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From Securities Regulation Daily, December 4, 2014

Commissioner Stein praises strong bad actor waiver for Bank of America as “breakthrough”

By R. Jason Howard, J.D.

Commissioner Stein opened her remarks before the Consumer Federation of America’s 27th Annual Financial Services Conference with a brief history of the inception of the SEC and the idea of the Commission as the “Investors’ Advocate.” Continuing, she referred back to SEC Chairman William O. Douglas and his first press conference in 1937 where he coined a phrase that she believes continues to reflect the central mission of the Commission when he said of the SEC that “We are and we should be, and I think we will continue to be, what I might call ‘the investors’ advocate.’”

To be sure, Commissioner Stein was not just offering a history lesson but, rather, she was using the historical reference to preface her opinion that the SEC must evolve with the markets and, to that end, Commissioner Stein suggested three areas where the SEC should be focusing its investor protection energies to “stay ahead of the curve.” First, the SEC should optimize and enhance the disclosures that form the heart of its efforts to empower investors. Second, the SEC should continue and do more to align the interests of investors, companies, and other market participants and finally the SEC should hold those who don’t follow the rules accountable.

Accountability. The Commissioner said that without accountability, “our efforts will have little meaning.” She went on to discuss the first automatic disqualifications dating to the 1940’s, the recent adoption of Section 926 of the Dodd-Frank Act which required the SEC to adopt a so-called “bad actor” rule which disqualifies law-breakers from participating in certain types of private securities offerings, and how the adoption of 926 led to the SEC’s “bad actor” rule which automatically bars law-breakers from participating in 506 exempt offerings.

The Commissioner went on to note that the 506 bad actor rule “is just one of many automatic bars or disqualifications that strengthen accountability, and carry the potential for deterrence that no injunction or financial penalty can match.” Importantly, however, the Commissioner mentioned that the 506 rule can be waived but waivers must be done carefully and in a transparent manner.

The problem in the past, the Commissioner noted, was that the Commission treated waiver requests as a “yes or no” proposition but recently the Commission issued an order granting a conditional and limited waiver from disqualification under Rule 506 which essentially created a probationary period for the firm with a right to reapply after a second showing of good cause (More can be found of the grant of this conditional waiver in the Securities Regulation Daily Wrap UpDecember 1, 2014).

The Commissioner suggested that the conditions established within the waiver “will focus and empower management to change behavior throughout the corporate culture.  This approach represents a breakthrough in the Commission’s method of handling waivers, and I hope to see more of this and other thoughtful approaches in the future.”

Effective consumer choice as the heart of free markets. Here, the Commissioner recognized that there is not a “one-size-fits-all” approach to disclosure as investor protection. Disclosures, she said, are “only a valuable tool to the extent that they can provide the investor with the information needed to make informed decisions about the future,” but the issue concerns more the fact that there are incredibly disparate levels of investor capacity in the marketplace which must be considered. In that regard, the Commissioner said that she would like to consider ways to provide different “layers” of disclosure to different types of investors.

The Commissioner also said that a better job has to be done in “leveraging technology to empower investors, regardless of the content of the disclosures themselves.” She returned to the historical underpinnings of the SEC and noted that she believes the SEC “need[s] to be developing a 21st century disclosure regime that uses all of the tools and expertise that have developed in the 80 years since the Commission first required public disclosures to sell securities.”

Aligning interests. While disclosure is at the heart of the investor protection regime, that is sometimes not enough. When interests are aligned, the Commissioner said, "there are fewer incentives to play games, and better results for ordinary investors, who can make straight-forward, smart decisions."

The Commissioner noted that for years the SEC, in partnership with the states and the self-regulatory organizations, have been working to align interests. From the corporate proxy process to new Dodd-Frank mandates to professional standards and rules for the market participant, the alignment of interests is a continuing process but the Commissioner alluded to the fact that there is a lot to be done and improved.

The Commissioner noted that fact and policy should drive the implementation of statutory mandates and objectives. Further, prudent analysis of the approach to regulation is necessary to “ensure that it is sound and well-reasoned, which in turn will reduce the risk of losing a court challenge,” however, the Commissioner suggested that fear of litigation or a reduction of litigation risk to zero should not dictate the course and that if the SEC is to effectively serve the mission to protect investors, it must be more “intrepid than that.”

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