August 4, 2009
August 3, 2009
Ms. Elizabeth M. Murphy, Secretary
U.S. Securities and Exchange Commission
100 F Street, NE
Washington, D.C. 20549-1090
RE: Proposed rule Custody of Funds or Securities of Clients by Investment Advisers
RE: File No. S7-09-09
Dear Ms. Murphy:
This proposed rule represents a major opportunity for the Securities and Exchange Commission to press for the elimination of phantom shares in investor accounts. By reinstating the requirement (removed in 2003) for all investment advisors to have an annual surprise examination by an independent public accountant to confirm client cash and securities, investors will be assured that their broker is holding all of the shares showing on the investor account statements – and that they have not been on the receiving (buying) end of any naked short sales or fails to deliver.
We agree with the Commissions proposal to have an independent public accountant confirm all securities held by the custodian and to reconcile all such securities to the books and records of client accounts. We suggest that this examination be designed to include revealing evidence that investors are holding securities entitlements for more than T+3 days when in fact their purchase was the subject of a failure to receive securities (the other side of a failure to deliver). This examination should also be designed to reveal evidence when securities lending has resulted in multiple records of ownership for shares, i.e., records of ownership that exceed the shares actually in custody. Such an examination should include reconciliation of the number of shares reported on investor accounts with the total number of shares available at the investment firm, including shares in the free account (not short, not on loan, etc.) at the Depository Trust Company.
We are in agreement with comments submitted by Ernst Young and others for clarification of the Commissions reference to client assets. In particular, we seek to have specific reconciliation of all exchange listed common stock shares. Although investors need assurances that other classes of securities are also reconciled, we believe that the equity securities of US public companies are most vulnerable to the dangers of empty shares. (On this, see the work of Professors Henry T.C. Hu and Bernard S. Black of the University of Texas at Austin - School of Law Austin on empty voting and empty creditors). Phantom shares, resulting from naked short selling, are implicated in the demise of Lehman Brothers, Fannie Mae, Freddie Mac and Bear Stearns.
We are concerned about corporate governance and shareholder voting rights. We have seen the damage done to investor confidence when individual investors find that they cannot withdraw their shares from a brokerage account because the trade – which they believed settled on time with shares that they fully-paid for – failed to settle. These investors thought they owned shares that were held by their investment advisor. This proposed rule has powerful potential to restore investor confidence in US capital markets.
Thank you for the opportunity to comment on this important proposal.
Susanne Trimbath, Ph.D.
Chief Executive Manager
STP Advisory Services, LLC