokens, digital assets, or similar items
during the period between January 1, 2021, and November 23,
2021.
Pending inquiries, including requests for exemptions from
applicable provisions of the Federal securities laws are,
unless required to be submitted publicly, generally nonpublic
and in most cases submitted to the staff subject to claims of
confidential treatment. I am unable to provide any information
about pending applications for exemptive orders that are
nonpublic. I am aware of one pending public request, which can
be found here: https://www.sec.gov/Archives/edgar/data/1009268/
000095010321008030/dp151409-406b.htm.
Q.6. Please list all publicly disclosed enforcement actions,
arranged in chronological order, taken since January 1, 2021,
through the date of your response, that reference
cryptocurrencies, tokens, digital assets, and similar items.
Which of these actions identify a specific cryptocurrency,
token, or digital asset that is a security?
A.6. These are matters of public record, and there is a list of
such actions, and the information requested on the SEC's
website at https://www.sec.gov/spotlight/cybersecurity-
enforcement-actions. The SEC's complaints and orders in those
actions are also a matter of public record and are available on
the SEC's homepage at the link above. The SEC's complaints and
orders in those actions are also a matter of public record and
are available on the SEC's homepage at the link above. The
actions and trading suspensions filed since January 1, 2021,
are listed below for convenience.
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Q.7. Please list all guidance materials posted to sec.gov or
investor.gov since January 1, 2021, through the date of your
response that reference cryptocurrencies, tokens, digital
assets, and similar items. You may omit any items listed in
response to the prior three questions.
A.7. Statements and other materials relating to digital assets
are available to the public from our website homepage on the
sec.gov and investor.gov websites. Click through: SEC.gov/
Strategic Hub for Innovation and Financial Technology (FinHub);
Investor.gov/Spotlight on Initial Coin Offerings and Digital
Assets.
Statements since January 1, 2021, include:
Risk Alert: The Division of Examinations' Continued
Focus on Digital Asset Securities.
Staff Statement on Funds Registered Under the
Investment Company Act Investing in the Bitcoin Futures
Market.
Funds Trading in Bitcoin Futures--Investor Bulletin.
Digital Asset and ``Crypto'' Investment Scams--Investor
Alert.
President's Working Group on Financial Markets, the
Federal Deposit Insurance Corporation, and the Office
of the Comptroller of the Currency Report on
Stablecoins.
Statement by Chair Gary Gensler on President's Working
Group Report on Stablecoins.
Q.8. You recently stated in an August 5, 2021, letter to
Senator Warren that the public would benefit from ``additional
(Congressional) authority to write rules for and attach
guardrails to crypto trading and lending.'' Do you believe the
SEC needs additional Congressional authority to properly
regulate the digital asset marketplace?
A.8. I have stated before that I believe we need additional
authorities to prevent crypto asset-related transactions,
products, and platforms from falling between regulatory cracks.
Additional SEC regulatory authority over cryptotrading and
lending platforms and intermediaries could aid the SEC's
ability to prevent fraud and abuse and promote investor and
market protection. I have asked SEC staff, working with our
fellow regulators, to work along two tracks. First, I have
asked them how we can work with other regulators under our
current authorities to best bring investor protection to these
markets. Second, I've asked them what gaps we might need
Congress' assistance to fill.
Q.9. I want to learn more about your thoughts on the threshold
for a token to be deemed decentralized. In a 2018 New York
Times article, you spoke about the decentralization of Ethereum
(ETH). As the article lays out, ``Mr. Gensler said Ether could
have more problems because the first Ether tokens were sold in
2014, before the network was functional, by the Ethereum
Foundation. Ether could get off the hook, Mr. Gensler said,
because its development has been more decentralized recently,
and new Ether tokens are now given out to so-called miners
through a network.'' \2\ Meanwhile, you have also repeatedly
said that you agree with former SEC Chair Clayton's statement
that he has yet to see an initial coin offering that was not a
security.
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\2\ https://www.nytimes.com/2018/04/22/technology/gensler-mit-
blockchain.html
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I highlight these two instances because to me it appears
that you believe ETH transitioned from a security to a
commodity. The concept that ETH can transition to a commodity
because ``its development has been more decentralized'' appears
to conflict with your past statements that all ICO tokens are
securities. I understand there are pending court cases that may
address this very issue, but as we await decisions in these
cases, can you clarify your position as to when a token is
sufficiently decentralized in light of your previous
statements?
A.9. Though I am unable to comment about any particular crypto
asset or project, I find myself generally agreeing with former
SEC Chairman Jay Clayton when he testified in 2018: ``To the
extent that digital assets like [initial coin offerings, or
ICOs] are securities--and I believe every ICO I have seen is a
security--we have jurisdiction, and our Federal securities laws
apply.'' Purchasers of ICO tokens generally are buying these
tokens anticipating profits, and there's a small group of
entrepreneurs and technologists standing up and nurturing the
projects. I believe we have a cryptomarket now where many
tokens may be unregistered securities, without required
disclosures or market oversight.
The U.S. Supreme Court's Howey case and subsequent case law
have found that an ``investment contract'' exists when there is
the investment of money in a common enterprise with a
reasonable expectation of profits to be derived from the
efforts of others.
Q.10. I understand from your previous remarks that a Bitcoin
exchange-traded fund (ETF) approval is unlikely to occur soon
given your concerns around market structure and volatility.
However, even with these concerns being voiced publicly over 20
companies have applied to launch a Bitcoin ETF due to the
strong amount of interest cited by U.S. institutions. We have
seen regulatory bodies in Canada, Germany, Switzerland and
Sweden approve bitcoin ETPs, and many U.S. investors are
finding ways to access these products in lieu of the absence of
an SEC-approved domestic product.
What are your views on other international regulators
approving these bitcoin ETPs?
A.10. Various international jurisdictions have different legal
standards and processes for consideration of new investment
products, including proposed exchange-traded products that may
be based on bitcoin. Our staff continues to monitor
developments in other jurisdictions with respect to bitcoin-
focused investment vehicles and has engaged with fellow
international regulators on their approaches to potential
bitcoin-based investment vehicles and ongoing monitoring of
such vehicles if they exist. As fellow regulators, our staff
seeks to learn from the experiences of others. However, actions
in the other jurisdictions are not binding on U.S. regulators,
and our staff continues to follow applicable legal standards
and processes under the Federal securities laws when
considering bitcoin-focused investment products.
Q.11. Is there a role Congress can play in hopes of making
bitcoin ETPs (including an ETF) happen here in the United
States?
A.11. I welcome Congress' interest and input on the prospect of
bitcoin ETPs. As noted above, our staff continues to follow
applicable legal standards and processes under the Federal
securities laws when considering bitcoin-focused investment
products. That being said, the markets for actual bitcoin
itself today are largely unregulated. This lack of regulatory
oversight and surveillance leads to concerns about the
potential for fraud and manipulation. Congress could bring the
bitcoin markets under the U.S. regulatory umbrella, which could
be helpful in our consideration of bitcoin ETPs.
Q.12. You stated in a recent speech that you look forward to
reviewing filings of ETFs registered under the Investment
Company Act, adding that you look forward to the filings
``particularly if those are limited to these CME-traded Bitcoin
futures.'' \3\ Can you please explain why you look forward to
evaluating CME-traded Bitcoin futures but do not express the
same enthusiasm for approving a Bitcoin spot exchange-traded
product (ETPs), particularly when they both are based upon the
same underlying spot Bitcoin markets? Please also explain
whether your views also apply to the submission of proposed
listing rule changes for national securities exchanges
regarding Bitcoin-related ETPs and ETFs.
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\3\ https://www.sec.gov/news/public-statement/gensler-aspen-
security-forum-2021-08-03
A.12. The first of the bitcoin futures ETFs have gone effective
and are operating. The Commission considers all exchange-
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trading products under the standards applicable to them.
Q.13. In December 2020, the SEC put out a statement and request
for comment regarding the custody of digital asset securities
by special purpose broker-dealers (SPBDs). The statement
requires the SPBD to limit its business to ``dealing in,
effecting transactions in, maintaining custody of, and/or
operating an ATS [alternative trading system] for digital asset
securities.'' \4\ Several submitted comments have noted that
requiring a broker-dealer to bifurcate its operations to be
able to deal separately with digital asset securities is
unnecessary and could lead to additional operational risk for
the broker-dealer, among other challenges. Is the SEC
considering revisions to its statement to remove the
requirement to bifurcate a broker-dealer's operations for the
purposes of acting as a custodian of digital asset securities?
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\4\ https://www.sec.gov/rules/policy/2020/34-90788.pdf
A.13. In the December 2020 statement, the Commission expressed
certain concerns regarding the custody of crypto asset
securities and the potential ramifications that would result
from the loss or theft of crypto asset securities. The period
in which the statement and request for comment is in effect
will provide the Commission and its staff an opportunity to
gain additional insight into the evolving standards and best
practices with respect to custody of crypto asset securities.
During this 5-year period, the Commission will continue to
evaluate its position on an ongoing basis and will consider
comments to inform any future rulemaking or other Commission
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action in this area.
Q.14. Recent press articles have discussed high fees being
charged to public companies in connection with distribution of
proxy materials. Historically, these have been set according to
a fee schedule adopted by the New York Stock Exchange (NYSE).
Earlier this year, the SEC rejected a proposed rule change
by NYSE to cease setting a fee schedule.
What steps are being taken to lower these costs,
particularly as more proxy materials are being distributed
electronically?
Some service providers who fulfill brokers' obligations to
distribute proxy materials impose an additional ``suppression
fee,'' which results in the service provider receiving a higher
fee for electronic distributions than for paper mailings.
Please explain whether charging higher fees for electronic
distributions is in the best interests of investors.
A.14. Thank you for your interest in NYSE's schedule of proxy
distribution fees. I agree that these fees present important
issues. An NYSE petition for Commission review of staff's
disapproval of an NYSE proposal to remove the fee schedule from
its rules is before the Commission. I'm looking forward to
learning more about these issues and appreciate your
engagement.
Q.15. I have previously suggested to the SEC that it make
permanent the relief it granted for allowing virtual meetings,
rather than in-person, for investment company boards under the
Investment Company Act. Please discuss whether you intend to
add this project to the SEC's next regulatory agenda.
A.15. The Investment Company Act requires certain board votes
to be cast in person. The Commission has at times granted
temporary industrywide relief from this requirement in response
to various national emergencies, including the COVID-19
pandemic. The Commission's exemptive authority depends on,
among other things, the exemption being consistent with the
purposes intended by the provisions of the Investment Company
Act. The Commission could consider applications for in-person
voting relief for appropriate situations beyond emergencies, as
its exemptive authority permits.
Q.16. The Consolidated Appropriations Act, 2021, Public Law No.
116-260, instructed the SEC to deliver two reports about small
issuers by June 2021--one on analyst research \5\ and one about
the effects of the 10 percent limitation on investments by
investment companies. \6\ These reports are now overdue. What
is the estimated timeframe for delivery of these reports?
