STATEMENT OF THE U.S. SECURITIES AND EXCHANGE COMMISSION CONCERNING BANK SECURITIES ISSUES TO THE SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS COMMITTEE ON COMMERCE U.S. HOUSE OF REPRESENTATIVES June 25, 1999 Thank you for giving the Securities and Exchange Commission (“SEC„ or “Commission„) the opportunity to present this statement concerning bank securities issues. You have asked us to address the following issues: (i) the securities regulatory scheme as it compares with the bank regulatory scheme, including recent SEC enforcement cases involving bank securities activities; (ii) the Commission’s examination program, including the SEC’s coordination with federal bank regulators; and (iii) bank securities regulation under Section 12(i) of the Securities Exchange Act of 1934 (“Exchange Act„). This statement addresses each of these issues in turn. I. Overview of the U.S. Securities Regulatory Scheme Our securities markets today are strong, vibrant, and healthy. They are relied on both by individual investors who are increasingly putting their savings in stocks, bonds, and mutual funds,[1] and by American businesses that need to raise capital.[2] The success of our securities markets is based on the high level of public confidence inspired by a strong system of investor protection, and on the entrepreneurial and innovative efforts of securities firms. The Commission has been the nation’s primary securities regulator for 65 years. The Commission’s statutory mandate focuses on investor protection, the maintenance of fair and orderly markets, and full disclosure. Moreover, securities regulation encourages innovation on the part of brokerage firms, subject to securities capital requirements that are tailored to support any risk-taking activities. Significantly, securities regulation -- unlike banking regulation -- does not protect broker-dealers from failure. Securities firms are expected to have strong risk-management controls and procedures. Ultimately, however, securities regulation relies on market discipline, rather than a federal safety net. An additional capital cushion and customer segregation requirements insulate customers and the markets from the losses of broker-dealer firms. Moreover, protection of customer funds has been further assured by the Securities Investor Protection Corporation (“SIPC„).[3] This Subcommittee is well aware of the many securities activities in which the banking industry now engages. While these market developments have provided banks with greater flexibility and new areas for innovation, they have also left U.S. markets and investors potentially at risk. Because banks have, to date, retained their blanket exemptions from most federal securities laws, their securities activities have been governed by banking statutes and regulations that have not necessarily kept pace with market practices or needs for investor protection. As you know, banking regulation properly focuses on preserving the safety and soundness of banking institutions and their deposits, and preventing bank failures. But, because market integrity and investor protection are not the primary focus of banking regulation, banking regulation is not an adequate substitute for securities regulation. In order for banks to be fully liberated from the outdated Glass-Steagall Act restrictions on their ability to conduct securities activities, banks must be willing to take on the responsibility for full compliance with U.S. securities laws, with which all other securities market participants must comply. The following is a more detailed discussion of several key elements of the securities regulatory scheme, highlighting some of the fundamental differences between the Commission’s program and that of the federal bank regulatory scheme. The key elements of the securities regulatory scheme include: * Aggressive SEC policing and oversight of securities activities; * Safeguarding customers and markets through market- sensitive SEC net capital rules; and * Protecting investors by applying SEC sales practice rules to securities activities. A. Aggressive SEC Policing and Oversight of All Securities Activities Public confidence in our securities markets hinges on their integrity. As the Supreme Court recently stated: “an animating purpose of the Exchange Act . . . [is] to insure honest securities markets and thereby promote investor confidence.„[4] The Commission has an active enforcement division, whose first priority is to investigate and prosecute securities fraud. The banking regulators, on the other hand, are required to focus their efforts on protecting the safety and soundness of banks. As a former Commission Chairman said in recent Congressional testimony, detecting securities fraud is a full-time job, and it is a far cry from formulating monetary policy.