Speech by SEC Commissioner:
Address to Practising Law Institute's SEC Speaks in 2011 Program
Commissioner Kathleen L. Casey
U.S. Securities and Exchange Commission
February 4, 2011
Thank you for that kind introduction. It is a pleasure to speak to you today. Before I begin, let me give the standard disclaimer that the views I express are my own and do not represent those of the Commission or my fellow Commissioners.
This morning, I want to talk very broadly about the impact of Dodd-Frank on the Commission and its rulemaking, and then shift to a particular provision which maybe has not received the attention that other parts of the bill have received, but which raises important issues of fairness and the rule of law.
In many ways, I think it is hard for people to appreciate the enormity of what Dodd-Frank requires of federal agencies, and, in particular, the SEC. In terms of breadth and scope, Dodd-Frank is arguably the most significant financial legislation in modern history.
The legislation ushers in a breathtaking amount of changes that will result in a tectonic shift in the legal, regulatory and policy landscape affecting our markets and our economy in a relatively short period of time. These changes touch every aspect of our financial markets, from consumer credit to proprietary trading at financial firms, from OTC derivatives markets to securitization markets, and from private fund registration and regulation to corporate governance at public companies.
Indeed, when one compares Dodd-Frank to the Sarbanes-Oxley Act of 2002, SOX seems almost quaint: Dodd-Frank is more than 10 times longer, and mandates more than ten times the rulemakings and studies that SOX required. And even when one looks just at the SEC’s burden under Dodd-Frank, the Commission still has to do nearly six times the rulemakings and three times the number of studies it had to do under SOX, and most of them within one year. The volume of this rulemaking, coupled with the speed at which Congress expects it to occur, poses significant challenges to the agency.
Importantly, this has less to do with resources than with the natural limitations on the capacity of the Commission to thoroughly consider often novel and complicated rule proposals. The fact remains that there are still only five Commissioners, and we are ultimately charged with considering and approving proposed rules. So even with numerous rules coming up from the various divisions, they must all be considered and approved by the Commission.
The real threat here is that we are not able to fully consider the rules we are adopting, and that short public comment periods imposed in an effort to comply with Dodd-Frank deadlines may undermine their very function of supporting and strengthening the confidence we have in the likely effects of our rules. As part of this, the cost-benefit analysis of our rules is also severely limited and potentially undermined. As a legal certainty matter, this may make our rules more susceptible to challenge on APA grounds — a result that serves neither the interests of the Commission nor the interests of the investors and markets we serve.
For these reasons, it is my hope that Congress considers these risks arising from the implementation of the law and, where appropriate, gives regulators additional time to scale its regulatory mandates. Moreover, the same concerns counsel the SEC to focus at this point on only those Dodd-Frank rulemakings that are expressly required by the statute. Where the agency has been granted discretionary rulemaking authority, we should be judicious in using this authority under circumstances that are not ideal for considered and thorough rulemaking.
In addition, the breadth of Dodd-Frank makes it increasingly important that policy makers stay mindful of the costs and effects that these regulations will have on our markets. The likely impact of Dodd-Frank will be enormous, and we will have no idea of the actual costs for years to come. Given prior experience, such as the original estimates about the cost of SOX, these actual costs will prove substantially more significant than legislators and regulators have predicted. Given the unpredictability of these potential costs and effects, both direct and indirect, regulators should proceed very carefully and thoughtfully, and Congress should monitor the law’s implementation closely.
Dodd-Frank’s challenges for the Commission aren’t limited to the rulemaking context. The statute also made noteworthy changes to the Commission’s Enforcement program. Most of you are familiar with the new whistleblower bounty program authorized in Title IX of the statute, and I won’t use up the rest of my time today talking about that.
Instead I’m going to hone in on a different aspect of Dodd-Frank: the potential application of its enforcement-related provisions to conduct that pre-dated the Act. In other words: retroactivity.
Congress has periodically granted the Commission new authorities concerning the charges it may bring and the remedies it may seek or impose. Each time Congress does this, it raises a question as to whether the new authorities may be applied to conduct that pre-dated the enactment of the statute. In some instances, the answer may be obvious; however, in many instances, the issue of retroactivity can pose difficult legal and policy questions for the Commission.