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\5\ Division Q, Sec. 106.
\6\ Division Q, Sec. 107.
A.16. SEC staff are in the process of preparing the requested
reports based on a review of relevant legal and regulatory
requirements, academic literature, and available data. These
are important topics that require careful consideration and
evaluation of a number of issues. We are working diligently to
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complete the reports as soon as possible.
Q.17. In your responses to a question for the record from your
confirmation hearing, you stated that you would ``work with
fellow Commissioners and SEC staff to eliminate unnecessary
costs [on public companies] where possible.'' \7\ Please list
the most promising items to eliminate unnecessary costs on
public companies that you have identified to date.
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\7\ Gary Gensler's March 5, 2021, response to Senator Toomey's
question for the record, #14, for Senate Banking Committee's March 2,
2021, hearing, ``Nominations of Gary Gensler and Rohit Chopra'',
available at https://www.banking.senate.gov/imo/media/doc/
Gensler%20Resp%20to%20QFRs%203-2-21.pdf.
A.17. Consistent with our statutory mandates to consider
efficiency, competition, and capital formation alongside
investor protection, we continue to strive to eliminate
unnecessary costs in our rules. One recent example is the
Commission's rule to modernize how filing fees are reported,
calculated, and paid. We also released two proposed rules for
public comment increasing the use of electronic filing for
submissions, which we expect will expedite and ease the filing
process going forward. We will continue working to eliminate
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unnecessary costs as we consider future rules.
Q.18. In your responses to a question for the record from your
confirmation hearing, you stated that you would ``holistically
review capital formation rules related to small and medium-
sized companies and make individualized determinations about
whether to preserve, expand or revise such rules.'' \8\
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\8\ Id. at #18.
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What are the most promising items you have identified so
far to facilitate capital formation for small and mid-size
companies?
If you have not completed this review, please provide an
estimated timeframe for its completion.
A.18. Small and medium-sized companies need access to our
capital markets to fund innovations and scale their operations.
We are continuously looking at what is working, what barriers
may be preventing the facilitation of capital formation, and
how investors are faring and being protected in these markets.
As noted on the Spring 2021 regulatory agenda, staff in the
Division of Corporation Finance are considering recommendations
to the Commission on ways to further update the Commission's
rules related to exempt offerings. In addition, our Office of
the Advocate for Small Business Capital Formation has been
publishing new educational content to help small businesses and
their investors demystify the offering process, thereby
facilitating capital formation and promoting compliance. As
part of that initiative, the staff recently released a new
interactive capital raising navigator tool on sec.gov to help
small businesses and their investors navigate their options for
funding small businesses.
Q.19. Any change to the current wealth and income thresholds in
the Regulation D definition of accredited investor may have a
relatively larger impact on smaller and rural communities where
the cost of living and incomes are lower than in metropolitan
areas. This could complicate the ability of entrepreneurs in
non-urban areas to raise capital from investors located in
those areas. If you intend to pursue changes to the accredited
investor thresholds, how will you ensure it does not become
more difficult for companies to raise money outside of the
largest cities?
A.19. Historically, the accredited investor definition has
generally used wealth and income based criteria as proxies to
determine those persons whose financial sophistication may
render certain protections of the Securities Act's registration
process superfluous. The Commission recently expanded the
definition of accredited investor to provide additional
measures for establishing an individual's financial
sophistication that are not connected to their annual income or
net worth.
The Dodd-Frank Act directs the Commission to review the
accredited investor definition at least every 4 years to
determine whether the definition should be modified or
adjusted. The next required review is due to be completed no
later than 2023. I expect the Commission will carefully review
both how effectively the wealth- and income-based criteria of
the accredited investor definition--along with the
effectiveness of the recently adopted amendments--are serving
their intended regulatory function and what impact any changes
in those thresholds would have.
Q.20. In your responses to a question for the record from your
confirmation hearing, you stated that you would ``work to
improve liquidity for thinly traded stocks of smaller
companies.'' \9\ Please describe how you intend to consider
these concerns as part of your market structure review.
---------------------------------------------------------------------------
\9\ Id. at #19.
A.20. We will take the liquidity concerns around thinly traded
securities into consideration as we continue to review U.S.
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market structure.
Q.21. In your responses to a question for the record from your
confirmation hearing, you stated that you would ``review . . .
the SEC's proposed Exemptive Order issued last year that would
exempt certain `finders' from broker registration
requirements'' and determine if further action is appropriate.
\10\ Please provide an update on your review of the proposed
Exemptive Order.
---------------------------------------------------------------------------
\10\ Id. at #21.
A.21. The regulatory status of ``finders'' has been a long-
standing issue in the area of broker regulation. The Commission
received a wide range of comments in response to the proposed
Exemptive Order. SEC staff are considering the comments
received as they continue to evaluate potential appropriate
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next steps to recommend to the Commission.
Q.22. In your responses to a question for the record from your
confirmation hearing, you stated that you would ``more
thoroughly'' evaluate former SEC Chairman Clayton's December
2020 letter to the SEC Asset Management Advisor Committee
regarding ``Thoughts on the Future Progress of Private
Investment Subcommittee''. \11\ This letter outlined ways that
the SEC could expand retail investor exposure to private equity
and venture capital, including through a diversified target
date retirement fund. Please provide an update on your review
of the ideas set forth in this letter.
---------------------------------------------------------------------------
\11\ Id. at #22.
A.22. The Private Investments Subcommittee of the AMAC issued a
Final Report and Recommendations on September 27, 2021. \12\
The staff from the SEC's Division of Investment Management is
reviewing the final report and its recommendations, and I look
forward to their input.
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\12\ Available at Final Recommendations and Report of the Private
Investments Subcommittee (sec.gov).
Q.23. On June 1, 2021, the SEC's Division of Corporation
Finance issued a statement stating that it would not recommend
enforcement actions to the SEC based on the 2020 amendments for
proxy voting advice businesses, entitled ``Exemptions From the
Proxy Rules for Proxy Voting Advice''.
Please explain why it is appropriate for recipients of
proxy voting advice distributed by firms like Institutional
Shareholder Services (ISS) and Glass Lewis to not receive
disclosure about any conflicts of interest.
Please explain why it is appropriate to exempt ISS, Glass
Lewis, and other proxy voting advisory firms from possible SEC
enforcement if they distribute fraudulent and misleading
information in connection with their advice.
A.23. We have heard from market participants who use the proxy
advisory firms about the rules' current and future possible
impact on the independence, timeliness, and costs of the
advice.
Last Wednesday, November 17th, the Commission voted to
propose amendments to these rules. Those proposals are tailored
to address the independence, timeliness, and cost concerns
raised by clients of proxy advisory firms and the confusion
around sources of liability. The proposals would make no change
to the conflict of interest disclosure requirements of the 2020
amendments. The release further clarifies, but does not alter,
the application of the antifraud provisions of our proxy rules
to proxy voting advice. These proposals are now in the notice
and comment process and we encourage the public to share their
views with the Commission.
Q.24. To the extent that the Internal Revenue Code is amended
to eliminate the current tax treatment for ETFs and their
investors, will that reduce returns for long-term buy-and-hold
investors that hold ETF shares in nonretirement accounts?
A.24. I understand that the Code currently does not require
``regulated investment companies'' to realize capital gains
when they distribute property in response to redemption
requests and that the proposed amendment would remove this
exception. Accordingly, the proposed amendment may change when
a shareholder of an investment company that uses in-kind
redemptions would recognize capital gains. This change is more
likely to affect ETF shareholders than mutual fund shareholders
because many ETFs use in-kind redemptions, while mutual funds
generally do not.
Q.25. My office has received concerns that career SEC staff are
waiting for direction from the SEC Chair's office before
proceeding on no-action letters and similar requests involving
technical interpretations of the Federal securities laws and
SEC rules. In some cases, the requestors had been working with
the SEC staff for a significant period of time. For example, my
office is aware of one request for no-action relief involving
the application of Sections 13 and 16 of the Securities
Exchange Act of 1934 to authorized participants in connection
with non-fully transparent active exchange-traded funds that
have been already approved by the SEC. What steps are you
taking to ensure that career SEC staff can resolve pending
requests on such technical issues?
A.25. The Commission staff continues to review and issue no-
action and similar requests, with numerous requests processed
in the last few months. As part of its review, the staff
considers investor protection concerns as well as the
complexity and the novel nature of the issues raised by the
request. The staff continues working to expeditiously review
pending requests and to complete its review in a manner
consistent with the Commission's investor protection mandate.
Q.26. In May 2021, the Federal Housing Finance Authority (FHFA)
finalized a rule that requires Fannie Mae and Freddie Mac
(each, an ``Enterprise'') to develop plans to facilitate their
rapid and orderly resolution in the event FHFA is appointed
receiver. 86 FR 23,577 (May 4, 2021). These resolution plans
are intended to, among other things, ``foster[] market
discipline by making clear that no extraordinary Government
support will be available to indemnify investors against losses
or fund the resolution of an Enterprise.'' Id. at 23,580.
Specifically, ``[i]n developing a resolution plan, each
Enterprise shall: . . . [n]ot assume the provision or
continuation of extraordinary support by the United States to
the Enterprise to prevent either its becoming in danger of
default or in default (including, in particular, support
obtained or negotiated on behalf of the Enterprise by FHFA in
its capacity as supervisor, conservator, or receiver of the
Enterprise, including the Senior Preferred Stock Purchase
Agreements entered into by FHFA and the U.S. Department of the
Treasury on September 7, 2008, and any amendments thereto).''
12 CFR 1242.5(b)(2). Related to this, Treasury's Housing Reform
Plan released in September 2019 recommended that ``[a] credible
resolution framework can ensure that shareholders and unsecured
creditors bear losses, thereby protecting taxpayers against
bailouts, enhancing market discipline, and mitigating moral
hazard and systemic risk.'' In light of FHFA's policy that,
notwithstanding the Senior Preferred Stock Purchase Agreements,
unsecured creditors of each Enterprise should be at risk of
loss upon an insolvency event affecting the Enterprise, why
should SEC regulations governing money market mutual funds,
registration requirements, or other market activity continue to
treat securities issued by the Enterprises in a manner similar
to securities issued by the U.S. Treasury?
A.26. The Investment Company Act defines ``Government
securities'' to include any security issued by the United
States, or by a person controlled or supervised by and acting
as an instrumentality of the U.S. Government pursuant to
Congressional authorization. \13\ The Enterprises currently are
in conservatorship, and FHFA, an agency of the U.S. Government,
is the conservator of each Enterprise. \14\ If and when plans
for ending conservatorship are developed, SEC staff would
expect to consider any questions regarding the treatment of
securities issued by the Enterprises under the Act and its
rules as they arise.
---------------------------------------------------------------------------
\13\ Investment Company Act 2(a)(16).
\14\ The Enterprises are federally chartered housing finance
enterprises whose purposes include providing liquidity, stability, and
affordability to the residential mortgage market. See FHFA, Fannie Mae
and Freddie Mac, https://www.fhfa.gov/about-fannie-mae-freddie-mac.
