finra

Remarks by Robert R. Glauber

Chairman and CEO

(As Delivered)

NASD Spring Securities Conference

Hollywood, Florida
May 1, 2003

 

Thank you, Doug [Shulman]. And thank you all for coming.

 

This is NASD's first conference at this location. And if you're at all like me, it feels great to attend a major Hollywood gathering without having to refresh your Botox injection, angle for camera time on the red carpet, or be embarrassed that your agent still doesn't have his own table at Spago's.

 

Seriously, every one of you is "A-list" in my book and it's terrific to see you all here. Especially in light of the business environment we've been facing, the turnout for this conference is nothing short of spectacular.

 

I think that speaks volumes about how self-regulation is not a slogan, but a reality in our industry. And I think investors would gain confidence just knowing that each of you has come here, on your firm's hard-earned dime, to help share in the very latest insights on how to comply with the rules and ensure the integrity of the market.

 

Speaking of compliance, I want to focus on a couple of different dimensions of it with you this morning. One is the role and status of the compliance function -- and the enhanced stature and authority that it needs to gain if we are to strengthen the ethical culture of our industry.

 

The second aspect involves the theory and practice of self-compliance -- including the kinds of tools NASD will be developing in the next few months and years to help your firms be more efficient and effective in handling their self-compliance responsibilities.

 

Finally, I want to spend some time discussing the reality that NASD is not only a regulator, but also a membership organization. And that means we have to be sensitive to the costs and burdens of regulation at this time of real economic challenge for many of our smaller members and the industry as a whole.

 

That's a lot to talk about. So let's get to it.

 

I don't need to rehash for this audience the litany of corporate scandals and earnings restatements that have done so much in the last couple of years to destroy investor confidence.

 

Suffice it to say that as a result, throughout the country, corporate America has fallen into the lowest repute we can remember. And beyond our shores, the reputation of our markets also has taken a beating.

 

Unlike the end of most bubbles, the blame this time has not fallen almost entirely on Wall Street. Instead, most people seem to realize we got into this mess through a great deal of accounting that was unaccountable and corporate governance that didn't govern -- as well as the analyst research and IPO abuses that have brought so much unwanted attention to our industry.

Just this past Monday, a group of federal, state and private-sector regulators including NASD announced the final $1.4 billion "global" settlement with ten of the largest investment houses. We sanctioned them for treating research as a mere servant of banking, and for doling out hot IPOs to corporate insiders as inducements for investment banking business.

 

As I said at that announcement, it marked an ending, but also a beginning. Because in finalizing that long-awaited settlement, we took a necessary step on the road to restoring and renewing investor confidence.

 

Nonetheless, we would be delusional if we told ourselves that investors whose 401(k) plans and portfolios have lost trillions in market value will now think that all is well. There have been too many troubling signs coming from too many parts of our industry that -- at least during the go-go years of the bubble -- too many sound rules and ethical structures were being broken. For instance:

 

  • Jack Grubman and Salomon Smith Barney settled analyst charges brought by NASD.

  • We brought charges against Frank Quattrone for failure to supervise and impermissible gifts and gratuities -- after which he became the most powerful Wall Street figure since Michael Milken to be indicted on federal charges.
     
  • The individual charges against Henry Blodget investigated by NASD and jointly brought with other federal regulators were wrapped into and resolved as part of the global settlement.

  • Investment banks from CS First Boston to J.P. Morgan have paid many tens of millions of dollars in NASD sanctions for the wrongful allocation of IPOs.

And if bitter investors don't remember, their plaintiff's attorneys will for them, that throughout the excruciating slide from the top of the market in 2000 to the low after 9/11, "strong buy" or "buy" recommendations outnumbered "sells" by a ratio of more than 50 to 1.


And frankly there is more to come.

 

Don't get me wrong: enforcement matters. I think it helps a great deal for investors to see that our industry takes its self-policing responsibilities seriously. And new rules in force or on the way for initial public offerings as well as analyst research will also go a long way to restore trust in the integrity of our markets.

 

The first step is to demand ethical behavior of investment bankers, research analysts, brokers and others. But the record of many during the bubble makes it clear that when the rewards for stepping over the line become great enough, too many people will be tempted to break our rules and violate standards of ethical behavior. That's why we need to strengthen the industry's ethical culture generally, and the compliance function specifically.

 

More specifically still, I don't believe we will bring back investor confidence all the way to what it could be until we make the clout of the compliance department what it should be. For every one of the troubling signs and developments I discussed a couple of minutes ago reveals a structural imbalance in clout, authority and influence between the firms' big producers, and the compliance officers who in theory should be able to reign them in.

