Welcome to Scribd, the world's digital library. Read, publish, and share books and documents. See more
Download
Standard view
Full view
of .
Save to My Library
Look up keyword or section
Like this
1Activity
P. 1
Who Watches the Watchers?

Who Watches the Watchers?

Ratings: (0)|Views: 6 |Likes:
WHO WATCHES THE WATCHERS? THE SECURITIES INVESTOR PROTECTION ACT, INVESTOR CONFIDENCE, AND THE SUBSIDIZATION OF FAILURE
WHO WATCHES THE WATCHERS? THE SECURITIES INVESTOR PROTECTION ACT, INVESTOR CONFIDENCE, AND THE SUBSIDIZATION OF FAILURE

More info:

Categories:Types, Business/Law
Published by: Investor Protection on Jul 20, 2013
Copyright:Attribution Non-commercial

Availability:

Read on Scribd mobile: iPhone, iPad and Android.
download as PDF, TXT or read online from Scribd
See more
See less

03/06/2014

pdf

text

original

 
1071
WHO WATCHES THE WATCHERS?THE SECURITIES INVESTORPROTECTION ACT, INVESTORCONFIDENCE, AND THESUBSIDIZATION OF FAILURE
T
HOMAS
W. J
OO
*
I.INTRODUCTION: IT’S 10 P.M. DO YOU KNOWWHERE YOUR SECURITIES ARE?
..........................1072
II.THE BROKER-DEALER INDUSTRY AND THEORIGINS OF SIPA
..........................................................1076A.T
HE
P
RECIPITATING
E
VENT
: T
HE
“B
ACK
O
FFICE
C
RISIS
”............................................................1076B.C
ONGRESSIONAL
R
ESPONSE
: P
ROMOTION OF
“I
NVESTOR
C
ONFIDENCE
...........................................1080C.C
AUSES OF
F
AILURE IN THE
B
ROKER
-D
EALER
I
NDUSTRY
, T
HEN AND
N
OW
........................................10821.
 Mismanagement and Misconduct 
..........................10822.
Failure of Self-Regulation
......................................10843.
Continuing Significance of Misconduct 
.................10874.
 New Problems in the Industry: Increased  Riskiness and Complex Corporate Structures
.......1091
*Acting Professor, School of Law, University of California, Davis (King Hall). J.D., HarvardLaw School, 1993; B.A., Harvard College, 1989. This article benefited from the helpful comments andadvice of Dwight Aarons, Vikram Amar, Holly Doremus, Robert W. Hillman, Edward Imwinkelried,Stefanie Roth, Robert B. Thompson, William K.S. Wang, discussants at the 1997Joint/Western/Southwestern/Southeastern Law Professors of Color Conference, and my colleagues inthe King Hall Faculty Colloquium Series. I also owe special thanks to Kenneth Caputo, Deputy Gen-eral Counsel of SIPC, for providing useful information. Thanks also to my research assistants, JoshuaLeach and Paul Gross. The University of California, Davis and the UC Davis School of Law (KingHall) provided generous financial and moral support for my research and writing. Any errors hereinare, of course, my own.
 
1072
SOUTHERN CALIFORNIA LAW REVIEW 
[Vol. 72:1071
D.SIPA
S
A
PPROACH TO THE
P
ROBLEM OF
B
ROKER
-D
EALER
F
AILURE
..........................................10931.
SIPA Investor Protection in a Broker-Dealer  Liquidation
............................................................10932.
SIPA and Financial Responsibility Rules
..............1098
III.CRITIQUE OF THE SIPA APPROACH
......................1103A.I
NVESTOR
P
ROTECTION OR
I
NDUSTRY
P
ROTECTION
?
B
AILOUT
 
AS
S
TATUTORY
P
URPOSE
.........................11031.
 Distinguishing SIPA from Bankruptcy Law
...........11042.
SIPA as Bailout 
......................................................1105a.
 Investor confidence and “prospective bailout”
......................................1106b.
Protection from the “domino effects”
..............1110B.SIPA S
UBSIDIZES THE
B
ROKER
-D
EALER
I
NDUSTRYBY
S
HIFTING THE
C
OSTS OF
F
AILURES
.......................11141.
 Burdens on the Economy Generally
.......................11142.
 Burdens on General Creditors
...............................11173.
 Burdens on Customers
...........................................1121C.SIPA D
OES
N
OT
F
OCUS ON
F
AILURE
P
REVENTION
.....11261.
Prevention and Moral Hazard 
...............................11292.
 Moral Hazards of Customer, Firm and Industry
...1131
IV.SUGGESTED IMPROVEMENTS TO THE SIPASCHEME
...........................................................................1135A.R
ISK
-R
ELATED
D
ISTRIBUTION OF
SIPA
S
C
OSTS
........11361.
 Distribution of Costs Among Firms
.......................11362.
SRO Discipline
.......................................................1140B.H
OLDING AND
A
FFILIATED
C
OMPANIES
S
HOULD
P
AYFOR
L
IQUIDATIONS
......................................................1142
V.CONCLUSION
.................................................................1148I.INTRODUCTION: IT
S 10 P.M. DO YOU KNOW WHEREYOUR SECURITIES ARE?As Professor Loss put it, the
recurrent theme
of federal securitiesregulation is
disclosure, again disclosure, and still more disclosure.
1
These disclosure requirements primarily concern data about the securitiesthemselves, or more specifically, data about the firm that issues the securi-ties. The principle of disclosure, however, does not apply with equal force
1.1 L
OUIS
L
OSS
& J
OEL
S
ELIGMAN
, S
ECURITIES
R
EGULATION
29 (3d ed. 1989).
 