[5] Examinations. To effectively police and oversee the markets, the Commission must be able to monitor the securities activities of market participants through regular examinations and inspections, which includes access to all books and records involving securities activities. This is currently not the case with respect to banks. The following is an important example of this problem. Banks increasingly advise SEC-registered mutual funds. In fact, we understand that the trend in banking has been to convert bank trust funds into mutual funds. Mutual funds allow their shareholders to monitor the value of their investments on a daily basis because mutual funds are required to price their shares at their current market value on a daily basis, and those prices are widely published in newspapers. In contrast, bank trust accounts are not marked-to-market daily, and there is no transparency -- that is, wide dissemination -- of their daily market value. Although banks are increasingly active as investment advisers to mutual funds, banks are exempt, under outmoded bank exemptions from the securities laws, from regulation under the Investment Advisers Act. As a practical matter, this means that SEC examiners only have access to part of the information necessary to assess the integrity of mutual funds. Key documents concerning bank advisory activities that could impact the integrity of bank- advised mutual funds are not readily available to SEC examiners. Without access to bank advisory records, for example, SEC examiners cannot examine bank advisers to detect front-running, abusive trading by portfolio managers, and conflicts of interest (involving, for example, soft-dollar arrangements, allocation of orders, and personal securities transactions by fund managers). As part of its review for conflicts of interest with respect to the activities of a bank mutual fund adviser, Commission examiners must be able to compare trading activity in the funds’ portfolios to that in the bank’s trust accounts. Because the Commission has had difficulty obtaining full access to all relevant information involving the securities activities of banks that advise mutual funds, shareholders of bank-advised mutual funds may be at risk. As requested by the Subcommittee, a more detailed discussion of the Commission’s examination program and coordination with bank regulators is contained in Section II. Enforcement. There is a significant difference between the enforcement programs of the SEC and the banking regulators. The Commission’s enforcement program fully informs the investing public of enforcement actions brought under the federal securities laws. Commission and self-regulatory organization (“SRO„) disciplinary proceedings are matters of public record. Commission press releases fully describe the nature of the proceedings and the identity of the parties disciplined. In addition, as mandated by the Exchange Act, the National Association of Securities Dealers (“NASD„) operates an “800„ number hotline that allows investors to obtain information about the disciplinary records of broker-dealers’ registered representatives. In contrast, while the banking agencies are required to “publish and make available to the public„ final orders issued in connection with enforcement proceedings,[6] the banking agencies’ releases typically do not describe the nature of the violation and the enforcement action taken. It is thus difficult for an investor to determine which proceedings are of interest in order to request copies of documents relating to specific final actions from the banking agencies. B. SEC Capital and Financial Responsibility Rules Securities positions can be highly volatile. The Commission’s capital requirements recognize this fact and are, with respect to protection from market risk, more rigorous than those imposed by bank regulators. Market exposures and volatility are risks that the net capital rule was designed to address, unlike bank capital requirements, which focus more on credit exposure. Thus, the Commission’s net capital rule is designed to protect the liquidity of any entity engaging in often volatile securities transactions. In addition to promoting firm liquidity, the Commission’s net capital rule is a critical tool to protect investors and securities markets because the Commission also uses the net capital rule to address abusive or problematic practices in the market. For example, the Commission can expand on the margin rules with respect to particularly risky stocks by increasing capital charges. In addition, the net capital rule’s 100-percent capital charge for illiquid securities serves to constrain the market for securities that have no liquidity or transparency. Without the ability to uniformly apply its net capital rule to securities businesses, the Commission’s ability to oversee and influence U.S. securities markets is severely inhibited. In addition to detailed net capital requirements that require broker-dealers to set aside additional capital for their securities positions, the Commission’s customer segregation rule prohibits the commingling of customer assets with firm assets. Thus, customer funds and securities are segregated from firm assets and are well-insulated from any potential losses that may occur due to a broker-dealer’s proprietary activities. Furthermore, federal securities law, unlike banking law, requires intermediaries to maintain a detailed stock record that tracks the location and status of any securities held on behalf of customers. For example, the broker-dealers must “close for inventory„ every quarter and count and verify the location of all securities positions. Because banks are not subject to such explicit requirements, the interests of customers in their securities positions may not be fully protected. Because the Commission’s financial responsibility requirements are so effective at insulating customers from the risk-taking activities of broker-dealers, the back-up protection provided by SIPC is seldomly used. Although there have been broker-dealer failures, there have been no significant