FHFA was appointed by its Director as conservator of each Enterprise on
Sept 8, 2008. See FHFA, History of Fannie Mae and Freddie Mac
Conservatorships, https://www.fhfa.gov/Conservatorship/Pages/History-
of-Fannie-Mae-Freddie-Conservatorships.aspx.
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------
RESPONSES TO WRITTEN QUESTIONS OF
SENATOR MENENDEZ FROM GARY GENSLER
Q.1. Dodd-Frank Section 1504 introduced a disclosure
requirement for mining, oil, and gas companies requiring them
to disclose payments made to foreign Governments. The SEC
issued a strong rule implementing this provision in 2016 which
was then disapproved via CRA by Congress. In 2020, the SEC
voted to implement a new, much weaker rule. In particular, the
2020 rule fails to properly carry out the Congressional intent
of fighting corruption and protecting investors. Additionally,
the rule falls short of international standards and redefines
the term ``project'' in a way that does not align with other
jurisdictions.
Given this, would the SEC commit to amending the 2020 rule
to better align with global standards and meet Congressional
objectives?
A.1. As noted in the 2021 Unified Regulatory Agenda, the
Division of Corporation Finance is currently considering
recommending that the Commission review the rules under Section
1504 of the Dodd-Frank Act to determine if additional
amendments to the rules might be appropriate. We are actively
monitoring developments in this area.
------
RESPONSES TO WRITTEN QUESTIONS OF
SENATOR CORTEZ MASTO FROM GARY GENSLER
Q.1. LIBOR--How will the SEC work with companies to prepare for
the discontinuation of LIBOR and the transition to an
alternative reference rate?
Is action needed from Congress to ensure a smooth
transition from LIBOR to an alternative rate?
A.1. SEC staff is actively working on the issue through
engagement with the industry during meetings and examinations.
The staff has published statements and risk alerts, including
Staff Statement on LIBOR Transition (July 12, 2019), EXAMS Risk
Alert--Examination Initiative: LIBOR Transition Preparedness
(June 18, 2020), and Office of Municipal Securities Staff
Statement on LIBOR Transition In The Municipal Securities
Market (January 8, 2021). SEC staff participate in the
Alternative Reference Rates Committee, including on accounting
and regulatory issues, and routinely coordinate with domestic
and foreign regulators.
Federal legislation to address tough legacy USD LIBOR
products, and to amend the Trust Indenture Act of 1939 (TIA),
could help ensure a smooth transition from LIBOR to an
alternative rate and lower the risk of disruptive litigation
related to the transition--especially for those products with
ineffective fallback provisions subject to indentures governed
by the TIA.
Q.2. Processing Fees--Mutual funds pay ``processing fees'' to
deliver prospectuses and other SEC-required documents to their
investors. Some have raised concerns that the prices charged by
these processing fee vendors is excessively high. \1\ Is the
SEC looking into the ``processing fee'' framework and if not,
will you commit to its review?
---------------------------------------------------------------------------
\1\ Darbyshire, Madison; Temple-West, Patrick. `` `A True
Monopoly': Fee Fight Reveals Heft of Wall Street Linchpin Broadridge''.
Financial Times. August 24, 2021. https://www.ft.com/content/5f912194-
cd4e-424a-8d42-da3a98ca3836; Stoller, Matt. ''Other People's Money: The
Email Monopoly Gouging Investors Over Shareholder Reports''. BIG.
August 24, 2021. https://mattstoller.substack.com/p/other-peoples-
money-the-email-monopoly
A.2. Thank you for your interest in the ``processing fee''
framework. I agree that these are important issues. In fact, a
New York Stock Exchange (NYSE) petition for Commission review
of staff's disapproval of a NYSE proposal to remove the fee
schedule from its rules is before the Commission. I'm looking
forward to learning more about these issues and appreciate your
engagement.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR SINEMA
FROM GARY GENSLER
Q.1. The pandemic has changed how we live, work, and do
business. This includes the SEC and the companies it regulates.
These changes include regulatory relief extended as a practical
matter due to the remote nature of work during the pandemic,
such as inspections of home offices. What regulatory activities
do you anticipate reverting to in-person as we reach our new
normal, and what regulatory activities can continue to be
conducted remotely?
A.1. Since the beginning of the pandemic, the Division of
Examinations (EXAMS) has conducted examinations through
correspondence to protect both the health and safety of its
staff and those of SEC registrants. When it is safe to do,
EXAMS expects to resume conducting examinations on-site,
particularly where staff may benefit from in-person meetings
and review of documents. EXAMS will likely continue to rely on
correspondence examinations in certain instances such as where
efficiencies can be gained from a remote presence. Further, in
September, FINRA filed a proposed rule change with the
Commission that would allow broker-dealers to continue to
conduct branch office inspections remotely until June 30, 2022.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR SCOTT
FROM GARY GENSLER
Q.1. Environmental, Social, and Governance (ESG) based
investing is the form of investing by which investment
decisions are made based on a firm's environmental impact, its
relationship with various communities and social agendas, and
management culture. From 1995 through 2018, the number of
assets in funds with ESG criteria increased from $0.6 trillion
to $12 trillion, an increase of 2,000 percent. More than half
of all public pension funds are now invested with ESG criteria.
I was concerned to learn that a recent study by the Center
for Retirement Research at Boston College found that State
mandates and ESG investing policies reduce annual returns by 70
to 90 basis points. As SEC Chairman, you have clearly
telegraphed the Commission's intention develop and implement
mandatory climate risk investment disclosure by the end of
2021.
Based on the findings of the Boston College study cited
above, would you agree that by making climate risk disclosures
mandatory the SEC will be prioritizing a political agenda over
financial returns for Americans saving for retirement?
A.1. Full and fair disclosure promotes efficiency,
transparency, and competition in our markets, and is crucial to
informed investment decision-making. It allows investors to
decide what risks they wish to take.
From time to time the SEC freshens up our disclosure
regimes to reflect investor demands. Today, investors in our
markets increasingly want to understand the climate risks of
the companies whose stock they own or might buy. Thus, I have
asked SEC staff to develop a proposal for climate risk
disclosure requirements--to provide consistent, comparable, and
decision-useful disclosures--for the Commission's
consideration.
In the asset management space, many funds these days brand
themselves as ``green,'' ``sustainable,'' ``low-carbon,'' and
so on. I've directed staff to review current practices and
consider recommendations about whether fund managers should
disclose the criteria and underlying data they use to market
themselves as such.
Q.2. In the same Boston College study, one main factor that
researchers cited as contributing to lower returns for funds
with ESG criteria were the increased fees associated with ESG
disclosures and investing. ESG disclosures and investing
requires a tremendous amount of research and trading, research
and trading which is often provided by a cadre of Wall Street
banks, consultants, asset managers, and advisory firms. I fear
that ESG investing may simply be another form of active trading
aimed at bolstering Wall Street's bottom line.
Rather than lining the pockets of Wall Street traders and
banks through high ESG investment fees and expenses, wouldn't
most Americans be better served putting their money into broad
market index funds or other instruments with very low or no
management fees?
A.2. All registered funds, including ESG-focused funds, are
required to provide clear and robust disclosure of their fees
and expenses in their registration statements. This information
allows investors to compare fees and expenses across funds and
make informed investment decisions. Earlier this year, the
SEC's Office of Investor Education and Advocacy issued an
Investor Bulletin providing investors with information about
ESG funds. The bulletin encourages investors to ask questions
before investing in ESG funds and carefully read all of the
fund's available information. When selecting an investment
product, investors should make sure they understand the fees
and expenses they will pay for a fund. The bulletin also
reminds investors that they should compare the fees and
expenses of an ESG fund to other available investment options.
Q.3. Digital assets are a new and exciting technological
development that holds the potential to transform not just the
finance industry, but also energy, logistics, art, and so many
others. I know you have a background and understand the
potential of this emerging technology sector.
As policymakers, we must ensure the United States remains a
leader in the world for technology and financial innovation.
Despite this, I noted that there are no proposed rulemakings on
the SEC's most recent Unified Agenda related to digital assets.
For these reasons, I'm perplexed by several of your recent
recent public announcements and actions taken by the SEC
regarding cryptoregulation.
Rather than releasing clear and transparent rules of the
road for the industry, does the SEC plan to regulate via
enforcement and one-off private staff guidance to stakeholders?
A.3. I support innovative developments in our capital markets.
Before starting at the SEC, I had the honor of researching,
writing, and teaching about the intersection of finance and
technology at the Massachusetts Institute of Technology. In
that work, I came to believe that, though there was a lot of
hype masquerading as reality in the cryptofield, Satoshi
Nakamoto's innovation is real. Further, it has been and could
continue to be a catalyst for change in the fields of finance
and money.
While I'm technology-neutral, I am anything but public
policy-neutral. As new technologies come along, we need to be
sure we're achieving our core public policy goals. In finance,
that's about protecting investors and consumers, guarding
against illicit activity, and ensuring financial stability.
I also believe that innovation should not be used to
circumvent the important investor and market protections that
are at the heart of the SEC's mission--protecting investors,
maintaining fair, orderly, and efficient markets, and
facilitating capital formation. Innovation in our capital
markets has been ongoing over many decades and such innovation
facilitates new and effective ways to invest, trade, and raise
capital. As innovation in financial products and markets
further develops, we will continue to foster that development
while assuring compliance with the Federal securities laws.
Q.4. As we discussed during the hearing, over the last decade
technological advancements and innovation have spurred
competition among retail brokers, lowering costs and barriers
to entry for retail investors. This has resulted in a younger
and more diverse group of Americans reaping the benefits of
stock ownership--many of them for the first time.
The existing rules regulating the markets have worked well
to both foster and keep up with the pace of innovation and
competition in the marketplace. I remain concerned that the SEC
may move prematurely, and without sufficient analysis or
stakeholder input, to pursue proposals that would raise costs
and curb retail investor access to the markets.
Can you please provide additional details regarding the
areas of regulation or market structure that, as SEC Chairman,
you are encouraging the Commission to reexamine in an effort to
ensure that the rules of the road are keeping pace with
marketplace innovation?
A.4. We can't take our leadership in capital markets for
granted. New financial technologies continue to change the face
of finance for investors and issuers. More retail investors
than ever are accessing our markets. Other countries are
developing deep, competitive capital markets as well. Because
of rapidly changing technology and business models, I think the
SEC needs to look for opportunities to freshen up our rules
related to market structure to continue to maintain markets
that are the envy in the world.
Ultimately, promoting fair, orderly, and efficient markets
can help reduce the cost of capital for issuers and increase
the rate of returns for investors across each of the markets
the SEC oversees--Treasury markets, corporate bonds, municipal
bonds, mortgage and other asset back securities, equity
markets, and security based swaps amongst others. This helps
contribute to economic growth and is a competitive advantage
for our Nation.