1999]
WHO WATCHES THE WATCHERS?
1073
to the regulation of the broker-customer relationship. For example,
dis-closure
does not require securities firms to inform investors of the valueof a broadly diversified, low turnover strategy requiring relatively littlefirm-specific data. Nor does it require securities firms to divulge that theirinvestment advice generally yields returns no better than random stock picking.
2
Moreover, the disclosure principle does not require that a secu-rities firm disclose to the investor information about the reliability of thefirm itself.This last piece of neglected information is especially important. Se-curities firms not only recommend and sell securities, they also control thesecurities that investors own. When an investor purchases securities, theyare generally not held in the name of that investor (sometimes referred toas the
beneficial owner
), but rather in the name of an intermediary.
3
The
2.Such a requirement, it has been argued, would be akin to requiring a casino to disclose togamblers the fact that the odds favor the house.
See
Paul Mahoney,
 Is There a Cure for 
 Excessive
Trading?
, 81 V
A
. L. R
EV
. 713, 744 (1995).3.Under the depository system of securities transfer, securities certificates are held in a centraldepository in the name of the depository, rather than in the customer
s name. Thus, when securities aretraded, it is no longer necessary to process each trade individually by obtaining certificates, inspectingthem, and reissuing and physically delivering new certificates in the name of the new owner. The de-pository retains record ownership.
See
Ralph C. Ferrara & Konrad S. Alt,
 Immobilization of the Secu-rity Certificate: The U.S. Experience
, 15 S
EC
. R
EG
. L.J.
 
228, 237-40 (1987). Securities held in thename of an intermediary are commonly said to be held in
street name.
It is important to note that individual beneficial owners of securities have no direct contractualrelationships with the depository
rather, individuals have contractual relationships with their brokers,which in turn have contractual relationships with the depository or, as is often the case, relationshipswith another intermediary (or intermediaries) which in turn is in privity with the depository.Most securities trades are made through a depository system known as the Continuous Net Set-tlement (CNS) System, involving the combined operations of two registered clearing agencies, the De-pository Trust Corporation (DTC) and the National Securities Clearing Corporation (NSCC). Securi-ties certificates are kept on deposit with DTC, registered under the name of DTC
s nominee, Cede &Co.
See
Charles Mooney,
 Beyond Negotiability: A New Model for Transfer and Pledge of Interests inSecurities Controlled by Intermediaries
, 12 C
ARDOZO
L. R
EV
. 305, 317-20 (1990). The interest of DTC
s participant institutions in the securities is recorded on the books and records of DTC. In turn,beneficial ownership of each participant
s customers is recorded in the participant
s books and records.DTC keeps track of all securities trades by participants. Participants become responsible totransfer or entitled to receive only net changes in the amount of each securities issue and cash. In orderto centralize the transfer of payments and securities, there is a novation of trade contracts, with NSCCcoming between the parties on each side of the transaction.
In sum, on each settlement date, eachNSCC participant pays to or receives one sum of money from NSCC and each NSCC participant trans-fers to or receives from NSCC, by book entry on the books of DTC, a single quantity of each securityissue involved.
 
 Id 
. at 319.The vast majority of shares of major securities issues are on deposit at DTC and thus are not heldin the name of their beneficial owners. As of 1988, NSCC cleared and settled about 95% of all equitiestrades on the New York Stock Exchange (NYSE), American Stock Exchange (AMEX), and NationalAssociation of Securities Dealers (NASD) markets.
See
 
id 
. at 317-18 nn.23-24. Stock held in streetname can represent as much as 80% of a public company
s outstanding shares.
See
John C. Wilcox,
 AProxy Contest Check List 
,
in
22
D
A
NNUAL
I
NSTITUTE ON
S
ECURITIES
R
EGULATION
511, 521 (PLI Corp.

You're Reading a Free Preview

Download
/*********** DO NOT ALTER ANYTHING BELOW THIS LINE ! ************/ var s_code=s.t();if(s_code)document.write(s_code)//-->