finra

Comments by Mary L. Schapiro
President, NASD Regulation, Inc.

NASD Regulation Fall Securities Conference

Phoenix, Arizona
November 6, 1997

 

Opening Comments

 

Thanks, Todd. NASD Regulation is extremely fortunate to have a Chairman like Todd Robinson who, despite an extraordinary schedule, gives generously of his time and energy to self-regulation. It is my pleasure to also welcome you to NASDR’s annual Fall securities Conference. We have really endeavored to put together a program designed to accomplish one thing—support you in your job of keeping our industry in full compliance with the rules and regulations.

 

You have the most important job in our industry. I really mean that. Good compliance wins investor trust—and investor trust builds business.

 

As you’re well aware, it is possible to be an ethical firm or rep—and still be out of compliance. Not every rule is intuitive. Unless all compliance obligations are fully understood and met, costly mistakes can be made that can jeopardize a firm’s business or ruin a person’s career.

 

It takes compliance professionals to keep a firm and its personnel on the regulatory straight and narrow. A good moral compass is important. But, I would argue, perhaps even more important is a well-maintained compliance infrastructure, complete with strong educational programs, internal checks and balances, cutting-edge technology in support of compliance, and, most critically, a corporate culture in which your jobs are viewed as essential and non-compliance is simply not tolerated.

 

At the same time, keeping up with the pace of regulatory change has never been more challenging. As SEC Commissioner Wallman noted recently, during the last three years alone, the SEC issued over 80 releases embodying final rule changes or interpretations—and the SROs submitted over 1,500 requests for changes.

 

There are those who would blame the rule-makers for this enormous output of regulatory energy. I have had many people tell me that we at NASDR are too busy!

 

Forces of Change

 

But policy changes and new rules reflect new realities. Securities regulation, including self-regulation, tends to ride the coat tails of sweeping financial change, both domestic and global—and our industry’s response to it.

 

Leaving to Rick Ketchum the really difficult issues of market structure, I’d like to highlight a few among the many trends that are redefining our industry—and in turn reinventing self-regulation. This conference is entitled "Redefining Self-Regulation: the SRO Today" because so much has changed in our world of financial regulation that we think its important to take stock, to ensure that we are all operating with adequate information about changes in market structure, regulatory programs and processes, and investor needs to be truly effective in performing our jobs. Whether it is the NASD’s comprehensive re-write of the disciplinary process, or the regulatory responses to problems in the microcap market or the development of new surveillance systems like the Order Audit Trail, you need to know where we are headed and why. I hope you will really take advantage of the opportunity provided over the next two days to learn all that you can about the NASD’s initiatives.

 

Just as your firms are driving—and are driven by—trends in financial services so are we. I’d like to highlight just a few:

 

Our first, and perhaps most obvious, trend is globalization. We again found last week that, yes, there is a global economy. What happens in Hong Kong impacts Wall Street, as well as Main Street.

 

Investors, securities firms, markets, and companies are looking at the world with a wide-angle lens. When they see the opportunity for profit, reduced labor costs or cost-effective capital anywhere in the world, they go after it. Where they see risk, they avoid it. But wherever in the world these players go, regulators and self-regulators must follow.

 

A second trend is consolidation, which for the time being, at least, seems to be the way many industries are addressing globalization. Like the banking, entertainment, and many other industries, the securities industry is reformatting. Every month seems to bring us a new "biggest firm." Announced merger plans for Travelers with Salomon Brothers, Dean Witter with Morgan Stanley, Bankers Trust with Alex. Brown, to name a few, are evidence that the current mindset with respect to building a global presence is that size matters.

 

The challenge for self-regulation is to provide protection to investors, no matter what size firm they deal with—and address the compliance challenges presented by a diverse membership with many different lines of business. This trend is echoed in our response to issues such as the respective roles of clearing and introducing firms.

 

We’re also experiencing a consolidation not just of securities firms but of the financial services industry generally. The result is a further erosion of the distinctions among traditional banking, investment banking, and insurance in the U.S. While Congress hasn’t yet taken final legislative action, banks now have more latitude to enter the securities business than ever before.

 

With that latitude comes increased responsibility on the part of both bank and securities regulators to ensure adequate levels of protection to the customer. Whether the customer is buying a risk-bearing or depositary product—the end result should be a suitable investment, adequately explained by the investment professional, and properly understood by the investor.

