August 17, 2020

Broker-Dealers

Broker-Dealers

Installment Payments in Public Offerings of Securities: Recent Changes to the Securities Exchange Act of 1934
      Edward L. Pittman, 43(1): 51–77 (Nov. 1987)
Last year the SEC adopted a controversial rule permitting broker-dealers to participate in public offerings of limited partnership securities in which investors have the opportunity to make installment payments. This Article discusses the reasons why issuers have attempted to use installment payments in the past, the problems they have encountered under the margin regulations of the federal securities laws, the significant provisions of the new exemption provided by rule 3a12–9, the structural alternatives made available to issuers under that rule, and recent amendments to the NASAA Real Estate Guidelines that are designed to accommodate offerings with installment payment features.

Broker-Dealer Supervision of Registered Representatives and Branch Office Operations
      Task Force on Broker-Dealer Supervision and Compliance of the Committee on Federal Regulation of Securities , 44(4): 1361–98 (Aug. 1989)
This Report begins by summarizing and analyzing the SEC's position regarding adequate and appropriate broker-dealer supervisory procedures, as articulated primarily in the series of failure-to-supervise cases brought by the SEC against major broker-dealers under section 15(b)(4)(E) of the Exchange Act. The second part of the Report considers the other Exchange Act provisions that provide the SEC with direct or indirect authority to review the adequacy of broker-dealer supervisory procedures. Third, the Report discusses the supervisory rules applicable to members of the NASD, NYSE, CBOE, MSRB, and the TSA in the United Kingdom, including the available interpretive guidance and recently adopted NYSE and NASD supervisory rules. The report also summarizes the implications of the proceedings initiated to enforce those supervisory rules.

An Insider's View of the Insider Trading and Securities Fraud Enforcement Act of 1988
      Stuart J. Kaswell, 45(1): 145–80 (Nov. 1989)
This Article outlines the provisions of the recently enacted Insider Trading and Securities Fraud Enforcement Act of 1988. The Article discusses how the legislation alters the federal securities laws and imposes specific new statutory responsibilities on broker-dealers and investment advisers. It discusses changes to the law that permit the SEC to seek a civil penalty against a controlling person with respect to illegal insider trading committed by a controlled person. The Article also discusses aspects of the legislative process that produced this act.

Report of the ABA's Section of Business Law Task Force on SEC Section 15(c)(4) Proceedings
      Task Force on Section 15(c)(4) Proceedings, 46(1): 253–95 (Nov. 1990)
In its Report on SEC section 15(c)(4) proceedings, the Task Force provides an overview of section 15(c)(4)'s legislative history and operation to date; describes various procedural aspects of a section 15(c)(4) proceeding and the collateral consequences of a section 15(c)(4) order; discusses the elements predicate to the issuance of a section 15(c)(4) order; examines the SEC's power to order relief beyond the correction of the particular filing or condition that gave rise to the section 15(c)(4) proceeding; and examines the SEC's power to institute a section 15(c)(4) proceeding when such a correction has already been effected or in the face of other indications of mootness.

The Net Capital Rule
      Michael P. Jamroz, 47(3): 863–912 (May 1992)
A broker-dealer conducting a general securities business must comply with SEC rule 15c3–1, the net capital rule. The net capital rule is designed to ensure that broker-dealers will have adequate liquid assets to meet their customer obligations to investors and liabilities to other creditors. This landmark Article discusses principal aspects of the net capital rule and explores how the rule addresses risk in positions that many broker-dealers carry (equities, government securities, corporate bonds, options, and commodities). It also examines current securities industry developments and related issues pertaining to the net capital rule.

NASD Disciplinary Proceedings—Recent Developments
      T. Grant Callery and Anne H. Wright, 48(3): 791–840 (May 1993)
This Article focuses upon recent developments in the NASD disciplinary process. After reviewing the NASD's structure and the background of the disciplinary process, the authors discuss the NASD's current practices in such areas as discovery, settlement, the imposition of disciplinary sanctions, and the release of information concerning NASD disciplinary actions. They also discuss the roles that are played by NASD staff lawyers, litigation that has challenged aspects of the disciplinary process, and procedural changes that the NASD is considering for the future.

