Big Board Is Far From Forefront When It Comes to
Policing
Mon Sep 22, 8:54 AM ET
story.news.yahoo.com
By GRETCHEN MORGENSON The New York Times
Investors think first of the New York Stock Exchange
as a marketplace for buying and selling shares. But the Big Board is
also one of the market's most important regulators. And as John S.
Reed, the former Citigroup banker, steps in as the exchange's acting
chairman, he will have to wrestle with growing questions about the
effectiveness of its regulatory performance.
Securities lawyers and former executives of
brokerage firms say that under its ousted
chairman, Richard A. Grasso, the Big Board
was a weak corporate policeman a sense that
has grown stronger since the bull market
ended and revelations of unsavory Wall Street
practices have piled up. Regulators from the
exchange, they note, have not played leading
roles in the major investigations of the
brokerage business.
And it was not the Big Board but another
regulator, NASD, that brought a case against
Invemed Associates, the brokerage firm run
by Kenneth G. Langone, who is a friend of Mr.
Grasso's and sat on the exchange's board
and on the compensation committee that
approved Mr. Grasso's $139.5 million payout.
"The idea that they would have this little
handpicked group of regulated firms setting
the salary for the regulator is so obviously
inappropriate it boggles the mind," said
Barbara Roper, director of investor protection
at the Consumer Federation of America. "To
be so oblivious to how these issues are likely
to be perceived by investors should disqualify
you from the regulatory function."
Officials at the exchange contend that its
operations are closely scrutinized and point to
its relatively scandal-free floor trading
operations as proof. "We're happy that most of our firms are not taking
advantage of customers," said Edward A. Kwalwasser, who heads the
exchange's regulatory unit. "But when we find that they are, we think we
bring aggressive proceedings."
The New York Stock Exchange polices its 400 member firms not just big
brokerage firms, but also the specialists that conduct trading on the
exchange's floor to make sure they are abiding by both federal securities
laws and the institution's own rules on trading.
The exchange watches for securities law violations like insider trading by
those trading in its listed companies. Investors also rely on the Big
Board to make sure that the companies whose shares it trades maintain
the asset, revenue or share-price standards required for listing on the
exchange.
And the exchange also oversees arbitrations filed by aggrieved investors,
making sure they are fairly adjudicated.
Calls for separating the Big Board's regulatory operations from its stock
trading business have increased in recent years, in part because the
exchange's major competitor in regulation, NASD, formerly the National
Association of Securities Dealers, is seen as more aggressive. Either
entity can regulate firms that do business on both the Big Board and
Nasdaq markets.
Only after an investigation in the mid-1990's by the Securities and
Exchange Commission (news - web sites) were trading and regulation
separated at NASD. The S.E.C. found that traders at Nasdaq, the stock
market owned by NASD, were colluding to make investors pay artificially
high prices to buy and sell shares and that NASD regulators looked the
other way while the collusion occurred. When NASD settled with the
S.E.C., it agreed to spin off its regulatory function.
"It does seem to me that the NASD has been a good deal more
aggressive and more effective in its enforcement activities since the split-
up and the reorganization," said Alan Bromberg, professor of securities
law at Southern Methodist University. "That suggests to me that that
may be where the stock exchange is heading."
The exchange has not headed to the front of the line lately in
investigating Wall Street wrongdoing.
For example, the inquiry into tainted research at brokerage firms was
initiated by Eliot Spitzer, the New York State attorney general. Later,
when the Big Board, the S.E.C. and NASD became involved in the case,
it was the NASD's regulatory unit that acted most aggressively. It not
only filed cases against institutions, it also took action against
individuals.
In April, NASD filed suit against Invemed, run by Mr. Langone, who was
also a founder of Home Depot. Mr. Grasso sat on the Home Depot board
until recently.
Invemed is fighting the suit, which contends that the firm illegally shared
in customers' profits by overcharging them to trade in hot new stock
offerings during 1999 and 2000.
Because the Big Board is Invemed's primary regulator, some market
professionals wondered at the time why the exchange had not taken the
lead in filing the suit. Skeptics' eyebrows arched higher when Mr.
Langone's role in Mr. Grasso's pay package was made public.
