In the Great Buying Panic of the 1990s, investors abandoned common sense and placed their bets — and they got killed. They took as real the illusions spun by an SEC-led regulatory regime: Equal opportunity for all, unadulterated financial reporting, impartial stock picking, that sort of thing.
SEC officials knew that some firms used creative accounting to produce illusory earnings. They knew that regardless of how much brokers assured retail clients of their importance, investment banking clients were king. And they knew that underwritings have been manipulated to foster the illusion of a supply-and-demand driven distribution market since 1938.
The SEC over time identified itself with the major parties it regulated. Its Web site in Chairman Arthur Levitt's time may have proclaimed itself “The Investor's Advocate,” but it allowed “price intervention” in underwritings to “strengthen the capital-raising process.” It ignored collusion among Nasdaq market makers until the Justice Department made it a major issue. And it lulled investors into believing that by making sorties against peripheral players, like microcap underwriters, day traders and teen-age chat room gurus, it was raising the bar on ethics.
So, now, with each revelation of corporate bamboozling, can anyone really argue that the SEC has been an effective regulator? Or that securities regulation by the SEC, the self-regulatory organizations and others have not subverted investors' own common sense understanding of investment risk?
The sad reality is that the SEC and its regulatory followers have done more damage to the economy than Osama bin Laden. But another sad reality is that the SEC's failings continue unchallenged. Questions may be asked about the FBI and CIA, but the SEC remains sacrosanct. We are still to believe that it is only corporations, accountants, brokerages and their executives who have hurt market confidence. The regulators get a pass.
In fact, the SEC's proposed remedies to deal with the market horrors show that more is less. Its prescription for faster financial reporting guarantees greater errors and greater reliance on accountants and research analysts to interpret the numbers. Its prescription for limiting the distribution of new issue research guarantees the market will have less information. Its prescription to add personnel to its staff guarantees the same continuing lack of focus, which created the present situation. Why will it be easier for a greater rather than a smaller number of securities regulators to connect the dots?
Please note that the SEC is all about control of information. The greatest monopolist of information processing is not Microsoft — it is the SEC. Information on public companies must be delivered in SEC format, in an SEC disclosure system, at SEC-approved times. As in all monopolies, the benefits of commonly agreed terms and procedures have value. Among other things, in theory, they allow one company's performance and prospects to be measured against others.
Yet the monopoly creates the greatest illusion foisted on investors: that the SEC can control information. It creates the illusion that the information that is released is timely and accurate. Again, common sense and the experiences of totalitarian regimes tell us that neither the flow of information nor its quality can be controlled.
The present securities regulatory regime is 68 years old. Lack of investor confidence demonstrates that it should be refocused. We should encourage investors not to look to antiquated regulatory nannies, but to protect themselves. Investors must rely on their own common sense and the understanding that everyone involved in the process, including themselves, acts in their own self-interest. And that's a good thing.
Saul S. Cohen is a corporate department partner of Proskauer Rose, with extensive experience in securities regulation.