I recently addressed your core question--how we might
reexamine regulation of market structure to ensure keeping pace
with innovation--at a talk to the Securities Industry Financial
Market Association. \1\
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\1\ https://www.sec.gov/news/speech/gensler-sifma-110221
Q.5. During our conversation at this hearing, one of the issues
we both strongly agreed upon was the importance of small
business and entrepreneurship in empowering Americans to
accumulate wealth and achieve long-term financial stability. In
some of your previous appearances before Congress the issue of
business development companies, or BDCs, have been discussed.
As you're probably well aware, there's been longstanding
bipartisan support to reform the rules that apply to BDCs so
they can deploy more capital to small and businesses throughout
the country and provide the opportunity for them to grow.
One of these issues that's arisen is known as acquired fund
fees and expenses, or AFFE. Essentially, AFFEs require a
misleading disclosure about the actual cost of investing in
BDCs and basically ``double counts'' investor expense. This
creates an unintended consequence of harming both investors and
small businesses by closing the door to increased investment.
This effectively discourages investment into American small
businesses. For example, after this rule was implemented, we
saw a decline in the number of BDCs available to invest it,
resulting in a massive decline in investment and as such a
decline in small business growth.
This has harmed both BDC investors and their portfolio
companies and has had a negative economic effect in areas that
have a large BDC presence, like South Carolina.
Please answer the following with specificity:
We know that BDCs play a vital role in providing
opportunities for investors to help encourage small business
growth. What can you tell us about the SEC's agenda to remove
disincentives to invest in BDCs at this point?
Last year the SEC proposed a rulemaking that would have
provided at least a partial fix for the AFFE problem, however
there is bipartisan support for the SEC to go further and
ensure that BDCs can be re-included in indices. What is the
SEC's plan for finalizing this proposal and is your goal to
facilitate institutional investment in BDCs?
A.5. The Commission has an outstanding proposal addressing
AFFE, among a number of other disclosure topics. Specifically,
the proposal would permit funds, including BDCs that make
limited investments in other funds to disclose AFFE in a
footnote to the fee table and fee summary, rather than as a fee
table line item. Comments on the proposal have been mixed, with
some supporting and others opposing the proposed changes. The
staff is reviewing the comments received, and I look forward to
engaging with the team and my fellow Commissioners on this
topic.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR ROUNDS
FROM GARY GENSLER
Q.1. Mr. Gensler, citizens and entrepreneurs alike are
concerned the SEC will disrupt the domestic operation of the
burgeoning crypto industry through ``regulation by
enforcement.'' Considering the unique characteristics of crypto
assets, namely the ability to engage with exchanges globally or
with counterparties directly, do enforcement actions have the
potential to do more harm than good to the investing public?
A.1. The SEC's Division of Enforcement is responsible for
investigating potential violations of the Federal securities
laws and regulations and prosecuting the SEC's civil suits in
the Federal courts as well as the SEC's administrative
proceedings. As currently operating, I believe that
cryptosecurities markets that are not registered or exempt from
registration are acting outside of, and in noncompliance with,
laws that provide important investor and market protections. I
have asked SEC staff, working with our regulatory and law
enforcement partners, to use our current authorities to bring
more investor protection to these markets, including by
prosecuting violations of the law.
Q.2. Mr. Gensler, the SEC has been instrumental in developing
U.S. capital markets into the global gold standard by
addressing abuses such as market manipulation, insider trading,
etc. Enforcement as a way to implement policy was effective, in
part, because market actors fell under the same set of
regulations, and citizens exclusively engaged the market
through SEC regulated market actors. Cryptomarket structure,
however, includes countless individuals and entities operating
outside of the SEC's jurisdiction. Will the investing public be
misled by the appearance that the SEC is the cop on this beat?
More generally what, if any, assurances will the SEC be able to
provide to citizens engaging with permissionless platforms?
A.2. The SEC's Division of Enforcement is responsible for
investigating potential violations of the Federal securities
laws and regulations and prosecuting the SEC's civil suits in
the Federal courts as well as the SEC's administrative
proceedings. As currently operating, I believe that the
cryptosecurities markets that are not registered or exempt from
registration are acting outside of, and in noncompliance with,
laws that provide important investor and market protections. I
have asked SEC staff, working with our regulatory and law
enforcement partners, to use our current authorities to bring
more investor protection to these markets, including by
prosecuting violations of the law.
Q.3. Mr. Gensler, during the Senate Banking Committee hearing
on oversight of the SEC, Senator Lummis inquired about
responsible innovation. When you consider the breadth of
products and services being deployed on permissionless
blockchains, in your opinion do those products and services
represent ``responsible innovation?''
A.3. I support innovative developments in our capital markets.
Before starting at the SEC, I had the honor of researching,
writing, and teaching about the intersection of finance and
technology at the Massachusetts Institute of Technology. In
that work, I came to believe that, though there was a lot of
hype masquerading as reality in the cryptofield, Satoshi
Nakamoto's innovation is real. Further, it has been and could
continue to be a catalyst for change in the fields of finance
and money.
While I'm technology-neutral, I am anything but public
policy-neutral. As new technologies come along, we need to be
sure we're achieving our core public policy goals. For those
who want to encourage innovations in crypto, I'd note that
financial innovations throughout history don't long thrive
outside of public policy frameworks. In finance, that's about
protecting investors and consumers, guarding against illicit
activity, and ensuring financial stability.
I also believe that innovation should not be used to
circumvent the important investor and market protections that
are at the heart of the SEC's mission--protecting investors,
maintaining fair, orderly, and efficient markets, and
facilitating capital formation. Innovation in our capital
markets has been ongoing over many decades and such innovation
facilitates new and effective ways to invest, trade, and raise
capital. As innovation in financial products and markets
further develops, we will continue to foster that development
while assuring compliance with the Federal securities laws.
Q.4. Mr. Gensler, are there unique opportunities for misuse or
abuse of customer's crypto assets compared to traditional
markets? For example, what consideration is the SEC giving to
things like rug pulls, trading bots, and so-called
``extractable value?''
A.4. The SEC's Division of Enforcement is responsible for
investigating potential violations of the Federal securities
laws and regulations and prosecuting the SEC's civil suits in
the Federal courts as well as the SEC's administrative
proceedings. As currently operating, I believe that the
cryptosecurities markets that are not registered or exempt from
registration are acting outside of, and in noncompliance with,
laws that provide important investor and market protections. I
have asked SEC staff, working with our regulatory and law
enforcement partners, to use our current authorities to bring
more investor protection to these markets, including by
prosecuting violations of the law.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR TILLIS
FROM GARY GENSLER
Q.1. I understand that mutual funds are forced to pay what some
characterize as unreasonable ``processing fees'' to brokers
just to have prospectuses and other SEC-required documents
delivered to investors. These fees cost fund investors
approximately $220 million annually, which reduces the returns
of retail mutual fund investors--Americans saving for their
retirement, their children's college education, and other
important life goals. The SEC recently had an opportunity to
reform the ``processing fee'' framework but opted instead to
preserve the status quo. What steps might the SEC, under your
leadership, take to right-size this regulatory system and
protect the interests of retail fund investors?
A.1. Thank you for your interest in the ``processing fee''
framework. I agree that these are important issues. In fact, a
New York Stock Exchange (NYSE) petition for Commission review
of staff's disapproval of a NYSE proposal to remove the fee
schedule from its rules is before the Commission. I'm looking
forward to learning more about these issues and appreciate your
engagement.
Q.2. You have previously stated that bringing ``greater
transparency and resiliency'' \1\ to the U.S. Treasury market
it is a priority of yours. I agree that the effort to
strengthen the U.S. Treasury market should be a top priority.
In a recent report released by the Group of Thirty, entitled
``U.S. Treasury Markets; Steps Towards Increased Resilience'',
\2\ leading market experts and academics endorsed increasing
public post-trade transparency as a key step regulators could
take to strengthen the Treasury market. Do you agree that steps
should be taken to increase the post-trade transparency of U.S.
Treasuries, bringing this market in-line with our stock,
options, and corporate bond markets?
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\1\ https://static.politico.com/f9/3e/
aa7bf5714cb19cea53a55c21a345/0623gensler-126251.pdf
\2\ https://group30.org/images/uploads/publications/G30-U.S.-
Treasury-Markets-Steps-Toward-Increased-Resilience-1.pdf
A.2. As outlined in a recent speech at the U.S. Treasury Market
Conference, there is much work that can be done to bring
greater efficiency, competition and transparency; market
integrity; and resiliency to the $23 trillion Treasury markets.
\3\ The SEC plays a critical role in our overall efforts to
improve the functioning of the Treasury market. I've asked
staff to make recommendations for the Commission's
consideration to freshen up our rules to reflect the state of
the Treasury market today.
---------------------------------------------------------------------------
\3\ https://www.sec.gov/news/speech/gensler-us-treasury-market-
conference-20211117
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One work stream relates to data quality. Currently, the
Trade Reporting and Compliance Engine (TRACE), a facility
operated by FINRA, facilitates the mandatory reporting of over-
the-counter transactions in Treasury securities. TRACE does not
publicly disseminate any information about these individual
transactions. Further, only broker-dealers that are registered
with FINRA, however, report Treasury transactions to TRACE,
leaving out major market participants like commercial banks and
proprietary trading firms.
I support the Fed's recently announced new rule requiring
large banks to report transactions to TRACE. I've asked staff
to continue to work with FINRA, the Department of the Treasury,
and the Federal Reserve to consider further enhancements to
TRACE. In part to help make the TRACE data set more
comprehensive, I have directed the SEC staff to consider
whether nonbank firms that significantly trade in the Treasury
market should be registered as dealers with the SEC and
required to become TRACE-reporting members of FINRA.
Q.3. Though many in industry have asked the Federal Reserve
over the past several years to update the outdated margin
eligibility rules under Regulation T (i.e., which securities
are eligible to be held on margin), the Fed has yet to act.
Without revised guidance, many established companies that are
not traded on a national stock exchange, including hundreds of
community banks across the U.S., are disadvantaged because
their stock is not margin eligible. In the past, the SEC has
exercised authority over the Federal Reserve's margin rules as
applied to securities of foreign companies. Will the Commission
consider working with the Federal Reserve, or issuing updated
guidance, to review and modernize the margin requirements so
that investors in qualified companies can take advantage of
margin benefits?
A.3. I'm looking forward to working with you and your staff to
learn more about this issue.
Q.4. As Americans work to rebuild financially following the
COVID-19 pandemic, Congress and Federal regulators should look
for ways to encourage capital formation. Unfortunately data
reveals that the number of public offerings continues to
decline, a trend already in place prior to the pandemic. Fewer
companies go public and those that do, often do so later in
their life cycle, depriving investors of alpha. Investors--
informed and able to make reasoned financial decisions--should
be able to invest in private markets to access growth
opportunities and diversify holdings with this asset class.
Last year, the Commission took an important first step to
expand the definition of accredited investor based on financial
sophistication instead of a strict income or wealth-based test.
Do you believe wealth and income is the only way a person
should be able to qualify as an accredited investor?
Will you commit to examining other metrics to allow
investors to demonstrate financial sophistication and ability
to assess risk, including the possibility of a test to
determine financial sophistication?
