The clock is ticking in Washington.
So said Securities and Exchange Commission member J. Carter Beese Jr. Thursday in a speech before the Securities Industry Association where he put Wall Street on notice that regulators are cracking down on officials at firms that inadequately police brokers and look the other way when they smell a violation of federal securities laws.
It's called "failure to supervise," the SEC has been bringing a lot of these cases lately, the most celebrated of which was its blowout of top brass at Salomon Brothers Inc. for failing to adequately rein in false bidding by Paul Mozer in U.S. Treasury securities auctions.
Judging from Beese's speech, which had broad endorsement from other commissioners, the SEC is going to be bringing a lot more of these cases.
Interestingly enough, the municipal securities market got kudos along these lines from Beese, who lauded the 17 major securities firms who have "stopped the practice of pay to play" as part of a crackdown on political contributions.
"This ~gang of 17' firms is sending a message that the toughest laws and the strictest regulations could never send - that we are here to serve the public, and that the public interest is not for sale," Beese said.
But political contributions aside. Beese said that the SEC, along wide self-regulatory groups like the National Association of Securities Dealers, must seek increased sanctions against brokers who commit abuses of sale practice, suitability, and other standards - and against their supervisors.
So what's this "failure to supervise" business all about? A review of the basics may be in order here, with help from SEC commissioner Mary Schapiro, who recently outlined the area in a speech before the NASD. According to Schapiro, such cases are without question among the toughest cases that the commission handles
She said the agency is authorized to bring failure to supervise cases under Section 15(B)(4)(E) and 15(b)(6) of the Securities Exchange Act, which requires the agency to find that a firm or individual "failed reasonably to supervise, with a view to preventing violations ... another person who commits such a violation."
The statute includes an "affirmative defense" that provides that no person may be charged with failure to supervise as long as he or she "reasonably discharged the duties and obligations incumbent upon him by reason of his firm's procedures," and had no reasonable basis for believing that those procedures were not being followed.
But distinguishing between who is and who isn't a supervisor is difficult for the SEC because organizational charts often do not reflect the real lines of authority at securities shops.
Schapiro pointed to the SEC's reversal in 1989 of an administration law judge's finding that a branch manager's assistant failed to reasonably supervise a salesperson.
The assistant was responsible for identifying sales practice problems, but he had only a very limited authority to take corrective action.
Nevertheless, as grave problems with the broker continued, and the branch manager failed to respond effectively, the assistant reported the matter to the firm's director of surveillance, Schapiro said.
After reviewing the case, the commission concluded that "a supervisory employee with even limited authority must ... go beyond his limited authority to contact the firm's national headquarters concerning a rogue broker's activities." In the view of the SEC, the assistant branch manager fulfilled that requirement, Schapiro said.
The facts of the case demonstrate the grayness of the failure to supervise area. They also show that officials at firms will only be on solid ground with regulators if they refuse to look the other way when there is evidence of wrongdoing.
