Back in early July, the SEC snuck in a proposal – amidst a host of proposals directed at the rating agencies – that has the potential to limit the number of companies that can currently issue debt securities using a shelf registration statement, while at the same time expanding shelf eligibility to less creditworthy issuers. As proposed, the investment grade non-convertible debt securities transaction requirements in General Instruction I.B.2 of Form S-3 would be replaced with essentially the WKSI debt issuer standard – that the company has issued more than $1 billion for cash in registered offerings of non-convertible securites over the prior three years. The comment period for this proposal ends next week, on September 5.
This potentially could be a huge deal. For instance, junk bonds could be offered on Form S-3 under the proposed eligibility criteria, so long as the issuing company meets the $1 billion issuance standard. Further, a company could use S-3 if it met the $1 billion standard, even if some or all of the outstanding debt is in default. The SEC also asked questions about making disclosure concerning ratings mandatory (now it is permissive under Item 10(c) of S-K), including whether ratings and changes in ratings should be disclosed on Form 8-K. Further, in an unusual move, the eligibility standard for issuing asset-backed securities off of Form S-3 would look to, among other things, the status of the investors – namely whether they are QIBs. In its proposing release, the SEC says that only six corporate debt issuers would be kicked off of S-3 if they switched to the $1 billion issuance standard, but it is unclear at this point whether that estimate captures the full impact of the proposed rule change.
Unfortunately, this proposal appears to represent a purely facial change – pulling references to credit ratings out of all of the SEC’s rules because it supposedly gives the ratings (and the ratings process) an SEC “stamp of approval” – that could have some far-reaching ramifications for the markets at a time when issuers of asset-backed securities, hybrid instruments and corporate debt are most in need of the quick access to capital afforded by Form S-3 and shelf registration.
Good to see more securities law blogs emerge. Joe Wallin’s new “Corp Fin Blog” recently ran this item:
In Julian v. Eastern States Construction Service, Inc. (Del. Ch. July 8, 2008), the Delaware Chancery Court ordered the disgorgement of director compensation bonuses after its determination that the bonuses did not pass the entire fairness standard.
“Self-interested directorial compensation decisions made without independent protections, like other interested transactions, are subject to entire fairness review. Directors of a Delaware corporation who stand on both sides of a transaction have “the burden of establishing its entire fairness, sufficient to pass the test of careful scrutiny by the courts.” They “are required to demonstrate their utmost good faith and the most scrupulous inherent fairness of the bargain.” The two components of entire fairness are fair dealing and fair price. Fair dealing “embraces questions of when the transaction was timed, how it was initiated, structured, negotiated, disclosed to the directors, and how the approvals of the directors and the stockholders were obtained.” Fair price “assures the transaction was substantively fair by examining ‘the economic and financial considerations.’
SEC Approves PCAOB’s “Communication with Audit Committee re: Independence” Proposal
Yesterday, the SEC issued this order approving the PCAOB’s proposal regarding communications with audit committees regarding independence.
Despite indications that the holding would be the opposite, the DC Circuit Court of Appeals delivered an opinion in Free Enterprise v. PCAOB which upheld – by a 2-1 vote – the constitutionality of the Public Company Accounting Oversight Board on Friday. Here is a statement from SEC Chairman Cox – and here is a PCAOB statement.
The Court of Appeals decision upholds a lower court decision from eighteen months ago. The WSJ reports in this article that the plaintiffs intend to appeal either for a rehearing before the full DC Appeals court or to the US Supreme Court.
In eighteen parts, Professor Jay Brown has some analysis of the decision in his “Race to the Bottom” Blog. And here is an excerpt from a Washington Post article:
“Writing for the appeals court panel’s majority, Judge Judith W. Rogers said the plaintiffs lost the bulk of their case more than 70 years ago when the Supreme Court upheld the constitutionality of independent agencies. In addition, the SEC, whose members are nominated by the president and confirmed by the Senate, has broad authority over the board, including the power to change its rules, limit its operations and block any sanctions it proposes against auditors, she said.
The Sarbanes-Oxley Act “vests a broad range of duties” in the accounting oversight board, but the board’s “exercise of those duties is subject to check” by the SEC “at every significant step,” Rogers wrote. She was joined in the majority by Judge Janice Rogers Brown.