The Role and Regulation of Clearing Brokers
      Henry F. Minnerop, 48(3): 841–68 (May 1993)
This Article traces the evolution of clearing relationships in response to specific regulatory initiatives, such as the deregulation of commissions, favorable net capital rules, and the elimination of duplicative supervisory requirements. It concludes by reviewing the case law relating to the liability of clearing brokers to public customers.

Supervision Challenges Facing Broker-Dealers Employing the Independent Contractor Small Branch Office Model: A Call to Action
      Charles V. Senatore, 52(4): 1359–84 (Aug. 1997)
The SEC's recent order in In re Royal Alliance Associates, Inc. illustrates potential supervisory weaknesses in broker-dealer firms organized as franchise branch offices utilizing independent contractors. These weaknesses, if left unaddressed, can lead to liability under section 15(b) of the Exchange Act. The Article discusses the challenges facing broker-dealers organized in such a fashion to supervise their registered representatives and urges those firms to reexamine closely their supervisory practices and procedures to ensure compliance with their obligations under the securities laws.

Suitability in Securities Transactions
      Lewis D. Lowenfels and Alan R. Bromberg, 54(4): 1557–97 (Aug. 1999)
This Article addresses the suitability doctrine under the federal securities laws—the duty on the part of the broker to recommend to a customer only those securities which are suitable to the investment objectives and peculiar needs of that particular customer. The suitability doctrine entails the matching of two elements: (i) the investment objectives, peculiar needs, and other investments of the particular customer with (ii) the characteristics of the security that is being recommended. All of the suitability rules of the various self-regulatory organizations—the NASD, the NYSE, the Chicago Board Options Exchange, and the Municipal Securities Rulemaking Board—are analyzed. Disciplinary actions under the suitability rules of these self-regulatory organizations are discussed. The SEC's role in the development of the suitability doctrine over the years is traced. Finally, private damage actions based upon the suitability doctrine under federal law, state law, and in arbitration proceedings are compared.

The Suitability Rule, Investor Diversification, and Using Spread to Measure Risk
      Richard A. Booth, 54(4): 1599–1627 (Aug. 1999)
This Article reviews the state of the law regarding actions against broker-dealers based upon the NASD suitability rule and similar theories, summarizes the theory and practice of investor diversification, explains the motivations that may lead a broker to recommend excessively risky securities and investment strategies, and discusses the various methods that may be used to quantify or compare risk, focusing in particular on how the bid-ask spread may be used as a forward-looking surrogate for the direct measurement of risk.

On-Line Broker-Dealers: Conducting Compliance Reviews in Cyberspace
      Joseph M. Furey and Beth D. Kiesewetter, 56(4): 1461 (Aug. 2001)
Business models for broker-dealers continue to evolve amid structural changes to our capital markets and continued technological enhancements. Regardless of what business model a broker-dealer ultimately selects for itself, developing or enhancing an on-line capability will be a necessity. Federal and state laws and regulations, as well as Self- Regulatory Organizations rules require broker-dealers to supervise their on-line trading systems and marketing activities. Scrutiny by state and federal securities regulatory authorities of on-line broker-dealers has increasingly focused on systems capacity issues and the disclosures made, or not made, by management with regard to the benefits and drawbacks of on-line trading. Broker-dealers that provide on-line trading capabilities to their customers should focus their attention on matters involving systems capacity, advertising and investor education, suitability, best execution, pricing of market data, relationships with internet portals, on-line discussion forums, customer privacy, electronic books and records, and day trading. In these circumstances, more on-line broker-dealers have conducted compliance reviews of their supervisory procedures and on-line trading systems to take into account new rules and other guidance provided by securities regulators. This Article examines issues broker-dealers should consider in developing and reviewing supervisory procedures and controls for market conduct and sales practices in an on-line environment.

