Reports indicate that state and federal regulators are now turning their attention to Fidelity's and Schwab's participation in the Auction Rate Securities (ARS) market.

Massachusetts Secretary of State William Galvin reportedly sent a letter to Fidelity recently asking it to "take immediate steps to resolve this matter on behalf of [Fidelity's ARS] customers." The letter reportedly expressed Galvin's "grave concern" about complaints his office had received from Fidelity customers whose money remains frozen in the ARS market. This letter represents a change from Galvin's prior suggestion to Fidelity that it look to firms such as UBS and other ARS underwriters to get back Fidelity's customers' funds.

In addition, several reports indicate that New York Attorney General Andrew M. Cuomo's next targets in the ARS debacle are secondary market firms such as Fidelity and Schwab. In a letter from Attorney General Cuomo's office to the Regional Bond Dealers Association, Deputy Counselor Benjamin Lawsky noted that the NYAG's investigation "encompasses not only lead manager firms . . . but also many downstream brokerages, including Fidelity . . . ." The letter indicates that the NYAG will not end its ARS investigation until it has determined what each firm knew about the liquidity risks and what representations were made to customers. Additionally, the letter expressed the NYAG office's doubt that these secondary brokerages were "in the dark" about the deteriorating ARS market.

The SEC has also indicated that its ARS probe is not done and that there are still more than a dozen pending investigations.

Although Fidelity has not yet issued a statement or otherwise reacted to the letter sent by Secretary Galvin, reports indicate that Fidelity has generally countered allegations by regulators by stating that it had an extremely small number of customers who bought auction rate securities. Another issue for regulators pursuing discount brokerage houses will be that such firms generally do not provide direct investment recommendations to their clients, making less likely the type of alleged liquidity representations that have been the focus of prior ARS inquiries.