On the last day of March, SEC Chair Mary Jo White gave the keynote speech at the SIFMA Compliance & Legal Society Annual Seminar. The speech extolled the importance of a vigorous combination of criminal, civil, and regulatory tools to enforce the securities laws. White made it plain that the SEC, under her watch, would be far more aggressive in herding securities law violators into the criminal corral.
White acknowledged the role of the SEC’s traditional enforcement tools, but placed heavy emphasis on the importance of involving law enforcement agencies, ranging from the FBI to the Department of Homeland Security to local law enforcement. She reminded participants that a criminal conviction and the prospect—and reality—of imprisonment was the most powerful deterrent to fraudulent activity. When the threat of criminal sanctions is added to the SEC’s customary enforcement actions, she said, law enforcement is well-positioned to investigate, and bring charges on, the full range of securities law violations. The message she wanted to put out is that a robust combination of criminal and regulatory enforcement of the securities laws is not only appropriate, but also critical to deterring securities violators, punishing misconduct, and protecting investors.
Criminal investigations by law enforcement agencies provide all kinds of useful tools that the Commission does not have in its toolbox—things like search warrants, wiretaps, undercover operations, and other means that aren’t available to the typical regulator. Accounting fraud prosecutions were relatively rare before Enron, WorldCom, and Adelphia, she pointed out, but the SEC has continuously expanded the number of cooperative investigations it conducts with law enforcement. Many criminal authorities across the country are more willing and better able to pursue these prosecutions because the SEC devotes significant resources to uncovering and building these complex cases, and then working in parallel with the prosecutors to bring those cases to trial.
Still, most of the Commission’s cases are standalone, as the SEC operates independently under its statutory mandate to enforce the federal securities laws. While the SEC lacks the ability to pursue criminal complaints of its own, it does have the ability to bar wrongdoers from their particular roles in the securities profession, and, thanks to the Dodd-Frank Act, from the entire securities industry. Quite apart from criminal prosecution, the SEC can still impose asset freezes, trading suspensions, and temporary injunctions to stop fraud in its tracks. The clear message was that the SEC was prepared to use all available means to deter fraud.
White emphasized three areas where joint regulatory/criminal investigations can prove particularly fruitful.
- Insider trading, a staple for both the SEC and criminal prosecutors, frequently starts out as a referral to the SEC from FINRA. She made special mention of newer technologies which have augmented the ability to identify suspicious trading. However, some methods of covering your tracks never go out of style as White described the recent case where a middleman met a trader in Grand Central Station to show him hand-written notes of stocks he should trade—and then proceeded to eat the notes.
- Microcap fraud—often consisting of pump-and-dump schemes—as being uniquely fertile ground for criminal investigation methods, where cooperators and undercover agents can interact with the wrongdoers and collect very powerful evidence.
- Financial reporting fraud, an area where the Commission has another layer of expertise—its accountants. These fraud cases are often based on specific and complex GAAP violations. Noting that good financial reporting and vigilant auditing go to the heart of the integrity of the markets and strong investor protection, she drew attention to the newly created Financial Reporting and Audit Task Force whose objective is to focus on trends or patterns of conduct that are risk indicators for financial fraud.
This speech stood in contrast to the recent speech given by SEC trial attorney, James Kidney at his farewell party. Kidney described his Commission bosses as being too “tentative and fearful” to bring the hammer down on Wall Street miscreants. The SEC, he said, has become “an agency that polices the broken windows on the street level and rarely goes to the penthouse floors.” He specifically noted that the SEC, as a civil enforcement agency, doesn’t need to prove its cases beyond a reasonable doubt and has a lower burden of proof than the Justice Department.
White’s speech may have been responding obliquely to Kidney’s critiques and the tone was unmistakable: it’s not business as usual at the SEC. White appears determined to step up enforcement and will not hesitate to bring in the enforcers when necessary.