In an impassioned dissent, Judge Brett M. Kavanaugh wrote that the Sarbanes-Oxley Act renders the PCAOB “unaccountable and divorced from Presidential control to a degree not previously countenanced in our constitutional structure.” The majority sided with U.S. District Judge James Robertson, who threw out the suit last year, asserting that its legal theories did not merit a trial.”
– adopting rule amendments regarding the circumstances under which a foreign private issuer is required to register equity securities under Section 12(g)
– adopting amendments to foreign private issuer form/rules that are intended to enhance the information that is available to investors
– adopting an expansion of the cross-border business combination transactions and rights offerings exemptions and adopting changes to the beneficial ownership reporting rules to permit certain foreign institutions to file reports on a shorter form (as well as issuing interpretive guidance related to cross-border transactions)
It’s gonna be light blogging from here until Labor Day. To amuse yourself, take a moment and participate in this Quick Survey on Analyst “Quiet Period Practices. This will help us all gauge how analyst quiet periods differ from insider trading blackout policies as well as Regulation FD policies.
And also take a moment to fill out this Quick Survey on CEO Succession Planning.
Harvey Pitt and His Naked Short Selling Compliance Role
On the heels of the news that former SEC Chairman Harvey Pitt is one of the forces behind a new web-based electronic stock lending and location service, the State of Alabama tapped Harvey to become a Deputy Attorney General so that he can investigate naked short selling activities that impact companies in the state. Here is a column from NY Times’ Floyd Norris.
I have all the respect in the world for Harvey (I believe his work as SEC Chair in the wake of SOX and 9/11 is unparalleled in the history of the SEC) – so I hope he isn’t getting in over his head here. Criticism for his role in short selling (as well as the identity of one of his partners in his new venture) has started and may not abate. Here is a blog about possible conflicts from DealBreaker.
Recently, the Connecticut Treasurer – through the Connecticut Retirement Plans and Trust Funds – issued this press release to announce that it has withdrawn shareholder proposals at Abercrombie & Fitch and Supervalu after the companies pledged to disclose information relating to pay differences among top executives. Although it’s unknown whether these two companies will adopt all of the requested elements sought by the withdrawn shareholder proposals (their proxy statements have vague statements about use of internal pay equity), here are the four pieces of the internal pay equity policy that the Connecticut Treasurer proposed:
– The Committee should receive data on internal pay equity at peer group companies at least annually.
– The Committee should consider internal pay equity in (a) the establishment, modification and termination of senior executive pay plans and programs and (b) making specific awards under those plans and programs.
– The Committee should provide the internal pay equity data it receives, as well as any analysis performed by it or its outside advisors, to the board as a whole (or an appropriate Board committee) at least annually to assist in evaluating succession planning.
– The Company should disclose to stockholders on its website or in its proxy statement the role of internal pay equity considerations in the process of setting compensation for the CEO and other NEOs.
It will be interesting to see how more shareholders demand changes in board’s benchmarking practices in the near future. We have posted copies of the internal pay equity shareholder proposals in our “Internal Pay Equity” Practice Area on CompensationStandards.com.
Study: Leadership Pay Disparities
While we’re on the topic of internal pay equity, here is an interesting excerpt from Professor Lisa Fairfax posted on the “Conglomerate Blog“:
I recently ran across a 2007 study conducted by the Institute for Policy Studies, a progressive research center, which published figures on the pay disparities of various people in leadership positions. Based on 2005 and 2006 data, the study focused on the median salaries for the twenty highest paid individuals in various sectors. It found the following:
– Congress members: $171,720
– Military leaders: $178,542
– Federal executive branch: $198,369
– Heads of non-profit organizations: $968,698
– Heads of publicly held companies: $36.4 million
Recently, I posted this same blurb on “The Advisor’s Blog” on CompensationStandards.com and received quite a variety of responses. Some criticized the way the study was prepared – some had a visceral reaction to the stats…
CEO Pay Remains in the News
Warning signs over excessive pay and those who won’t stand for it anymore continue to pop up all around us. For example, recently – as noted in this Washington Post article – the Maryland Insurance Commissioner cut in half the $18 million severance package paid to a former CareFirst BlueCross BlueShield CEO, saying the CareFirst board failed to restrain his compensation.
