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U.S. Securities and Exchange Commission

Speech by SEC Commissioner:
Remarks Before the North American Securities Administrators Association 2011 Annual Conference


Commissioner Elisse B. Walter

U.S. Securities and Exchange Commission

Wichita, Kansas
September 12, 2011

Good afternoon. Dave [Massey, NASAA President], there are many things I want to thank you and your colleagues for today. Thank you for inviting me to speak here. Thank you, Dave, for that eloquent introduction. And, most important, I would like to thank you for your hard work over the past year in weaving a tighter relationship between the SEC and NASAA, one that will allow us all to protect investors in our financial marketplace better, as they face new and increasingly difficult challenges.

It's great to be here in Kansas, which 100 years ago, gave us one of our country's earliest efforts in investor protection, America's first blue sky law.

That law gave the Kansas Bank Commissioner the power to deny issuers authorization to sell securities in Kansas in cases where he found that the company was not solvent, that it did not have a "fair, just and equitable plan for the transaction of business," or in his judgment, that it did not "promise a fair return" on the securities.

The first round of blue sky laws adopted before 1933 created an important foundation for investor protection throughout our nation. The laws were only partially successful, however. For example, unscrupulous securities promoters circumvented them by making offers across state lines through the mail.

But, an important precedent had been set. As early efforts of financial reform, the blue sky laws gave life and political heft to an idea that has benefitted untold millions of investors over the years: that government, at the state and the federal levels, has a legitimate role to play in strengthening the financial system by protecting the investors who drive it.

And so, in the wake of Black Thursday and the collapse of a modest market recovery in 1933, Congress passed the Securities Act and a year later the Securities Exchange Act — which created the Securities and Exchange Commission — to close many of the gaps in blue sky laws exploited by wrongdoers.

And, like Kansas Bank Commissioner Joseph Norman Dolley (with whom I share a birthday), the SEC and state regulators have worked tirelessly ever since. We have worked long, hard, and, in my view, effectively — under merit and disclosure laws — to protect American investors — to prevent them from being "fat picking" for fraud, as the Saturday Evening Post called Kansans a hundred years ago.1 Our efforts, jointly and individually, contribute to the nation's economic growth and protect the investment assets of our population.

Last year's Dodd-Frank Act was another significant advance for investor protection — a needed adaptation to contemporary market realities — designed to bring an increased measure of needed security to retail investors.

Today, I would like to talk about change and investor protection. But, before I elaborate any further, I'm required to let you know that these remarks are my own opinion and do not represent the official position of the U.S. Securities and Exchange Commission or my colleagues there.2

Our regulatory landscape today looks quite different than it did in 1911. The financial markets' speed and complexity are exploding. And an individual's investment portfolio may well be more important to her economic security than it has been in a generation.

Two things have not changed, however.

There are still unscrupulous actors determined to circumvent securities laws, advocate for favorable and unwarranted regulatory loopholes, and take advantage of investors.

Our work as financial regulators continues to be critical to a financial system that is deeply rooted in American ideals. To me, fairness and equality are those ideals that should come to mind.

In my view, it is more important than ever for us to effectively and efficiently pursue our shared goal of investor protection through a 21st Century securities regulation strategy.

Importance of Investor Protection Today

The blue sky laws were an important advance because, on many levels, they represented a rejection of full-bore, free-market theory in favor of a practical regulatory approach based not on abstractions, but on real world observations. Markets are the aggregation of millions of decisions by people and institutions who are, quite naturally, probably more interested in their own investments than in economic theory.

This reality places many investors — particularly retail investors — at a sometimes significant disadvantage. And it means that, at a time when investments by American families are increasingly important to achieving what many of us still call the American Dream, it is vitally important that we continue our efforts to level the playing field that many fear has become increasingly tilted against retail investors.

Now, there is a strong argument to be made that today's investors, including many retail investors, are more sophisticated than those who benefitted from that first blue sky law. After all, investors with cable TV can choose among multiple business-only networks and find the high-decibel advice of Jim Cramer or get the latest from Maria Bartiromo on the floor of the New York Stock Exchange. And, investors can access dozens of publications and hundreds of blogs offering everything from detailed financial analysis to rumors and tips.