A.4. Historically, the accredited investor definition has
generally used wealth and income based criteria as proxies to
determine those persons whose financial sophistication may
render certain protections of the Securities Act's registration
process superfluous.
The Commission recently expanded the definition of
accredited investor to provide additional measures for
establishing an individual's financial sophistication that are
not connected to their annual income or net worth.
The Dodd-Frank Act directs the Commission to review the
accredited investor definition at least every 4 years to
determine whether the definition should be modified or
adjusted. The next required review is due to be completed no
later than 2023. I expect the Commission will carefully review
both how effectively the wealth- and income-based criteria of
the accredited investor definition--along with the
effectiveness of the recently adopted amendments--are serving
their intended regulatory function and what impact any changes
in those thresholds would have.
Q.5. During the hearing last week you reiterated that major
changes to equity market structure, including banning payment
for order flow, are still ``on the table.'' If the SEC intends
to ban PFOF, will you commit to considering and analyzing
alternatives to such a ban before moving forward?
A.5. I have not reached any conclusions with regard to equity
market structure and have asked the staff to develop
recommendations for consideration by the Commission. In this
regard, I've asked staff to consider: how do we facilitate
greater competition and efficiency on an order-by-order basis--
when people send each order into the marketplace? I've asked
staff to consider whether shrinking tick sizes, reevaluating
what is included in the National Best Bid and Offer, enhancing
disclosure, or leveling competition between trading venues and
wholesalers could increase transparency and competition. I've
asked staff to consider the potential conflicts of interest in
the context of payment for order flow and on-exchange use of
rebates. Further, such review includes consideration of
enhancements of rule 605 with regard to order execution
information.
Q.6. During last week's hearing, you stated that the goal in
equity market structure reform is to improve ``competition in
the marketplace to lower the cost and raise the efficiency.''
Given possible reforms you have discussed--including allowing
exchanges to execute in sub-penny increments and updating the
``out of date measuring rod'' (or the NBBO) by which best
execution is measured--could achieve the objectives of
increased competition and efficiency, shouldn't we explore the
impact of these ideas before contemplating out-right bans on
business practices (like PFOF), which would clearly limit
competition?
A.6. As noted above, I believe that our market structure should
provide investor orders with an opportunity for the best
possible execution. I have not reached any conclusions in this
area and have asked the staff to develop recommendations for
consideration by the Commission.
Q.7. You have previously stated that execution firms who
transact off-exchange get valuable information about retail
orders that other market participants do not have and as such,
execution firms have an improper information advantage. You may
be aware that every trade--regardless of execution venue--must
be immediately reported to the public tape for market wide
dissemination and incorporation into real-time price discovery.
While we acknowledge that scale conveys operational benefits,
your statements suggest that you are conflating operational
scale with an improper information advantage that harms
competition and retail investors. Can you please elaborate on
the data and analysis you conducted on our U.S. Equities
markets to make those statements, including a list of factors
you are assessing and comparing to determine whether or not one
firm has an information advantage over another?
A.7. As you note, executed trades in NMS stocks are publicly
reported and disseminated. Certain off-exchange execution
dealers that receive the great majority of retail investor
orders, typically known as wholesalers, however, receive
information earlier than or beyond what is publicly reported
and disseminated. Examples of such additional information
include: (1) information on investor orders prior to execution
or cancellation, including the submission of nonmarketable
limit orders that wholesalers typically route out to exchanges
for execution, as well as investor ``stop loss'' orders (orders
that are not executable until the stock price hits the stop
price selected by the investor); and (2) the identity of the
routing broker (typically a broker that focuses on retail
investors) for executed trades. In contrast, the public reports
of orders executed in the off-exchange market do not identify
the wholesaler that executed the trade or the identity of the
retail broker whose customer submitted the order.
Q.8. You have been critical of the PFOF model, contending that
it presents inherent conflicts of interest for broker-dealers
and that retail customers are harmed through inferior execution
quality. It is my understanding that among the ways retail
brokers cure the potential conflict is to require similar PFOF
arrangements from all of their execution partners such that all
pay the same rate and retail brokers similarly put all of their
execution partners in competition against one another to
compete on execution quality--not amount of PFOF. Thus, retail
brokers award order flow based on the a market center's ability
to consistently provide best execution as measured by a variety
of factors including price improvement levels, size improvement
levels, and service levels. According to filings made to the
SEC by broker dealers, retail investors received over $3.6
billion in price improvement dollars from execution firms in
2020 as measured under current SEC Rule 605 metrics.
Do you agree that retail brokers should route orders to the
market center where they have the highest likelihood of
obtaining the most favorable execution for their customers?
Why? Why not?
Do you agree that uniform payment rates adequately mitigate
the theoretical conflict? Why? Why not?
A.8. I believe that our equity market structure should promote
the opportunity for investor orders to receive best execution
and have asked the staff to develop recommendations in this
area. Retail brokers should route orders to the market center
where they can be executed on the best terms reasonably
available in the market, which is required of brokers pursuant
to the duty of best execution they owe to their customers.
Further, it is not clear that a uniform PFOF rate, as you
describe it, adequately mitigates the conflict concerns raised
by PFOF.
Q.9. Relatedly, are you familiar with the concept of ``size
improvement''? That's where an execution firm fills an order
for greater size than the size available at the NBBO. For
example, a retail customer has an order for 1,000 shares, but
there are only 300 shares being offered at the NBBO. The
execution firm offers ``size improvement'' by executing the
full 1,000 share order at or better than the NBBO, giving the
customer a better price than she would have received if the
order were sent to an exchange. I've been told that when you
factor in both price improvement and size improvement, retail
investors benefited to the tune of $11 billion in 2020. This
amount is missing from the current Rule 605 reports due to
shortcomings in Rule 605--a shortcoming which many folks,
including exchanges, argue should be addressed.
Do you agree that Size Improvement is a valuable benefit
that retail receives today? Why? Why not?
If retail orders are forced onto exchanges, where do you
suppose the Size Improvement would come from?
A.9. I have not reached any conclusions with regard to equity
market structure and have asked the staff to develop
recommendations for consideration by the Commission. In this
regard, I've asked staff to consider: how do we facilitate
greater competition and efficiency on an order-by-order basis--
when people send each order into the marketplace? I've asked
staff to consider whether shrinking tick sizes, reevaluating
what is included in the National Best Bid and Offer, enhancing
disclosure, or leveling competition between trading venues and
wholesalers could increase transparency and competition. I've
asked staff to consider the potential conflicts of interest in
the context of payment for order flow and on-exchange use of
rebates. Further, such review includes consideration of
enhancements of rule 605 with regard to order execution
information. Your query with regard to size improvement is
amongst questions I've asked staff to consider when making
recommendations.
Q.10. If the SEC were to ban PFOF, broker-dealers naturally
would need to find alternative sources of revenue in order to
run their businesses. I have a very difficult time
understanding how a retail investor is better off paying $9.99
or even $4.99 a trade than under the current framework where
there is no commission for trading and retail investors receive
very substantial price and size improvement from execution
firms. Moreover, even if some brokers retained a zero
commission model wouldn't you expect those revenues to be made
up in less transparent ways like margin interest rates, lower
interest rates on cash balances, inactivity fees, and other
methods. What analysis have you and your staff done to
determine how a return to commission-based trading will impact
retail investors--especially lower-income investors? What data
did you use?
A.10. I agree that transparency is a one of the SEC's important
tools to promote competition in the U.S. equity markets. As
noted above, I believe that our market structure should provide
investor orders with an opportunity for the best possible
execution. I have not reached any conclusions in this area and
have asked the staff to develop recommendations for
consideration by the Commission.
Q.11. On multiple occasions, you have pointed out that other
jurisdictions, including Canada and the U.K. have banned PFOF
and forced trading onto lit exchanges. In these statements,
you've suggested that the investor experience in those
jurisdictions is better as a result. Can you please elaborate
on the data and analysis you conducted to make those
statements, including a list of factors you are assessing and
comparing to determine that retail investor execution quality
is better in those markets compared to the U.S.?
A.11. I have noted that other jurisdictions have prohibited
their brokers from accepting PFOF from off-exchange venues.
Amongst key questions on which I have asked the staff to
consider in developing recommendations is what we can learn
from these other markets and how our market structure could be
improved to provide an opportunity for retail investors to
receive the best possible execution quality for their orders.
Q.12. There is substantial research out there suggesting that
the investor experience is worse in jurisdictions that have
implemented rules forcing trades to be executed on exchanges
rather than requiring brokerages to route orders to the market
centers that provide the most favorable execution for the
investor. According to an analysis by the CFA Institute, in
Canada retail investors' average price improvement dropped 70
percent after such rule was adopted.
Do you believe that forcing retail orders to go to
exchanges--rather than requiring brokerages to route based on
best execution--will achieve the best outcome for retail
investors? Why? Why not?
Do you agree that forcing retail order flow to exchanges
will be a significant financial win for exchange operators at
the expense of retail investors? Why? Why not?
A.12. Fair competition between market centers is essential for
our market structure. I believe that our market structure
should provide investor orders with an opportunity for the best
possible execution. I have not reached any conclusions in this
area and have asked the staff to develop recommendations for
consideration by the Commission.
Q.13. You have made comments suggesting that the recent growth
in ``off-exchange'' trading is harmful to investors, and that
our equity markets would benefit from more trades being routed
to lit exchanges. Do you agree that investors' orders should be
executed wherever they are able to obtain the most favorable
execution? Why? Why not?
A.13. As noted above, I believe that our market structure
should provide investor orders with an opportunity for the best
possible execution. With regard to the equity markets, I've
asked staff to consider: how do we facilitate greater
competition and efficiency on an order-by-order basis--when
people send each order into the marketplace? I have not reached
any conclusions in this area and have asked the staff to
develop recommendations for consideration by the Commission.
Q.14. Under the current framework, retail brokers incentivize
competition for order flow by rewarding execution firms that
provide superior execution quality. Forcing more retail order
flow to exchanges would remove this direct link which is
necessary for brokers to hold execution firms accountable and
thus would reduce the competition that drives the price and
size improvement benefits that retail investors receive today.
Do you agree that forcing retail orders on-exchange will
reduce the retail brokers' ability to demand better price and
size improvement benefits for retail investors? Why? Why not?
Do you agree that forcing retail order flow to exchanges
will be a significant financial win for exchange operators at
the expense of retail investors? Why? Why not?
A.14. As noted above, I believe that our market structure
should provide investor orders with an opportunity for the best
possible execution. I've asked staff to consider: how do we
facilitate greater competition and efficiency on an order-by-
order basis--when people send each order into the marketplace?
I have not reached any conclusions in this area and have asked
the staff to develop recommendations for consideration by the
Commission.
Q.15. In addition, there is hard data showing that forcing
trades onto lit exchanges does not result in better executions
for investors. For example, data from the SEC's Tick Size Pilot
showed that, for the category of securities that included a
``Trade-At'' requirement that orders be executed on lit
exchanges, spreads in fact widened more than other test groups.