It’s also noteworthy that UnitedHealth Group has settled the two class action lawsuits over its options backdating for the unbelievable amount of $912 million (this is on top of the more than $600 million the former CEO has proposed to repay to settle the lawsuit against him). Shortly afterwards, the company announced it was laying off 6% of its workforce.
As Dave gave us the heads up yesterday in this blog, the SEC held a press conference yesterday to announce that EDGAR will be succeeded by a new filing platform called “IDEA,” which is short for “Interactive Data Electronic Applications.” As noted in this press release, this new platform is based on the SEC’s XBRL initiative and IDEA will at first supplement and then replace EDGAR.
In his “IR Web Report,” Dominic Jones reports that SEC Chairman Cox said that IDEA won’t be fully mature for five years – and he noted that the press conference didn’t reveal anything all that newsworthy. The thing that struck me when I read Dominic’s blog is he notes the likely motivation for the SEC to hold a press conference with nothing really new to report: an attempt to wake up companies to the fact that XBRL is coming. Dominic notes: “I guess I’m just not attuned to the idea of regulators as marketers.”
The big news out of the press conference is that the SEC intends to kill off its most valuable brand by choosing to rename EDGAR. In my opinion, it’s a horrible marketing move for the SEC even if the underlying architecture is being completely replaced. If there is one thing that all investors – large and small – know about the SEC, it’s that they can find information about public companies on “EDGAR.” Everyone knows what the term means; it has a twenty-year plus history and the term is unique. “IDEA” will need to be branded anew and my guess is that this term is so common in our language that folks will come up with a nickname for it (or simply continue to call it “EDGAR”) to distinguish it from the common use of the term “idea.”
Note that I’m not being critical because Dave and I were once again left out of the group of bloggers invited to the SEC’s press conference. We already had another party to go to. Besides I would have moaned that I’m really getting sick of the incredibly poor animation and voice-over at the top of the SEC’s home page – and it’s only been one day! I’m surprised that there isn’t an IDEA mascot, maybe a duck or a bear – something preferably with an extra large head…
Our “3rd Annual Proxy Disclosure” Conference: Hotel Nearly Full
Note that the Hilton New Orleans Riverside is almost sold out – so act today by registering for the hotel online or call them at 504.561.0500. If you are unable to secure a room at the Hilton New Orleans Riverside, we have secured additional rooms at the Loews New Orleans Hotel (which is two blocks away from the Hilton), which you can obtain by calling 866.211.6411. We also have secured rooms at the Embassy Suites New Orleans – Convention Center, where you can register online or by calling 800.362.2779.
At any of these hotels, be sure to mention the “NASPP Annual/Executive Compensation Conference” to obtain the special Conference rate. If you have difficulty securing a room, please contact our HQ at naspp@naspp.com or 925.685.9271.
FindLaw: Not Playing By Google’s Rules? And Law Firms Pay…
Some pretty interesting stuff from Kevin O’Keefe’s LexBlog in this blog – FindLaw appears to have been caught gaming Google by selling links to lawyer websites and, in the words of one blogger, possibly scamming their lawyer customers. Here is Kevin’s follow-up blog expressing disbelief that FindLaw and its parent, Thomson Reuters, has not done anything in the way of damage control with its law firm clients.
In the wake of the recent SEC focus on naked short selling, former SEC Chairman Harvey Pitt is teaming up with the CEOs of two existing services to launch RegSHO.com, a new web-based electronic stock lending and location service. As noted in this Washington Post article, the website will provide access to LocateStock.com, a lending-borrow marketplace focused on hard-to-borrow stocks, and Buyins.net, which identifies demand for borrowed stocks and provides a historical database of short sale transactions.
RegSHO.com joins others providing similar services, such as ShortSqueeze.com, Stock-Borrow.com, ICAP and Quadriserv. If a pre-borrow requirement similar to the recent emergency order goes into effect for the entire market (as I discussed in the blog last week), these services are likely to see quite a boost in business.
A George Jetson Disclosure System?