Background on Retroactivity
The Supreme Court has opined on retroactivity on a number of occasions. Its leading case in this area is Landgraf v. USI Film Products.1 In that opinion, the Court discussed the history and significance of the well-established legal presumption against interpreting statutes to have retroactive effect.2 The Court recognized that the general principle of anti-retroactivity is “deeply rooted in our jurisprudence, and embodies a legal doctrine centuries older than our Republic.”3
The Court went on to explain why the anti-retroactivity principle is so crucial in a free society: “Elementary considerations of fairness dictate that individuals should have an opportunity to know what the law is and to conform their conduct accordingly; settled expectations should not be lightly disrupted.”4 The Court found multiple expressions of this important principle in none other than the Constitution itself, citing to the Ex Post Facto Clause, the Obligation of Contracts Clause, the Takings Clause, the Bill of Attainder Clause, and the Due Process Clause.5
Also, perhaps presciently, the Court warned of the special dangers posed by retroactive legislation:
These provisions demonstrate that retroactive statutes raise particular concerns. The Legislature’s unmatched powers allow it to sweep away settled expectations suddenly and without individualized consideration. Its responsivity [sic] to political pressures poses a risk that it may be tempted to use retroactive legislation as a means of retribution against unpopular groups or individuals.6
Some of you may find that this passage resonates with current events and the current regulatory climate: indeed, a few weeks before passage of Dodd-Frank, one commenter speculated as to whether the financial reform legislation winding its way through Congress would be judged by history as “genuine ‘reform’ — or just revenge.”7
The Landgraf Court went on to lay out an analytic framework for retroactivity cases. First, courts must look to the text of the statute to determine if Congress clearly expressed an intent to apply the provision retroactively; if so, then the inquiry is over.8 If not, then courts should ask whether the statute, if applied to pre-enactment conduct, “would impair rights a party possessed when he acted, increase a party’s liability for past conduct, or impose new duties with respect to transactions already completed.”9 Put another way, courts should ask “whether the new provision attaches new legal consequences to events completed before its enactment.”10 In conducting this analysis, it would be appropriate for courts to rely on “familiar considerations of fair notice, reasonable reliance, and settled expectations” to guide the inquiry.11
The Remedies Act of 1990
The Commission has struggled with retroactivity at various times in its history. For example, in October 1990, Congress enacted the Securities Enforcement Remedies and Penny Stock Reform Act of 1990 — better known as the Remedies Act. That Act, among other things, included provisions explicitly authorizing the Commission to seek officer-and-director (O&D) bars in civil actions and to impose administrative suspensions and bars in the penny stock area. An early attempt by the Commission to exercise its new penny stock bar authority ran afoul of the anti-retroactivity principle in a case called Koch v. SEC.12
In 1993, the Commission sued Russell Koch in federal court, alleging that he had committed offering registration and fraud violations. The violations ceased by April 1990, several months prior to enactment of the Remedies Act. In early 1995, Koch settled with the Commission, consenting to a permanent injunction against violations of the registration and antifraud provisions of the securities laws. Later that year, the Commission initiated an administrative proceeding (AP) against Koch based on the entry of an injunction against him. In the AP, an administrative law judge imposed a penny stock bar on Koch, and the Commission affirmed on appeal.
Koch appealed to the Ninth Circuit, arguing that the imposition of the penny stock bar for conduct that pre-dated the Remedies Act constituted an impermissible retroactive application of that Act. The Commission argued that it was not barring Koch based on his underlying pre-Act misconduct, but rather based on the entry of the injunction against him, which occurred post-enactment.
The Ninth Circuit dismissed this argument. It held that the injunction, though it could serve as a predicate for initiation of the AP, “serve[d] no purpose independent of the underlying misconduct.”13 The court noted that the Commission relied on the Steadman factors — most of which reference the underlying misconduct — to justify imposition of the bar.14 The court further held that, “for purposes of Landgraf, the event to which the Remedies Act attaches the legal consequence of a penny stock bar is the misconduct the targeted individual is alleged to have committed, regardless of whether the SEC chose to bring the proceeding on the basis of an injunction, a conviction, or the underlying conduct.”15 Having decided this threshold issue, the court went on to hold that the imposition of the penny stock bar “increase[d] the consequences of… pre-Act conduct” and was therefore an impermissible retroactive application of the Remedies Act.16
The court also discussed two other issues that are relevant here. First, the court distinguished a prior Ninth Circuit case in which the Commission had obtained an O&D bar for pre-Remedies Act conduct, holding that the Act was not given impermissible retroactive effect.17 The court in the O&D bar case had held that the Remedies Act merely codified the federal courts’ pre-existing equitable authority to impose O&D bars and did not represent a new legal consequence.18 The Ninth Circuit in Koch noted that, in contrast, the new penny stock bar authority given to the Commission by the Remedies Act had not previously been held by the Commission.19
The other passage of note in the Koch opinion was in a footnote discussing the Landgraf case. There, the court mentioned three exceptions to the presumption against retroactivity that were cited by the Supreme Court in Landgraf, including an exception for statutes authorizing or affecting prospective relief.20 The Ninth Circuit noted that the Commission had not argued that any of those exceptions applied in Koch, and the court therefore expressed no opinion on the merits of such arguments.21
The Sarbanes-Oxley Act of 2002
Before enactment of the Sarbanes-Oxley Act of 2002, the statute of limitations on private securities claims required plaintiffs to bring actions within one year of the discovery of the facts constituting a violation or within three years of the violation, whichever was earlier. Section 804(a) of Sarbanes-Oxley lengthened those terms to two and five years, respectively. Section 804(b) stated that the new statute of limitations period “shall apply to all proceedings addressed by this section that are commenced on or after the date of enactment of this Act.”
