09 May 2016
Recent Criticisms of the SEC: Fair or Unfair?
Practice Groups:
By Jon Eisenberg and Shanda N. Hastings
Global Government
Solutions
Over the last few years, the SEC has been criticized for (1) failing to “consistently and
aggressively enforce the securities laws and protect investors and the public,” 1 (2) obtaining
sanctions that amount to only a slap on the wrist against major financial institutions,2 (3)
settling rather than taking big banks to trial, 3 4) failing to name individuals in enforcement
actions, 4 (5) failing to require that companies admit guilt,5 (6) granting waivers from the
collateral consequences of enforcement actions,6 and, most recently, (7) failing to prevent a
prominent hedge-fund manager from getting back into the hedge-fund business. 7
Government
Enforcement
Investment
Management, Hedge
Funds and
Alternative
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Securities
Enforcement
We evaluate below whether the facts support those criticisms. We find that they support the
opposite conclusions.
1. Lack of an Aggressive Enforcement Program
In its most recent fiscal year (FY 2015), the SEC filed 807 enforcement actions. 8 Of the 807
enforcement actions, which was itself a record, a record 507 were “independent actions” for
violations of the federal securities laws.9 In other words, the SEC brought more enforcement
actions in its most recent fiscal year than it brought in any other year in its 82-year history.
The number of independent enforcement actions rose from 341 in FY 2013 (the year that
Mary Jo White became Chair) to 413 in FY 2014 to 507 in FY 2015. In FY 2015 alone, it
obtained orders for disgorgement and penalties of $4.2 billion, which equaled the largest
amount ordered in SEC actions in at least the last decade. 10 By comparison, the Consumer
Financial Protection Bureau (“CFPB”), thought by many to be the most aggressive
enforcement agency in the federal government and by some to be far too aggressive, 11
reportedly brought 28 cases in 2013, 34 cases in 2014, and 70 cases in 2015.12
2. “Slap-on-the-Wrist” Sanctions
Some have criticized the SEC, the Department of Justice, and other agencies for imposing
only slap-on-the-wrist sanctions against banks that allegedly engaged in misconduct related
to the financial crisis.13 But is that the case? The SEC itself has obtained orders for $3.76
billion in penalties, disgorgement, and monetary relief in actions arising from the financial
crisis, and brought actions against 198 entities and individuals, including 89 senior officers,
growing out of the financial crisis. 14 But that is only a small part of the picture. The
Committee on Capital Markets Regulation tracks “total public financial penalties imposed on
financial institutions in the United States.” Between 2008 and 2011, those penalties averaged
$945 million a year; over the next four years (between 2012 and 2015), they averaged a
staggering $38.7 billion a year. 15 Those are “historically unprecedented public financial
penalties.” 16 To our knowledge, no other country in the world penalizes its financial
institutions to the degree the United States does, and in no other period has the government
imposed such enormous penalties on financial institutions.
The notion that financial institutions, their executives, their employees, and their
shareholders have not suffered from the financial crisis is contradicted not only by the
massive size of penalties over the last few years but also by the declining value of their
businesses. We looked at the stock prices of the ten largest investment banks in the United
Criticism of the SEC: Fair or Unfair?
States, and compared their stock prices from January 2007 to the present, a period in which
the Dow Jones Industrial Average rose by roughly 50 percent. Seven of the ten firms are still
trading at well below half the price at which their stock traded nearly a decade ago. Those
are huge losses for shareholders and for employees, many of whom are paid primarily in
stock, rely on that stock for their life savings, and lost their jobs and their savings as a result
of the financial crisis.
3. Settling Rather Than Taking Big Banks to Trial
One senator, at her first hearing as a member of the Senate Banking Committee, famously
asked the major financial regulators to “tell me a little bit about the last few times you’ve
taken the biggest financial institutions on Wall Street all the way to a trial.” 17 None of the
regulators could give an example. But the question might equally have been asked of the
banks: in a period of “historically unprecedented public financial penalties,” why do the banks
pay such large settlements without ever requiring the government to prove its case? The
reality is that banks do not believe that they should litigate with their regulators, and the
reason that regulators do not take banks to trial is that they can extract at least as onerous
penalties in settlements as they could ever hope to achieve through litigation. It’s not a
matter of weakness that causes regulators to forego trials; it’s a matter of negotiating
leverage and common sense. That is not limited to the SEC. The CFPB, the Federal
Reserve, and the Office of the Comptroller of the Currency, all of which bring settled
enforcement actions against large banks, have uniformly found that they can achieve their
enforcement objectives without going to trial with the banks that they regulate.