draws on SIPC, and there have been no draws on public funds. In fact, because there have been few draws on SIPC funds, SIPC has been able to satisfy the claims of broker-dealer customers solely from its interest earnings and has never had to use its member firm assessments to protect customers. This is in sharp contrast to the many, often extensive, draws on the bank insurance funds to protect depositors in failed banks. C. SEC Sales Practice Rules Applied to All Securities Activities All investors deserve the same protections regardless of where they choose to purchase their securities. Unfortunately, gaps in the current bifurcated regulatory scheme leave investors at risk. For example, broker-dealers are subject to a number of key enforceable requirements to which banks are not, including requirements to: * recommend only suitable investments; * arbitrate disputes with customers; * ensure that only fully licensed and qualified personnel sell securities to customers; * disclose to investors, through the NASD, the disciplinary history of employees; and * adequately supervise all employees. Investors are generally not aware of these gaps in regulation and the risks that such gaps create. In addition, federal banking statutes do not provide customers with a private right of action for meritorious claims. Although some customer protections have been suggested by the bank regulators, they are less comprehensive than the federal securities laws and serve to perpetuate the disparities between the bank and securities regulatory schemes.[7] Two recent Commission enforcement actions highlight the need for more universal application of strict sales practices rules to all entities engaged in securities activities. In the Matter of Michael P. Traba[8]: In this case, the Commission is alleging that the portfolio manager of two money market mutual funds sponsored by a bank committed a number of illegal acts. First, the portfolio manager purchased a number of volatile derivative instruments for the funds, and then caused the funds to improperly price the securities. This caused the funds to “break the buck.„ Then, in an attempt to conceal the funds’ losses, the portfolio manager fraudulently transferred the securities among the funds, a number of bank trust funds, and other bank accounts over which he had control. The Commission investigated and has initiated an enforcement action against the mutual funds’ portfolio manager for violating the antifraud provisions of the Securities Act of 1933 and the Exchange Act, as well as for causing the funds’ violations of the Investment Company Act. However, because of the current bank exemptions from federal securities laws, the Commission was unable to bring charges against the bank or its personnel for failing to adequately supervise the fund manager. Under these facts, the Commission ordinarily would have brought charges against any of its regulated entities for similar misconduct, and the Commission considers its ability to bring “failure to supervise„ claims to be critical to investor protection. Securities fraud of this type -- where transactions occur both in mutual funds and in bank trust accounts -- illustrates the need for securities regulators to have access to books and records involving all securities activities conducted by banks. In the Matter of NationsSecurities and NationsBank, N.A.[9]: In this case, employees of a bank and its affiliated broker- dealer blurred the distinction between the two entities and their respective products during sales presentations to customers and in marketing materials. For example: * The bank provided the affiliated broker-dealer with maturing CD lists and lists of likely prospective investors. The broker-dealer’s employees also received other bank customer information such as financial statements and account balances. * Some broker-dealer representatives sat at desks in the bank that were not physically demarked from the bank’s retail banking business, used bank stationery for correspondence, and suggested that the products being sold were “accounts at the bank„ rather than mutual funds or securities. * The broker-dealer’s employees mischaracterized certain products as conservative “safe„ investments when, in fact, they were highly leveraged funds that invested in interest-rate-sensitive derivatives. The combination of improper sales practices and practices that blurred the distinction between the bank and the affiliated broker-dealer resulted in unsuitable purchases by investors. Many of these customers were elderly and thought they were purchasing investments in stable government bond funds, rather than making unsuitable purchases of high-risk funds. This case is also evidence of how partial securities regulation split between banks and their securities affiliates is inadequate to fully protect investors. II. The SEC’s Examination Program A. Introduction In response to your request for detailed information regarding the Commission’s examination process, this section describes in more detail the Commission’s examination process and coordination with bank regulators. The Commission’s primary mission is to protect investors and maintain fair and orderly markets. As part of the Commission’s broad mission, the examination program’s mandate is to protect investors through fostering compliance with the securities laws, detecting violative conduct, ensuring that violations are remedied, overseeing