Madoff scandal spurs SRO talk-Merger of SEC, CFTC also could get boost in new administration

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Madoff scandal spurs SRO talk
Merger of SEC, CFTC also could get boost in new administration
By Doug Halonen


Bernard Madoff’s alleged $50 billion Ponzi scheme is breathing new life into Bush administration proposals that could subject money managers to a new layer of regulation as well as a merger of the SEC and the CFTC, financial industry lobbyists said.

The regulatory proposal, if enacted, would subject money managers for the first time to the scrutiny of a self-regulatory organization, submitting managers to the same sort of oversight that broker-dealers get from the Financial Industry Regulatory Authority.

Money managers, now regulated at the federal level exclusively by the SEC, oppose SRO regulation, in part because they would have to pay for it.

The Securities and Exchange Commission-Commodity Futures Trading Commission merger proposal has long been championed as a reform that would make financial oversight more effective and efficient.

Both proposals were endorsed in a March 31 report by the Treasury Department, but got little traction on Capitol Hill last year.

Following news of the Madoff scandal, however, calls for major regulatory reform have grown — and the SRO and SEC-CFTC merger proposals are back on Congress’ front burner.

“After Bernie Madoff, it makes it increasingly likely that these major regulatory changes could be considered,” said David Tittsworth, executive director of the Investment Adviser Association, Washington.

Lobbyists say the SRO proposal is expected to gain momentum because Mary Schapiro is President-elect Barack Obama’s nominee to chair the SEC. She is chief executive officer of FINRA and has advocated a self-regulatory organization for money managers.

Might be appropriate
In a Dec. 19, 2007, comment letter to the Department of Treasury, Ms. Schapiro said self-regulation might be appropriate for money managers, insurance companies and other financial services industries.

“The investment adviser and insurance industries, although regulated at both the state and federal level, do not benefit from (having) the additional comprehensive oversight provided by a self-regulatory regime,” she said.

“Moreover, state and local governments, and ultimately the taxpayer, bear the costs of the investment adviser and insurance company regulation,” the letter continued. “These governments must bear the heavy load of examining these firms, adopting rules and taking corrective action when firms fail to comply. Reliance on self-regulation would reduce these fiscal burdens on taxpayers.”

Ms. Schapiro declined to be interviewed for this story, a FINRA spokesman said. But more should be known about her regulatory agenda this week: Her SEC confirmation hearing with the Senate Banking Committee is scheduled for Jan. 15.

“FINRA has long expressed its concerns about a firm’s ability to avoid our jurisdiction by keeping its customers outside the FINRA-registered broker-dealer, either through an unregistered investment vehicle or through registered investment advisers,” said Herb Perone, a FINRA spokesman.

The SRO proposal also is expected to come up in regulatory reform hearings this year before the House Capital Markets, Insurance and Government Sponsored Enterprises Subcommittee, chaired by Rep. Paul Kanjorski, D-Pa.

During a Jan. 5 hearing before the subcommittee, Rep. Spencer Bachus, R-Ala., said he believed that one reason Mr. Madoff’s alleged wrongdoing had escaped regulatory detection was because it was going on through a Madoff money management affiliate not subject to FINRA review.

“As part of its consideration of reforms to our financial regulatory structure, this committee should examine whether the Madoff scandal argues for harmonizing the regulation of broker-dealers and investment advisers, so that schemes like Mr. Madoff’s do not go undiscovered and are limited in their scope before causing such catastrophic consequences,” Mr. Bachus said at the hearing.

Despite Mr. Bachus’ contention, the IAA’s Mr. Tittsworth said that Mr. Madoff’s firm, Bernard L. Madoff Investment Securities LLC, New York, has always been subject to FINRA review. “It’s absolutely incorrect to suggest that the fraud occurred because FINRA did not have authority to examine Madoff’s advisory affiliate,” Mr. Tittsworth said.

Mr. Tittsworth said his association will lobby vigorously against an SRO for money managers. “It (an SRO for money managers) is an additional layer of cost and bureaucracy that hasn’t been shown to be necessary,” Mr. Tittsworth said.

“We’re concerned that she (Ms. Schapiro) has already made up her mind on this critically important issue for us,” Mr. Tittsworth added. “We just want an assurance that she has an open mind.”

The ultimate prospects for the SRO proposal are unclear, lobbyists said. “It’s too early to say if it will get traction and how far it will get,” said Travis Larson, a spokesman for the Securities Industry and Financial Markets Association, Washington.

Meanwhile, the SEC-CFTC merger has been under discussion in Washington for decades. But prospects are good now in part because powerful financial industry groups support the concept.

“We have called loudly and for some time for the merger of the SEC and CFTC,” said Mr. Larson of SIFMA, which represents broker-dealers and money managers. “It makes regulatory sense.”

He said one key argument for merging the agencies is that the CFTC’s regulatory role has expanded dramatically over the years since its beginnings as an agricultural regulator. The agency started out regulating agricultural products, but now oversees a vast array of financial vehicles.

“We think it would be more efficient and effective to have a single regulator,” Mr. Larson said.

Merger support
The Financial Services Roundtable, Washington, also would support the merger — if the CFTC’s more business-friendly form of regulation is adopted, said Melissa Netram, FSR director of regulatory affairs.

The FSR represents major financial institutions, including Bank of America Corp. and The Bank of New York Mellon Corp.

Ms. Netram said that under the CFTC’s “principles-based” prudential regulation, financial industry executives feel free to discuss potential regulatory violations with CFTC personnel so they can try to fix those problems voluntarily without having to worry about enforcement consequences.

The same executives are leery about discussing potential violations with SEC personnel because that agency follows a rules-based regime, she said. “Many of our members don’t feel comfortable about going in to talk to the SEC about problems because they fear an enforcement action will follow.”

But IAA members want the SEC’s regulatory approach to prevail in any merger, Mr. Tittsworth said. “We would prefer the SEC remain the primary regulator, because we believe the missions of the SEC — to protect investors and maintain orderly markets — are paramount.”

One signal that a merger could be in the works is Mr. Obama’s choices to lead the SEC and CFTC.

Ms. Schapiro, a former SEC commissioner, chaired the CFTC during the Clinton administration. Former Goldman Sachs executive Gary Gensler, the nominee to chair the CFTC, has been leading the review of the SEC for the Obama transition team.

With experts on both agencies calling the shots, a merger is expected to be a lot easier to pull off.

“They nominated someone to the CFTC with expertise on SEC matters and they nominated someone to the SEC with expertise on CFTC matters,” said Karen Barr, IAA general counsel.

If the merger goes through, either Ms. Schapiro or Mr. Gensler could be out of a job. But financial industry lobbyists declined to speculate on which nominee was likely to survive.

Contact Doug Halonen at dhalonen@pionline.com