Despite the vast amount of information available, however, there is a growing gap between the sophistication of the financial markets and the sophistication of most retail investors — who often do not have the capability to process that information. In addition, there are studies showing that some relatively sophisticated, individual investors are actually even more likely than others to follow fraudulent advice.

The growing complexity of the financial world leaves investors of all sophistication levels more open not only to Ponzi schemers and fraudsters, but also to investment professionals with conflicting interests, and even to their own overestimated level of sophistication. These vulnerabilities can plunge an unprepared investor into the complex worlds of leveraged ETFs or foreign exchange speculation, with sometimes devastating consequences. Not only that, but even savvy investors with an accurate grasp of their own abilities and the market's risks must carefully navigate a financial system - where the speed with which individual transactions are executed, orders are placed and cancelled, and markets move - or risk devastating consequences themselves.

Increasing Reliance on Personal Investments

At the same time that investor vulnerabilities appear to be increasing, the results of any misstep are becoming increasingly harsh. Never has the ability to achieve and to hold on to the American Dream been more dependent on successful investing by middle class Americans. We live in a world where so many major life decisions - from getting an education, to buying a home, to preparing for a child's future, and especially retiring — depend on an individual's investment success.

Workers looking towards a comfortable retirement and the chance to pass something along to their children often now have to punch the clock at jobs where the defined benefit pension plan, which used to pay retirees a specific retirement benefit throughout their golden years, is becoming simply a memory.

Social Security and Medicare both face pressures. And the value of the family home — traditionally a middle class family's largest investment - has declined dramatically over the last few years. Rather than a diverse mix of incomes and assets, Americans increasingly are being forced to rely on their own investments for retirement security. In addition, the cost of college, still a key to security for many, has been rising at twice the rate of inflation — and of middle class wages — for 20 years.

Against this backdrop, a worker who makes a big bet on a complicated fund, or who gets swept up in the sophisticated-sounding patter of a friend-of-a-friend — someone who's allegedly earning clients four percent a month by flipping foreclosed properties — can turn his or her comfortable retirement into a meager one, or wipe out his children's college savings.

Importance of Federal-State Cooperation

All this means that our work to protect investors is perhaps more important than it has been at any time in the hundred years since the Kansas legislature acted to stop swindlers so brazen that, as I understand from Rick Fleming's recent article on the Kansas blue sky law, they would "promise rain but deliver blue sky."3 And, federal-state cooperation can go a long way towards ensuring that investors remain confident in our markets.


The SEC's enforcement division and your agencies view activities that run afoul of our securities laws from different vantage points, meaning more effective scrutiny of suspicious participants and trends. Each agency has its own advantages — sometimes procedural, sometimes in the experience and expertise of its staff — that can come together to make stronger cases. We each benefit from the tips and complaints that we pass each other's way. The coordination of state and federal action maximizes the reach of our resources and can allow each of us to do more for investors within all-too-tight budgets. And by presenting a coordinated and collaborative front, we reduce the chances that a malefactor will be able to arbitrage different jurisdictions in an effort to minimize or escape liability.

Earlier this summer, we saw a tremendous example of a coordinated state-federal action against Morgan Keegan, which had mispriced risky mortgage-backed securities that it had bundled into supposedly conservative mutual funds. In June, the SEC, FINRA and a task force of state regulators from Alabama, Kentucky, Mississippi, South Carolina and Tennessee announced a $200 million settlement against Morgan Keegan. One senior executive was barred from the securities industry, $100 million was placed in a federal Fair Fund for harmed investors, and $100 million was paid into a state fund that is also being distributed to investors. The case was a tremendous example of what we can accomplish for investors when we work together. And it sent a strong message that unscrupulous actors should fear both state and federal scrutiny and prosecution if they violate securities laws.