The SEC has announced a news conference for today at 11:00 am eastern time with the tagline “SEC Chairman Cox to Unveil Futuristic Information Disclosure System for Investors and Markets.” While the term “futuristic” evokes images of hovercraft and floating treadmills to walk the dog on for me, perhaps what the news conference is really about is scrapping our old friend EDGAR. An article in this morning’s Washington Post notes that the SEC’s plans to replace EDGAR with IDEA, which stands for “Interactive Data Electronic Applications.” I have not heard of this IDEA platform before, but apparently its implementation will coincide with the phase-in of XBRL and will involve a move away from the “document” based approach of EDGAR. Tune in at 11:00 to learn more.
For some reason the notice for today’s press conference also reminded me of one of my all-time favorite John Prine songs, “Living in the Future.” The chorus goes:
We are living in the future
I’ll tell you how I know
I read it in the paper
Fifteen years ago
We’re all driving rocket ships
And talking with our minds
And wearing turquoise jewelry
And standing in soup lines
We are standing in soup lines
The Birth of a New National Securities Exchange
Yesterday, the SEC approved the application of BATS Exchange, Inc. for registration as a national securities exchange. As noted in this article from today’s WSJ, BATS stands for “Better Alternative Trading System” and the exchange expects to be up and running in about two months. The BATS electronic trading network was established in 2006 and already trades about 10% of the share activity on NYSE and Nasdaq-listed stocks. The firm’s goal as an exchange is to up its market share to 25%, potentially posing more of a competitive threat to the established exchanges.
Just in time for tweaking your D&O Questionnaires, the NYSE and the Nasdaq have revised their bright-line director independence tests. As noted in this Sullivan & Cromwell memo, the NYSE is changing the direct compensation test in Section 303A.02(b)(ii) of the NYSE Listed Company Manual from $100,000 to $120,000, consistent with the SEC’s 2006 increase of the disclosure threshold in Item 404(a) of Regulation S-K. In addition, the NYSE’s standards for determining if a majority of the board is independent will now permit a director to have an immediate family member serving as an employee (not a partner) of the company’s auditor, provided that the immediate family member does not personally work on the company’s audit (see Section 303A.02(b)(iii)). This auditor affiliation tweak brings the NYSE’s standards closer to the standards of the AMEX and Nasdaq on this point. Both of these changes apply to NYSE-listed companies beginning September 11, 2008.
As noted on our “Nasdaq Speaks ‘08” webcast earlier this summer, the Nasdaq has also been seeking to revise its corporate governance listing standards so that a director may receive compensation from the company of up to $120,000 per year (rather than $100,000) and still be deemed independent for the majority of independent directors standard (of course audit committee independence is subject to a different standard). The SEC approved the Nasdaq’s change to Rule 4200(a)(15)(B) on August 8. In approving the rule change, the SEC noted that “even if a director (or a family member) received less than $120,000 in compensation from the listed company, the company’s board still would have to make an affirmative determination that the director has no relationship with the listed company that, in the board’s opinion, would interfere with the exercise of his or her independent judgment in carrying out the responsibilities of a director.”
As noted recently in our Q&A Forum, one important difference that remains between the NYSE and Nasdaq listing standards mandating a majority of independent directors is that the NYSE — unlike Nasdaq — does not provide for a cure period. As a result, when an independent director resigns and causes the company to no longer meet the standard specified in Section 303A.01 of the NYSE Listed Company Manual, the company must file a Section 303A Interim Written Affirmation notifying the NYSE that it fails to meet the continued listing standard. In addition, the company must file an Item 3.01 Form 8-K disclosing the failure to satisfy a continued listing standard. An example of this is the Form 8-K filed by CBS Corp. on December 15, 2006.
Options Backdating: Uptick in Rule 102(e) Proceedings Against Lawyers
When I started working on Rule 102(e) proceedings at the SEC in the mid-‘90s, cases seeking to bar lawyers from practicing before the Commission were almost unheard of. The focus was almost exclusively on proceedings involving accountants. Since at least the Carter & Johnson case of the early 1980s, there has been a healthy debate about the extent to which the SEC should seek to censure, suspend or bar lawyers from practicing before it. The SEC has generally taken the position that Rule 102(e) is not meant to be an enforcement tool in and of itself, but rather a means to protect the process of SEC practice, particularly once a lawyer or accountant is found to be responsible for a violation of the federal securities laws.