 

At NASD's Fall Securities Conference this past October, I said that you are the good guys, doing the work of the angels. It is you who know the reputational risks that face your firms and are on the front lines, striving to avoid them. And one message I said I would be sending is that your firms' CEOs ought to pay just as much attention to your input and insights about these risks as they do to the enticing talk from their most aggressive top producers.

 

In the months since then, the importance of correcting this imbalance has become all the more clear. Some of the largest firms in our industry have lost literally billions of dollars in market capitalization -- some more than 25 percent -- because of the kinds of reputational risks, rule violations and ethical issues that I firmly believe a strong chief compliance officer could have helped them steer clear of. There is no excusing these transgressions. But the hard truth is, you can't stop what you don't have either the opportunity or the power to stop.

 

So we at NASD thought very seriously about what we could do to empower and improve the position of compliance officers. And we developed a proposal that I believe will prove to be good investor protection, good self-regulation and good for the compliance function throughout our industry.

 

I am pleased to announce that NASD will be sending a Notice to Members seeking comment on proposed amendments to our rules that would require every NASD member firm to designate a Chief Compliance Officer. But the crux of our proposal is to require that each firm's Chief Executive Officer and Chief Compliance Officer jointly certify annually as to the adequacy of their firm's compliance and supervisory procedures. That's a signed, annual certification.

 

An integral part of our certification proposal is Interpretive Material that you will soon receive with the NTM. The IM makes it clear that we want to empower the Chief Compliance Officer by increasing interaction between him or her and the CEO and senior business officers. We are not interested in playing "gotcha" with the Chief Compliance Officer.

 

The IM can be relied on, as you know. And it makes four key points very clear: 

  • One, NASD is interested in fostering ongoing attention by firm senior management to compliance and supervisory systems.

  • Two, we want to create high-level interaction between our member's senior business officers and compliance and legal officers.

  • Three, the CEO and Chief Compliance Officer will be certifying as to the adequacy of the compliance and supervisory system, but not necessarily the implementation of that system in each instance.

  • Finally, as I said, no liability will accrue to the signatories, provided that when they sign they have a reasonable basis for doing so, and do so consistent with high standards of commercial honor and just and equitable principles of trade.

Of course, I don't need to tell you that compliance is not the first place business types think of focusing attention and resources when business is down.

 

But as a business type myself by background, I have some news for firm CEOs. Our industry is hurting today in part because it has failed to maintain a strong ethical culture of compliance. This proposal requires CEOs to give compliance the attention it deserves. It gives compliance officers access and leverage that many have lacked. And it declares that having an adequate compliance and supervisory system is as non-negotiable a part of doing business as meeting the net capital requirements.

This is the right rule for our times and for our industry. And I mean to see it succeed.

 

Now as the head of an organization that writes and enforces rules, I would love to stand here and tell you that regulation -- good rules and tough enforcement -- is all we need to ensure high standards of investor protection and market integrity.

But the fact is, any rule has loopholes -- and I can assure you, the graduates of any leading school of business or law are well trained to reverse-engineer such loopholes.

 

Moreover, while enforcement can do wonders in keeping an industry clean, violations of behavior-based rules are inherently difficult to uncover and prove.

 

So we arrive at the truth that self-policing is not only a nice thing, but an indispensable thing, for the health of the securities industry. Your firms really are the front line of compliance.

 

That is why assisting our members with your self-compliance responsibilities is not a distraction or a mere sideline for NASD. To the contrary, advancing self-compliance is a vital part of regulation and a central part of our responsibilities.

 

In an era when information flows instantly, the business climate changes quickly, and new products emerge daily, we as regulators will never deter and detect every problem. Rather, investors will be better protected -- and market integrity will be strengthened -- if we use our resources not only to find and punish violations, but if we also help you find problems within your firms before they come to fruition.

 

You may have heard that NASD's "Ahead of the Curve" Initiative is putting unprecedented emphasis on nipping problems in the bud before they do harm to investors and the markets. But no matter how successful such efforts, we regulators will catch most problems after the fact. Whereas your firms -- given the right tools -- can prevent many problems from arising in the first place. So if NASD's mission is investor protection and market integrity, it is our duty to assist firms with their self-compliance responsibilities.

 

This is an integral part of truly cost-effective, truly risk-based regulation. In the words of Sun Tzu, "An army that is everywhere is an army nowhere." By giving you the tools, technology and data to detect and correct more of your own potential violations, NASD will be better able to focus on the kinds of big risks to market integrity that are harming the reputation and profitability of our industry today.

