The SEC was created in 1934, after Ferdinand Pecora held hundreds of days of Congressional hearings - which proved conclusively that Wall Street had been robbing America blind, and was composed of some of the most sociopathic miscreants ever imagined; a snake pit of larcenous crooks and flim-flam men for whom no act was too base or vile.
The SEC was chartered with policing these thieves, who had just admitted to a catalog of misdeeds that would make the most debauched dictator or demagogue blush.
Fast forward to 2006, where the SEC's job is now to protect the thieves from any harm or scrutiny, and to coddle them at all costs. Essentially to make their business as profitable and easy as possible, with only token lip-service paid to investor protection - it's Wall Street that gets protected now, not America.
Sound insane? Follow along.
I listened with rapt attention to the SEC hearing on the proposed amendments to Reg SHO.
First, there was a lot of self-congratulatory back-slapping as to how refreshing it is that after a year and a half of monitoring SHO, that the SEC has got some proposed rule changes, specifically to the grandfathering clause, and to the market-maker exemption.
Given that the last comment period for SHO resulted in thousands of erudite, on-point warnings that there would have to be a borrow prior to a sale, and almost universal agreement that there had to be transparency in the system, as well as meaningful penalties, and given that the SEC chose to completely disregard those, and instead grandfathered in all prior fails while creating countless exceptions to any borrow (via sleight of hand like “locate” language), I guess you could say I am not exactly overwhelmed.
I heard the SEC say that they were dedicated to protecting investors, but also admit point blank that the reason they grandfathered was to avoid short squeezes – again, indicating clearly that protecting Wall Street miscreants who had abusively failed to deliver was a priority over protecting shareholders and issuers who had been victimized by the process – you wouldn’t want those miscreants to have to buy in their undelivered sales, now would you – causing a market-delivered penalty for selling what they never had? Tut tut, we can’t have the market punishing larcenous participants financially – better to shield them from the ONLY disincentive that exists for their behavior, and allow them to profit from their illegitimate acts.
That's your regulator hard at work.
And now, after 18 months of allowing those that failed to deliver the chance to cover at depressed prices, the SEC is considering doing away with grandfathering, and implementing a reasonable closeout requirement for market makers.
How nice.
By the time the comment period is over, and the rules are adopted, those who fail to deliver as a trading strategy will have had two full years to abuse shareholders, depress prices, and use investor money for shares they never delivered, and continually REFUSE to deliver – by which time, almost all shareholders in the damaged issues have probably sold their stock in disgust, and moved on. The good news for those who failed is they can cover the fails at low costs, benefiting from their abusive and illegal practice, with no fear that the market would punish them – or anyone else would, for that matter. They were protected from the natural market consequence of violating the rules – the SEC grandfathering insured that.
Now, the grandfathering provision having done its important work, the SEC will look at repealing it.
These are the cops? They turned a blind eye to flagrant robbery of investors, they gave the miscreants a hall pass, they propose to continue doing so for another half a year or so, and congratulate each other for all the hard work, well done?
If I sound a little flabbergasted, it’s genuine.
Particularly disturbing was the sentiment that the SEC should be carefully protecting the market makers from any fairness in the markets that not having a carte blanche exemption might bring. As if business risk while making billions from options market making is unacceptable. Have any of these people ever had a real job in the private sector? Did I miss where those whose job is to speculate in the secondary market, for massive profit, are some sort of protected species who require special exemptions from rules the rest of us must follow? Huh? WTF?
Through all this, one thing that came through loud and clear, aside from the smarmy, bureaucratic smugness of the speakers, was the continued insistence that this is a small problem, that the SEC is doing a stand-up job, and that ensuring that the participants have maximum leeway to deliver “liquidity” is the overarching priority.
What wasn’t articulated were some simple, obvious requirements for a fair market system:
1) Transparency.
2) Timely reporting.
3) Mandatory borrow prior to sale.
4) Compliance with Congressional mandate to settle promptly.
5) Meaningful penalties for violation of the rules.
Isn’t that a little weird? Because we already have rules that dictate prompt settlement of trades – Congress recognized in 1934 that allowing trades to go undelivered was a recipe for disaster.
So why have we had to wait two years, in addition to the 71 years since the creation of the SEC, for that body to cobble together yet more rules that still fail to meaningfully require prompt delivery?
Am I on the crazy bus here?
Congress: "Deliver the F#cking shares promptly."
SEC: "We are all doing a great job. Billions of dollars of shares don’t get delivered promptly. Our rule created 80-something exemptions from delivering shares promptly. We pardoned all who didn’t deliver from any pain or damage for violating that 71 year old mandate. And shares still aren’t getting delivered promptly. Let’s have a big hand for us!"
Are we in OZ now?
Of note is that none of these august personages asked the single question that matters:
“What happens, if these new amendments are passed, if a participant decides not to comply?”
Right now, basically nothing happens. There is no meaningful penalty.
There also is no transparency, or timely reporting, or effort to report information in concrete, comprehensible fashion. Or ironclad requirement to deliver anything but excuses.
But worst of all, there are no consequences of note for failure to obey the rules.
Guess what? For years, the speed limit on the freeway was 55. Average speed was 70. I almost never saw a traffic cop, and when I did, he had busted someone who had been doing 90.
There was simply no reason to drive 55. So nobody did. The new feeling was that you didn’t want to go much over 70 or so, or you might run a risk. That feeling was accurate.
We have a securities rule (to clamp down on taking investor money, and failing to deliver the product), which both lacks meaningful requirements that the seller have shares to sell, as well as any meaningful penalties for refusing to deliver the shares to the buyer.
Does anyone wonder why participants could sort of care less about it? Is it lost on the talking heads in Washington that the “solution” they are congratulating themselves on is nothing more than correcting a massive blow to investors – the pardoning of years of failing to deliver, apparently for at least two full years – while still keeping the same structural deficiencies intact?
I will write up comments for the commission, along with the suggested cures, but I fully expect they will be ignored.
They ignored the NASD, NASAA, academics, experts, etc. last time. Why would we believe that this time would be any different?
The imperative from the SEC’s perspective was clear – repeat over and over how SHO has “worked”, congratulate one and all on a job well done, and propose some amendments that, absent real penalties, will amount to nothing.
But the good news is we will get another bureaucratic group grope - a "round table" - to assess how difficult it would be for the industry making tens of billions per year, to actually comply with 17A - deliver the shares promptly.
How nice.
And at the close, we were treated to Commissioner Nazareth, who indicated that they were open to understanding industry practices in the area of failing to deliver.
Again, how nice. Isn't that her job?
So much for the business of protecting investors.
So much for Congressional mandates.
So much for our market system.
Any questions?