FINRA Fall Securities Conference
October 11, 2007
Note: An audio podcast of this speech is available for download at www.finra.org/podcast.
Thank you, Elisse. Good morning, everyone - it's wonderful to see all of you here today.
All of us at FINRA are committed to assisting you with your compliance efforts and these conferences are a large part of that effort. I'm thrilled you took the time to come to Scottsdale.
This is the very first Fall Securities Conference hosted by FINRA, so not only do you get to visit the beautiful Southwest, but you're also making a little history today.
As you're probably aware, the creation of FINRA is an historic achievement itself. It's the most significant restructuring of the self-regulatory model in over seven decades. And it comes at a transformational time for the securities industry as a whole. In 2007, we find a financial sector fueled by globalization, technology, a trend toward institutional consolidation, changing investor demographics, new and more complex financial products, and an endless array of information available at our fingertips 24 hours a day.
All of these developments hold great possibilities for the industry and investors. Yet, when I look at what's happening in the capital markets it reminds me of that memorable first line from A Tale of Two Cities, by Charles Dickens - "It was the best of times, it was the worst of times."
We watched in mid-July as the Dow reached the 14,000 mark for the first time only to sink more than 1000 points in August in the wake of the subprime crisis and then close at another record high just ten days ago.
Perhaps, these aren't the best or worst of times. These are simply the "new times."
Or, as that other master of the English language, Alan Greenspan, says, we're living in a new "Age of Turbulence."
Turbulence is defined as "having a chaotic and restless character or tendency." That certainly describes the markets of late. But while turbulence can be exciting and bring new opportunities, it also brings uncertainty and some peril.
That's why it's imperative that investors know that in this "new age" there exists an efficient, capable and modern regulatory regime dedicated to keeping the markets fair in times of chaos or calm.
Faith in the markets is essential to maintaining investor confidence. And confidence is as fundamental an ingredient to the marketplace as money. Without either, our markets will simply waste away.
But our success in safeguarding both that faith and the integrity of today's markets is going to require all of us to work together. It will require vigilance by regulators and industry alike - we are partners in investor protection. And FINRA is our opportunity to build that partnership and ensure that our markets earn and maintain the trust of investors.
From its inception a little over two months ago, FINRA has begun clearing a new path to a more streamlined and efficient regulatory structure, from which we can better protect investors.
The path we've been on is 70 years old and it has served us well, but it's a path that's overgrown with several decades-worth of underbrush and a fallen tree or two.
And, as FINRA works to remove some of these obstacles to greater, more efficient investor protection, there will be critical issues that firms and regulators alike will have to face.
So today I'd like to talk about our efforts, and how FINRA is poised to be a catalyst for a more flexible, innovative regulatory approach that will benefit firms and enhance our ability to protect investors.
Let me begin with an update on the continuing integration process and new governance structure, and then I'll turn to our recent efforts aimed at supporting firm compliance.
Integration and Governance
As you know, FINRA was formed this past summer after the successful merger of NASD and NYSE member regulation operations. Today, the Financial Industry Regulatory Authority is the single, non-governmental regulator for the entire securities industry. As I said, the process of integrating the two organizations is ongoing, but we have made significant progress.
In many ways, this process was no different than any other merger involving two large commercial organizations. It required bringing together two workforces, two complete sets of technologies, two cultures and two funding mechanisms.
We are busy completing all of those tasks - but we also have to merge two regulatory examination programs, two enforcement staffs and two rulebooks.
The transformation of FINRA's enforcement department is virtually complete. We are still working on integrating the exam process. We expect to have an integrated exam program up and running in January for 2008 examinations and the program will continue to be enhanced as we move forward. The resulting exam program will be greater than the sum of its parts, as for the first time a single SRO will have the complete picture of the largest firms' operations - financial, operational, risk and sales practices.
We also hope to have the full suite of technology applications integrated within 24 months, though most will be complete within 12 months. And I want you to know that as we continue the process - selecting the technologies that best support our new business processes - we will be sensitive to the time that firms need to make changes.
But we also have yet another added layer of complexity. In addition to merging enforcement staff, the examination process and technology platforms, we also have to merge two rulebooks that govern the entire diverse industry.
Merging the rulebooks is a complex process. But it's even more complicated because we want to do it right.
We're committed to not only picking the best of the NASD and NYSE rulebooks, but we're also going through a very deliberative process to determine if there might be a better way to address regulatory concerns than simply picking between two existing rules. Member conduct rules in particular are being held up to significant scrutiny and detailed analysis and we are fully committed to seeking broad input on the approaches we will recommend.