Now with the advent of options backdating cases, a disproportionate number of lawyers are settling to primary and secondary anti-fraud, reporting and other violations, and Rule 102(e) proceedings are showing up with increasing frequency as one of the “collateral consequences” of settling to those other violations. Typically, attorneys are barred from appearing or practicing before the SEC as an attorney, with a right to reapply after a specified number of years, or suspended altogether. Some examples of recent settled Rule 102(e) proceedings in options backdating cases are:
– Christopher Martin (HCC Insurance) – barred with a right to reapply in five years;
– Frances Jewels (Sycamore Networks) – barred as both an attorney and accountant with a right to reapply in five years;
– Robin Friedman (Sycamore Networks) – barred with a right to reapply in five years;
– William Sorin (Comverse Technology) – suspended from appearing before the SEC; and
– Leonard Goldner (Symbol Technology) – suspended from appearing before the SEC
It Must be Tough to Find Attentive Plaintiffs These Days
A court recently rejected a plaintiff seeking to serve as a class representative based on the plaintiff’s lack of familiarity with or concern for the case. Apparently, it is not good enough to just have your name listed on the complaint to serve as a class representative – you actually have to know who you are suing and have a passing knowledge of the matters involved in the litigation.
The court in In re Monster Worldwide, Inc. Securities Litigation, No. 07 Civ. 2237, 2008 WL 2721806 (S.D.N.Y. July 14, 2008), rejected as insufficient a proposed class representative due to “inadequate familiarity with, and concern for, the litigation.” Id. at *3. Plaintiffs had filed a putative securities fraud class action against Monster Worldwide based on alleged stock option backdating practices and related accounting issues. In the course of ruling on plaintiffs’ motion to certify a class of investors for this case, the District Court for the Southern District of New York examined whether the two named plaintiffs satisfied the basic requirements of Rule 23 of the Federal Rules of Civil Procedure, including whether they would be adequate representatives for the class. Id. at *2.
The defendants had deposed the co-chairman of the Steamship Trade Association-International Longshoremen’s Association Pension Fund (the “Fund”), one of the named plaintiffs in the case. During that deposition, the witness testified that he was the person at the Fund with the most knowledge about the lawsuit. Upon reviewing the deposition transcript, the court found that the witness “did not know the name of the stock at issue in this case, did not know the name of either individual defendant, did not know whether [the Fund] ever owned Monster stock, . . . did not know whether he had ever seen any complaint in the action,” and was ignorant of various other matters pertinent to the litigation. Id. at *4. Even the second witness designated by the Fund supposedly to ‘mitigate the damage’ of the first witness’s “appalling testimony” admitted that he had only learned about the litigation a week before his deposition. Id.
In a strongly worded opinion, the court rejected the Fund as a class representative, declaring that it refused to be “a party to this sham.” Id. It was clear to the court that this plaintiff had “no interest in, genuine knowledge of, and/or meaningful involvement in [the] case” and was in effect a “willing pawn of counsel.” Id. Ultimately, the court concluded that the other proposed representative did not suffer from these same deficiencies and certified the class. Id. at*4, *8.
Last week, the FASB issued an Exposure Draft proposing amendments to FASB Statement No. 128, Earnings per Share. As with other recent proposals, the EPS changes are issued in conjunction with similar proposals of the IASB, which simultaneously issued its Exposure Draft on proposed amendments to IAS 33, Earnings per Share. The proposals reflect an effort to converge – to the extent possible – EPS guidance under US GAAP and IFRS.
Given that it is somewhat of a lost cause to attempt convergence on the calculation of earnings under US GAAP and IFRS, the FASB and the IASB have focused their efforts on clarifying the instruments that must be included in computing the “per share” amounts. The FASB is now proposing that when computing basic EPS, a company should only include the company’s current common shareholders, instruments that can currently become common shares with “little or no cost” to the holder of the instrument, or instruments that can currently participate in earnings along with the common shareholders. Under this proposed guidance, instruments such as mandatorily convertible securities would not be included in calculating basic EPS prior to conversion, unless the holders participate in current-period earnings along with the common shareholders.