self-regulation in the securities industry, and informing the Commission of developments in the regulated community. To carry out its mission, the Commission’s examination staff selects registrants for examination, conducts on-site reviews of their operations, and then takes steps to remedy the problems it finds. Examinations do not interfere with the competitive discipline of the marketplace. To use Adam Smith’s words, the Commission’s mission is to “hold the ring„ in which securities firms compete. So long as they play by the rules, securities firms are free to innovate, to enjoy the profits of creativity, and also to fail. In essence, the work of the Commission’s examination program is a practical application of functional regulation. The program examines the functions of the securities industry. Because the Commission’s authority is generally coextensive with the securities markets, the Commission’s examiners can follow the evidence wherever it leads. In other words, because the examination staff has the authority to examine the underwriter who brought the securities to market, the traders who maintained the secondary market, the investment adviser who recommended the product as a good buy, the registered representative who made the sale, and the SRO that allowed the registered representative to enter the business, the staff can follow the evidence until the staff tracks down the source of a compliance problem. A notable exception to the Commission’s authority arises with respect to banks performing securities functions. The Commission is handicapped if an exempt bank is a major market participant. B. The Examination Process The securities laws establish a comprehensive examination system for the securities industry. The Commission examines broker-dealers, investment advisers, investment companies, and transfer agents. The SROs for broker-dealers examine their members.[10] In turn, the SEC provides quality control and programmatic oversight of the SROs’ work. This system provides a great deal of flexibility in the broker-dealer program. SROs conduct the bulk of front-line routine examinations, allowing the SEC to focus on more serious or systemic issues. In areas other than broker-dealers, the Commission provides both front-line and more systemic oversight. The Office of Compliance Inspections and Examinations (“OCIE„) administers the Commission’s examination program. OCIE ensures consistency among examinations, flexibility in directing resources where they are needed most, and, perhaps most importantly, an improved capacity for taking a coordinated approach to industry-wide developments. OCIE has embarked on a number of recent initiatives to enhance its oversight of industry-wide developments. But most importantly, whether an issue involves the entire market, or only one firm, the Commission’s examiners are trained specialists in this type of oversight. To deal with the tremendous growth and innovation in the securities markets, OCIE increasingly targets firms through a risk-based and systematic methodology. Registrants are targeted for examination based on factors suggesting that the firm poses a heightened compliance risk to investors. These factors can include: the nature and size of the registrant’s business; the number of public customers it serves; whether it holds customer funds and securities; the length of time it has been registered; its examination history; the products it offers; its disciplinary history; customer complaints; regulatory problems of employees; its advertising and performance claims; and information obtained from other regulators. Financial and operational soundness may be a factor, but it is only one of many types of compliance risk that are considered. It is important to note that risk factors help us prioritize firms for examination. They do not necessarily indicate that violations are in progress. Instead, they indicate a possibility of heightened risk or weaknesses that may lead to deficiencies or violations. To properly implement this approach, examiners are trained to have an overall view of the regulated community. For example, examiners participate in many different examinations, so they can see how a variety of firms operate. Examiners are sent to different parts of the country in teams from different offices and specializations, and receive extensive classroom and field training. Commission staff are trained to recognize when a firm is deviating from an industry norm. This approach also allows the Commission to obtain a broad overview of compliance practices in the industry. In addition, SEC examiners conduct numerous stand-alone systematic reviews -- special purpose examinations often called “sweeps.