In addition to our collaboration on the enforcement front, the Dodd-Frank Act presents more opportunities for state and federal regulators to work together to enhance investor protection. First, the Act provides numerous decision points where we count on your organization and members to weigh in on our emerging rules and help us to craft smarter regulations.

Progress to date

So let me give you a quick look at some of the progress we have made against a pressing rulemaking docket over the last 13 months.

Of the more than 90 mandatory rulemaking provisions, the SEC already has proposed or adopted rules for almost three-quarters of them — not including rules stemming from the dozens of other provisions that give the SEC discretionary rulemaking authority. Additionally, the SEC has issued eight of the more than 20 studies and reports that it is required to complete under the Act.

We are proceeding rapidly but deliberately. Meeting deadlines for writing rules is important to us. But our first priority is to propose and adopt rules that work.

Financial Crisis Response

There's a temptation to think about Dodd-Frank financial system reforms as comprising two discrete, though related, pieces, with one portion of the law largely addressing systemic stability, and the other focused on what we would think of as "investor protection." I don't think the division is quite so neat, however. Both are important to the retail investors who have paid dearly over the course of the Dow's 7600 point drop between 2007 and 2009.

And so, as the SEC adopts rules that are a direct response to the financial crisis, we are acting to protect investors and the portfolios with which they hope to achieve their American dreams.

Risk Retention

One key area of SEC focus is the asset-backed securities market — the market for securities with value and revenue streams based on assets like bundled car loans or credit card payments.

As you know, the financial crisis saw the collapse of one particular class of securitized assets — those based on subprime mortgages.

During the housing bubble, banks and mortgage companies found that they could write mortgages and then sell them off — pocketing the origination fee and passing the risk down the securitization chain. Securitizers then bundled the loans and sold them, washing their hands of risk related to the loans' performance.

Since originators and securitizers bore no risk, they had no incentive to maintain high underwriting standards. In his book, The Big Short, Michael Lewis tells of a strawberry picker with $14,000 annual income and a tenuous grasp of the English language who was cleared for a mortgage on his very own $750,000 mini-mansion. In the era of "Interest Only," "OptionARM," and "liar loans," mortgage originators routinely pushed loans out the door with little or no consideration of whether mortgagees would be able to pay.

Title IX of the Dodd-Frank Act puts an end to liar loans by requiring that securitizers retain at least five percent of the credit risk of any assets they sell. It also prohibits a securitizer from directly or indirectly hedging or otherwise transferring that credit risk.

In March, the Commission joined federal banking and housing agencies in proposing rules to meet these standards, offering a menu of risk retention options. We believe that reducing the moral hazard that made liar loans common will impose needed discipline on the mortgage marketplace. Of course, we recognize that there are many complex issues and a wide range of views on a number of issues, including how to define Qualified Residential Mortgage. We are carefully reviewing the thoughtful comments we've received and considering commenters' views.

Ratings Failures

The negligence and outright fraud that too often marked bubble-era mortgage underwriting was compounded by problems with credit ratings. For example, as late as January 2008, 64,000 asset-backed securities were rated Triple A. Unfortunately, 90 percent of them were later downgraded to junk status.

In January, the Commission adopted the first of approximately a dozen required rulemakings related to credit rating agencies. In May, the Commission published for public comment a series of proposed rules that would strengthen the integrity of credit ratings, including by improving their transparency. And, we are removing references relying on ratings from many of our rules.

The SEC is also conducting a two-year study on alternative compensation models for rating structured finance products. Today, rating agencies are usually financially dependent on the entities whose products they are rating - a business model anchored in conflict of interest. This study will examine ways to allow agencies to generate revenue without feeling pressure to deliver the ratings their clients want.


The existence of certain derivatives exacerbated the market turmoil caused by the growing wave of mortgage defaults during the financial crisis. These derivatives, which traded in the over the counter markets, were highly complex and largely unregulated. Their unique role in the financial crisis — a crisis that injured a broad range of investors, including many state and local governmental entities — clearly demonstrated the need for significant regulatory reforms.