The Best of Both Worlds: A Fact-Based Analysis of the Legal Obligations of Investment Advisers and Broker-Dealers and a Framework for Enhanced Investor Protection
      James S. Wrona, 68(1): 1 - 56 (November 2012)
A crucial debate on financial regulatory reform, affecting virtually every investor in the United States, is now taking place. The debate centers on the standards of care required of financial professionals when they provide investment advice. Two separate and markedly different regulatory regimes apply to these financial professionals: one for investment advisers and one for broker-dealers. This article discusses recent congressional initiatives related to advisers and broker-dealers, reviews existing obligations when advisers and broker-dealers provide advice to customers, and identifies regulatory gaps that need to be bridged. The level of regulatory oversight that both models receive also is explored. Finally, the article offers a framework to ensure robust investor protection and, as part of that framework, recommends that policymakers impose additional obligations on both broker-dealers and advisers to achieve truly universal standards of conduct that are in investors' best interests.

SEC Enforcement Actions and Issuer Litigation in the Context of a "Short Attack"
     Charles F. Walker and Colin D. Forbes; 68(3): 687-738 (July 2013)
Issuers faced with a short attack—short selling of the issuer’s stock combined with the spread of negative rumors—may contemplate defensive strategies such as litigation and contacting government regulators, in addition to the investor and public relations efforts that are typically utilized in the wake of negative media coverage. Precedent calls for caution in these circumstances, as the record shows that the results of such strategies are mixed, with the SEC often turning its investigative focus to the issuer, and with costly litigation frequently resulting in compromise. This article begins with a discussion of the recent history of regulatory and legislative efforts to address concerns around short attacks and “naked” short selling. It then turns to a discussion of the SEC enforcement cases and private litigation relating to short attacks, and concludes that the SEC has appropriately brought enforcement cases only in clear-cut instances of fraud, while policing the margins through enforcement of the technical requirements of Regulation SHO. The article shows that the SEC enforcement record in this area, and the proof issues generally attendant to these cases, present important considerations for issuers who perceive themselves under siege in a short attack.

Rolling Back the Repo Safe Harbors
      Edward R. Morrison, Mark J. Roe, and Christopher S. Sontchi, 69(4): 1015-1048 (August 2014)
Recent decades have seen substantial expansion in exemptions from the Bankruptcy Code’s normal operation for repurchase agreements. These repos, which are equivalent to very short-term (often one-day) secured loans, are exempt from core bankruptcy rules such as the automatic stay that enjoins debt collection, rules against prebankruptcy fraudulent transfers, and rules against eve-of-bankruptcy preferential payment to favored creditors over other creditors. While these exemptions can be justified for United States Treasury securities and similarly liquid obligations backed by the full faith and credit of the United States government, they are not justified for mortgage-backed securities and other securities that could prove illiquid or unable to fetch their expected long-run value in a panic. The exemptions from baseline bankruptcy rules facilitate this kind of panic selling and, according to many expert observers, characterized and exacerbated the financial crisis of 2007–2009. The exemptions from normal bankruptcy rules should be limited to United States Treasury and similar liquid securities, as they once were. The more recent expansion of these exemptions to mortgage-backed securities should be reversed.

Massey Prize for Research in Law, Innovation, and Capital Markets Symposium—Foreword
     70(2): 319-320 (Spring 2015)