As we examine the rulebooks, we'll also be looking at whether it is possible to take a more principles-based approached to regulation, as well as a more tiered approach to rules that recognizes that there is tremendous diversity of size and business model in this industry. And, of course, all of this will be explored through the lens of not jeopardizing investor protection. We have firms that sell only mutual funds, some that sell only fixed income securities, and still others that sell primarily insurance products. There are M&A boutiques, independent contractor firms with small offices across the country, as well as full service firms that engage in every type of securities business.
FINRA regulates Goldman Sachs, which had revenues last year of $29 billion, right along side the over 2,400 firms that brought in less than a million dollars.
In addition to regulating Merrill Lynch, which employs more than 20,000 - over 4 percent of the entire industry - we also regulate more than 2,800 firms that employ 10 or fewer reps.
We simply can't ignore the diverse nature of these firms.
It's important that, without compromising investor protection, FINRA distinguish between the different capacities and capabilities of these firms through its rulemaking and examination processes.
Because we take seriously the differences between the firms we regulate we have enshrined in the new Board a commitment to having diverse firms represented at the table.
Having a strong voice will be the key to ensuring the legitimate concerns of all firms are part of the agenda.
The Board election is taking place right now and ends October 26. Ten Governors will be from the industry and eleven superb public governors have been appointed from outside the industry. They include a former state securities commissioner, two university presidents, the former Comptroller General of the United States and a former SEC Commissioner and Market Regulation Director. For the first time, both large firms, consisting of 500 or more registered reps, and small firms, consisting of 150 registered reps or less, will be guaranteed three seats on the Board, with medium-sized firms occupying one seat.
In addition to these seven industry seats, three Governors have been appointed from the industry from among NYSE floor-affiliated members, independent dealers/insurance affiliated brokers and investment companies.
But the Board isn't the only area where firms are being heard. We've also established a number of task forces and advisory boards to gain input on new or existing rules.
Recently, the Small Firm Rules Impact Task Force recommended two proposals that have already been sent to the SEC.
The first proposal would eliminate the requirement that firms verify designated contact persons on a quarterly basis for the FINRA Contact System. The Task Force found the quarterly review burdensome and unnecessary, in large part because the contacts seldom change.
The SEC has approved this proposal and we expect to implement it in January. Once we do, member firms will be required to verify contact information on an annual basis only. Firms will still need to update contact information promptly, but not later than 30 days following a change.
The second proposal would create an exception to a rule that requires all sales material to be reviewed by a registered principal of a member firm and approved in writing prior to use.
Upon SEC approval, principal review will no longer be necessary if a broker-dealer is using a distributor's sales material already on file with and approved by FINRA. The proposed amendment approved by the Board will eliminate hours of unnecessary work.
These are just two actions which are concrete steps FINRA has taken to reduce the regulatory burden for all members, but the relief will especially be felt by smaller firms, who often are pulled in so many different directions.
Utilizing the talents of task forces, the Small Firm Advisory Board, our broad Committee network and the Board of Governors, we expect to have a consultative process second to none in ensuring that all views of a diverse industry are heard.
We also view as one of our responsibilities the obligation to help firms comply with the rules and fulfill their regulatory obligations.
This was one of the commitments we made last year to firms. We said the new SRO would increase its efforts to communicate with firms and build tools to assist them - and we have.
We realize you're in business to serve your customers. While meeting regulatory requirements can be a burden, it's one you absolutely cannot ignore. So we are continually trying to find ways to ease that burden while at the same time enhancing investor protections.
Perhaps the most innovative project we've developed is a new online portal for all firms that we will launch this week. The portal, known as the Firm Gateway, will provide a single point of entry for all firms to most of our regulatory and filing applications.
From your desktops you'll be able to fulfill a significant number of compliance obligations, including the ability to submit nearly every FINRA electronic regulatory form through the web.
If a broker leaves or joins your firm or if you want to check the status of filings or receive alerts to key regulatory changes, the Firm Gateway will be the place to go.
It provides a single, unifying platform to access all NASD applications and information, such as WebCRD, Report Center and User Account Management.
It offers one-click access to common tasks and useful resources and gives users the ability to save links to the Web pages they visit frequently on finra.org.
The Gateway will make it easier to move between applications and users will no longer need to login separately for each application. Other new features include filing reminders and centralized alerts and notifications.
