INVESTOR ADVOCATE RICK FLEMING ON SMART REGULATION

FROM:  U.S. SECURITIES AND EXCHANGE COMMISSION
The Importance of Smart Regulation
Rick A. Fleming, Investor Advocate
U.S. Securities and Exchange Commission[1]
NASAA Public Policy Conference
Mayflower Renaissance Hotel
Keynote Luncheon
Washington, D.C.

April 14, 2015

Thank you, [Bill Beatty], for the nice introduction, and for the opportunity to come back and visit many old friends.

Thanks, also, to all of you who participated in the 19(d) meetings this morning.[2] This is an important opportunity for state and federal collaboration, and I would remind my new friends at the SEC that Section 19(d) of the Securities Act provides for much more than a once-a-year gathering. It envisions an atmosphere in which the states are considered partners in certain types of rulemakings, not mere commenters.[3]

Today, I want to talk about the business of regulating, and why it is so important that you do your jobs well. Of course, the views I express are my own and do not necessarily reflect those of the Commission, the Commissioners, or my colleagues on the Commission staff.

As you know, many people start with an assumption that all regulation is bad for business. Some lobbyists and politicians in D.C. certainly believe this, and while they may pay lip service to investor protection, the result of their consistent policy positions would leave investors naked and hungry. I am also aware that, sadly, some of your bosses back home harbor a fundamental belief that your work is an impediment to economic growth.

Unfortunately, we sometimes contribute to this misconception. Over the course of my career, I have often given speeches in which I have portrayed securities regulation as a balancing act between capital formation and investor protection, and I’ve illustrated the point by showing a picture of a scale with capital formation on one side and investor protection on the other. But, I’ve come to believe in a better illustration—one in which investor protection is portrayed as the foundation upon which capital formation is built. In reality, regulation allows capital formation to flourish by giving investors the confidence they need to invest.

The key is that regulation must be smart. Dumb regulation manifests itself in a variety of ways: it puts pointless burdens on business, fails to reflect changing technology, is overly protective of turf, or, even worse, leaves investors as sheep to be sheared. Smart regulation, in contrast, provides a sufficient level of protection to bolster confidence without needlessly burdening the regulated entities.

As you can attest, state regulators are often characterized as bastions of dumb regulation. Unfortunately, you don’t have to look hard to find examples of practices that feed the reputation. However, in large part, states are the places where smart regulation can flourish. You are closer to Mom and Pop investors, closer to small businesses, and in tune with the needs of both. New ideas can be tested and, when necessary, can more easily be discarded.

Often, smart regulation requires coordination between states and a willingness to give up some of your own preferences in order to foster consistent rules from state to state. Toward that end, I applaud your adoption of the coordinated review program for offerings conducted under the new Regulation A.[4] This program is forward-thinking and a potential game-changer in state regulation.

However, smart regulation doesn’t always look the same in every state. For example, while I was General Counsel for the Office of the Kansas Securities Commissioner, I wrote a rule called the Invest Kansas Exemption.[5] It was the first of what could be characterized as an intrastate crowdfunding exemption. It was designed to allow small-dollar offerings to an entire community of interest, without a prohibition on general solicitation. I was comfortable adopting the exemption in a rural state, where the investors and promoters likely know each other, but I would have recommended more conditions on the exemption in a more urban state where the investors and promoters would likely be strangers.

The theme of this conference is “Progress Through Innovation,” and I think state and provincial regulators have an important role to play in promoting economic progress. By innovating in the ways you regulate, whether through multijurisdictional coordination or unique intrastate exemptions, you can spur innovation and entrepreneurship in your states and provinces. And you also provide a layer of protection that investors need, which gives them the confidence to invest in the offerings you oversee.

Because your role is so important, the states need to stay in the game and retain relevancy. Investors are counting on you. And, if they stop to think about it, small businesses are counting on you, too.

Now, let’s take a moment to consider the importance of smart regulation within a much broader context. Let’s look at the really big picture. Here in the U.S., we are motivated by an idea called the “American Dream.” This is a fundamental belief that a person, through hard work, can improve their socio-economic status. NASAA members and their constituents from Canada and Mexico also dream of economic upward mobility, though they no doubt call it something different.

