Speech by SEC Commissioner:
Keynote Address at the Southwest Regional Enforcement Conference
Commissioner Kathleen L. Casey
U.S. Securities and Exchange Commission
Fort Worth, Texas
September 5, 2007
Thank you Rose Romero for that kind introduction. Rose is an asset to the Commission with her extensive background in law enforcement and her strong relationships with her counterparts at the state and federal agencies here in the region. She's also an asset to investors in the region and the nation as she helps lead our efforts of protecting investors and our markets. I also want to recognize and thank the Texas State Securities Board and Commissioner Denny Crawford for co-hosting this terrific conference.
Joining you at today's conference is a particular treat for me. It has been almost 25 years since returning to Texas — a great state that I was fortunate to spend some time growing up in.
I have very fond memories of the time my family lived in San Antonio and despite having lived in the North for much of my adulthood, I still consider Texas as one of my many homes. My brother, a small business owner in Spring Branch, wisely moved back.
So it's great to be back in Texas.
Although I seriously doubt anyone would quibble with my comments thus far, I must remind you that my comments today are my own and do not necessarily reflect those of the Commission or other Commissioners.
The group of professionals assembled here is an important one. Securities regulators and law enforcement officials from the SEC, the Department of Justice, and the various state agencies and SROs do many things: we promulgate regulations, educate investors, inspect for compliance, and monitor markets.
But the most visible thing we do is enforce the securities laws and regulations. And you — lawyers, accountants, investigators and examiners — are the point of the spear.
Your work is important, exciting and often high-profile. Every day in cities around the world, your work makes headlines.
It must be extremely rewarding to work for months and even years in nonpublic investigations, unable to talk with even your family and friends about your work, and then one day read about your efforts in the Wall Street Journal, the Fort Worth Star Telegram, the Dallas Morning News, or the Kansas City Star. Complicated, big-dollar cases involving well-known managers and public companies provide great training and expertise development.
And of course, these big headline cases are extremely important for our markets and investors in those markets: they send the message to would-be wrongdoers that crime doesn't pay, and they remind investors that the regulators are on the beat — looking out for them.
Big cases do big things.
For example, the market timing cases of the last few years lead to industry reforms and, we hope soon, will ultimately return hundreds of millions of dollars back to investors. The analyst cases of several years ago ushered in new independence rules. And as we all know, the cases responding to the scandals at Enron, WorldCom and other companies early in the decade highlighted the need for perhaps the most important piece of legislation since the securities laws of the thirties and forties: Sarbanes-Oxley.
High-profile cases make policy and management sense: they generate significant returns on enforcement dollars by producing very public deterrence messages, and often by returning money to injured investors. Such cases also help ensure that enforcement efforts are fair so that the wealthy or well-connected receive the same scrutiny and punishment as the rest of us.
But while the big famous cases are important, and even fun to work on, the not-so-notorious cases matter just as much — if not more. What I am referring to are the pump-and-dump schemes, affinity frauds, unregistered offerings, boiler room scams, ponzi schemes, internet intrusions, insider trading cases, and all of the old and new iterations of these often microcap frauds.
They've been around in one form or another for ages, and they aren't going away.
Such frauds generally target and exploit retail investors — everyday people who depend on transparent and honest markets for securing their nest eggs. These cases are the bread and butter of what you do; they represent a constant presence in our markets and in our society. They deserve your energy and attention, and you deserve credit for vigorously advancing them.
It was over 150 years ago that PT Barnum — or one of his competitors, depending on whom you ask — proclaimed that "There's a sucker born every day." Some say that Barnum finished the sentence with "and two to take 'em." The great showman recognized that there's no shortage of people to exploit, and certainly no shortage of people willing to do the exploiting.
A few decades after Barnum uttered those famous words, an Italian immigrant named Charles Ponzi made his way to Boston. Ponzi wasn't the first to exploit investors with his fragile scheme — he was just the best known at the time.
And still, almost 100 years after Ponzi first schemed, despite the enactment of several major laws, the creation of the SEC, the hiring and training of thousands of investigators and prosecutors, and the proliferation of investor education and alerts, Ponzi's scheme survives.