„ Recent sweeps have reviewed day trading, on-line brokerage, compliance systems creating informational barriers within firms (previously known as “Chinese Walls„), consistently high performing money managers, internal controls at trading firms, the use of soft dollars, salesmen with career profiles of disciplinary and compliance problems (what some call “rogue„ brokers), sales practices for variable annuity products, supervisory systems for firms registered as both brokers and investment advisers, compliance practices by financial planners, and operations by certain types of transfer agencies. Once a registrant has been selected for review, examiners visit its offices, interview management, review documents and analyze its operations. Examiners often ask for downloads of data relating to trading, portfolio activity, and other matters, for analysis back at the Commission. The examiners use the information to check for irregularities -- often called “red flags„ -- that signal that the firm may be violating the securities laws and related rules, or engaging in practices that heighten the likelihood of such violations. During examinations, the staff digs deeply into the areas selected for review. For example, to examine for sales practice violations, or other abusive mistreatment of customers, SEC examiners review the details of specific transactions and accounts. As many broker-dealers know, it is not uncommon for examiners to ask them why they thought a particular security was suitable for a particular customer, or why the portfolio in a particular account turned over as often as it did, or why a particular customer made multiple purchases of mutual fund shares, when a single purchase would have entitled them to a discount on the sales charge. Broker-dealers are also asked to produce the books and records of the firm documenting what they tell the examiners. The SEC’s examiners are trained to follow the evidence, wherever it may lead. Deficiencies identified during examinations range from record-keeping problems and sloppy compliance practices, to serious violations such as hidden insolvencies threatening customers and the market, misrepresentations, conflicts of interest, market manipulation and sales practice abuses. Many examinations conclude with the issuance of a deficiency letter to the registrant. A deficiency letter describes the problems the staff found and requires the registrant to correct them. This provides highly focused specific deterrence. SEC examiners have developed a new computer-based tracking system to better monitor deficiencies and firms’ follow-up. When a deficiency letter notes more serious supervisory impact, examiners often send the deficiency letter to the firm’s board of directors, hold a conference call or a face-to face meeting with the firm to emphasize examiners’ concerns, and take other, similar actions. Examinations also frequently conclude with a recommendation for additional examination work at other firms. For example, if, during an examination of an investment adviser, the staff discovers that the adviser is engaging in questionable soft dollar transactions with a particular broker-dealer, then an examination of the broker-dealer may be warranted. Similarly, if, during an inspection of a variable product sponsor, the staff discovers evidence of sales practice abuses by the product’s distributors, then examinations of those salesmen or their broker-dealer employers may be warranted. When examiners discover serious violations, such as fraud or sales practice abuses, they refer the matter to the SEC’s Division of Enforcement (or to an SRO enforcement department for broker-dealers) for possible further investigation and enforcement action. Every year, somewhere on the order of 20 to 30 percent of broker-dealer examinations, 4 to 6 percent of investment adviser and investment company examinations, and 6 to 8 percent of transfer agent examinations result in enforcement referrals. Cases brought against regulated entities make up a significant portion of the enforcement cases that the Commission brings each year. Many of those cases originated with referrals from the examination program. The Subcommittee’s primary interest is in how the examination program relates to bank affiliates, including SEC- registered broker-dealers and bank-advised mutual funds. With respect to broker-dealers, the Commission’s examination program applies equally to all broker-dealers. Affiliations play a role in the Commission’s oversight, such as, for example, when the staff reviews broker-dealers’ quarterly risk assessment reports. But fundamentally, the examinations of broker-dealers operating on the premises of banks are the same as for other broker- dealers -- SEC and SRO examiners review firms for compliance with net capital, customer protection, and sales practice rules.[11] Like its program for broker-dealers, OCIE is generally interested in the same issues when the staff examines a bank- advised mutual fund as when the staff examines any other fund.[12] Of course, the adviser’s status and affiliations play a role in our oversight, such as, for example, when the staff examines for conflicts of interest. The one way in which SEC (and SRO) examinations of firms affiliated with a bank differ from examinations of other types of firms is with respect to examiners’ review of disclosure. When investors purchase an investment in a bank, they may be confused about whether their investment is federally insured. To address this concern, whenever the staff examines a bank-advised fund or a broker-dealer operating on the premises of a bank, the staff (or the SRO) carefully reviews how the fund markets itself, and what types of disclosures are made to potential investors, to make sure they understand that a mutual fund or the securities sold are not protected by deposit insurance. C. Coordination with Bank Regulators As noted above, there is a fundamental difference between the Commission’s program and that of the bank regulators. Bank regulators are concerned about the safety and soundness of banking institutions and the prevention of bank failures. The Commission, on the other hand, focuses on disclosure, investor protection, and the maintenance of fair and orderly markets. The Commission is very interested in risks posed to securities firms by their significant affiliated companies. However, the Commission’s fundamental mission is the same whether the securities firm is affiliated with a bank, an insurance company, or has no affiliations at all. The Commission defers to bank examiners on issues related to bank functions. At the same time, because of the Commission’s expertise in the securities markets, the Commission should receive deference with respect to the functions that the Commission oversees. Improving the Commission’s coordination with other regulators is a high priority.