The same result flowed from similar ``Trade-At'' initiatives in
other jurisdictions, such as Canada and Australia. What data
and analysis do you have from our markets to suggest that the
opposite outcome will occur in the U.S.?
A.15. As noted above, I believe that our market structure
should provide investor orders with an opportunity for the best
possible execution. I have not reached any conclusions in this
area and have asked the staff to develop recommendations for
consideration by the Commission.
Q.16. Chair Gensler, I am sure you would agree with me that the
proliferation of low or no-commission online trading firms has
greatly reduced the barriers to entry for retail investors to
access the markets. Firms like Robinhood that introduced
commission-free trading are responsible for attracting tens of
millions of new investors to our markets who are saving for
college, to buy a home, or for retirement. This phenomenon--
which was made possible by the current regulatory structure
that promotes competition among a diverse array of market
participants, including retail brokers and execution firms that
compete for order flow--has often been called the
``democratization'' of investing and has greatly promoted
financial inclusion in the U.S. As you are considering
potential changes to equity market structure, will you commit
to me that you will refrain from pursuing any drastic changes
that will threaten the substantial gains we have made in
promoting financial inclusion?
A.16. New financial technologies continue to change the face of
finance for investors and issuers. More retail investors than
ever are accessing our markets.
Promoting fair, orderly, and efficient markets can help
reduce the cost of capital for issuers and increase the rate of
returns for investors across each of these markets. This helps
contribute to economic growth and is a competitive advantage
for our Nation. Market integrity is about financial inclusion
and fairness of the markets. Promoting inclusion and equal
access facilitates greater competition among capital providers.
As noted above, I believe that our market structure should
provide investor orders with an opportunity for the best
possible execution. I have not reached any conclusions in this
area and have asked the staff to develop recommendations for
consideration by the Commission.
Q.17. I am writing to ask if you have had a chance to review my
letter submitted to you on June 9, 2021, regarding the harmful
impacts that the proposed amendments to Rule 144 put forth
under former Chairman Clayton will have on small businesses.
Prohibiting the ``tacking'' of the time between the investment
and the conversion in calculating the relevant holding period
under Rule 144 for market-adjustable convertible loans and
other convertible securities provided to unlisted public
companies would lead to a significant decrease in capital.
Have you and your staff had a chance to properly collect
data and review how this proposed rule change could remove
access to capital from the small and microcap markets
What impact the disappearance of this capital will have on
women and minority-owned businesses? If so, what are your
findings on likely and possible adverse impacts?
A.17. Thank you for your continued engagement on important
aspects of Rule 144. As noted in my prior reply to your letter,
the staff is actively working on developing recommendations for
the Commission concerning the proposed amendment to Rule 144.
Currently, the staff is actively reviewing public comment
submissions in response to a request for data or studies that
would facilitate estimating effects on access to capital, as
well as comments on all aspects of the analysis, including the
number of small entities that would be affected by the proposed
amendments, the existence or nature of the potential impact of
the proposals on small entities discussed in the analysis, and
how to quantify the impact of the proposed amendments.
------
RESPONSES TO WRITTEN QUESTIONS OF SENATOR KENNEDY
FROM GARY GENSLER
Q.1. Chairman Gensler, you have previously stated that it is a
priority of yours to bring ``greater transparency and
resiliency'' to the U.S. Treasury market. I agree that the
effort to strengthen the U.S. Treasury market should be a top
priority.
In a recent report released by the Group of Thirty,
entitled ``U.S. Treasury Markets; Steps Towards Increased
Resilience'', leading market experts and academics endorsed
increasing public post-trade transparency as a key step
regulators could take to strengthen the Treasury market.
Do you agree that steps should be taken to increase the
post-trade transparency of U.S. Treasuries, bringing this
market in-line with our stock, options, and corporate bond
markets?
A.1. As outlined in a recent speech at the U.S. Treasury Market
Conference, there is much work that can be done to bring
greater efficiency, competition and transparency; market
integrity; and resiliency to the $23 trillion Treasury markets.
\1\ The SEC plays a critical role in our overall efforts to
improve the functioning of the Treasury market. I've asked
staff to make recommendations for the Commission's
consideration to freshen up our rules to reflect the state of
the Treasury market today.
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\1\ https://www.sec.gov/news/speech/gensler-us-treasury-market-
conference-20211117
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One work stream relates to data quality. Currently, the
Trade Reporting and Compliance Engine (TRACE), a facility
operated by FINRA, facilitates the mandatory reporting of over-
the-counter transactions in Treasury securities. TRACE does not
publicly disseminate any information about these individual
transactions. Further, only broker-dealers that are registered
with FINRA, however, report Treasury transactions to TRACE,
leaving out major market participants like commercial banks and
proprietary trading firms. I support the Fed's recently
announced new rule requiring large banks to report transactions
to TRACE. I've asked staff to continue to work with FINRA, the
Department of the Treasury, and the Federal Reserve to consider
further enhancements to TRACE. In part to help make the TRACE
data set more comprehensive, I have directed the SEC staff to
consider whether nonbank firms that significantly trade in the
Treasury market should be registered as dealers with the SEC
and required to become TRACE-reporting members of FINRA.
Q.2. I would like to ask you about a longstanding problem that
needlessly reduces the returns of retail mutual fund
investors--Americans saving for their retirement, their
children's college education, and other important life goals. I
understand that mutual funds are forced to pay excessive and
unreasonable ``processing fees'' to brokers just to have
prospectuses and other SEC-required documents delivered to
investors. These fees cost fund investors approximately $220
million annually. The SEC recently had an opportunity to reform
the broken ``processing fee'' framework but preserved the
status quo.
What is the SEC going to do, under your leadership, to fix
this broken system and protect the interests of retail fund
investors?
A.2. Thank you for your interest in the ``processing fee''
framework. I agree that these are important issues. In fact, a
New York Stock Exchange (NYSE) petition for Commission review
of staff's disapproval of a NYSE proposal to remove the fee
schedule from its rules is before the Commission. I'm looking
forward to learning more about these issues and appreciate your
engagement.
Q.3. It is widely accepted that one of the principal reasons
for the 2008 financial crisis was inflated credit ratings from
Credit Rating Agencies (CRAs). As a result of the crisis, the
SEC was required to study and recommend a new model for how
credit rating agencies should operate. If no model was adopted
by the SEC, and independent board would recommend a solution.
Given that the SEC has not recommended a new model for
NSROs and other Credit Rating Agencies since Dodd-Frank became
law more than 10 years ago, will you implement an independent
board as prescribed by the Dodd-Frank Act's adoption of the
bipartisan Franken-Wicker Amendment?
A.3. Weaknesses at credit rating agencies contributed to the
2008 financial crisis, as the ``issuer pays'' model led to
conflicts and potentially misaligned incentives. Section 939F
of Dodd-Frank mandated that the SEC issue a report to Congress
on its findings and recommendations regarding the credit rating
process for structured finance products and various conflicts
of interest. Additionally, Dodd-Frank provides the SEC
rulemaking authority to address these conflicts of interest and
directs the SEC to ``give thorough consideration to the
provisions of the [Franken-Wicker amendment] . . . ''. As
required under section 939F, the SEC issued a report to
Congress titled ``Report to Congress on Assigned Credit
Ratings'' in December 2012. As noted in the Spring 2021 Unified
Regulatory Agenda, the Office of Credit Ratings is considering
recommending that the Commission propose rules and amendments
designed to address the conflicts of interest associated with
the issuer-pay business model (i.e., the NRSRO receives
compensation from issuers and obligors for rating the
securities of the issuer or the obligor) and increase
transparency and promote competition for the ratings of
securities.
Q.4. As I have raised with your predecessors in the past, once
fully operational, the Consolidated Audit Trail (CAT) will be
the largest Government database of its kind, capturing all
trading activity in equity securities and listed options in the
U.S. as well as information on all individuals and institutions
engaged in such trading. The CAT will ultimately hold data on
100 million plus retail and institutional accounts. This
massive database will be a major target for hackers and foreign
enemies. Investors trust the U.S. stock market with their
savings and expect that their privacy is protected by the firms
where they hold their accounts. The SEC's CAT puts their
privacy at risk by collecting personal information it doesn't
need.
Earlier this year I introduced the Protecting Investors'
Personally Identifiable Information Act that would prohibit the
Securities and Exchange Commission (SEC) from requiring brokers
to submit investors' personally identifiable information and
instead obtain this data by requesting it from the broker. To
address the SEC's concern that such a process takes too long,
the bill would require brokers to provide the data to the SEC
within 24 hours.
Do you agree that the approach in my bill is a better and
safer approach to protecting investors' data than the one
currently contemplated by the CAT?
When do you intend to finalize Proposed Amendments to the
National Market System Plan Governing the Consolidated Audit
Trail to Enhance Data Security; Release No. 34-89632; File No.
S7-10-20; RIN 3235-AM62, especially the sections that relates
to the personal information the CAT can and cannot collect?
A.4. The protection of investors' personally identifiable
information is critically important. The Commission previously
issued relief that exempts the SROs from collecting or
retaining the most sensitive data: (1) individual social
security numbers and individual tax payer identification
numbers; (2) dates of birth, and (3) account numbers. As a
result of the relief, broker-dealers are required to report
only ``phone-book'' type information: that is, name, address,
and birth year. The Commission has proposed to codify the
exemptive relief, and to adopt some additional protections for
all CAT data, in the CAT Data Security Amendment. Commission
staff are currently considering comments on the proposed
amendments.
Q.5. It's been nearly 10 years since Allen Stanford's arrest
for running the second largest Ponzi scheme in U.S. history and
the collapse of Stanford Financial Group. Over 21,000 victims
of Mr. Stanford's crimes, throughout the United States, have
yet to be repaid in any meaningful way, collecting 11 cents on
the dollar of the $7.2 billion swindled from them. These
victims, who purchased what were marketed as safe Certificates
of Deposit, are primarily working class families. These
families continue to deal with the economic overhang and
financial hardship inflicted upon them by the Stanford Fraud
each and every day.
Last year several Senators and I wrote to the SEC urging
the Chairman to audit the books of the court appointed
receiver, Ralph Janvey, who has proven to be dysfunctional, and
demands high fees from victim's compensation, most recently a
$300 fee deducted from the recovery amount to transfer funds
into their bank accounts. The receiver has recovered $937
million for victims, however total receiver fees and expenses
incurred exceeds $210 million and is at least 38 percent of the
amounts distributed to the wronged investors. This year, the
receiver sought and was approved for a 42 percent hourly rate
fee hike, and is further seeking approval for fees and expenses
up to $2.5 million for the months of March and April 2021.
I am constantly receiving complaints from my constituents
about the lack of transparency of the receivership.
What role does the SEC have in overseeing fees charged by
the receiver, which have already exceed $210 million?
Will you commit to reporting back on whether increased SEC
oversight is meaningfully improving recoveries for victims?
If increased oversight is not meaningfully improving
recoveries, will you petition the Federal court in Texas for
removal of the receiver?