 

NASD has done a fair amount of self-compliance work already, through such means as compliance templates, checklists, training courses and the like. Building on those efforts, we will now be giving this part of our mission the kind of systematic, high-level, across-the-organization emphasis that it deserves.

 

Going forward, the potential subject matter for NASD's self-compliance tools and services will be broad. For example, we will cover new rules such as those on research analyst conflicts.

 

We will include error-prone or high-profile areas such as mutual fund breakpoints.

 

And we will move ahead in emerging potential problem areas such as variable annuities.

 

The form our self-compliance efforts will take likewise will draw from a broad range of options. Among these will be additional templates and checklists; online applications; call-in workshops and other Q&A sessions; and educational offerings online and in person. And we will use NASD technology to offer innovative products -- such as the one we have developed with a leading third-party provider, Gryphon Networks, which will incorporate CRD data to give interested members a comprehensive, cost-effective way to comply with all the new state and federal "Do Not Call" laws.

 

I can't overstate the importance of your involvement to the success of these efforts. For member input will be a big part of our knowing what assistance and products you would find most useful. And member feedback will be no less important to letting us know whether any given tool or service is on the right track and how it can be improved.

 

So I invite you to track down Ann Short of Member Services, her boss Doug Shulman, or one of Mary Schapiro's people at this conference. Take this opportunity to let us know what areas of regulation and self-compliance you would most like our help with. I can't promise that we'll always or immediately be able to produce the exact tool or solution you want. But I do promise that we will listen closely to what you, our members, have to say.

 

And that is a very apt segue to the closing subject of my remarks this morning.

 

I want you to know that I care deeply about the realities facing small firms and the entire industry. And I am determined that -- consistent with our investor protection mandate -- NASD be responsive to your concerns, hold down your regulatory costs and burdens, and make steady progress toward the paramount goal we all share of restoring investor confidence.

 

This past summer, at receptions held all over the country, NASD senior staff and I met with representatives of some 1,000 member firms. These sessions allowed us to hear directly your regulatory concerns and perspectives. We consider such meetings so important, we have already begun holding another full round of them throughout the Districts.

 

Obviously NASD cannot meet every need or desire expressed at such meetings. Often, your concerns focus on SEC rules or legislative requirements. Sometimes they are particular to an individual firm. And some, to be frank, underscore that this is simply not the time for any regulator to be taking steps which would likely be perceived as compromising investor protection or failing to bolster investor confidence.

 

That said, in recalling all of our meetings, I am struck by how often, even in these difficult circumstances, NASD has been able to act on your concerns. For example: 

  • Firms had all kinds of questions and worries about your complex new responsibilities under the USA PATRIOT Act. NASD developed a highly useful anti-money laundering compliance template and a successful on-line training course in direct response to these concerns.

  • A number of you raised issues about arbitration costs in frivolous investor claims. As a result, NASD made changes that will result in mandatory refunds of more than $250,000 a year to our members. And further discretionary refunds will likely bring that amount to over $300,000.

  • Many small firms expressed concerns regarding the costs of TRACE reporting. With industry input, NASD retroactively reduced the fees for low-volume firms to use the TRACE Web browser from $85 per month to $25 per month.

I know that the industry is always concerned that the regulatory need for our rules be weighed against their economic impact. Because we share that concern, NASD's Rule Modernization Project remains on track and high priority. We are working closely with our Economic Advisory Board with an eye to potentially updating a number of rules, such as by establishing a new registration category for customer support personnel. And I'm pleased to report we have just recently reached agreement with NASAA on a better common definition of branch office.

 

Finally, we have sought to hold down costs and burdens by working to streamline NASD itself. Our decision to exchange a cumbersome subsidiary structure for more straightforward operating divisions is already helping NASD to be a more effective and efficient regulator.

 

More broadly, in this time of economic distress for our members, NASD has applied stringent budget disciplines to live within our means. With tough numbers everywhere and very little left to trim from our cost structure, I am not optimistic we can pull off another discretionary rebate for 2003. But it's nonetheless worth noting that with $14 million in unscheduled rebates, last year was the second in a row that NASD managed a discretionary rebate of at least $10 million.

 

In closing, I hope this all helps to make clear my commitment to NASD being a responsive and well-run organization as well as a tough and even-handed regulator.

 

That is certainly the spirit in which I look forward to seeing your comments on our certification proposal.

 

It is the spirit in which we will be working to develop the most useful self-compliance tools, services and advice possible.

And I believe it's the spirit in which we can work with you across the board to help our markets become rightly recognized once more as the most admired, transparent and trusted in the world.

Thank you very much. And have an excellent conference.