Perhaps the internet or other new technologies have made it possible to disguise these schemes or employ ever more enticing sales pitches; perhaps it's the greater access to the marketplace brought about by the internet; or perhaps it's just human nature, as Barnum suggested, and we'll just never learn.
Whatever the cause, I suspect that Ponzi schemes, microcap frauds, and other scams of their ilk are here to stay — and the modern marketplace allows these old schemes to dress up as new, often highly complex and sophisticated "investment opportunities."
These cases often don't get as much press play as the big cases, and many of these cases may go largely unlauded by the investing public, or even by the managers, supervisors or policy-makers at our respective organizations. But such cases are among our most important, because the fraudsters who perpetrate them often target the most vulnerable members of the investing public: seniors or those approaching retirement age who are trying to secure their futures.
According to a survey last year by the North American Securities Administrators Association, NASAA, almost half of all investor complaints received by state securities regulators come from seniors. And the volume of these complaints will likely grow. As Chairman Cox noted when he spoke to this group last year, the 75 million baby boomers started turning sixty last year, and will continue to do so at the rate of 10,000 every 24 hours!
NASAA lists in the top ten traps for investors many of these same scams that I'm focused on here today — affinity fraud, internet fraud, and other microcap fraud. As NASAA notes, the modern fraudster repackages old frauds in enticing new ways: "foreign exchange trading," real estate investment contracts, or high-yield, tax free prime bank offerings. Often, fraudsters use high-pressure sales tactics to push these exotic investments on seniors or other unsuspecting investors. Indeed, the SEC's office of Investor Education and Awareness received almost fifteen hundred boiler room complaints last year.
Scams that target seniors and other retail investors take many forms and require a nimble law enforcement response. Good managers, investigators and litigators recognize the need to be creative and responsive.
I know that many of the entities represented here have made great efforts to be responsive to new threats to retail investors, especially seniors; a review of your respective websites reveals that you are keenly focused on the traps that await retail investors; and we at the Commission know that you are directing resources to protect our seniors and other retail investors from these dangers lurking in our markets.
I'm also proud of the record of the Commission in this regard, and I want to highlight some of our initiatives.
Pump-and-dump schemes have been around for years; earlier iterations relied on word of mouth. Indeed, one of the earliest reported pump and dumps — and notorious I might add — was the run up of the South Sea Company stock in the early 1700s.
While management was singing the glories of the South Sea Company's monopoly over trade routes to the New World and the huge profits it would produce, management was issuing and dumping its own stock into an inflated market. Like many of the modern day scandals, the South Sea Company bubble led to the enactment of the "Bubble Act" in 1720.
More recently, telemarketers and blast-faxers got in on the pump and dump game, urging investors to jump at the chance to buy sometimes worthless stock. The internet has allowed for spammers to take advantage of cheap and anonymous mass mailings of fraudulent inducements to buy worthless stock.
Several months ago the Commission announced "Operation Spamalot," an effort to step-up trading suspensions in 35 stocks that involved fraudulent emails hyping stocks with catchiness like "Ready to Explode," or "Ride the Bull."
As usual, the Commission did not act alone. Just as we often collaborate with many of our state counterparts and others represented in this room, we worked closely with the NASD and Canadian securities authorities to bring about these trading suspensions in this massive sweep.
Fortunately, that creative and combined effort got the word out by generating a lot of press, hopefully resulting in a more suspicious investing public and, of course, the suspension of trading in these specific stocks. Unfortunately, the Commission's catchphrase caught the attention of Monty Python's Spamalot … [pause] we've since renamed the operation.
The Commission's internet enforcement group, led by John Stark, is another example of our focus on small cases producing important results. John's group was among the first to discover a new trend in internet-based fraud that has been dubbed the "intrusion" cases.
In these cases the perpetrator, sometimes affiliated with a foreign crime syndicate, hacks into an online brokerage account and places purchase orders for large blocks of relatively obscure or lightly traded stocks. The perpetrator then places sell orders for this same stock in his own account, quickly posting thousands of dollars in paper gains. The owner of the intruded account is left with a depleted bank account and shares of worthless stock. Although this fraud relies on computers, the internet, and spyware, it is, at its root, plain theft — and there's nothing new about that.
