Testimony of Bradley W. Skolnik
Indiana Securities Commissioner and NASAA President
Before the Committee on Banking, Housing and Urban Affairs, U.S. Senate
May 8, 2000
Chairman Gramm and Members of the Committee:
I am Brad Skolnik, Indiana Securities Commissioner and President of the North American Securities Administrators Association, Inc., (NASAA)1. It is a pleasure for me to appear today to present our views as you continue to study the regulatory framework of the future for the options, futures and equities markets. We agree with you that our regulatory structure should be reexamined to keep pace with globalization, technological advances and innovations in the marketplace. The challenge is finding the right balance.
We must strive for more efficient and effective regulation without sacrificing investor protection or undermining investor confidence. Policymakers, regulators and the industry need to work together to get this balance right. Chairman Greenspan recently expressed his views that the Securities and Exchange Commission (SEC) and Congress should lead the way in formulating and implementing appropriate public policies in this area2. As state regulators, we look forward to working with our federal counterparts on this initiative.
In this time of technological and market change, it is fitting and appropriate that regulators – all regulators – take a fresh look at what they do, how they do it and its impact on industry and consumers. As state securities regulators, our vision for the regulatory future of the equities markets is a streamlined, flexible, and increasingly automated structure that responds quickly to the needs of the markets and market participants. Some regulatory costs are unavoidable to achieve investor protection and enhanced confidence in the markets. But, costs should be minimized as much as possible through regulations that are reasonable, consistent, and not duplicative — and by using technology to promote efficiency.
State securities regulators are committed to providing regulatory oversight at the local level and to protecting investors against fraud in the marketplace. We also understand that now is the time to conduct a self-evaluation of state securities regulation and take a fresh look at a regulatory framework for the “new economy.” We are committed to modernizing state securities regulation to meet the needs of an electronic, global marketplace.
To illustrate this commitment, I recently commissioned the preparation of a NASAA report that will help guide the future of state securities regulation. This study will focus on how we can make state securities regulation even more efficient and effective in this fast-changing environment. We would be pleased to share it with you when it is completed. But we are not waiting for this report to make needed changes. Below, we will discuss some of the initiatives already under way.
Mr. Chairman, the Board of Directors of NASAA has reviewed the proposals for regulatory reform released by the Securities Industry Association (SIA), the National Governors Association (NGA), the Commodity Futures Trading Commission (CFTC) and others. They address a broad range of issues, but several themes emerged: Regulation structures for the new economy must protect investors and be flexible, costeffective, customer-friendly, consistent, and minimize duplication. While we are still analyzing some of the specific recommendations, we do agree with these large themes.
Let me briefly explain the role of the states in the regulation of our securities markets. The first securities statute in the U.S. was adopted by Kansas in 1911, and served as the nationwide model for regulation of securities offerings and the licensing of brokerdealers and their agents until 1934 when Congress created the Securities and Exchange Commission. Our securities markets are the envy of the world because they are fair, transparent and well-regulated. Our complementary regulatory structure – of state, industry and federal regulation has served investors well.
Unlike our industry or federal counterparts, state securities agencies provide investor protection at the local level and at the point of sale. Through front-end licensing and registration activities, state agencies proactively work to prevent fraud and abusive sales practices before investors lose money. In addition to protecting and educating investors, state securities agencies have established themselves as facilitators of small business capital formation helping legitimate small entrepreneurs to raise money, create jobs and opportunities.
Most overseas markets are dominated by institutions with few retail customers. The U.S. securities markets are unique because of the level of participation and capital provided by retail investors. You have heard this before, but it’s worth repeating. Just ten years ago, only a quarter of American households invested in the securities markets, today nearly half of U.S. households own stock, directly or indirectly through mutual funds, 401(k) plans and other retirement plans. Tens of millions of Main Street investors – the numbers are growing every week – are investing their hard-earned savings and pensions in the markets. The states’ mission of protecting investors and maintaining the integrity of our markets is more important than ever.
Technology and the Internet have become the great equalizers between Wall Street and Main Street by giving individual investors the tools needed to participate in the markets without the advice of professional stockbrokers. This is a positive development. It’s the job of regulators to ensure there is competition, transparency and fair disclosure in the markets. Individual investors must have timely, comprehensive and accurate information to make sound investment decisions.
As I mentioned above, the states and NASAA have embraced a number of initiatives in the wake of the National Securities Markets Improvement Act of 1996 (NSMIA) to make regulation more effective and efficient. They include:
- Faster licensing. A NASAA board level task force, or “Project Group,” chaired by our President-elect, was appointed last fall to study broker-dealer licensing issues. This group has been collecting data and working closely with the National Association of Securities Dealers’ (NASD) State Requirements Task Force. The goal is to create one uniform application process for broker-dealer firms to reduce the paperwork and time it takes for firms to receive state licenses.
- Help for small business. Coordinated Equity and Regional Review Programs that provide a coordinated state registration process for securities offerings in participating states. They create uniformity in the review, expedite the registration process and save the issuer time and money. These offerings are small and tend to be localized in nature. Our programs help small business raise capital and create jobs.