4. Failing to Name Individuals
The notion that the SEC ignores individuals is refuted by the data. A 2013 study found that
the SEC names individuals in 93 percent of its cases and 96 percent of its fraud cases. 18
Nor are those cases limited to junior employees. The same study found that the Commission
named CEOs in 56 percent of its cases, CFOs in 58 percent of cases, and lower level
executives in 71 percent of its cases. Among cases naming a top executive, “93 percent of
cases result in such an executive receiving a severe penalty.” We are not aware of any
agency that names individuals more frequently.
In connection with the financial crisis, the SEC brought actions against 89 CEOs, CFOs, and
other senior corporate officers. 19 To be sure, the SEC and other agencies sometimes bring
cases against large banks without naming senior executives as defendants, but that is
undoubtedly because the investigations failed to show that senior executives were culpable
participants in the underlying conduct. That is not surprising because even misconduct that
can give rise to substantial corporate liability under the doctrine of respondeat superior (the
doctrine that a company is liable for the conduct of any employee, regardless of that
employee’s seniority) often will not have come to the attention of senior executives of large
institutions.
5. Failing to Require that Companies Admit Guilt
The SEC has obtained admissions of wrongdoing in more than 30 enforcement actions.20
To be sure, that is a small percentage of SEC enforcement actions. But outside the criminal
context, the norm in both government and private litigation has been that settlements are
made without admitting or denying guilt. That has been true across agencies and since time
immemorial. The SEC is unique in that it sometimes requires admissions; almost all other
civil enforcement agencies never seek admissions in settlements.
2
Criticism of the SEC: Fair or Unfair?
6. Granting Waivers of Collateral Consequences
Absent a waiver, which the federal securities laws authorize the Commission to grant,
enforcement actions may result in automatic disqualifications from conducting business
unrelated to the conduct giving rise to an enforcement action.21 For example, absent a
waiver by the Commission, an investment adviser to mutual funds may no longer serve in
that role if another entity, under common control, has been enjoined from acting in certain
capacities. Similarly, absent a waiver by the Commission, an issuer that has been the
subject of certain civil enforcement proceedings is ineligible to be treated as a “Well Known
Seasoned Issuer,” which can result in substantial delays in communicating with shareholders
and accessing the capital markets.
SEC Chair White has given a speech articulating a straightforward view on the waiver issue:
the remedies for an enforcement action are the remedies set forth in the order resolving that
action; whether an automatic disqualification should follow depends on whether “based on
the nature and extent of the misconduct, a financial institution should not be permitted to
conduct a particular line of business or avail itself of certain provisions of the securities
laws….” 22 The Commission considers “the proportionality of the impact of the disqualification
on the institution in light of the nature of the misconduct, as well as any negative effects it
could have for the markets, the institution’s clients, and the investing public.”23
How does that compare to other agencies? To our knowledge, the general paradigm for nonsecurities enforcement agencies is to avoid the disqualification issue altogether. Outside the
securities laws, their enforcement orders generally do not trigger automatic disqualifications
and thus the waiver issue does not even arise.
7. Failing to Prevent a Sanctioned Hedge-Fund Manager from Getting Back into the
Hedge-Fund Business
One senator recently criticized the Commission for permitting a prominent hedge-fund
manager to get back into the hedge-fund business in a non-supervisory capacity, and stated,
“It is the latest example of an SEC action that fails to appropriately punish guilty parties,
deter future wrongdoing, and protect investors.”24 But the SEC settlement at issue reflected
litigation reversals in the courts arising from the confused state of the law on insider trading,
arguably due to Congress’s own failure to define the elements of an insider trading violation.
