Arranology

SEC Failed to Police Mutual Fund Industry

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The NY Times, which has been specializing in understatement of late, has a lulu of a headline today: “S.E.C.’s Oversight of Mutual Funds Is Said to Be Lax.”

Lax. That’s a good one. What the article actually shows, like we needed to be told at this point. is that SEC oversight was–and is–non-existant:

The Securities and Exchange Commission failed for years to police the mutual fund industry effectively because it was captive to the industry when writing new regulations, was preoccupied by other problems on Wall Street and was severely short of staff and money, current and former officials say.

Since Reagan began lifting banking and stock market restrictions in the early 80’s, the financial sector has been acting like a 5-year-old whose Mom put him in charge of the cookie jar and then…left. We’ve had a series of scandals since then, each more severe than the last, ranging from the S&L debacle to Enron and Arthur Anderson, and on each occasion we were assured by the corporate financial community that these were one-offs, unique, individual criminal acts, not signals of widespread patterns of abuse of power or position in the industry. And in each case, we’ve chosen to accept this rationalization and ignore any evidence that countered our wishful thinking. The result was, as many of us have been saying for years, predictable: while we looked the other way, corporate and financial institutions have been stealing us blind.

The latest bunch are involved in mutual funds and the investment bankers that oversee them. A partial list of their…um, activities:

In numerous instances, top executives are accused of trading rapidly in and out of their own funds to reap profits at a cost to other fund investors.Many brokers failed to give appropriate discounts to customers.

And a large percentage of funds appear to have provided confidential and potentially lucrative portfolio information to large customers, possibly in exchange for their business.

Some regulators say that while many of these practices may have existed during the boom years of the 1990’s, they may have accelerated in more recent years as the market declined.

Uh-huh. And it’s also possible that oft-repeated messages from the Bush Admin that they weren’t interested in taking any action that might curtail in any way the brokers’ wholesale theft-ring may have goaded them on to new heights of larceny, maybe. Huh?

“There have been decades of looking the other way,” said Gary Gensler, a former Treasury under secretary in the Clinton administration, former co-head of finance at Goldman Sachs and co-author of the book “The Great Mutual Fund Trap,” published in 2002. “At its core, the scandals reflect the fact that mutual fund governance is broken and Washington has stood by and allowed it to remain broken, for a long time, without any real effort to reform the system to the benefit of investors.”None of the more than a dozen cases that have now been brought resulted from routine inspections by the commission, current officials said. Before the recent scandals, which were exposed by state regulators, the commission’s examination unit was never specifically assigned to look for the sorts of trading abuses that have been revealed.

While the last statement is factually correct, the reporter–Stephen Labaton–writes it with the implication that the examination unit was instructed to look for other abuses in other parts of the financial community. Well, it wasn’t. In fact, the “examination unit” has been starved for operating cash, manpower, and clout since Reagan de-regulated the industry specifically in order to cut down oversight, which he said “wasn’t needed”. Reagan conservatives have been whining for years that the interference of govt regulators was stifling the growth of the financial community and “preventing it from being flexible in responding to changes in the new economy”.

Well, now we know what they meant. They meant, “We could steal a lot more and be a lot richer if only those damn Federal busybodies weren’t looking over our shoulders all the time.” And we can now see that they were right: they did steal more. A LOT more.

The hipper of of those among you may be asking, “Well, what about Sarbanes-Oxley ( the law that was passed to replace some of the trading restrictions Reagan removed after Enron was unmasked)? Why didn’t that stop them?” Primarily because it turns out that under intense lobbying from the mutual funds industry, they were made exempt from a lot of its strictures:

[A]t the urging of the institute [the industry's trade organization, the Investment Company Institute--m], the drafters granted the mutual fund industry significant exemptions from some of the more important provisions. Those provisions enacted stringent conflict-of-interest rules, required greater disclosure of transactions between management and large shareholders, and imposed tougher requirements on management to monitor internal controls. (The institute ultimately failed, however, to persuade the commission to exempt it from requirements under the Sarbanes-Oxley Act that mutual fund executives certify their financial results.)

Oh, too bad. They didn’t get everything they wanted. This is a little like a kid being disappointed at Christmas because even though he got the pony, the new Nintendo, a Ferrari, a $5000 gift certificate from Neiman-Marcus, his own tv set, a new laptop, and those fur bedsheets he wanted, he didn’t get the 40 lbs of chocolate bunnies because his Mom thought that was overkill.

All-in-all, I’d say the institute’s lobbying efforts were fairly successful, wouldn’t you? And of course, they didn’t stop with gutting the law meant to slow down their rate of thievery:

Moreover, some critics and former officials say that the commission has not imposed tougher disclosure rules and tighter management requirements because of the influence of the institute, an accusation that its executives strongly deny.Lynn E. Turner, a former chief accountant at the S.E.C. during the 1990’s, said that it was routine in weekly senior staff meetings for officials to consider the views of the institute and that senior staff members were always concerned about taking on the organization. He also said that it was rare for the commission to adopt a regulation against the institute’s wishes.

“They were one of the more forceful organizations,” Mr. Turner said. “You’re talking about people that were pretty wealthy. They had influence. Influence on the Hill, and influence with the staff.”

And they weren’t shy about using it. But what did we expect, really? We have become a country that worships money, and we don’t much care how that money is acquired. Why should we be surprised when people who have our money flowing through their fingers pinch a little of it off for themselves? Why should it shock us when powerful forces use their power to protect their own interests?

The harsh truth is, we shouldn’t be. What the mutual funds brokers did and the institute protected are actions embedded in the very nature of the beast. That’s what they DO, people. Like a lion hunts, like a scorpion stings, like a a piranha devours–that’s what they DO. If you’re in the middle of the jungle and lions are on the prowl, do you throw your rifle away because you expect the lions to use their better judgment and pace their tourist consumption? If you’re in the desert and surrounded by a scorpion colony, do you take your boots off under the assumption that the scorpions will respect the fact that you didn’t stamp them out when you had the chance and leave your feet alone? If you live near a river full of piranha, do you remove the fence that contains them and then blithely go swimming because you believe they’ve learned their lesson? If somebody did any of those things, we’d expect them to be dead within the hour and we’d probably add that they deserved what they got.

But that’s exactly how we’ve been treating corporations and financial institutions for the past 25 years: we’ve thrown away our protections like we expected they would go against their own natures on our behalf. Our behavior has been either remarkably naive or monumentally stupid, take your pick, and we have made ourselves a meal for them. We have put up huge neon signs reading, “Come and get it! We’re tasty, we’re tender, and we won’t lift a finger to stop you,” and then we profess ourselves surprised when the predators line up on our doorsteps, knives and forks at the ready.

Look, people, the Bible says that in a perfect world the lions will lay down with the lambs and everything will be hunky-dory. But this ain’t that world and we have to stop acting like it is. In this world, a lamb who lays down with lions expecting to get up in the morning whole and unscarred is in for a rude shock, and it’ll be the last thing they ever feel. We have to finally accept the fact that corporations and financial instiututions are by nature man-eating sharks, not harmless minnows, and take precautions against being eaten alive.

There was a time when we understood this, but then we let ourselves be talked out of our understranding by slick lobbyists who were either working for the sharks or sharks themselves, and we allowed our protections against them to be dismantled. Let’s just admit that we were bamboozled, that it’s our fault for listening to such tripe in the first place, and put the protections back. If we don’t, we might as well put our kids in lunch baskets and leave them on the stoop for the wolves because they’ll be coming for them next.

Written by Mick

November 16, 2003 at 5:59 pm

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