Title VII of Dodd-Frank is bringing this derivatives market into the daylight and ameliorating conditions that contributed to the 2008 crisis. The SEC is working with the Commodities Futures Trading Commission to write rules that:

  • Address, among other things, mandatory clearing, capital and margin requirements, and public transparency for transactional information;
  • Improve transparency and facilitate the centralized clearing of swaps, helping to reduce counterparty risk and systemic risk; and
  • Enhance investor protection by increasing security-based swap transaction disclosure and helping to mitigate security-based swap conflicts of interest.

State-Federal Collaboration

Hedge Funds and Investment Advisers

As we work to implement Dodd-Frank in other areas, perhaps the one area where federal and state regulatory interests most overlap involves financial advisers.

As you know, Dodd-Frank recognizes the systemic importance of hedge funds and other private funds by placing their advisers under SEC oversight and requiring that the SEC gather certain information about private funds for the Financial Stability Oversight Council. Even as we are acquiring oversight of hedge fund advisers, under Dodd-Frank, the responsibility for regulating approximately 3200 investment advisers with assets under management of between $25 and $100 million will now move to the states.

We have been working closely with NASAA and its members since passage of Dodd-Frank, both to ensure a smooth transition between the SEC and the states and also to ensure that investment advisers have clear guidance on new registration procedures. We look forward to continuing to work cooperatively with state regulators as the transition date approaches.

Increased Examinations

One significant bar to effective oversight over investment advisers by the SEC that remains, and will only grow in the future, is the inability to examine with sufficient frequency the 9,750 advisers that will be registered with the agency. Effective oversight, as you well know, depends on adequate resources, and we share the need to obtain them given ever more difficult budgetary problems.

Americans currently entrust $43 trillion to the management of SEC-registered investment advisers. Yet, as things stand, the average investment adviser can expect to be examined by the SEC only once every 11 years. And, the trend has been on the downside, with both the number and the frequency of examinations going down decidedly in the past five years. These decreases appear to be attributable, in part, to the consistent growth in the investment advisory industry - in terms of both an increase in number of investment advisers and an even greater increase in assets under management. The inevitable conclusion to be drawn from these decreases is that the Commission is not, and, unless significant changes are made, cannot fulfill its examination mandate with respect to investment advisers.

The SEC's Office of Compliance Inspection and Examinations — or, OCIE — will have fewer investment advisers to examine in the years immediately following the reallocation of responsibilities for the regulation of smaller investment advisers to the states. But any relief would likely be only temporary, as the number of firms and the amount of assets under management will continue to grow, and the advisers under our oversight will be, on average, larger and more complex. In addition, other new areas required to be regulated under Dodd-Frank will compete for resources from the advisory area. These areas include municipal advisers, credit rating agencies, security-based swap dealers, and security-based swap repositories. And a new whistleblower program is likely to stretch limited resources even further as examiners may be diverted from regular exams to follow up on tips.

It has been evident for some time that something needs to be done. Section 914 of Dodd-Frank required the Commission to review and analyze the need for enhanced examination and enforcement resources for investment advisers. Earlier this year, the Commission voted to release the 914 study, which discussed three options to address the significant need for improvements in this area:

  • Impose user fees on investment advisers and expand OCIE;
  • Authorize one or more self-regulatory organizations similar to FINRA, the organization that oversees broker-dealers, to oversee registered investment advisers; or
  • Authorize FINRA to examine dually registered investment advisers and broker-dealers for compliance with the Advisers Act.

As you may know, I was quite disappointed with the result of the study. Although it was an extremely difficult decision, I ultimately felt that it was necessary for me to submit a separate statement to provide straightforward responses to Congressional inquiries, clarify and emphasize certain facts, and ensure Congress was fully aware of the severity of the Commission's resource problem, that it would only worsen, and that a solution is needed now.

Although I felt that each of the options discussed holds some promise, the study's description and weighing of them was far from balanced or objective, and generally it was predisposed against an SRO option. Thus, I undertook to balance the discussion.

The discussion on this important topic continues. I would also note that unfortunately, opposition to user fees and the difficulties of an annual appropriations process make it difficult to foresee a situation in which this Congress would allocate the resources the SEC would need to significantly increase the size of its examination team.