Under FAS 128 today, when a company computes diluted EPS, it is to presume that any instruments which may be settled in either cash or stock will be settled in stock, except that the presumption can be overcome if the company demonstrates a past practice or policy that the instruments are settled in cash. Under the proposals, this exception is removed, forcing companies to always assume that cash or stock settled instruments will be settled in stock (except for instruments that can only be settled in stock in the event of bankruptcy but are otherwise settled in cash). The proposals also call for some changes to the treasury stock method and the reverse treasury stock method, provide some guidance on handling participating securities when computing diluted EPS and would provide that companies consider each quarter and year-to-date period as discrete when computing the number of incremental shares to include in the EPS denominator.
The comment period for both the FASB and the IASB proposals closes on December 5, 2008.
Consolidating SRO Insider Trading Surveillance
The one thing that always fascinates me about insider trading cases is that the perpetrators, who are typically smart, successful people, somehow think that they won’t get caught. I don’t think that these people realize the level of sophistication involved with the SEC’s and the exchange’s surveillance efforts, which are constantly on the lookout for unusual trading activity or trends.
Earlier this week, the SEC announced an effort to rationalize the insider trading surveillance efforts at the some of the SROs, with a proposal that FINRA will cover surveillance, investigation and enforcement with respect to insider trading for Amex and NASDAQ-listed securities (and securities listed solely on the Chicago Stock Exchange), while NYSE Regulation will maintain responsibility for the New York Stock Exchange and NYSE Arca. It appears that the remaining equity exchanges will retain their own responsibilities for surveillance, investigation and enforcement with respect to actions involving their own members.
Overall, this consolidation of regulatory authority over the major exchanges will mean less likelihood for transactions slipping between the cracks, and perhaps stonger investigative and enforcement efforts at the SRO level.
The proposed plan is out for comment for 21 days after publication in the Federal Register.
Tackling Systemic Risk: The CRMPG III Report
I think that one of the positive things to note about the financial crisis over the past year is that we have not yet seen any massive systemic failures within the financial world. Certainly there have been some major disruptions – such as the freezing of the auction rate securities market, the near-failure of Bear Stearns and some large bank failures – but we have not been faced with any sort of system-wide failures such as a massive inability to settle derivatives or widespread defaults spreading from institution to institution.
The Counterparty Risk Management Policy Group III – which is led by former New York Fed President (and current Goldman Sachs Managing Director) Gerald Corrigan and HSBC’s Douglas Flint, and includes senior management from a number of major financial institutions – released its report last week on how financial institutions can seek to contain systemic risks. The report is built around five precepts that organizations must adhere to when implementing the group’s detailed recommendations:
– a corporate governance culture balancing commercial success with disciplined behavior;
– effective risk monitoring of all positions on a real time basis;
– estimating the firm’s risk appetite;
– focusing on potential contagion risks; and
– enhancing oversight.
As with the group’s prior reports, this report should be useful for firms seeking to apply what has been learned from this latest financial crisis to make progress toward reducing the unprecedented level of systemic risk.
Earlier this week, the SEC’s emergency order (as amended) targeting naked short selling in the stocks of 19 financial institutions expired. In the coming weeks, the SEC is likely to propose rule changes that could extend the requirement to borrow or arrange to borrow securities prior to effecting a short sale to a broader range of companies, or to the market as a whole. In addition, last month the SEC reopened the comment period on proposed amendments to Regulation SHO (the SEC rules governing short sales). These developments set the stage for some revamping of the short sale rules this Fall, although it remains unclear just how much can actually be accomplished on this controversial topic as the election approaches.
Whether the emergency order helped or hurt Fannie Mae, Freddie Mac and the seventeen primary dealers that were covered by the order is the subject of some debate. In this New York Times piece, Floyd Norris notes mixed results. A recent WSJ article indicated that a majority of stocks covered by the emergency order saw fewer shares shorted in the latter half of July, although it is unclear how much of that is attributable to the actual (or psychological) effects of the order, or to broader market trends. A study released by Professor Arturo Bris at IMD in Switzerland notes that market quality deteriorated for the shares of the 19 companies covered by the order. Professor Bris states “Our preliminary findings show that the impetus for the SEC’s emergency order – that short selling was adversely affecting the performance of the 19 financial stocks – is groundless.” The study goes on to note that between July 21 and August 4, the shares of the 19 companies that were the subject of the order lost 3.83% of their value, or $60 billion.