A number of cases that were time-barred under the pre-SOX statute of limitations would not have been barred under the post-SOX statute of limitations. A question thus arose: did Section 804 of Sarbanes-Oxley apply retroactively so as to revive time-barred claims?
Although this is a question that applied to private securities litigation rather than Commission enforcement actions, the Commission took the view that it had an interest in how private securities litigation would be affected by the courts’ answer to this question.
In an amicus brief filed before the Second Circuit in AIG Asian Infrastructure Fund, L.P. v. Chase Manhattan Asia Limited,22 the Commission argued that the plain language of Section 804(b) constituted a clear Congressional statement of intent that the new limitations period apply retroactively.
Before the Second Circuit panel in AIG Asian could render its decision, a different panel of the Second Circuit handed down its decision in In re Enterprise Mortgage Acceptance Co., LLC, Securities Litigation.23 Faced with the same argument, among others, the EMAC panel held that the text of Section 804(b) was not unambiguous and therefore did not express a clear Congressional statement of retroactive intent.24
Shortly after the EMAC opinion was issued, the AIG Asian panel issued a summary order affirming the dismissal of the plaintiff’s claims as time-barred, holding that the facts of the two cases were indistinguishable for all relevant purposes and that the EMAC decision therefore dictated dismissal in AIG Asian.25
The Dodd-Frank Act of 2010
If you thought that the Remedies Act and Sarbanes-Oxley presented difficult retroactivity issues for the Commission, well: you haven’t seen anything yet. Dodd-Frank gave the Commission all sorts of new authority, including in the Enforcement area, and the courts have yet to determine which provisions may be applied retroactively and which may not. Here are a few examples of such provisions:
- Section 925 allowed the Commission to impose collateral suspensions and bars across all of the securities professions regulated by the Commission. This section also granted the Commission brand new authority to suspend or bar persons from associating with a municipal advisor or a nationally recognized statistical rating organization (NRSRO).
- Section 926 disqualified offerings made by certain “bad actors” from relying on Regulation D as an exemption from registration.
- Sections 929M, 929N, and 929O amended the Commission’s authority to bring actions for aiding-and-abetting violations by stating that “knowing or reckless” conduct would suffice to support such liability.
- Section 929P granted the Commission authority to impose civil money penalties in all cease-and-desist (C&D) proceedings.
- Section 929U imposed deadlines applying to investigation and examinations conducted by Commission staff.
Given our time constraints here today, I would like to focus on just one of these provisions: Section 925, the new provision on collateral bars.
First, a little background on collateral bars. At an earlier point in the Commission’s history, the agency imposed collateral bars against individuals in enforcement cases. Many of these cases were settled matters, which meant that the respondents did not contest the Commission’s authority to impose such bars. And, at the time, the Commission believed it had the authority to impose collateral bars; after all, the Commission cannot, in good conscience, take remedies in settlement that it is prohibited from obtaining in litigation.
The Teicher Case
In 1999, the law of collateral bars took a decisive turn when the U.S. Court of Appeals for the D.C. Circuit handed down its decision in Teicher.26 As a noteworthy aside: Arguing the case for the Commission was a young — or at least a younger — David Becker, serving at the time as a Deputy General Counsel.27 As all of you know, David is wrapping up his second tour of duty as the Commission’s General Counsel and plans to return to the private sector at the end of this month. We thank him for his service and wish him well. He will be sorely missed.
But back to Teicher. I’ll spare you some of the details, and I’ll focus just on the collateral bar issue. One of the petitioners in the case — Ross Frankel — argued that the Commission had exceeded its authority in imposing an investment adviser bar against him.