- Streamlined regulation for investment advisers. The Investment Adviser Registration Depository (IARD), a joint venture of the SEC and NASAA on behalf of the states, is an electronic registration system for investment adviser firms and the investment adviser representatives who actually provide advice. IARD is based on a similar system for broker-dealers and their agents called Web CRD (Central Registration Depository). The IARD is set to receive filings by the investment advisory firms by late 2000. Electronic filings for investment advisory personnel will follow in 2001. IARD will streamline the registration process at the federal and state levels and provide the investing public and regulators with more efficient access and better disclosure.
- Leveraging technology. The CRD was implemented in the early 80’s to create a onestop filing system to license broker-dealers and their agents on behalf of the states and the NASD. Many efficiencies were obtained through the centralized filing system. The modernization process continued and, several years ago, NASAA and the NASD negotiated an agreement where the NASD would develop a state of the art system to replace then-existing CRD, which still required a time consuming initial paper filing process. In August 1999, the NASD completed development and launched Web CRD, the largest and most sophisticated registration system on the Internet. An average of 10,000 State approvals are processed daily through Web CRD. The NASD and NASAA continue to direct significant resources to upgrade Web CRD by leveraging the latest in technological innovations, which will further streamline the registration process.
In addition to the above mentioned initiatives, as state regulators we are also monitoring and commenting on major proposals affecting our nation’s securities markets. Today, I plan to focus on a few issues that NASAA believes could directly impact retail investors.
Over three years ago, NASAA testified before the House in support of decimal pricing in our financial markets. We continue to believe decimal pricing will benefit investors by making the markets easier to understand, facilitating globalization of our markets and potentially reducing transaction costs. We are not in a position to suggest precisely when the transition to decimals should occur. It must be implemented in a manner that does not have a negative impact on market systems and capacity. But for the sake of investors, we hope it is sooner not later.
Last year, both the New York Stock Exchange (NYSE) and the Nasdaq Stock Market (Nasdaq) announced proposals to restructure their membership organizations into forprofit exchanges. This might be a necessary change in order for these institutions to respond to rapid technological and market changes. Believe me, I know the structure of membership organizations sometimes makes it difficult to move in a timely manner.
At the same time, state securities regulators still have questions about how the selfregulatory responsibilities would be carried out. We support a separate Nasdaq from the NASD and NASD Regulation to minimize potential conflicts of interest. We would like more detail on what portion of future proceeds the Nasdaq will devote to support the operations of NASD Regulation. We are concerned that the self-regulatory operation will have adequate funding to do its job in the future. Our complementary state, industry and federal regulatory structure depends on it.
The NYSE has stated it does not intend to fund a separate regulatory body independent from the exchange. This raises several questions. How would the perceived conflicts of interest between operating a for-profit corporation and fulfilling self-regulatory obligations be addressed? There are inherent and perceived conflicts of interest in the current regulatory system where self-regulatory organizations (SROs) controlled by broker-dealers are supervising the same members. Would the conflicts of interest change or grow in a for-profit structure?
Commodity Exchange Act Amendments
If Congress moves to lift the current ban, contained in the Shad Johnson Accord, on single stock and narrow-based index futures, NASAA believes the issues related to investor protection, market integrity and fair competition should be addressed concurrently. Any Shad-Johnson legislation should include a regulatory framework that incorporates provisions such as a coordinated market surveillance structure, uniform listing standards and adequate margin standards for futures on individual stocks. I know you are working closely with Senator Richard Lugar, the SEC and the CFTC to draft legislation to address these issues, and NASAA will review the proposals in the areas that impact retail investors.
As you know, there are major proposals concerning market structure and fragmentation that have arisen because of technology and changes in the marketplace. These include: Electronic Communication Networks (ECNs), linkages and a proposed Central Limit-Order Book. History has shown that consumers benefit when there is interplay between free markets, competition and technology. For example, in the Seventies, the end to fixed commissions allowed for more competition, which fostered innovation and benefited investors. In the Nineties, technological change laid the groundwork for entrepreneurs such as the founders of Island ECN, which gave investors new power, more choices and lower costs. As a general rule, it seems to me, regulators probably shouldn’t be attempting to be the architects of the new marketplace; the risk of unintended consequences is too great. Instead, regulators should focus on ensuring that markets are well-regulated and that customers are fairly treated.
State securities regulators are committed to a strong, but efficient regulatory structure to better serve our new “nation of investors” in this time of market evolution. Thank you again for the opportunity to present NASAA’s views on the regulatory framework for the future. We look forward to continuing to work with the Committee to ensure America’s capital markets remain the envy of the world.
1The oldest international organization devoted to investor protection, the North American Securities Administrators Association, Inc., was organized in 1919. Its membership consists of the securities administrators in the 50 states, the District of Columbia, Canada, Mexico and Puerto Rico. NASAA is the voice of securities agencies responsible for grass-roots investor protection and efficient capital formation.
2Testimony of Chairman Alan Greenspan, The Federal Reserve Board, Before the Senate Committee on Banking, Housing and Urban Affairs, U.S. Senate, April 13, 2000.
May 8, 2000