The Big Board said that because the case against Invemed involved
shares of initial public offerings that traded on Nasdaq, it was appropriate
that NASD take action. But according to NASD's complaint, the
improper profit-sharing involved some New York Stock Exchange-listed
stocks, as well. So the case against Invemed could have been filed by
either the Big Board or NASD.
When the Big Board does act, it can encounter stiff
resistance. Earlier this year, the exchange began
investigating a number of its specialist firms to
determine if they had broken Big Board rules by
inserting themselves between customers who were
buying and selling stocks and profiting as a result. The
investigation fueled the anger that some specialists
have harbored against Mr. Grasso and highlighted the
Big Board's awkward position as both regulator and
marketplace.
Mr. Kwalwasser says that his regulatory unit is run
with little input from the stock exchange's board. The
directors see all the cases once they are decided, but
do not become involved during the investigations.
While the directors approve the regulatory budget, Mr.
Kwalwasser dismisses the notion that their handling of
Mr. Grasso's pay has anything to do with the
exchange's performance as a regulator.
"Whether the compensation committee did the right
thing or wrong thing, it has no impact on regulatory
function," he said. "We examine every one of our
member firms every year. No director has come in and
said `do not examine my firm.' "
Others are less confident of the Big Board's
independence. Ken Morris, a former Wall Street
executive who began his career in the brokerage
industry in 1979, said that he considered the exchange
a toothless watchdog that protects its member firms.
"Actions against specialists are very rare," he said. "We
have specialists making millions of dollars who are
fined peanuts. The huge majority of cases are against
people who have lied on their employment application
or against retail brokers who have exercised improper
discretion over a client's account."
He cited an action taken against a specialist firm last
February that resulted in a $25,000 fine and a
censure. Among other infractions, the specialist had
failed to match orders to buy and sell at the same
price, as is required by Big Board rules, had in one
instance bought more than half the stock offered at a
lower price than was proper and executed trades for
investors at prices that were inferior to those offered by
traders in other regional markets.
When it comes to small players, however, the penalties
appear more severe, Mr. Morris said. For example, an
employee of a member firm who improperly withdrew
$320 from a cash machine in 2001 using another
employee's card was censured and permanently barred
from working in the securities industry.
Another area of concern is how fair a shake investors
get when they file arbitration cases at the exchange.
The quality of the Big Board's arbitration system is
crucial, because investors are generally required by
their brokerage firms to seek redress in arbitration
rather than in the courts.
Arbitration panels consist of three people two so-called
public representatives and one from the securities
industry. To qualify as a public arbitrator, individuals
are supposed to have no close ties with the securities
industry.
But Stuart D. Meissner, a lawyer who represents
investors in arbitration cases before both NASD and the
New York Stock Exchange, said the Big Board arbitrator
fell short of that standard in a case filed by an investor
against Banc of America Securities last November.
Mr. Meissner said that one of the panelists selected at
random for his case was a director at a bank that has a
brokerage subsidiary. The arbitrator was also on the
investment committee of the bank's board.
These facts were not disclosed by the arbitrator and
came out only when Mr. Meissner sought more
information. Mr. Meissner challenged the panelist's
inclusion as a public arbitrator but the exchange
rejected his challenge with no explanation. Only when
the arbitrator agreed to step aside was a new panelist
assigned to the case.
"The exchange's arbitration department has become a
star chamber where defrauded investors never know
what to expect from what is supposed to be a neutral
forum," Mr. Meissner said. "The exchange does not
fairly apply their own rules and guidelines, and they
have enormous power over cases with little oversight by
outside authorities."
Ray Pellechia, a spokesman for the exchange, said:
"Our arbitration officials describe this as an
exceptional situation, because we have few bank
directors. But since it has come up, we will review it
with an eye for strengthening the process."
But piecemeal reforms may not be enough of a cure,
Big Board critics say. The root of the problem, they
argue, is that the exchange is trying to serve too many
constituents: brokerage firm members, specialists,
companies that pay considerable fees to list their
shares on the exchange and investors.
Exchange officials say that all are treated equally. But
an increasing number of people involved with the
market have their doubts. |