The core problem here is that the Securities Investor
Protection Corporation (SIPC) refused to help these victims, on
legal and technical grounds. Now I know the SEC sued SIPC and
lost. I respect the SEC for trying to do right.
What recommendations do you have for us, here in Congress,
to fix this gross injustice?
A.5. The Receiver was appointed by the United States District
Court for the Northern District of Texas, and he reports to the
court. To be paid, the Receiver must submit, and the court must
approve, detailed fee applications. While the SEC does not have
formal oversight or audit authority over the Receiver, both SEC
staff and the court-appointed Examiner closely monitor the work
and fee applications of the Receiver. Our staff reviews and
questions the Receiver's fee applications before they are
filed, and has objected to prior fee applications. For example,
the SEC objected to the recent increase in the Receiver's
hourly rate, but the district court approved the increase
anyway, over the SEC's objection. Should Congress determine
that additional legislation is necessary to address similar
challenges that might arise in the future, the SEC staff and I
would be happy to work with your staff and you on possible
legislation.
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RESPONSES TO WRITTEN QUESTIONS OF SENATOR MORAN
FROM GARY GENSLER
Q.1. You have previously stated that execution firms who
transact off-exchange get valuable information about retail
orders that other market participants do not have and because
of this, execution firms have an improper information
advantage. You may be aware that every trade--regardless of
execution venue--must be immediately reported to the public
tape for market wide dissemination and incorporation into real-
time price discovery. While we acknowledge that scale conveys
operational benefits, your statements suggest that you are
conflating operational scale with an improper information
advantage that harms competition and retail investors.
Can you please elaborate on the data and analysis you
conducted on our U.S. Equities markets to make those
statements, including a list of factors you are assessing and
comparing to determine whether or not one firm has an
information advantage over another?
A.1. As you note, executed trades in NMS stocks are publicly
reported and disseminated. Certain off-exchange execution
dealers that receive the great majority of retail investor
orders, typically known as wholesalers, however, receive
information earlier than or beyond what is publicly reported
and disseminated. Examples of such additional information
include: (1) information on investor orders prior to execution
or cancellation, including the submission of nonmarketable
limit orders that wholesalers typically route out to exchanges
for execution, as well as investor ``stop loss'' orders (orders
that are not executable until the stock price hits the stop
price selected by the investor); and (2) the identity of the
routing broker (typically a broker that focuses on retail
investors) for executed trades. In contrast, the public reports
of orders executed in the off-exchange market do not identify
the wholesaler that executed the trade or the identity of the
retail broker whose customer submitted the order.
Q.2. You have been critical of the PFOF model, contending that
it presents inherent conflicts of interest for broker-dealers
and that retail customers are harmed through inferior execution
quality. It is my understanding that among the ways retail
brokers cure the potential conflict is to require similar PFOF
arrangements from all of their execution partners such that all
pay the same rate and retail brokers similarly put all of their
execution partners in competition against one another to
compete on execution quality--not amount of PFOF. Thus, retail
brokers award order flow based on the a market center's ability
to consistently provide best execution as measured by a variety
of factors including price improvement levels, size improvement
levels, and service levels.
According to filings made to the SEC by broker dealers,
retail investors received over $3.6 billion in price
improvement dollars from execution firms in 2020 as measured
under current SEC Rule 605 metrics.
Do you agree that retail brokers should route orders to the
market center where they have the highest likelihood of
obtaining the most favorable execution for their customers?
Why? Why not?
Do you agree that uniform payment rates adequately mitigate
the theoretical conflict? Why? Why not?
A.2. I believe that our equity market structure should promote
the opportunity for investor orders to receive best execution
and have asked the staff to develop recommendations in this
area. Retail brokers should route orders to the market center
where they can be executed on the best terms reasonably
available in the market, which is required of brokers pursuant
to the duty of best execution they owe to their customers.
Further, it is not clear that a uniform PFOF rate, as you
describe it, adequately mitigates the conflict concerns raised
by PFOF.
Q.3. Relatedly, I want to discuss ``size improvement,'' where
an execution firm fills an order for greater size than the size
available at the NBBO. For example, a retail customer has an
order for 1,000 shares, but there are only 300 shares being
offered at the NBBO. The execution firm offers ``size
improvement'' by executing the full 1,000 share order at or
better than the NBBO, giving the customer a better price than
she would have received if the order were sent to an exchange.
I've been told that when you factor in both price improvement
and size improvement, retail investors benefited to the tune of
$11 billion in 2020. This amount is missing from the current
Rule 605 reports due to shortcomings in Rule 605--a shortcoming
which many folks, including exchanges, argue should be
addressed. We understand that your view is that retail orders
should be forced onto an all-to-all exchange for order-by-order
competition.
Do you agree that Size Improvement is a valuable benefit
that retail receives today? Why? Why not?
If retail orders are forced onto exchanges, where do you
suppose the Size Improvement would come from?
A.3. I have not reached any conclusions with regard to equity
market structure and have asked the staff to develop
recommendations for consideration by the Commission. In this
regard, I've asked staff to consider: how do we facilitate
greater competition and efficiency on an order-by-order basis--
when people send each order into the marketplace? I've asked
staff to consider whether shrinking tick sizes, reevaluating
what is included in the National Best Bid and Offer, enhancing
disclosure, or leveling competition between trading venues and
wholesalers could increase transparency and competition. I've
asked staff to consider the potential conflicts of interest in
the context of payment for order flow and on-exchange use of
rebates. Further, such review includes consideration of
enhancements of rule 605 with regard to order execution
information. Your query with regard to size improvement is
amongst questions I've asked staff to consider when making
recommendations.
Q.4. If the SEC were to ban PFOF, broker-dealers naturally
would need to find alternative sources of revenue in order to
run their businesses. I have a very difficult time
understanding how a retail investor is better off paying $9.99
or even $4.99 a trade than under the current framework where
there is no commission for trading and retail investors receive
very substantial price and size improvement from execution
firms. Moreover, even if some brokers retained a zero
commission model wouldn't you expect those revenues to be made
up in less transparent ways like margin interest rates, lower
interest rates on cash balances, inactivity fees, and other
methods.
Do you agree that transparency is important to fostering
competition among retail brokers? Why? Why not?
What analysis have you and your staff done to determine how
a return to commission-based trading will impact retail
investors--especially lower-income investors? What data did you
use?
A.4. I agree that transparency is a one of the SEC's important
tools to promote competition in the U.S. equity markets. As
noted above, I believe that our market structure should provide
investor orders with an opportunity for the best possible
execution. I have not reached any conclusions in this area and
have asked the staff to develop recommendations for
consideration by the Commission.
Q.5. On multiple occasions, you have pointed out that other
jurisdictions, including Canada and the U.K. have banned PFOF
and forced trading onto lit exchanges. In these statements,
you've suggested that the investor experience in those
jurisdictions is better as a result.
Can you please elaborate on the data and analysis you
conducted to make those statements, including a list of factors
you are assessing and comparing to determine that retail
investor execution quality is better in those markets compared
to the U.S.?
A.5. I have noted that other jurisdictions have prohibited
their brokers from accepting PFOF from off-exchange venues.
Amongst key questions on which I have asked the staff to
consider in developing recommendations is what we can learn
from these other markets and how our market structure could be
improved to provide an opportunity for retail investors to
receive the best possible execution quality for their orders.
Q.6. There is substantial research out there suggesting that
the investor experience is worse in jurisdictions that have
implemented rules forcing trades to be executed on exchanges
rather than requiring brokerages to route orders to the market
centers that provide the most favorable execution for the
investor. According to an analysis by the CFA Institute, in
Canada, retail investors' average price improvement dropped 70
percent after such rule was adopted.
Do you agree that competition among market centers is
essential to operating efficient and resilient markets? Why?
Why not?
Do you believe that forcing retail orders to go to
exchanges--rather than requiring brokerages to route based on
best execution--will achieve the best outcome for retail
investors? Why? Why not?
Do you agree that forcing retail order flow to exchanges
will be a significant financial win for exchange operators at
the expense of retail investors? Why? Why not?
A.6. Fair competition between market centers is essential for
our market structure. I believe that our market structure
should provide investor orders with an opportunity for the best
possible execution. I have not reached any conclusions in this
area and have asked the staff to develop recommendations for
consideration by the Commission.
Q.7. You have made comments suggesting that the recent growth
in ``off-exchange'' trading is harmful to investors, and that
our equity markets would benefit from more trades being routed
to lit exchanges.
Do you agree that investors' orders should be executed
wherever they are able to obtain the most favorable execution?
Why? Why not?
A.7. As noted above, I believe that our market structure should
provide investor orders with an opportunity for the best
possible execution. With regard to the equity markets, I've
asked staff to consider: how do we facilitate greater
competition and efficiency on an order-by-order basis--when
people send each order into the marketplace? I have not reached
any conclusions in this area and have asked the staff to
develop recommendations for consideration by the Commission.
Q.8. Under the current framework, retail brokers incentivize
competition for order flow by rewarding execution firms that
provide superior execution quality. Forcing more retail order
flow to exchanges could remove this direct link which is
necessary for brokers to hold execution firms accountable and
thus would reduce the competition that drives the price and
size improvement benefits that retail investors receive today.
Do you agree that forcing retail orders on-exchange will
reduce the retail brokers' ability to demand better price and
size improvement benefits for retail investors? Why? Why not?
Do you agree that forcing retail order flow to exchanges
will be a significant financial win for exchange operators at
the expense of retail investors? Why? Why not?
A.8. As noted above, I believe that our market structure should
provide investor orders with an opportunity for the best
possible execution. I've asked staff to consider: how do we
facilitate greater competition and efficiency on an order-by-
order basis--when people send each order into the marketplace?
I have not reached any conclusions in this area and have asked
the staff to develop recommendations for consideration by the
Commission.
Q.9. There is hard data showing that forcing trades onto lit
exchanges does not result in better executions for investors.
For example, data from the SEC's Tick Size Pilot showed that,
for the category of securities that included a ``Trade-At''
requirement that orders be executed on lit exchanges, spreads
in fact widened more than other test groups. The same result
flowed from similar ``Trade-At'' initiatives in other
jurisdictions, such as Canada and Australia.
What data and analysis do you have from our markets to
suggest that the opposite outcome will occur in the U.S.?
Do you agree that forcing retail order flow to exchanges
will be a significant financial win for exchange operators at
the expense of retail investors? Why? Why not?
A.9. As noted above, I believe that our market structure should
provide investor orders with an opportunity for the best
possible execution. I have not reached any conclusions in this
area and have asked the staff to develop recommendations for
consideration by the Commission.
Q.10. There has been significant debate about the form that
climate disclosures should take--mandates vs. guidance,
prescriptive vs. principles-based, et cetera.
What direction do you believe the Commission will take in
the proposal and what types of modeling are you doing to
determine which form will yield the most informative
disclosures for investors?
Will any of the various existing standards be used for
mandatory ESG reporting (SASB, GRI, CDP)?