John's group has been quick to work with online brokerages to detect these intrusions, secure freezes before much of the money leaves the country, and support our litigation team in obtaining the default judgments that often resolve these cases.
Our Enforcement Division has also been working with the online brokerage firms to help avoid intrusions in the future; hopefully, investors, brokerage houses, and the Commission are all getting ahead of this crime through education, enforcement, and improved security awareness.
John's group has also taken a lead in pursuing internet spam and pump and dump cases; we hope to soon announce the product of a long and large-scale investigation by his group into a market manipulation ring involving promoters, brokers and attorneys that has resulted in at least one significant indictment, with others likely to follow. In a somewhat related case filed this summer by the Fort Worth office, we obtained the freeze of millions of dollars in an action against a promoter of "risk-free" secured debt obligations.
Needless to say, these were not risk free investments, and the scam targeting mostly seniors was stopped in its tracks.
The case was also filed against an attorney who is the subject of another enforcement action — this lawyer's opinion letters and conduct made the scheme possible.
Also right here in the Fort Worth office, the staff is pursuing a microcap case that has a little bit of everything: foreign and domestic stock promoters and market manipulators who took a shell company and, through unregistered offerings, engaged in a pump and dump scheme. The case is a classic microcap fraud and I am very proud of the work being done in this regard.
Speaking of manipulations and shell companies, several years ago the Commission's Enforcement Division started looking for fast and efficient ways to interrupt the use of shell companies by stock manipulators seeking to defraud investors.
The Division recognized that these empty vessels were often commandeered by spammers and other manipulators who would pump up the stock and then dump it into an inflated marketplace. Many such shell companies were also delinquent in their registrations with the Commission, depriving investors of important financial information that could allow investors to make informed choices.
The Commission authorized the "Delinquent Filer Program Branch" within the Division to allow for swift trading suspensions of these unregistered shell companies. This program detects companies that are delinquent in their Section 12(j) registrations with the Commission and, after a hearing before an ALJ, revokes their registration so that scammers can't use the shells.
Since this program was started in 2004, the Delinquent Filings Branch has obtained 309 revocations and 173 trading suspensions.
This program doesn't receive a lot of press, but the three attorneys who run it certainly do tremendous good for investors: the program either forces registration or it pulls delinquent companies out of the public markets altogether. Either way, investors win.
Recognizing the growing threat to retail investors due to the investing public's changing demographics and the growing involvement of retail investors in the marketplace, the Commission's home office is in the process of creating a group within Enforcement designed to focus exclusively on microcap fraud.
The new group will focus our expertise and serve as the lead in many of our efforts to root out microcap fraud. The Associate Director running the new group is enthusiastic and energetic, and the group will be staffed with seasoned investigators; hopefully, the Commission is sending the message to our employees that these cases matter tremendously, and we will devote significant resources to them.
So as you can see, the Commission is committing serious resources to responding to new-fangled iterations of age-old crimes. We know that the fraudsters aren't going away; and, unfortunately, there seems to be an ever-growing supply of vulnerable investors for these fraudsters to prey upon.
Another area of increased attention these days is insider trading. According to an analysis commissioned by the Financial Times and recently reported, almost 60 percent of big mergers or acquisitions this year were preceded by "unexplained spikes" in trading in the stock of the target company. This study suggests that such irregular trading is on the rise.
Assuming that even a fraction of these spikes can be attributed to insider activity, it looks like insider trading may be on the rise.
The group assembled here surely knows that insider trading cases are among the hardest to make: investigators, prosecutors and litigators must move quickly to discover information while it is fresh in memories, while documents still exist, and before cover stories can be concocted. You must often make quick prosecution decisions in order to freeze profits. And any case that goes forward may require significant resources to verify or discredit stories, build case theories based on circumstantial evidence, and persuade judges and juries.
I am pleased to note that under the leadership of Chairman Cox, the Commission is redoubling its efforts to combat insider trading.
We've created a hedge fund working group that shares information learned from current investigations of hedge fund activity, some of which involves insider trading.
We have tapped into other expertise within the SEC and from other sources such as the SROs to hone our skills. And we've devoted resources to quickly respond to potential insider activity.