The Commission brought the action in 2013, and charged the manager with failing to
supervise two employees, who were subsequently convicted of criminal insider trading. 25 In
2014, however, the United States Court of Appeals for the Second Circuit reversed the
conviction of one of those traders on the ground that the government was required to show,
but failed to show, that the person who traded knew that the person who “tipped” the
information had done so for the tipper’s personal benefit, a benefit that the court held must
be “consequential, and represents at least a potential gain of a pecuniary or similarly
valuable nature.” 26 The Supreme Court rejected the government’s petition for certiorari,
despite pleas by the government that the Second Circuit standard would make it impossible
to prosecute large categories of insider trading cases. 27 The second of the two traders is
seeking to have his conviction reversed on similar grounds, and the Second Circuit is
considering that request. 28
In short, litigation substantially weakened the SEC’s position by the time it settled with the
hedge-fund manager in January of this year. 29 Far from reflecting a failure to “punish guilty
parties,” the settlement reflected that years of litigation had weakened the SEC’s position
3
Criticism of the SEC: Fair or Unfair?
and that there was a substantial danger that it would lose the case completely. Had the SEC
settled earlier rather than awaited the outcome of litigation, it would likely have been able to
negotiate a tougher resolution.
**********
By any objective measure, the SEC’s enforcement program is aggressive, and the
government’s crackdown on banks is unprecedented in its severity. Public perceptions of the
SEC have improved in recent years, but are still well below the pre-financial crisis levels. 30
It’s unfortunate if those perceptions are shaped not by the facts but by criticisms inconsistent
with the facts.
Authors:
Jon Eisenberg
Jon.Eisenberg@klgates.com
+1.202.778.9348
Shanda N. Hastings
Shanda.Hastings@klgates.com
+1.202.778.9119
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1
Letter from Senator Elizabeth Warren to the Honorable Mary Jo White, June 2, 2015,
http://www.warren.senate.gov/files/documents/2015-6-2_Warren_letter_to_SEC.pdf.
Ed Beeson, “Warren Blasts SEC, DOJ Over ‘Slap on the Wrist’ Enforcement,” Law360 (Apr. 15, 2015),
http://www.law360.com/articles/643593/warren-blasts-sec-doj-over-slap-on-the-wrist-enforcement.
3
“Senator Elizabeth Warren Embarrasses Bank Regulators at First Hearing!,” YouTube (Feb. 16, 2013),
https://www.youtube.com/watch?v=O_riLcZicZA.
4
“Rigged Justice: 2016: How Weak Enforcement Lets Corporate Offenders Off Easy,” (Jan. 2016),
http://www.warren.senate.gov/files/documents/Rigged_Justice_2016.pdf.
5
Id.
6
Kevin McCoy, “Warren Seeks Public Hearing on Bank Waivers,” USA Today (May 25, 2015),
http://www.usatoday.com/story/money/2015/05/25/elizabeth-warren-criticizes-bank-waivers/27911773/.
2
4
Criticism of the SEC: Fair or Unfair?
7
Andrew Ackerman, “Warren Criticizes SEC for Allowing Steven Cohen’s Return to Hedge Funds,” The Wall Street
Journal (Apr. 21, 2016), http://www.wsj.com/articles/warren-criticizes-sec-for-allowing-steven-cohens-return-to-hedgefunds-1461229204.
8
SEC Press Release, “SEC Announces Enforcement Results for FY 2015,” (Oct. 20, 2015),
https://www.sec.gov/news/pressrelease/2015-245.html.
9
“Independent actions” exclude the 342 actions that were either actions against issuers who were delinquent in making
required filings with the SEC or administrative proceedings seeking bars against individuals based on criminal convictions,
civil injunctions, or other orders.
10
See “Year-By-Year Monetary Sanctions in SEC Enforcement Actions,”
https://www.sec.gov/news/newsroom/images/enfstats2.pdf.
11
See Jon Eisenberg and Irene C. Freidel, “5 Takeaways from DC CIrc. Arguments in 1st CFPB Appeal,” Law360 (Apr.
15, 2016); Soyong Cho and Ted Kornobis, “’A Bridge Too Far:’ CFPB’s Authority Grab Rejected by Federal Judge,” K&L
Gates Consumer Financial Services Watch,” http://www.consumerfinancialserviceswatch.com/2016/04/a-bridge-too-farcfpbs-authority-grab-rejected-by-federal-judge/.
