So apparently the SEC is now taking the bull by the horns and reviewing cases “as they come in” about new ponzi schemes (see Time’s news article). What strikes me as being so weird about this is that, for all the ‘new direction’ and safety and security of the financial industry that the SEC is suppose to be there to protect, especially for the small investor, this looks to be the same old SEC as what we’ve seen in the past.
Take for example, Martha StewartÂ (no really please). In 2004 while Madoff was bilking investors out of billions of dollars, here is Martha being dragged as a symbol for the SEC’s new mandate to go out there and crack down on those people that really were flagrant of the law by developing personal relationships with their brokers. And I’m sure that the millions of dollars that the SEC spend in prosecuting Mrs Stewart was truly justified compared to the $41K tax write off have she benefited by considering her total net worth.
What bothers me about these two scenarios is that it, along with other examples, shows a pattern of behaviour of the most senior levels of the SEC to only be working on those cases which are either high profile or as keeps the SEC’s name out of the papers. When cracks in the SEC’s ability to effectively regulate the equity markets do appear we see this rash of people “more willing now to give information”.
It has been well documented in the media that the SEC didn’t need these people to come forward, they were always there to begin with. Rather, what they needed was to prioritize the information they have been receiving better. I would suggest that the resulting perception is one where the SEC is doing as little as possible on the hopes that they are perceived as doing their jobs and while continuing to mismanage the public trust.
Maybe its time for the SEC to be dismantled, replaced, and new financial rules to be established.
The problem I have is that in protecting the public trust one of the key core competencies you have to be absolutely rock solid on is the proactive adjudication and assessment of risk. While this is not an easy thing to do in practice, the SEC does not seem capable of accomplishing this without the appearance of being in bed with those, such as Madoff, that they are suppose to be regulating. There appears to be this fear that in regulating those who have large established investment networks, investigating breaches of trust could do as much harm or worse than as if the risk were real.
This is a very fine line as a wrongly placed investigation which turns up nothing could very well bankrupt an otherwise healthy investment vehicle. At the same time, as the steward of that public trust you can’t be so timid of launching an investigation as to allow serious violations to go unchecked.Â
For example, publicly traded companies that are formed by foreign nationals for the intent and purposes of going bankrupt. This scheme works as follows. You establish a company with a ‘reasonable’Â track record and some good possibilities of future sales contracts (like in China for example). The SEC doesn’t verify proof of sales or contracts in 100% of the cases of filings so chances are no one is going to audit the books. You have a number of small investment accounts help drive up the price of the stock encouraging others to buy in. At a predetermined price the principles pull out their monies leaving the small investors holding a company that is worthless. As the sales contracts disappears and the price goes down,Â the principles short the stock, and hence increaseÂ their gains even further without so much as batting an eye. By the end of the scheme the principles have covered their shorts sells – write off the balance – and fold the company having fleeced a large number of small investors of their savings.
Now the existing SEC regulations in place are suppose to prevent this type of thing from happening. And yet I’ve seen this happen on at least two occasions with the SEC doing nothing about it despite having been given fair warning that it does occur.Â
There are likely hundreds of other schemes out there which are deliberately aimed at taking advantageof the small investor’s imperfect knowledge of the markets. Certainly investment brokers and their select clients talk in advance about news which isn’t public knowledge. You wouldn’t see such a dramatic rise or fall in some stocks prior to public news releases if their weren’t. And this doesn’t account for the millions of informal chats between employees with privileged knowledge and their friends and associates who, of course, are more than willing to pass a good tip along to others they know.
While the system isn’t perfect the investment community which has a stake in those equity markets under the SEC’s mandate to regulate I feel deserve better than to simply watch the SEC run after whatever ‘shiny’ happens to be making the front page of the news. I would hope that the SEC starts to show some leadership by disclosing how else they are protecting the public interest because chasing after the flavour of the day simply cannot continue toÂ cut it anymore.