[13] To further this goal, the examination program has embarked on a number of initiatives.[14] Over the past several years, the Commission has increased its coordination with the bank regulators. In particular, with the bank regulators, we have worked to heighten our mutual understanding and appreciation for each other’s mission. To this end, the staff has held discussions with the Federal Reserve Board and the Office of the Comptroller of the Currency (“OCC„). In addition, beginning in 1995, the Commission and the OCC conducted a pilot program of joint examinations of mutual funds advised by national banks and national banks that provide investment services to banks. We believe these regulator-to- regulator links can play an important role in enhancing our overall coordination. The Commission’s examination programs and the bank regulators have also been cooperating for many years with respect to transfer agents. Prior to examining any bank transfer agent, the staff notifies its bank regulator and consults on the feasibility and desirability of coordinating examinations.[15] In many instances, the bank regulator will participate in the staff’s examination. Every year, the Commission also refers the results of several transfer agent examinations to the appropriate federal bank regulator for further action.[16] Finally, the Commission coordinates with bank regulators when the Commission finds that bank-affiliated registrants have committed serious securities laws violations. The Commission’s Division of Enforcement contacts the appropriate bank regulator when the staff is considering recommending that the Commission bring an enforcement action against a bank-affiliated firm. Through these processes, the Commission has established a long- term working relationship with all of the federal bank regulators. The Commission is hopeful this coordination will continue, and that a relationship will develop in which each regulator’s functions are coordinated in the public interest. D. Conclusion Through careful risk-based selection, systematic oversight, and solid examination work and follow-up, the Commission’s examination program protects investors and maintains fair and orderly markets. The Commission, through its examination program, also oversees complex market phenomena, such as transactions or abuses involving multiple firms and multiple parties. Artificial barriers within the securities industry that shield certain players from the SEC’s ability to follow the evidence undercut the SEC’s compliance mission, and, ultimately, the integrity of our markets. III. Section 12(i) of the Securities Exchange Act of 1934 Some have suggested that bank securities regulation could be achieved by a system of parallel securities regulation by the banking regulators. Such a system would be similar to the system currently in place under Section 12(i) of the Exchange Act, which governs securities reporting by bank issuers. Briefly, under Section 12(i) of the Exchange Act,[17] banking regulators are required to adopt rules “substantially similar„ to the Commission’s rules within 60 days after the Commission’s publication of its final rules. The current Section 12(i) model confers on four separate federal banking regulators -- not the Commission -- the authority to administer and enforce the most important disclosure and reporting provisions of the Exchange Act with respect to publicly held banks and thrifts: Sections 12, 13, 14, and 16. The OCC is assigned responsibility for national banks; the Federal Deposit Insurance Corporation (“FDIC„), for state banks that are not members of the Federal Reserve System; the Federal Reserve, for state member banks; and the Office of Thrift Supervision, for savings and loan associations.[18] The anomaly in this arrangement is that while approximately 12,500 public companies, including 915 publicly owned bank holding companies and savings and loan holding companies, are subject to the Commission’s jurisdiction, approximately 280 publicly held banks and thrifts are exempted from the Commission’s jurisdiction under this provision. Section 12(i) thus carves out an exception to the jurisdiction of the Commission, the agency primarily responsible for administering and enforcing the integrated disclosure system, the Williams Act (which addresses beneficial ownership disclosure, tender offers, and changes in control), the proxy rules, and the short-swing trading provisions of the Exchange Act. This treatment dates back to the 1964 amendments to the Exchange Act. When the Exchange Act’s coverage was expanded to require periodic reporting by all publicly held companies with securities traded in the over-the-counter markets, Congress subjected banks to the new requirements but conferred jurisdiction over