SRO:

• The SEC is not an SRO (Self Regulatory Organization)
• Member organizations you’re required to join to participate in securities industry

Who supervises?

• The principal

Federal Reserve Board (FRB):

• The “Fed” is an independent agency of the US government that functions at the US central bank:
  • Responsible for controlling monetary policy
    • Money supply
    • Interest rates
      • They don’t set interest rates, they influence it
• Goal is to create maximum employment and stable prices
• Tools include:
  • Open market operations (mostly used)
  • Discount rate
  • Reserve requirements
  • Regulation T
    • Amount of money someone needs to deposit in order to buy securities on margin or credit (usually 50%)

The only interest rate the Fed sets is the discount rate

Federal Deposit Insurance Corporation (FDIC)

• Acts as a banking regulator
• Insures banking depositors for up to $250,000

State (Blue-Sky) Regulators

• State Administrator (sometimes called Commissioner)
  • Enforces the Uniform Securities Act (USA)
  • The USA is a model law, not the actual law of any state

North American Securities Administrators Association (NASAA)

• Responsible for creating the provisions and updating the USA
• Focuses on protecting investors from fraud

The Securities Act of 1933: primary market (new offerings)

• Scope of the law
  • To provide for “full and fair disclosure”
  • Prospectus must precede or accompany any  solicitation of a new issue (no marking or highlighting)
  • SEC “no approval clause”
• Requires SEC registration of new issues
  • Registration exemptions are provided to issuers of certain securities and specific types of transactions
• Liability
  • Unconditional for issuers regarding information to investors
  • Conditional for the underwriters that are required to perform:
    • Reasonable investigation
    • “Due diligence”

Securities Exchange Act of 1934:

• Requires registration of registered representatives and broker-dealers

• Scope of the law
  • To regulate the secondary market
  • Created the SEC to enforce federal securities laws
  • The SEC utilizes self-regulatory organizations (SROs)
• Specific provisions of the Act
  • Margin requirements (Regulation T)
  • Registration requirements for B/Ds and RRs
  • Trading regulations
  • Insider regulations

Investment Advisers Act of 1940 (regulated by SEC)

• An Investment Adviser (IA) is defined as any person (firm) that meets the A-B-C Test:
  • Advice – Provides advice about securities, including asset allocation
  • Business – As a regular business
  • Compensation – Receive compensation for the advice
• The IA definition includes firms that manage wrap accounts (they collect a single fee for providing advice and executing transactions)
• The following persons are excluded from the IA definition:
  • Broker-dealers that receive commissions only
  • Banks, savings institutions, and trust companies
  • Specific professionals who give incidental advice:
    • Lawyers, Accountants, Teachers, Engineers (LATE)
• Publishers of newspapers and periodicals (WSJ, Bloomberg)
  • No timed or tailored advice is provided 

The SEC has the power to regulate the securities industry and take action against civil penalties (fines, suspension, thrown out of the securities industry), but they cannot imprison you. The DOJ will go to criminal court, the SEC will go to civil court

Securities Investors Protection Act (SIPA)

• Created the Securities Investors Protection Corporation (SIPC)
  • Non-profit membership corporation (not a government agency)
  • Protects Separate Customers (not accounts) if B/D bankruptcy occurs
    • Separate customers include IRAs, as well as joint and custodial accounts
    • Separate coverage provided for accounts that are held at different firms
• Coverage:
  • Cash and street name securities: $500,000
    • Will only cover cash up to: $250,000
  • If limits are exceeded, customer becomes a: General Creditor
• Not Covered:
  • Fraud (covered by fidelity bond), futures contracts, commodities, and fixed annuities
• Securities specifically identifiable to a customer are distributed back to customer without limit
  • If I have $2M of securities at brokerage firm held under my name, it will be distributed to me in the full $2M

• What if a customer has borrowed money in a brokerage account? Pretend securities are worth $600,000, but the customer borrowed $300,000 to get these securities (margin).
  • Customer is only covered up to $300,000 (equity value)

Other Federal Laws:

• USA Patriot Act of 2001
  • Establishes the basis for a firm’s anti-money laundering (AML) regulations
  • Requires the filing of reports based on financial transactions
• Telephone Consumer Protection Act of 1991:
  • Call time frame: 8AM to 9PM local time
  • Firms maintain “Do Not Call” lists
• Penny Stock Reform Act of 1990
  • Regulates solicited sales of penny stocks (unlisted equities priced below $5.00 per share)
  • Firms must establish suitability, approval, and disclosure procedures
• Insider Trading and Securities Fraud Enforcement Act of 1988
  • Insiders include corporate officers and directors; owners of more than 10% of a company’s common equity
  • The use of material, non-public information is prohibited
  • Both tippers and tippees may be in violation
• Investment Company Act of 1940
  • Identifies three types of investment companies: 1) Management Companies, 2) Unit Investment Trusts, 3) Face Amount Certificate Companies

Financial Industry Regulatory Authority (FINRA)

• The primary self-regulatory organization (SRO) for the securities industry
• Conduct Rules
  • Governs the interaction between firms and customers
• Uniform Practice Code
  • Standardizes the procedures for doing business in financial markets
• Code of Procedure (COP)
  • Establishes the process used to discipline any person who violates FINRA rules
• Code of Arbitration
  • Provides the method for resolving disputes (typically monetary) between members, including those that involve public customers

These acts/laws are always put into place in reactionary reasons, not proactive

Municipal Securities Rulemaking Board

• MSRB formulates and interprets the rules that apply to:
  • Broker-dealers and salespersons engaged in municipal business and
  • Municipal advertising 
• MSRB rules do not apply to municipal issuers
• Since the MSRB has no enforcement power, its rules are enforced by a separate regulatory agency 
• For broker-dealers: FINRA or SEC
• For bank dealers: Comptroller of the Currency, FRB, or FDIC

Chicago Board Options Exchange (CBOE)

• CBOE functions as the:
  • Self-regulatory organization mainly for the options market
  • A trading venue for:
    • Equity options, Index options, Yield-based options, ETFs
• Regulated by the SEC