All of this translates into fewer burdens for firms and fewer unintended errors.
When fully implemented later this year, the Firm Gateway will be available to about 25,000 firm users - mostly compliance personnel at FINRA-regulated broker-dealers.
Small Firm Emergency Partner Program
We also want to help you prepare for unforeseen emergencies that could shut down your business temporarily and adversely impact investors.
Today we live in a world where we are far more dependent upon information systems and yet they are more susceptible to disruption than ever before.
A natural disaster or other major disruption can bring down in an instant, complex electrical and computer systems that we rely on to conduct vital business functions.
Many large firms have the resources to deploy back-up systems and have multiple locations by virtue of their size and global nature. But where does that leave smaller firms?
They don't have all of the resources a large, multi-national corporation has. So FINRA has been working with state regulators through NASAA to develop a new initiative - one based on the buddy system - to support small firms in the event of a disaster. This backup program - called the Small Firm Emergency Partner Program - is centered on the idea that two similar but distant firms can set up a partnership to support one another should something temporarily disable one of the firms.
In the event of a disaster, the impaired firm's customer accounts will be temporarily supported by the partner firm. Using a FINRA developed template, firms and their common clearing firm can formalize an agreement between themselves.
The process is pretty simple - clearing firms can help match firms based on firm size and the types of business they conduct, and can make sure that potential partner firms are far enough from each other to ensure that the same disruption won't impair both firms.
The clearing firm and the two partnering firms can access FINRA's template online and customize the agreement based on their arrangement.
Let me stress - participation will be entirely voluntary, but it will be there if you need it.
On Friday, there will be a session called "Managing Significant Business Disruptions" where you will be able to talk to FINRA staff about this program in greater detail and they will be available to answer all of your questions.
As disturbing as potential disruptions are, they reflect a reality of our times. I encourage you to attend.
This type of challenge is new territory for all of us. And it really requires both FINRA and firms to understand the new environment we live in.
Today's marketplace demands a modern regulator.
And if FINRA is going to be a true modern regulatory body, I believe our goal should be nothing less than making regulation as flexible and innovative as the markets we regulate.
I've talked about the five attributes of the modern regulator in previous speeches but I think they're worth repeating today. To me a modern regulator works to ensure that investors have choices - in the types of firms they seek to do business with and the array of products and services those firms offer.
Second, it means continually surveying the landscape - through initiatives like our Ahead of the Curve program, analysis of investors' experiences with new products and strategies and through the examination program - for new regulatory issues and working to correct them before they harm investors and the markets, and taking swift and certain action when investor harm has occurred.
Third, it requires a commitment to finding new ways to assist the industry in meeting its compliance and regulatory obligations. Fourth, we must learn to adapt to today's fast-changing environment and operate in a world where investments are not confined by geographic borders and time zones. We must work cooperatively with regulators around the world.
And finally, we need to fully engage investors and provide them with information and tools that help ease their interaction with the marketplace and protect them from unnecessary risk.
But that doesn't mean eliminating risk. Investing always involves risk. The important lesson is that investors understand the risks - as well as the rewards that come with investing.
Risk was on full display in October 1987, twenty years ago this month, when the markets were shaken by a 508 point drop - a 22 percent decline.
At the time, reports blamed the crash on "heightened anxieties over rising interest rates and future inflation, and the impact of computerized trading."
Sounds familiar, doesn't it?
We've learned a lot since 1987. And one of the things we now know is that if an individual had invested money into the Dow the day before the market crashed - and left it there until today - that money would have quintupled. That's the reward. The lesson here is that while the markets fluctuate, the underlying foundation and integrity of the marketplace remains solid and we owe it to all market participants to keep it that way.
Investors can understand and accept a tech bubble or a recession - they go with the territory of a free market. What they won't accept is a system they can't trust.
That's why it's so important for all of us to work together to safeguard that sense of trust and foster confidence among investors.
FINRA is committed to doing just that and we look forward to working with you in this new, modern era we find ourselves in. There's no question the future can be intimidating, but as a famous scientist once said, "The best way to predict the future is to invent it." [Alan Kay, famous American computer engineer, 1971]
Right now, we have an unprecedented opportunity to 'invent' the most effective and efficient regulatory approach. One that will better protect investors and allow you to do what you do best - help investors realize their dreams and give them the tools to invent their own financial futures.
Thank you for coming - I hope you enjoy the conference.