the reporting obligations of banks and thrifts on their respective regulators. Section 12(i) contains an assumption that banks and thrifts should be treated differently from other public companies. If that assumption ever justified the separate treatment of banks and thrifts found in Section 12(i), it no longer does. The resulting fragmented reporting structure creates a barrier to the flow of meaningful, comparable information about publicly held companies. Section 12(i) perpetuates, for a small number of Exchange Act registrants, an arrangement that permits differences in the interpretation, administration, and pattern of enforcement of the securities disclosure laws. This arrangement unnecessarily limits the flow of full, comparable, and accurate information to our financial markets. The legislative history of Section 12(i) reflects a tacit subordination of the interests of public investors, who depend for their protection upon readily accessible and uniform periodic disclosure of financial and other material results, to the interests of banks. The effect of the provision is to involve bank regulatory agencies in a difficult and potentially dangerous conflict between their efforts to protect the banking system and the deposit insurance fund, on the one hand, and the integrity of the public securities market, on the other. This conflict becomes greatest at the very moment when a bank is in trouble and an investor’s need-to-know becomes most urgent. In such moments, the first casualty is apt to be market discipline, with its corollary principle of prompt disclosure. Section 12(i) in operation has had some anomalous results. First, Section 12(i) makes it difficult for many investors to know where to find the reports of a particular financial institution. Investors must first know the institution’s organizational structure and details of its business operations - - for example, whether it is owned by a holding company or not; whether it is a bank or a thrift; whether it is a state bank or a national bank; whether it is a member bank or a non-member bank.[19] Second, even when investors can locate financial institution reports under the current system, they may be unable to make meaningful use of the information they find. Whenever five agencies, rather than one, have responsibility for interpreting and administering a single body of law, differences among interpretations are likely to result. Third, the current allocation of jurisdiction under Section 12(i) requires each of the four federal banking agencies to maintain a separate securities disclosure staff. It is unnecessarily duplicative and inefficient to have “mini-SECs„ at the four banking agencies. Fourth, enforcement is hampered. The fact that enforcement of the Exchange Act can only be, at best, a secondary focus for banking regulators is indicated by the raw numbers of securities enforcement actions filed by the respective agencies over the last few years. From fiscal year 1988 through fiscal year 1997, the Commission commenced 36 injunctive and administrative proceedings involving depository institutions.[20] The banking agencies, by contrast, have brought relatively few securities enforcement cases. The Commission notes that the 12(i) model for regulation of bank issuer reporting has not achieved the objectives of the federal securities laws. Notably, one commentator has stated that “final action by the [banking] regulators in promulgating ‘substantially similar’ Exchange Act rules has been delayed in some cases over five years after pertinent SEC amendments have been issued.„[21] As the Subcommittee may be aware, the Commission has long advocated repeal of Section 12(i) of the Exchange Act. The Commission’s position is part of a broad consensus that Section 12(i) should be repealed. In 1984, the Bush Task Group on Regulation of Financial Services proposed repeal of Section 12(i): The registration requirements of the Securities Act of 1933 should be made applicable to publicly offered securities of banks and thrifts (but not deposit instruments), and administration and enforcement of disclosure and other requirements of the Securities Exchange Act of 1934 for bank and thrift securities should be transferred from the bank and thrift regulatory agencies to the SEC, as is currently the case for securities of all other types of companies (including bank and thrift holding companies).[22] The report was signed by, among others, the Comptroller of the Currency, the Chairman of the FDIC, and the Chairman of the Board of Governors of the Federal Reserve System. In addition, more recently, in 1997, the Department of the Treasury’s proposal for Glass-Steagall reform also included a provision repealing Section 12(i).[23] IV. Conclusion The Commission has testified many times during the past decade in support of financial modernization.