He argued that the Commission had authorized the administrative proceeding against him solely under the broker-dealer bar provisions,28 without invoking the investment adviser bar provisions.29 The Commission argued, among other things, that the broker-dealer bar provisions permitted it to “place limitations on the activities or functions of”30 Mr. Frankel, including barring him “from a branch of the securities industry from which it might later have explicit authority to exclude him.”31
The D.C. Circuit disagreed. The court held that the Commission’s authority under each of the relevant bar provisions — one for the broker-dealer profession, one for the investment adviser profession, and one for the municipal securities profession — was limited to the profession referenced in each provision. Consequently, the court invalidated the portion of the Commission’s order that purported to bar Mr. Frankel from associating with an investment adviser.
The court’s holding was a broad one based on its interpretation of the Commission’s authorizing statutes. It did not appear to be limited in any meaningful way to the specific facts of the case. In other words, as far as the D.C. Circuit was concerned, the Commission was out of the collateral bar business.
To its credit, the Commission gave the court’s opinion great deference. Rather than continuing to contest the issue, perhaps before other Circuits, the Commission chose to respect the court’s opinion across-the board. The agency refrained from imposing any more collateral bars, even in settled cases. It is precisely this sort of behavior that has earned the Commission a reputation for fairness and integrity.
Now fast forward to the present day. The Enforcement Division has already procured settlements that include Dodd-Frank collateral bars, including the two new bars for which the Commission had no authority prior to Dodd-Frank: the municipal advisor and NRSRO bars. Examples of this new Enforcement trend include the settled actions against Paul George Chironis32 and Gregory J. Buchholz.33
Some of you may be familiar with the Chironis case. It’s the one in which the Commission issued a press release entitled, “Broker Accused of Defrauding Elderly Nuns Settles Case With SEC.”34 I know — how low can you sink, right? Well, I won’t speculate on this guy’s chances if he ever has to defend himself before, shall we say, a “higher” authority.
Anyway, the misconduct in the Chironis case pre-dated the enactment of Dodd-Frank, raising the specter of retroactivity. By imposing the two new Dodd-Frank bars in this settled case, the Commission implied that it has the authority to impose these bars for pre-Act conduct. The more interesting question, however, is not how the Commission views its authority, but rather how the federal courts will.
Under the Landgraf framework, we should look first to whether Congress included a clear statement of retroactive intent in the text of the statute. Unfortunately, Section 925 says absolutely nothing in that regard: it just cuts out the non-collateral bar language in our statutes and replaces it with collateral bar language.
Accordingly, we must turn to the next step in the Landgraf analysis by asking whether the statute, if applied to pre-enactment conduct, “would impair rights a party possessed when he acted, increase a party’s liability for past conduct, or impose new duties with respect to transactions already completed” or “whether the new provision attaches new legal consequences to events completed before its enactment.” In doing so, we should be guided by “familiar considerations of fair notice, reasonable reliance, and settled expectations.”
Let’s take the hypothetical case of a broker who, prior to Dodd-Frank, confesses to having violated the securities laws. Before Dodd-Frank, the Commission could have imposed a broker-dealer bar on him based on, among other things, his association with a broker or dealer at the time of the misconduct. If that broker were later to associate with, or seek to associate with, an investment adviser, the Commission could have sought to bar him from the investment adviser profession as well. The same would have been true for the municipal securities dealer and transfer agent professions.
Thus, a person who violated the securities laws prior to Dodd-Frank should have understood that he could be suspended or barred from associating with a broker, dealer, investment adviser, municipal securities dealer, or transfer agent if and when he became associated with, or sought to be associated with, such an entity. One could therefore argue that imposing collateral broker, dealer, investment adviser, municipal securities dealer, or transfer agent bars under Dodd-Frank — based on pre-Dodd-Frank conduct — would not attach new legal consequences to pre-enactment conduct, but rather would merely accelerate the imposition of such consequences.
However, that argument cannot apply to the two entirely new bars created in Dodd-Frank: the municipal advisor and NRSRO bars. Prior to enactment of Dodd-Frank, no person could reasonably have known, or have been deemed to have known, that their conduct could later prevent them from entering those two professions. Under “familiar considerations of fair notice, reasonable reliance, and settled expectations,” it would seem that imposing municipal advisor or NRSRO bars based on pre-Dodd-Frank conduct would violate the anti-retroactivity principle that is so deeply embedded in Anglo-American jurisprudence.
A little additional analysis is needed here. In Landgraf, the Court noted exceptions to the presumption against retroactivity for statutes that: (1) clearly express a Congressional intent to apply the statute retroactively; (2) authorize or affect the propriety of prospective relief; (3) confer or withdraw jurisdiction; and (4) change procedural rules. Of these exceptions, only the one concerning prospective relief is relevant for our discussion.
Are Commission bars a form of prospective relief designed to prevent some future harm? Or do they operate as sanctions intended to punish past misconduct? The legal analysis is complicated, and the case law is ambiguous. I won’t attempt to answer those questions today. I’ll just note that the analysis is intricate, and it’s not at all certain how the courts would decide these issues.