Any parent with grown children has probably preached several times—over groans of protest and eye-rolling—how those children can achieve economic success. It starts with a good education, where we obtain not only knowledge, but we learn to play well with others, get things done on time, and develop other marketable skills. The next step is getting a job, working hard, doing the types of things no one else wants to do, and hopefully catching a break or two along our career path. Then, once the income starts coming in, we must learn to live within our means and become savers. Finally, if we want to put those savings to work for us, we become investors and begin to accumulate wealth.

Imagine, if you will, what happens if everyone in America, or everyone in Canada, or everyone in Mexico, begins to follow those steps. Imagine the powerful economic engine that is created when everyone in a society is striving to work hard, save money, and invest for the future.

But, consider with me what happens when something goes awry. Suppose a person has done all the right things. She has worked hard in school and received a good education, then worked hard in a job and managed to work her way up, overcoming the various obstacles that life threw her way. She gave up a lot of instant gratification in order to save for the future, and she built up a nice nest egg for retirement. Then, on the eve of that retirement, somebody comes along and steals the nest egg from her, or engages in unethical practices that cause her to suffer significant losses.

This is why we have securities laws. J.N. Dolley, the author of the first blue sky law, was a banker who had seen customers withdraw money from banks to chase higher yields by investing in copper mines, Central American plantations, irrigation projects, or other wildcat stocks. Dolley believed that “at least ninety-five percent of all the money put in those stocks was irretrievably lost,” so he proposed a set of statutes to require governmental review of securities offerings.[6]

We still need those laws today. Those in this room, more than most others, are familiar with the devastation brought about by securities fraud. How many in this room have seen retirees go back to work after being fleeced? How many have seen marriages end? How many have seen victims turn to suicide? Don’t ever forget how important your jobs are.

Now, in case you aren’t depressed enough, let’s look at this from a collective viewpoint. If all Americans are getting a good education, working hard, saving money, and investing, we have a powerful economic engine, but what happens if something occurs that makes us lose hope in the American Dream — for example, the stock market crash of 1929?

This is why the federal government began to regulate the sale of securities. After the stock market crashed, a Congressional investigation revealed widespread manipulation of the markets and rampant insider trading.[7] As a result of the crash, people began to hoard their money and the economic engine lost steam in a rather dramatic fashion. Thus, when President Franklin D. Roosevelt recommended the passage of what became known as the Securities Act of 1933, he expressed his desire to “give impetus to honest dealing in securities and thereby bring back public confidence.”[8] The point of the ’33 Act, then, was not to punish businesses for getting us into the Great Depression, but rather to get us out of the Depression by restoring investor confidence. This new regulatory structure gave us a foundation upon which capital formation could occur.

Fast forward to the 21st Century and the financial crisis of 2008. As a result of the crisis, median household net worth fell almost 39 percent.[9] At least three significant factors contributed to the loss of net worth. Home values fell almost 29 percent from their peak in April 2006 to the end of the recession in June 2009, wiping out about $9 trillion in home equity.[10] Stock values plunged, too. The S&P 500 lost 55 percent of its value between its high in October 2007 and its trough in March 2009.[11] Finally, unemployment peaked at about 10 percent in October 2009 and stayed above 8 percent for 3 years.[12]

Although the economy has improved significantly in recent years, these hits to ordinary Americans continue to have a significant impact on our faith in the American Dream. According to a New York Times poll last December, less than two-thirds of Americans (64 percent) now believe they could be born poor, work hard, and get rich in America.[13] This percentage has declined steadily since 2011, which was after the worst of the crisis, when 81 percent still believed it.[14] That’s a 17 percent decline in just a few years.

In addition, almost half of Americans now expect future generations to be worse off. Another one-fourth think future generations will wind up being “about the same,” which means that only about one-fourth of Americans expect future generations to have better lives.[15] And, according to a November NBC/Wall Street Journal poll, 56 percent of Americans think the country’s economic and political systems are stacked against people like them.[16]

This loss of hopefulness, I believe, presents one of the greatest challenges of our time. And I don’t come here today to suggest that it’s up to you to solve all of our problems. Just as you were not in a position to create this mess, you aren’t realistically in a position to solve everything.