Financial Innovation and Governance Mechanisms: The Evolution of Decoupling and Transparency
     Henry T. C. Hu; 70(2): 347-406 (Spring 2015)
Financial innovation has fundamental implications for the key substantive and information-based mechanisms of corporate governance. “Decoupling” undermines classic understandings of the allocation of voting rights among shareholders (via, e.g., “empty voting”), the control rights of debtholders (via, e.g., “empty crediting” and “hidden interests”/ “hidden non-interests”), and of takeover practices (via, e.g., “morphable ownership” to avoid section 13(d) disclosure and to avoid triggering certain poison pills). Stock-based compensation, the monitoring of managerial performance, the market for corporate control, and other governance mechanisms dependent on a robust informational predicate and market efficiency are undermined by the transparency challenges posed by financial innovation. The basic approach to information that the SEC has always used—the “descriptive mode,” which relies on “intermediary depictions” of objective reality—is manifestly insufficient to capture highly complex objective realities, such as the realities of major banks heavily involved with derivatives. Ironically, the primary governmental response to such transparency challenges—a new system for public disclosure that became effective in 2013, the first since the establishment of the SEC—also creates difficulties. This new parallel public disclosure system, developed by bank regulators and applicable to major financial institutions, is not directed primarily at the familiar transparency ends of investor protection and market efficiency.

As starting points, this Article offers brief overviews of: (1) the analytical framework developed in 2006−2008 for “decoupling” and its calls for reform; and (2) the analytical framework developed in 2012−2014 reconceptualizing “information” in terms of three “modes” and addressing the two parallel disclosure universes.

As to decoupling, the Article proceeds to analyze some key post- 2008 developments (including the status of efforts at reform) and the road ahead. A detailed analysis is offered as to the landmark December 2012 TELUS opinion in the Supreme Court of British Columbia, involving perhaps the most complicated public example of decoupling to date. The Article discusses recent actions on the part of the Delaware judiciary and legislature, the European Union, and bankruptcy courts—and the pressing need for more action by the SEC. At the time the debt decoupling research was introduced, available evidence as to the phenomenon’s significance was limited. This Article helps address that gap.

As to information, the Article begins by outlining the calls for reform associated with the 2012−2014 analytical framework. With revolutionary advances in computer- and web-related technologies, regulators need no longer rely almost exclusively on the descriptive mode rooted in intermediary depictions. Regulators must also begin to systematically deploy the “transfer mode” rooted in “pure information” and the “hybrid mode” rooted in “moderately pure information.” The Article then shows some of the key ways that the new analytical framework can contribute to the SEC’s comprehensive and long-needed new initiative to address “disclosure effectiveness,” including in “depiction-difficult” contexts completely unrelated to financial innovation (e.g., pension disclosures and high technology companies). The Article concludes with a concise version of the analytical framework’s thesis that the new morphology of public information—consisting of two parallel regulatory universes with divergent ends and means—is unsustainable in the long run and involve certain matters that need statutory resolution. However, certain steps involving coordination among the SEC, the Federal Reserve, and others can be taken in the interim.

The Promise of Unfavorable Research: Ramifications of Regulations Separating Research and Investment Banking for IPO Issuers and Investors
     Benjamin J. Catalano; 72(1): 31-60 (Winter 2016/2017)
The trend in Securities and Exchange Commission and Financial Industry Regulatory Authority rulemaking and enforcement to insulate research from investment banking influence has led to the removal of research analysts from the underwriting process with adverse consequences for new issuers and their investors. The approach conflicts with the congressional objective under the Jumpstart Our Business Startups (JOBS) Act to incorporate research fully in public offerings for emerging growth companies, which now comprise the vast majority of IPO issuers. Faced with these competing objectives, broker-dealers should have written policies and procedures that are carefully crafted to service their underwriting and investor clients appropriately and to take advantage of the JOBS Act privileges with respect to research.

Soft Dollars, Hard Choices: Reconciling U.S. and EU Policies on Sell-Side Research
     Paul G. Mahoney, 75(3): 2173-2200 (Summer 2020)
Investors use research provided by broker-dealers, also known as sell-side research, to help formulate trading ideas and strategies. Investors normally pay for sell-side research through brokerage commissions. Recent European Union regulations require some institutional investment managers to unbundle, or pay separately for, research and trade execution. Unbundling might subject a U.S. broker-dealer to regulation under the Investment Advisers Act of 1940, significantly affecting the broker’s business practices.