But is it necessary for us to decide exactly where the line of legality lies? Could the Commission instead choose to be guided, as it has in the past, by notions of fairness and a respect for the principle of anti-retroactivity? Could the Commission elect to stand comfortably behind the line of legality in order to ensure that it does not inadvertently cross it?
In the current environment, the Commission is under tremendous public and media pressure to “hold Wall Street accountable.” In such circumstances, those demanding accountability often overlook the government’s obligation to actually prove up fraudulent or otherwise illegal conduct, and they also fail to recognize that the line between actionable misconduct and broader questions of business ethics can be blurred.
Much of this burden falls on the Enforcement Division, which tries to live by that tried-and-true axiom, “be tough, but fair.” That is a notion I try to live by as well. But should fairness really be an afterthought? As an arm of the government in a free society, isn’t it the Commission’s obligation to be fair, first and foremost? So, when we say we want to be “tough, but fair,” what we are really saying, or should be saying, is that we always seek to be fair, even when we are being tough.
In an environment that often rewards notions of toughness (and that sometimes takes for granted notions of fairness), it can be easy to lose our ethical compass — to embrace toughness at the expense of fairness. Such departures from our principles may result in short-term gains, such as the relief from public or media pressure. But, these are gains that are quickly lost when the public’s long-term perception and trust of the Commission erodes.
Like any individual, company or institution, our most precious asset is our reputation. It can be a fragile thing, as we know well. Our best chance of maintaining and strengthening our reputation is by hewing to our time-honored traditions of fairness and integrity — not only in good times, but also — and perhaps especially — in difficult times.
Thank you for your attention, and I hope you have a productive and enjoyable time at this year’s SEC Speaks.
1 Landgraf v. USI Film Products, 511 U.S. 244 (1994).
2 See Landgraf, 511 U.S. at 265.
3 Landgraf, 511 U.S. at 265.
4 Landgraf, 511 U.S. at 265.
5 See Landgraf, 511 U.S. at 266.
6 Landgraf, 511 U.S. at 266.
7 Robert J. Samuelson, Financial “Reform” or Revenge?, Washington Post, July 5, 2010, at A13 ( available at http://www.washingtonpost.com/wp-dyn/content/article/2010/07/04/AR2010070403848.html).
8 See Landgraf, 511 U.S. at 280.
9 Landgraf, 511 U.S. at 280.
10 Landgraf, 511 U.S. at 270.
11 Landgraf, 511 U.S. at 270.
12 Koch v. SEC, 177 F.3d 784 (9th Cir. 1999).
13 Koch, 177 F.3d at 787.
14 Koch, 177 F.3d at 787-88 (citing Steadman v. SEC, 603 F.2d 1126, 1140 (5th Cir. 1979), aff’d on other grounds, 450 U.S. 91 (1981)).
15 Koch, 177 F.3d at 788.
16 Koch, 177 F.3d at 789.
17 See Koch, 177 F.3d at 788 (distinguishing SEC v. First Pacific Bancorp, 142 F.3d 1186 (9th Cir. 1998), cert. denied sub nom. Sands v. SEC, 525 U.S. 1121 (1999)).
18 See Koch, 177 F.3d at 788.
19 See Koch, 177 F.3d at 788.
20 See Koch, 177 F.3d at 789 n.7.
21 See Koch, 177 F.3d at 789 n.7.
22 AIG Asian Infrastructure Fund, L.P. v. Chase Manhattan Asia Limited, 2005 WL 435406 (2d Cir. Feb. 5, 2005) (unpublished) (“AIG Asian”).
23 In re Enterprise Mortgage Acceptance Co., LLC, Securities Litigation, 391 F.3d 401 (2d Cir. 2004, as amended Jan. 7, 2005) (“EMAC”).
24 EMAC, 391 F.3d at 406-07.
25 AIG Asian, 2005 WL 435406 at **1.
26 Teicher v. SEC, 177 F. 3d 1016 (D.C. Cir. 1999).
27 See Teicher at 1017.
28 Securities Exchange Act of 1934, Section 15(b)(6)(A) (“Exchange Act”).
29 Investment Advisers Act of 1940, Section 203(f) (“Advisers Act”).
30 Exchange Act, Section 15(b)(6)(A).
31 Teicher at 1020.
32 Available at http://www.sec.gov/litigation/admin/2011/33-9170.pdf.
33 Available at http://www.sec.gov/litigation/admin/2011/34-63800.pdf.
34 Available at http://www.sec.gov/news/press/2011/2011-2.htm.