But, don’t minimize the importance of the things you can do. Through smart and innovative regulation, you can spur economic development on a level playing field. And your visibility as local cops on the beat will be a reassuring presence to those who have become cynical of the system.

I hope I’ve set the table for the rest of your conference by highlighting for you the importance of the topics you will be discussing. In many ways, you are guardians of hopes and dreams of the people in your state. For their sake, I encourage you to maintain your vigilance, maintain your zeal, and keep up the fight.

Thank you.


[1] The Securities and Exchange Commission, as a matter of policy, disclaims responsibility for any private publication or statement by any of its employees. The views expressed herein are those of the author and do not necessarily reflect the views of the Commission or of the author’s colleagues on the Commission staff.

[2] Section 19(d) of the Securities Act of 1933, 15 U.S.C. § 77s(d), requires the Commission to conduct an annual conference and other meetings as may be necessary with any association of state-level securities regulators, self-regulatory organizations, agencies, and private organizations involved in capital formation, in order to achieve maximum effectiveness and uniformity in federal and state regulatory standards with minimum interference with the business of capital formation.

[3] “The purpose of [subsection 19(d)] is to engender cooperation between the Commission, any such association of State securities officials, and other duly constituted securities associations in the following areas: (A) the sharing of information regarding the registration or exemption of securities issues applied for in the various States; (B) the development and maintenance of uniform securities forms and procedures; and (C) the development of a uniform exemption from registration for small issuers which can be agreed upon among several States or between the States and the Federal Government.” Securities Act Section 19(d)(2), 15 U.S.C. § 77s(d).

[4] NASAA Coordinated Review Program for Regulation A Offerings, available at http://www.nasaa.org/industry-resources/corporation-finance/coordinated-review/regulation-a-offerings/.

[5] Kan. Admin. Reg. 81-5-21, as modified by Special Order dated June 21, 2013.

[6] Will Payne, How Kansas Drove Out a Set of Thieves, SATURDAY EVENING POST, Dec. 2, 1911.

[7] Larry Bumgardner, A Brief History of the 1930s Securities Laws in the United States—And the Potential Lessons for Today, The Journal of Global Business Management, available at http://www.jgbm.org/page/5%20Larry%20Bumgardner.pdf.

[8] Message from the President—Regulation of Security Issues, Presented to Senate Mar. 28, 1933, 77 Cong.Rec. 937 (1933).

[9] U.S. Government Accountability Office, Financial Regulatory Reform: Financial Crisis Losses and Potential Impacts of the Dodd-Frank Act (Jan. 2013) (hereinafter GAO Report), at 20 (citing Federal Reserve Survey of Consumer Finances).

[10] Id. at 20-21.

[11] Steve Santiago, Should Investors Over Age 50 Own Stocks?, BANKRATE, available at http://www.bankrate.com/finance/financial-literacy/do-stocks-make-sense-for-the-50-plus-crowd-1.aspx

[12] GAO Report, at 17.

[13] Andrew Ross Sorkin and Megan Thee-Brenan, Many Feel the American Dream Is Out of Reach, Poll Shows, N.Y. Times, Dec. 10, 2014, available at http://dealbook.nytimes.com/2014/12/10/many-feel-the-american-dream-is-out-of-reach-poll-shows/?_r=0

[14] Id.

[15] Chris Cillizza, Work Hard, Get Rich? Maybe Not Anymore, THE WASHINGTON POST, Dec. 11, 2014.

[16] Americans of All Stripes Agree: The System Is Stacked Against Them, WALL STREET JOURNAL, Nov. 20, 2014.

SEC CHAIR WHITE'S REMARKS AT MEETING OF SEC ADVISORY COMMITTEE ON SMALL AND EMERGING COMPANIES

FROM:  U.S. SECURITIES AND EXCHANGE COMMISSION
PUBLIC STATEMENT
Opening Remarks at Meeting of SEC Advisory Committee on Small and Emerging Companies
SEC Chair Mary Jo White
March 4, 2015

Good morning.  Thank you all for being here.  I will be very brief so that you can get to the business at hand.