As you know, the Task Force on Climate-Related Financial
Disclosures is only a framework and not a reporting standard.
Does the SEC plan to incorporate TCFD into mandatory reporting
requirements and if so, how might this be structured into
metrics reporting?
Will mandatory reporting include verification and/or third
party certification of reported elements? How has the SEC
considered the cost of the increased burden of data gathering,
verification, certification, and auditing?
It is undeniable that climate and ESG disclosures more
broadly may have global impacts, but several international
jurisdictions are seemingly ahead of the U.S. and the SEC in
promulgating reporting obligations and standards around climate
change and ESG. To that end, how do you see the Commission
becoming more engaged with global standard setters in the
coming years, particularly in leadership roles since U.S.
markets are the deepest and most liquid in the world?
A.10. Today, investors increasingly want to understand the
climate risks of the companies whose stock they own or might
buy. Large and small investors, representing literally tens of
trillions of dollars, are looking for this information to
determine whether to invest, sell, or make a voting decision
one way or another. Investors are looking for consistent,
comparable, and decision-useful disclosures so they can put
their money in companies that fit their needs.
I have asked the staff of the Division of Corporation
Finance to develop recommendations for the Commission to
consider. The staff are currently engaged in that process,
including considering how best to structure any recommended
disclosure proposals.
As staff put together their recommendations, we have
benefited from the input that the public submitted this spring.
Among other frameworks and standards, many commenters referred
to the Task Force on Climate-related Financial Disclosures
(TCFD) framework. I've asked staff to learn from and be
inspired by these external standard-setters. I believe, though,
we should move forward to write rules and establish the
appropriate climate risk disclosure regime for our markets, as
we have in prior generations for other disclosure regimes.
Our Division of Economic and Risk Analysis will conduct an
economic analysis that will carefully consider the effects on
efficiency, competition, and capital formation along with
investor protection of any proposal that the Commission
considers.
Q.11. There is a longstanding problem that needlessly reduces
the returns of retail mutual fund investors--Americans saving
for their retirement, their children's college education, and
other important goals. I understand that mutual funds are
forced to pay excessive and unreasonable ``processing fees'' to
brokers just to have prospectuses and other SEC-required
documents delivered to investors. These fees cost fund
investors approximately $220 million annually. The SEC recently
had a clear opportunity to reform the broken ``processing fee''
framework and failed to do so, just leaving it as it is.
What is the SEC going to do, under your leadership, to fix
this broken system and protect the interests of retail fund
investors?
A.11. Thank you for your interest in the ``processing fee''
framework. I agree that these are important issues. In fact, a
New York Stock Exchange (NYSE) petition for Commission review
of staff's disapproval of a NYSE proposal to remove the fee
schedule from its rules is before the Commission. I'm looking
forward to learning more about these issues and appreciate your
engagement.
Q.12. In its request for information on climate disclosures
promulgated by then-Acting Chair Allison Lee, the SEC included
a question on whether disclosure requirements should extend to
private companies. Specifically, question 14 posed the
following question:
``What climate-related information is available with
respect to private companies, and how should the Commission's
rules address private companies' climate disclosures, such as
through exempt offerings, or its oversight of certain
investment advisers and funds?''
In your view, does the SEC have the authority to regulate
the disclosure activities of private companies?
Does the SEC intend to promulgate rules or guidance that
targets climate-related disclosures for privately held
businesses?
A.12. Today, investors increasingly want to understand the
climate risks of the companies whose securities they own or
might buy. Large and small investors, representing literally
tens of trillions of dollars, are looking for this information
to determine whether to invest, sell, or make a voting decision
one way or another. Investors are looking for consistent,
comparable, and decision-useful disclosures so they can put
their money in companies that fit their needs. I have asked the
staff of the Division of Corporation Finance to develop
recommendations for the Commission to consider to provide
investors with decision-useful disclosures. The staff are
currently engaged in that process.
Over the last several decades, the Commission has adopted
several rules to create safe harbors from registration
requirements under Section 5 of the Securities Act. These
regulations provide issuers with greater certainty than
statutory exemptions alone. Many of these existing regulatory
transaction and resale exemptions include disclosure
requirements. Advisers to private funds also have disclosure
obligations and antifraud liability.
Q.13. In June of this year, the SEC announced that it would
reexamine and therefore not enforce the Proxy Advisor Rule that
had been adopted by a majority of the Commission in July 2020
following a meticulous and years-long process under the
Administrative Procedure Act. The Proxy Advisor Rule was guided
by efforts to increase transparency, quality, and
accountability in the proxy advisory system in the United
States.
When does the SEC expect to announce further regulatory
action related to the Proxy Advisor Rule?
Could you describe how SEC staff will conduct an
appropriate review of the rule given that the SEC has decided
not to enforce the existing rule before it has gone into
effect?
How will the SEC's additional regulatory actions prioritize
increasing the transparency, quality, and accountability around
proxy advisor firms?
A.13. Although some parts of the 2020 rules are not yet
effective, other parts have been effective since November 2020.
We have heard concerns from market participants who use the
proxy advisory firms about the rules' current and future
possible impact on the independence, timeliness, and costs of
the advice.
Last Wednesday, November 17th, the Commission voted to
propose amendments to these rules. Those proposals are tailored
to address the independence, timeliness, and cost concerns
raised by clients of proxy advisory firms and the confusion
around sources of liability. The proposals would make no change
to the conflict of interest disclosure requirements of the 2020
amendments. The release further clarifies, but does not alter,
the application of the antifraud provisions of our proxy rules
to proxy voting advice. These proposals are now in the notice
and comment process and we encourage the public to share their
views with the Commission.
Q.14. News sources have reported that the SEC informed Coinbase
that it would sue if Coinbase launched its cryptocurrency
lending product, but has not disclosed the reasoning for its
decision--either to Coinbase or the public.
Appreciating that the SEC's mission is both ``to protect
investors'' and ``maintain fair, orderly, and efficient
markets,'' does the Commission have any plans to disclose its
reasoning for barring lending products like the one proposed by
Coinbase?
Wouldn't the issuance of public guidance help prevent the
development of products the SEC finds problematic?
A.14. I cannot comment on any particular product. To the extent
that crypto asset platforms are offering or selling crypto
assets that are securities or securities derivatives, or are
engaging in other activities that involve securities, the
Federal securities laws would apply. The definition of security
is intended to be broad, in order to encompass new and
different types of investments that are presented to investors
and that need the protections of the Federal securities laws.
Whether a particular instrument is within the definition of
security is based on the facts and circumstances. As I have
stated at the hearing, none of the significant crypto asset
trading platforms are registered as securities exchanges with
the SEC or are operating pursuant to an exemption from
registration, such as the exemption for alternative trading
systems. The SEC has been clear about how it applies the
Federal securities laws in this area, as explained, for
example, in the 2017 DAO Report and SEC settled orders.
Q.15. You indicated in your testimony that you are working with
the CFTC and other Federal agencies on policy frameworks for
digital asset issues.
Could you be more specific on how you are working with the
CFTC?
Are other CFTC and SEC Commissioners involved in these
discussions?
A.15. The SEC and CFTC work closely and collaboratively on a
wide range of crypto asset-related issues. Both agencies have
dedicated offices responsible for staying abreast of
developments in the crypto asset space, and our respective
staff communicate frequently about these developments. Our
efforts are assisted further by our respective participation in
broader interagency initiatives, such as the President's
Working Group on Financial Markets, which worked on addressing
issues related to stablecoins. The SEC and CFTC also both
participate in multiple international bodies that are
addressing crypto asset-related issues, such as the
International Organization of Securities Commissions. Dating
back to the Shad-Johnson accord, the SEC and CFTC have
repeatedly been called on to address issues that implicate the
unique and also the overlapping jurisdictions of each agency
and, in response, we have worked collaboratively on areas where
our authorities overlap. We will continue to closely
communicate and work together to ensure the integrity and
transparency of our financial markets.
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RESPONSES TO WRITTEN QUESTIONS OF SENATOR DAINES
FROM GARY GENSLER
Q.1. On August 27, the Securities and Exchange Commission (the
Commission) issued a 78-page ``Request for Information and
Comments on Broker-Dealer and Investment Adviser Digital
Engagement Practices, Related Tools and Methods, and Regulatory
Considerations and Potential Approaches; Information and
Comments on Investment Adviser Use of Technology To Develop and
Provide Investment Advice''. In addition to defining ``digital
engagement practices'' (DEPs) for the first time, the
Commission poses 91 categories of questions. The Commission
also makes clear that these questions are ``not intended to
limit the scope of comments, views, issues, or approaches to be
considered.'' Furthermore, the Commission requests
``statistical, empirical, and other data'' in response to its
questions on the newly defined DEPs.
This is an exceedingly broad request for information on a
loosely defined topic that could be relevant to nearly every
financial services company. I am concerned that the unusually
short current 30-day comment deadline of October 1 is
insufficient to allow thoughtful and data backed engagement
with the SEC on this topic--and breaks with the Commission's
own practice of providing a longer comment period for similar
requests. For example, the SEC's March 15 request for public
input on climate disclosure gave commenters 90 days to respond.
Will you extend the comment period past the October 1
deadline?
Will you consider giving longer, more reasonable comment
periods for RFIs in the future?
A.1. As you note, the comment period for the Request closed on
October 1. To date, we have we received over 2,000 comments in
response to the Request, including many responses from retail
investors to our ``Feedback Flyer''. The Commission evaluates
comment periods on a case by case basis consistent with the
applicable law.
Although the comment period has closed, we continue to
welcome additional feedback, including statistical, empirical
and other data, as we consider all of the comments and evaluate
potential next steps.
Q.2. Can you provide an update on what the Commission has done
to date, and what it is planning to do moving forward, to
protect seniors from fraudulent scams?
A.2. Deterrence through strong enforcement action has been an
important part of the SEC's efforts to protect senior
investors, and the Division of Enforcement places a high
priority on investigating frauds targeting seniors. For
example, on February 4, 2021, the SEC announced charges against
three individuals and their affiliated entities with running a
Ponzi-like scheme that raised over $1.7 billion from over
17,000 senior and other retail investors. In addition, the
Division's Retail Strategy Task Force develops and implements
strategies for identifying potential violations to uncover the
types of misconduct that most affect individual investors, with
a focus on data-driven approaches, and investigates cases that
involve schemes targeting the most vulnerable members of the
investing public, often including senior investors. With the
Office of Investor Education and Advocacy, the Division also
seeks to educate senior investors so they can better protect
themselves, through investor outreach, including in partnership
with AARP, and issuing alerts and bulletins to educate seniors
and other investors.
Finally, on June 15, 2021, in recognition of World Elder
Abuse Awareness Day, the SEC, the North American Securities
Administrators Association (NASAA), and the Financial Industry
Regulatory Authority (FINRA) announced a training program to
assist securities firms in identifying and reporting
exploitative activity against seniors.
Additional Material Supplied for the Record
LETTER FROM AMERICAN SECURITIES ASSOCIATION
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