I am pleased, though, that Congress is again focusing on improving investment adviser oversight, with Chairman Bachus of the House Financial Services Committee offering for discussion legislation authorizing SROs for investment advisers to supplement the Commission's oversight. In fact, a hearing on oversight of investment advisers and broker-dealers is scheduled for tomorrow. I believe that swift and decisive action is critical — not relegation to another day — as has happened in the past.

Fiduciary Duty

Of course, we share an interest in seeing that the investment professionals who handle the finances of millions of Americans provide investment advice with their clients' best interests in mind. A report mandated by Dodd-Frank and released to Congress last January, which I wholeheartedly joined, recommended that investment advisers and broker-dealers both be held to a uniform federal fiduciary standard when they are providing personalized investment advice about securities to retail investors. That standard would be "no less stringent" than the standard that applies to investment advisers today.

Adoption of a uniform fiduciary standard has long been a goal of mine, and I look forward to moving forward on this initiative. However, in addition to establishing a uniform fiduciary standard, I would also like to see us work towards harmonizing aspects of the regulation of broker-dealers and investment advisers. As I have said before, when investment advisers and broker-dealers are performing the same or substantially similar functions, they should be subject to the same or similar regulations. In this regard, I was particularly pleased to see the report's recommendation, among others, that the Commission consider whether investment advisers should be subject a substantive review prior to their registration with the agency.

Mandatory Arbitration

Regardless of changes in the relationship between investors and the professionals to whom they turn for advice, disagreements will arise that need to be resolved quickly and fairly. Following the dictates of Dodd-Frank, the SEC intends to thoroughly review the mandatory arbitration provisions that are written into most brokerage contracts.

I believe that in recent years FINRA has provided a relatively cost-effective way to fairly resolve disputes. Nonetheless, I also completely understand the frustration of investors who are denied their opportunity for a day in court and find themselves forced to make their case in front of an arbitration forum.

State Input at High Levels

Of course, investor protection efforts need to evolve as markets evolve over time, so an important facet of Dodd-Frank is that it ensures that state regulators are in the room when key decisions about financial regulations are considered.

President Massey, of course, has a position with the Financial Stability Oversight Council. In this role, he is able to bring his insights — and yours — and report on developments from beyond the Washington-Wall Street axis, to key meetings inside the Beltway. And, through this position, all of you coalesce into a valuable source of critical information to ensure that the voice of state agencies is heard whenever systemic stability is discussed.

Dodd-Frank also ensures a voice for state securities regulators on the Investor Advisory Committee. I am confident that this committee's input will be of great value to the Commission, as we carry out our investor protection mandate in our rapidly changing financial marketplace. And, as we move forward with establishing this Committee, I look forward to continuing to hear your views as our partners in the investor protection business.

One final note, I wanted to thank you for your thoughtful comment letters concerning our rulemakings on the accredited investor standard and the disqualification of felons and bad actors from Rule 506 offerings. I greatly appreciate the opportunity to better understand your perspectives and look forward to moving ahead with our rulemaking efforts on those two areas.


As I said earlier, I believe that our work — in combating fraud and abuse, and in ensuring a level playing field for investors — is particularly important today for our nation's financial markets. Nobody knows better than we do how hard that work can be in a world of limited resources and lingering hostility to regulators' roles.

If we can build on a collaborative relationship that allows the SEC and the states to work together productively and efficiently to protect investors, however, we can continue to improve our efforts to ensure that our financial markets give retail investors a fair opportunity to profit from the capital they invest.

And, if we continue to focus on the importance of our work, we can bring the determination and enthusiasm to our work that the investors who rely on us deserve.

As I've said many times since I returned to the Commission in 2008, my door and telephone lines are always open. Please don't hesitate to visit me or pick up the phone if there is anything that you would like to discuss with me.

Thank you for the work your agencies do so skillfully, and for the many ways in which your work allows my agency to do its work better, as well.

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Modified: 09/15/2011