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IS THE SEC FORGETTING THEIR ROOTS?

“The purpose of government is to enable the people of a nation to live in safety and happiness. Government exists for the interests of the governed, not for the governors.” – Thomas Jefferson

Longnecker & Associates has a great relationship with the Securities and Exchange Commission. Over the years, we have worked with them on several different issues, and often, we will call our contacts at the SEC to discuss situations we see and get their perspectives. They are a true – and greatly appreciated – ally.

But, like any government agency, they are obviously funded by – who else? The government. As such, to get funding, the SEC has to be in step with the politicians who fund them. Make no mistake: the people at the SEC are some of the smartest we have ever known. But we do sometimes wonder if they have forgotten from whence they came… and why.

Let’s take a look back. 

Creation of the SEC: From 1929 to Today

The SEC's foundation was laid in an era ripe for reform. Before the Great Crash of 1929, there was little support for federal regulation of the securities markets, particularly during the post-World War I surge of activity. The federal government never seriously pursued proposals that they require financial disclosure and prevent the fraudulent sale of stock.

Tempted by promises of "rags to riches" transformations and easy credit, most investors gave little thought to the systemic risk that arose from widespread abuse of margin financing, not to mention unreliable information about the securities in which they were investing. During the 1920s, approximately 20 million large and small shareholders took advantage of post-war prosperity and set out to make their fortunes in the stock market. 

It is estimated that of the $50 billion in new securities offered during this period, half became worthless.

Public confidence plummeted right alongside the market when it crashed in October 1929. Investors both large and small, as well as their lending banks, lost staggering amounts of money in the ensuing Great Depression. There was a consensus that for the economy to recover, the public's faith in the capital markets needed to be restored. Congress held hearings to identify the problems and search for solutions.

Based on the findings in these hearings, Congress — during the peak year of the Depression — passed the Securities Act of 1933. This law, together with the Securities Exchange Act of 1934 (which created the SEC), was designed to restore investor confidence in our capital markets by providing investors and the markets with more reliable information and clear rules of honest dealing. The main purposes of these laws can be reduced to two common-sense notions:

  • Companies that publicly offer securities for investment dollars must tell the public the truth about their businesses, the securities they are selling, and the risks involved in investing.
  • People who sell and trade securities, such as brokers, dealers, and exchanges, must treat investors fairly and honestly, putting investors' interests first.

Monitoring the securities industry requires a highly coordinated effort. Congress established the Securities and Exchange Commission in 1934 to enforce the newly-passed securities laws, to promote stability in the markets and, most importantly, to protect investors. President Franklin Delano Roosevelt appointed Joseph P. Kennedy, President John F. Kennedy's father, to serve as the first Chairman of the SEC.

Today

A few years ago, Brent Longnecker was the keynote speaker at an executive compensation conference at Temple University. He followed one of the key decision makers at the SEC. When the SEC speaker was done, our founder asked a simple question:

“Do you all ever worry that with all the regulation we are starting to see in the public markets, that it could actually destroy the very reason you were created—to protect individual investors? Do you worry about public companies privatizing and/or going overseas as a result of over-regulation?”

He was just trying to elicit a response, but the reply was shocking. Conference members revealed that not only did they worry about these very things, but they were a popular topic of discussion among them.

It was truly not the answer expected.

Later, Mr. Longnecker spoke offline with the SEC representative, and it was obvious they were putting a lot of half-baked regulations in place (aka Dodd-Frank) due to political pressure, but knowing the unintended consequences could be catastrophic. 

So: 

1.    Have we moved too far from the SEC’s original designed purpose?; and,
2.    Is where we are today—in an era of over-regulation—a place that is counter to what the SEC originally intended?

***

The article we have included says the SEC is “messing up,” but we disagree. We do, however, believe it needs to revisit why it was put in place if it wants to ensure that over-regulation does not actually run counter to its original mission.

written by Brent Longnecker (Chairman & CEO) and Josh Whittaker (Senior Consultant) of Longnecker & Associates.

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