WASHINGTON - With the reputations of financial services firms under daily assault, the industry may actually welcome some advice from federal regulators.
Guidelines are expected early next year to help both commercial and investment banks hone their assessments of the risks new products or large, lucrative clients pose to their reputations.
"What we're trying to say is, 'Do not let an Enron make you do stupid things,' " one regulator working on the document explained. "Involve someone more broadly concerned with the risks to the company's reputation in all the complex transactions and schemes to win new big customers like Canary."
Enron Corp., of course, is the energy trader that imploded in late 2001 and helped to spark a corporate-wide reevaluation of acceptable business practices. Canary refers to Canary Capital Partners LLC, which in September prompted the latest scandal after several mutual fund companies tried to win more business by letting the hedge fund trade after hours.
"Risk management has to be more involved in the big deals, and they have to have an independent voice," the regulator insisted.
In a first-of-its-kind collaboration, the Securities and Exchange Commission, the Federal Reserve Board, and the Office of the Comptroller of the Currency are writing these guidelines together.
Securities and banking regulators have coordinated enforcement actions and even debated policy issues in the past - loan-loss reserves comes to mind - but this will be the first time they have jointly issued guidelines that both commercial and investment banks will be expected to follow.
Regulators working on the guidelines, who would talk about them only on background, said they were spurred by a request from Congress.
Fallout from Enron's collapse tarnished some of the financial services industry's most respected players, including Citigroup Inc., J.P. Morgan Chase & Co., and Merrill Lynch & Co. All three had set up complicated transactions that allowed Enron to dress up its books, and all three eventually were hit with regulatory actions.
The Senate's permanent subcommittee on investigations took a long, hard look at what went wrong, and Sen. Carl Levin, D-Mich., nudged federal regulators to distill the lessons executives should have learned.
So while the guidelines are more broadly applicable to questions about new products and courting big customers, they are focused on the reputational risks posed by complex structured finance transactions.
To develop these best practices, securities and bank regulators examined 11 financial companies, scrutinizing everything from the design of structured finance to marketing and sales, Mary Ann Gadziala, an associate director in the SEC's Office of Compliance Inspections and Examinations, said in a September speech.
Bank regulators released a similar document in early 1999, attempting to flag the lessons that should have been learned from Long-Term Capital Management's near-meltdown in 1998. The new guidelines will echo the Enron-related enforcement actions slapped on Citi, J.P. Morgan Chase, and Merrill, regulators said.
For instance, J.P. Morgan Chase's July 28 written agreement with the Fed and the OCC listed 10 steps designed to bolster "legal and reputational risk management," including incorporating "thorough assessments" of these risks into transaction approval processes and requiring senior managers to regularly review the company's appetite for such risks.
The guidelines have been in the works since early this year. The three agencies have whittled down their differences to some procedural moves such as whether to issue them for public comment.
Because compliance with guidelines is voluntary, regulators typically just issue them and expect companies to adhere unless they have a good reason for deviating. But regulators are concerned that they could be creating legal liabilities for commercial and investment banks, and they hope a public comment period would bring potential vulnerabilities to light.
Since they have not seen it, industry representatives could not comment specifically on the guidance, but it seems to be welcome.
"It always helps to have clarity," said Richard M. Whiting, the executive director and general counsel of the Financial Services Roundtable. "As long as it doesn't impose an additional legal liability, it would be helpful."
Suzanne B. Labarge, a vice chairwoman and the chief risk officer of Royal Bank of Canada in Toronto, said reputational risk issues are already getting more regulatory attention.
"Whether we need guidance or not, we're getting it through our examinations," said Ms. Labarge, who also chairs RMA-the Risk Management Association. "The substance of what they are trying to do is outstanding, but I always worry about the increasing litigious environment financial institutions are facing in the U.S."