I, too, would like to welcome Michael Pieciak who will be serving as the committee’s observer representative from NASAA.  Mike is the Deputy Commissioner of the Vermont Securities Division, and I am very pleased he is here on behalf of the state securities regulators to bring that knowledgeable and important voice to your discussions.

Today’s agenda addresses several important topics, including Regulation A+, secondary market liquidity, and recommendations regarding the definition of accredited investor, all of which are quite timely topics for the Commission’s ongoing work in these areas.  As you know, our Regulation A+ and crowdfunding rulemakings are designed to facilitate smaller companies’ ability to access capital and to provide investors with additional investment opportunities.  In making investment decisions, investors may naturally consider whether they will have the ability to resell their shares in the future; there is no doubt that secondary market liquidity is an important factor impacting the availability of capital for small businesses as well as investor protection.

SEC staff in the Divisions of Corporation Finance and Trading and Markets have been looking at various means to facilitate the secondary market trading of securities issued by small businesses.  Among a number of other possible avenues, the staff is considering whether the development of appropriately structured venture exchanges could provide more liquidity for the securities of smaller companies. Some earlier exchanges have not been successful; the reasons for that need to be carefully studied along with other issues.  Smaller companies are important to our economy, and it is important to support appropriately a market structure that promotes the capital formation of smaller companies, while also providing robust investor protections.

More generally, as I have emphasized on several occasions, one market structure may not fit all and that the Commission must concretely focus on how to enhance the market structure for smaller companies.  I look forward to perspectives and ideas from your committee on what obstacles and possible solutions you see to the development of secondary market liquidity venues for privately-issued securities.

As promised, I will stop to let you get down to business.  As always, we very much appreciate your expertise and efforts.  Facilitating small business capital formation is a priority we all share.  It is our job, with your help, to convert the supportive words into workable and effective actions.

Thank you.

SEC WARNS OF SCAMS INVOLVING VIRTUAL CURRENCY

FROM:  U.S. SECURITIES AND EXCHANGE COMMISSION 

The SEC’s Office of Investor Education and Advocacy is issuing this Investor Alert to make investors aware about the potential risks of investments involving Bitcoin and other forms of virtual currency.

The rise of Bitcoin and other virtual and digital currencies creates new concerns for investors. A new product, technology, or innovation – such as Bitcoin – has the potential to give rise both to frauds and high-risk investment opportunities. Potential investors can be easily enticed with the promise of high returns in a new investment space and also may be less skeptical when assessing something novel, new and cutting-edge.

We previously issued an Investor Alert about the use of Bitcoin in the context of a Ponzi scheme. The Financial Industry Regulatory Authority (FINRA) also recently issued an Investor Alert cautioning investors about the risks of buying and using digital currency such as Bitcoin. In addition, the North American Securities Administrators Association (NASAA) included digital currency on its list of the top 10 threats to investors for 2013.

What is Bitcoin?

Bitcoin has been described as a decentralized, peer-to-peer virtual currency that is used like money – it can be exchanged for traditional currencies such as the U.S. dollar, or used to purchase goods or services, usually online. Unlike traditional currencies, Bitcoin operates without central authority or banks and is not backed by any government.

IRS treats Bitcoin as property. The IRS recently issued guidance stating that it will treat virtual currencies, such as Bitcoin, as property for federal tax purposes. As a result, general tax principles that apply to property transactions apply to transactions using virtual currency

If you are thinking about investing in a Bitcoin-related opportunity, here are some things you should consider.

Investments involving Bitcoin may have a heightened risk of fraud.

Innovations and new technologies are often used by fraudsters to perpetrate fraudulent investment schemes. Fraudsters may entice investors by touting a Bitcoin investment “opportunity” as a way to get into this cutting-edge space, promising or guaranteeing high investment returns. Investors may find these investment pitches hard to resist.

Bitcoin Ponzi scheme. In July 2013, the SEC charged an individual for an alleged Bitcoin-related Ponzi scheme in SEC v. Shavers. The defendant advertised a Bitcoin “investment opportunity” in an online Bitcoin forum, promising investors up to 7% interest per week and that the invested funds would be used for Bitcoin activities. Instead, the defendant allegedly used bitcoins from new investors to pay existing investors and to pay his personal expenses.