12
Yuka Hayashi, “Consumer Financial Protection Bureau Roughly Doubled Caseload in 2015,” The Wall Street Journal
(Jan. 11, 2016), http://www.wsj.com/articles/consumer-financial-protection-bureau-roughly-doubled-caseload-in-20151452551403.
13
See footnote 2 supra.
14
“SEC Enforcement Actions: Addressing Misconduct that Led to or Arose from the Financial Crisis,” (through Jan. 13,
2016), https://www.sec.gov/spotlight/enf-actions-fc.shtml.
15
Committee on Capital Markets Regulation, “Committee Releases Q1 2016 Financial Penalties Data,” (Apr. 15, 2016),
http://capmktsreg.org/news/committee-releases-q1-2016-financial-penalties-data/.
16
Id.
17
“Senator Elizabeth Warren Embarrasses Bank Regulators at First Hearing!,” YouTube (Feb. 16, 2013),
https://www.youtube.com/watch?v=O_riLcZicZA.
18
Michael Klausner and Jason Hegland, “SEC Practice in Targeting and Penalizing Individual Defendants,” Harvard Law
School Forum on Corporate Governance and Financial Regulation (Sept. 3, 2013),
https://corpgov.law.harvard.edu/2013/09/03/sec-practice-in-targeting-and-penalizing-individual-defendants/.
19
“SEC Enforcement Actions: Addressing Misconduct that Led to or Arose from the Financial Crisis,” (through Jan. 13,
2016), https://www.sec.gov/spotlight/enf-actions-fc.shtml.
20
SEC, “FY 2017 Congressional Budget Justification,” at 59 (Feb. 9, 2016), https://www.sec.gov/reportspubs/budgetreports/about-reports-secfy17congbudgjustshtml.html.
21
See Richard A. Rosen and David S. Huntington, “Waivers from Securities Law Disqualifications,” INSIGHTS (Aug.
2015).
22
Chair Mary Jo White, “Understanding Disqualifications and Waivers Under the Federal Securities Laws,” (Mar. 12,
2015), https://www.sec.gov/news/speech/031215-spch-cmjw.html.
23
Id.
24
Andrew Ackerman, “Warren Criticizes SEC for Allowing Steven Cohen’s Return to Hedge Funds,” The Wall Street
Journal (Apr. 21, 2016), http://www.wsj.com/articles/warren-criticizes-sec-for-allowing-steven-cohens-return-to-hedgefunds-1461229204.
25
In the Matter of Steven A. Cohen, Investment Advisers Act Rel. Non. 3634 (July 19, 2013),
https://www.sec.gov/litigation/admin/2013/ia-3634.pdf.
26
United States v. Newman, 773 F.3d 438, 452 (2d Cir. 2014), cert. denied, 136 S.Ct. 242 (2015).
27
See Jon Eisenberg, “How United States v. Newman Changes the Law,” Harvard Law School Forum on Corporate
Governance and Financial Regulation (May 3, 2015), https://corpgov.law.harvard.edu/2015/05/03/how-united-states-vnewman-changes-the-law/.
28
See Nate Raymond, “SAC’s Martoma Seeks Reversal of U.S. Insider Trading Conviction,” Reuters (Oct. 28, 2015),
http://www.reuters.com/article/us-usa-insidertrading-martoma-idUSKCN0SM2HZ20151028.
29
In the Matter of Steven A. Cohen, Investment Advisers Act Release No. 4307 (Jan. 8, 2016).
30
Harris Polls, “U.S. Mint & FAA Receive Highest Ratings of 17 Government Agencies…,” Feb. 26, 2015,
http://www.theharrispoll.com/politics/U_S__Mint___FAA_Receive_Highest_Ratings
_of_17_Government_Agencies__FBI__CDC__NIH__CIA_and_Office_of_the_Surgeon_General_Also_Well_Regarded.ht
ml (noting that positive ratings of the SEC had risen from 29 percent in 2009 to 42 percent in 2015, but were still well
below the 71 percent positive ratings the Commission received prior to the financial crisis).
5