So far, over 460 comment letters have been submitted in response to a comment request included in the Staff’s guidance on the emergency order, with a vast majority of those comments coming from individuals. This is a pretty amazing number of comments, given that the order was effective for only 23 days and the comments don’t appear to reflect any sort of form letter campaign (although a few commenters were apparently inspired to write in by CNBC’s Jim Kramer).
One thing is for certain when looking through these comment letters: short selling – and in particular naked short selling – inspires a great deal of investor anger and frustration. Many commenters expressed concern that the SEC has not adequately enforced the existing short sale rules, and many call for extending the emergency order to all stocks. Naked short selling has been a “populist” cause for some time now among smaller companies (and their investors), who have felt that they have been unfairly targeted – and in some cases destroyed – by naked short sellers while the SEC has done little to stop the practice. It now appears that the emergency order has raised the issue’s profile, grabbing the attention of a much broader cross-section of investors.
I think the SEC’s internet comment form has been a great innovation for soliciting comments from a broader range of interested persons, but the comments on the emergency order sometimes seem like they are better suited for a Yahoo Finance Message Board. One commenter remarks “[p]ersonally, I think that the entire SEC should be tarred and feathered for the job they have done over the years,” while this comment letter can be best described as a tirade and ends with the question: “And what’s the deal with not allowing exclamation points to be used in these comments??”
Nostalgia for the Uptick Rule
Many of those submitting comments on the naked short selling emergency order asked the SEC to bring back the “uptick” rule, which was eliminated last summer after a 70-year run. The rule was originally adopted out of concern about “bear raids” and their contribution to the 1937 market break (sound familiar?). While perhaps more of a symbolic gesture than an actual means of deterring short selling abuses, Rule 10a-1 had provided that, subject to some exceptions, a listed security could only be sold short at a price above the price at which the immediately preceding sale was effected (a plus-tick) or at the last sale price if it was higher than the last different price (a zero-plus tick). Short sales were not permitted on minus ticks or zero-minus ticks, subject to some limited exceptions. (Nasdaq had adopted similar restrictions via a bid test, since it was not an exchange at the time.)
Of course, last summer, when the uptick rule was abandoned, times were good – you could still get a mortgage without any income and you could fill up your SUV for under $3.00 per gallon – and the possibility of a prolonged bear market seemed remote. At the time, the SEC had concluded that the uptick test had modestly reduced market liquidity and did not appear to be necessary to prevent manipulation.
Today, a groundswell of support for bringing back the uptick test seems to be developing. Last month, Representative Gary Ackerman (D-NY), a member of the House Financial Services Committee, introduced legislation that would reinstate the uptick rule. Further, Chairman Cox has talked about the possibility of revisiting the rule. While bringing back the uptick rule is not part of the package of proposed amendments to Regulation SHO for which the comment period was recently reopened, the SEC will no doubt feel pressure to take another look at its decision on Rule 10a-1 as it delves into broader short selling issues over the next few months.
Are Covered Bonds the Answer to Mortgage Financing Woes?
Recently, Treasury Secretary Paulson stated that covered bonds “have the potential to increase mortgage financing, improve underwriting standards, and strengthen U.S. financial institutions by providing a new funding source that will diversify their overall portfolio.” Covered bonds are a special category of debt instruments that provide for recourse to the issuer or a “cover pool” of collateral that is segregated from the issuer’s assets. Covered bonds make up a $3 trillion market in Europe, and are now being looked out as a major financing alternative in the US.
In this podcast, Anna Pinedo of Morrison & Foerster discusses covered bonds, including:
– What is a covered bond?
– Why has the covered bond market in the United States lagged behind other markets?
– How do covered bonds differ from securitizations?
– What assets can be used to constitute a cover pool?
– What are the latest regulatory changes in the United States regarding covered bonds?
– What does the FDIC Policy Statement on Covered Bonds do for the market? What about the Treasury Best Practices?
– How have the covered bond markets responded to these regulatory changes?