Some insider cases are major cases and naturally gain our attention. Last Spring we announced actions against fourteen defendants involved in an insider trading ring — insiders at UBS Securities, Morgan Stanley, and Bear Stearns are alleged to have tipped friends and relations in exchange for cash kickbacks in a scheme that may have netted as much as 15 million dollars. Cases like that are certainly high profile and important for investors because of the money involved but, more importantly, because of the fiduciaries involved: the defendants are traders, registered representatives, company owners, and attorneys.
Another recent splashy case is our Dow Jones case where Commission attorneys froze approximately 23 million dollars in trading profits derived from alleged insider trading by two Hong Kong residents in advance of news of the Rupert Murdoch offer to buy Dow Jones.
And right here, Rose and the Ft Worth staff moved quickly to freeze trading profits in a case involving a Credit Suisse employee who passed information to friends about a non-public buyout of TXU Corp. by an investor group. The trading netted profits of approximately $5.1 million. Further investigation revealed additional alleged insider trading and has resulted in additional criminal and civil charges. Working with others including the Chicago Board Options Exchange, Swiss and British financial regulators, and the US Attorney, 26 million dollars in trading profits have been frozen so far.
And as we say … the investigation continues.
Cases like this involve lots of money and send an important message that no one is above the law, and that the regulators are on the job.
But we cannot devote resources to only the large insider cases lest smaller-time insiders think they can escape scrutiny so long as they trade in less volume than the next guy. We must occasionally bring the small case — involving relatively little money, or obscure companies — so that market participants know that it is only luck that stands between their improper trading and getting caught.
And while these cases may not be headline-grabbers, it is incumbent upon policy-makers and managers to ensure that these cases get done, and the work of the staff that does them is valued.
If enforcement is the tip of the spear for regulators, education is the shield. Resources are far too scarce for agencies such as those assembled here to confront every fraud or abuse that threatens investors, especially the microcap fraud, internet fraud, and insider trading I have been discussing this morning. So our efforts must be complemented by energetic investor education and awareness.
I have been pleased to know that our Fort Worth office has been working with many of the state insurance regulators here in this region to address the growing problem of insurance fraud. I assure you, this is not a turf grab on the part of the SEC — we have enough on our hands to wade into the world of insurance regulation. But variable annuities are another creature, and we can be helpful to state insurance regulators in their efforts to leverage resources toward education and enforcement.
All over the nation, the Commission has been working with state officials to host seminars to educate seniors about the perils they face in the marketplace, and leave them better equipped to avoid the landmines and pitfalls that stand between them and securing their investments.
We know that you are focused on the need to make the investing public aware of the dangers that exist in some sectors of our markets; I see no better way to leverage our resources than helping investors help protect themselves. These coordinated efforts are fortifying senior investors, and are thwarting would-be fraudsters.
In the same vein, the Commission is holding its second annual Seniors Summit next week in an effort to bring regulators, law enforcement, and community groups together to coordinate efforts to combat senior fraud.
One of the interesting topics at the Summit will be the discussion of our regulatory examinations of the 110 firms offering "free lunch" investment seminars aimed at seniors.
We at the Commission are keenly aware that any response to the fraud that attacks these retail investors must be met with awareness, education, and leveraged enforcement efforts. And most importantly, we must be capable of responding to whatever new form the old fraud takes because, as history has proven, if there's a sucker born every minute, two are born to take 'em.
I've spent my time with you today talking mostly of the work of the SEC and our efforts to focus not just on the headline cases, but on those less glamorous cases that need our attention. I know that all of you in this room are out there trying to look over hills and around corners to stay ahead of the next new threat to retail investors, especially our seniors. I commend you for your tireless efforts.
The internet has ushered in a new age of access to information and the marketplace for investors. But it has also ushered in ever more sophisticated tools for would be fraudsters and swindlers to hack, pump and intrude their way to riches. They may be dressed up differently, but their frauds are ages old.
And as the baby boomers enter into retirement age in droves, so expands the population of potential targets to these fraudsters. So as you push forward enforcing the securities laws in your mission to protect America's investors, remember that stomping out a pump and dump fraud matters just as much to the injured investor as any case you might pursue.
Thank you for allowing me to speak with you today.