[24] Whatever version of financial modernization legislation is finally enacted, as the nation’s primary securities regulator, it is critical that the Commission be able to continue to fulfill its mandate of investor protection and to safeguard the integrity, fairness, transparency, and liquidity of U.S. capital markets. The Commission cannot ensure the integrity of U.S. markets if it is only able to supervise a portion of the participants in those markets. Neither can it ensure fair and orderly markets if market participants operate by different rules and investors receive different levels of protection. **FOOTNOTES** [1]: As of December 1998, mutual fund assets totaled $5.5 trillion. Investment Company Institute, Trends in Mutual Fund Investing: December 1998 (Jan. 28, 1999). [2]: In 1998, businesses raised a record $1.8 trillion from investors, $1.31 trillion in 1997, and $967 billion in 1996. (These figures include firm commitment public offerings and private placements but do not include best efforts underwritings.) Securities Data Corporation. [3]: SIPC is a non-profit membership corporation created by the Securities Investor Protection Act of 1970. SIPC membership is required of nearly all registered broker-dealers, and SIPC is funded by annual assessments on its members. If a broker-dealer were to fail and have insufficient assets to satisfy the claims of its customers, SIPC funds would be used to pay the broker- dealer’s customers (up to $100,000 in cash, and $500,000 in total claims, per customer). [4]: United States v. O’Hagan, 521 U.S. 642, 117 S.Ct. 2199, 2210 (1997). [5]: See Testimony of Richard C. Breeden, President, Richard C. Breeden & Co., Before the Subcomm. on Finance and Hazardous Materials, House Comm. on Commerce (May 14, 1997). [6]: 12 U.S.C. § 1818(u). [7]: The federal bank regulatory agencies have issued guidelines that address some bank sales practice issues. See Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corporation, Office of the Comptroller of the Currency, and Office of Thrift Supervision, “Interagency Statement on Retail Sales of Nondeposit Investment Products„ (Feb. 15, 1994). These guidelines are advisory and therefore not legally binding, and they may not be legally enforceable by bank regulators. [8]: See In the Matter of Michael P. Traba, File No. 3-9788, Release No. 33-7617 (Dec. 10, 1998). [9]: In the Matter of NationsSecurities and NationsBank, N.A., Release No. 33-7532 (May 4, 1998). [10]: The SROs, including the New York Stock Exchange and the NASD, conduct regular examinations of their members pursuant to examination cycles that are tailored to each member firm. [11]: The NASD also examines broker-dealers operating on bank premises for compliance with, among other rules, NASD Rule 2350, which governs the sale of securities on the premises of a bank. [12]: While banks are excepted from the Investment Advisers Act, § 202(a)(11), 15 U.S.C. § 80b-2(a)(11), many own or are affiliated with registered advisers. [13]: Arthur Levitt, The SEC and the States, Toward a More Perfect Union, Remarks to the North American Securities Administrators Association Conference (October 23, 1995). [14]: For example, among other things, the Commission has entered into a Memorandum Of Understanding with SRO and state broker-dealer regulators to enhance coordination of broker-dealer examinations. In the international arena, OCIE has worked with foreign securities regulators to conduct coordinated global inspections of multinational money managers. [15]: The procedure is set forth in Exchange Act § 17(b), 15 U.S.C. § 78q(b). [16]: The Commission also consults with bank regulators prior to conducting examinations of clearing agencies and municipal securities dealers. See id. [17]: 15 U.S.C. § 78l(i). [18]: Bank holding companies and savings and loan holding companies are not covered by Section 12(i). Rather, these companies, like all other of the approximately 12,500 public companies, file their annual and other periodic reports with the Commission and the Commission has full power to enforce compliance with all provisions of the securities laws. [19]: Reports of publicly held banks and thrifts are not available to the public through EDGAR because they are not filed with the Commission. [20]: Figure includes proceedings involving banks, bank holding companies, thrifts, and state savings banks. [21]: Michael P. Malloy, The 12(i)’ed Monster: Administration of the Securities Exchange Act of 1934 by the Federal Bank Regulatory Agencies, 19 Hofstra L. Rev. 269, 285 (1990). [22]: Blueprint for Reform: The Report of the Task Group on Regulation of Financial Services, July 1984, at 91. [23]: Although the Treasury’s proposal was not introduced as a separate piece of legislation, a hearing was held by the House Banking Committee on the Treasury’s proposal on June 3, 1997. [24]: See, e.g., Testimony of Arthur Levitt, Chairman, U.S. Securities and Exchange Commission, Concerning H.R. 10 “The Financial Services Act of 1999,„ Before the Subcomm. on Finance and Hazardous Materials of the House Comm. on Commerce (May 5, 1999); Testimony of Arthur Levitt, Chairman, U.S. Securities and Exchange Committee, Concerning Financial Modernization Legislation Before the Senate Comm. on Banking, Housing, and Urban Affairs (Feb. 24, 1999); Testimony of Harvey J. Goldschmid, General Counsel, U.S. Securities and Exchange Commission, Concerning H.R. 10, The “Financial Services Act of 1999,„ Before the House Comm. on Banking and Financial Services (Feb. 12, 1999); Testimony of Arthur Levitt, Chairman, U.S. Securities and Exchange Commission, Concerning H.R. 10, The “Financial Services Act of 1998,„ Before the Senate Comm. on Banking, Housing, and Urban Affairs (June 25, 1998). For additional Commission testimony prior to 1998, see note 16 of Testimony of Arthur Levitt, Chairman, U.S. Securities and Exchange Commission, Concerning H.R. 10 “The Financial Services Act of 1999,„ Before the Subcomm. on Finance and Hazardous Materials of the House Comm. on Commerce (May 5, 1999). 11