 

The third major agent of change is institutionalization. A few years ago, there were a handful of institutions in this country doing more than five million dollars in commissions a year. Today, the SIA estimates there are over a hundred. There are firms today whose entire business revolves around serving institutional clients. Institutional trades make up roughly half of the share volume of Nasdaq and the NYSE, and a lot more some days. While we have technology to thank for U.S. markets efficiently handling well over 2 billion shares on October 28, institutions were behind much of this volume.

 

There has also been a dramatic increase in the levels of institutional investment in international markets. Ownership of foreign shares by the largest 200 pension funds grew by roughly 34% to more than 225 billion dollars over the past two years. CalPERS, America’s largest pension fund, has 20%, or over 24 billion dollars, invested in international equities—up from a 12% exposure in 1994.

 

Fueling the growth of institutions is, of course, an investor preference for mutual funds. Assets of this country’s more than 7,000 funds now top 3 trillion dollars, and exceed the deposits of commercial banks. With that many funds chasing that much money, the competition for the investor’s attention is enormous.

 

Just one small way in which NASDR has been feeling the impact is in an increase in advertising it must review. Volume is up 13% for the year, and includes a growing amount of Web-based advertising, to which NASDR applies the same standards as other forms of communication to the public. Another response has been to establish a unit within the Advertising and Investment Companies Regulation Department to investigate complaints received from investors, other regulators, and members about member communications with the public.

 

As I’m sure Rick will address, the increasing clout of institutions has also fueled the growth of alternative trading systems, as well as responses by markets like Nasdaq to meet the needs of an increasingly sophisticated community of investors.

 

This relates strongly to a final trend, which I call investor empowerment. Investors, large and small, are being empowered through information, automation and regulation.

 

The Internet in particular has been a tremendous leveler of the information playing field—putting individual and institutional investors on much more equal footing, but also putting the public at risk of receiving detrimental, indeed fraudulent, information. NASDR has been busy both on the information and public safety fronts. Its web site offers a lot of practical guidance about investing wisely—and a new surveillance search engine will soon allow NASDR to flag online information that may be in somebody’s best interest—but not the investor’s.

 

At the same time, we are all aware that the Internet age, and self-regulation’s response to it, have increased the amount of information available to the public about our industry.

 

Daylight is one of the best means of investor protection, whether it takes the form of more visible pricing of orders in a market or more readily accessible information about a firm or individual’s professional record. NASDR’s release of an expanded set of information through its Public Disclosure Program was as inevitable as it is valuable to the public.

 

Industry Involvement

 

In any response we make to these trends and changes, the common thread must be that the public interest comes first. Securities markets are national assets, and our industry and its self-regulatory structure are their custodians.

 

But let’s be clear: you don’t maximize investor protection by minimizing the role of the securities industry in the self-regulatory process. I believe it is vital not just for the future of self-regulation, but for the continued pre-eminence of U.S. markets and our industry, to devise ways to attract and maintain active involvement of the leaders of our industry in every facet of the regulatory process.

 

The changes to the Code of Procedure which you will hear more about over the next two days and which are resulting in a revised disciplinary process, can help do this. One of the objectives is to allow industry volunteers to spend more time in shaping disciplinary policy and be freed from the demands of a growing and increasingly complex caseload. It really comes down to making the best use of an industry volunteer’s time—and it’s certainly my own feeling that I’d rather be involved in policy than process, although there’s certainly a need for both.

 

Concluding Comments

 

Let me say in conclusion, that it is healthy for self-regulation to be distinct from government regulation. Its strength is its close connection to the industry and the wealth of talent and cutting-edge expertise that exists within it. It is the responsibility of NASD Regulation—as the securities industry’s largest and most progressive SRO—to tap it, and have it reflected in our rule-making, technology and strategic vision.

 

Constant change calls for constant adjustment. There will be course corrections along the way. Self-regulation is evolving, and NASD Regulation is evolving with it. There have been significant changes to the process in the past—and the future will bring more change. But change is really an opportunity to grow!

 

Whatever the future throws at our industry and the investing public, we can be sure that both are better because of self-regulation. Thank you for being part of a process that is doing great things for the markets, our industry, and our country.

 

It is now my great pleasure to introduce one of the most talented people I have ever had the opportunity to work with. Rick Ketchum, the COO of NASD, has been described as the most knowledgeable person on market structure in this country—and I can personally attest to his vast appreciation of market operations, technology, and regulation. When markets experience what ours did two weeks ago, you want Rick Ketchum at the helm!