As with any investment, be careful if you spot any of these potential warning signs of investment fraud:

“Guaranteed” high investment returns. There is no such thing as guaranteed high investment returns. Be wary of anyone who promises that you will receive a high rate of return on your investment, with little or no risk.

Unsolicited offers. An unsolicited sales pitch may be part of a fraudulent investment scheme. Exercise extreme caution if you receive an unsolicited communication – meaning you didn’t ask for it and don’t know the sender – about an investment opportunity.

Unlicensed sellers. Federal and state securities laws require investment professionals and their firms who offer and sell investments to be licensed or registered. Many fraudulent investment schemes involve unlicensed individuals or unregistered firms. Check license and registration status by searching the SEC’s Investment Adviser Public Disclosure (IAPD) website or FINRA’s BrokerCheck website.

No net worth or income requirements. The federal securities laws require securities offerings to be registered with the SEC unless an exemption from registration applies. Most registration exemptions require that investors are accredited investors. Be highly suspicious of private (i.e., unregistered) investment opportunities that do not ask about your net worth or income.
Sounds too good to be true. If the investment sounds too good to be true, it probably is. Remember that investments providing higher returns typically involve more risk.

Pressure to buy RIGHT NOW. Fraudsters may try to create a false sense of urgency to get in on the investment. Take your time researching an investment opportunity before handing over your money.

Bitcoin users may be targets for fraudulent or high-risk investment schemes.

Both fraudsters and promoters of high-risk investment schemes may target Bitcoin users. The exchange rate of U.S. dollars to bitcoins has fluctuated dramatically since the first bitcoins were created. As the exchange rate of Bitcoin is significantly higher today, many early adopters of Bitcoin may have experienced an unexpected increase in wealth, making them attractive targets for fraudsters as well as promoters of high-risk investment opportunities.

Fraudsters target any group they think they can convince to trust them. Scam artists may take advantage of Bitcoin users’ vested interest in the success of Bitcoin to lure these users into Bitcoin-related investment schemes. The fraudsters may be (or pretend to be) Bitcoin users themselves. Similarly, promoters may find Bitcoin users to be a receptive audience for legitimate but high-risk investment opportunities. Fraudsters and promoters may solicit investors through forums and online sites frequented by members of the Bitcoin community.    

Bitcoins for oil and gas. The Texas Securities Commissioner recently entered an emergency cease and desist order against a Texas oil and gas exploration company, which claims it is the first company in the industry to accept bitcoins from investors, for intentionally failing to disclose material facts to investors including “the nature of the risks associated with the use of Bitcoin to purchase working interests” in wells. The company advertised working interests in wells in West Texas, both at a recent Bitcoin conference and through social media and a web page, according to the emergency order.


Bitcoin trading suspension. In February 2014, the SEC suspended trading in the securities of Imogo Mobile Technologies because of questions about the accuracy and adequacy of publicly disseminated information about the company’s business, revenue and assets. Shortly before the suspension, the company announced that it was developing a mobile Bitcoin platform, which resulted in significant movement in the trading price of the company’s securities.

Using Bitcoin may limit your recovery in the event of fraud or theft.

If fraud or theft results in you or your investment losing bitcoins, you may have limited recovery options. Third-party wallet services, payment processors and Bitcoin exchanges that play important roles in the use of bitcoins may be unregulated or operating unlawfully.

Law enforcement officials may face particular challenges when investigating the illicit use of virtual currency. Such challenges may impact SEC investigations involving Bitcoin:

Tracing money. Traditional financial institutions (such as banks) often are not involved with Bitcoin transactions, making it more difficult to follow the flow of money.

International scope. Bitcoin transactions and users span the globe. Although the SEC regularly obtains information from abroad (such as through cross-border agreements), there may be restrictions on how the SEC can use the information and it may take more time to get the information. In some cases, the SEC may be unable to obtain information located overseas.

No central authority. As there is no central authority that collects Bitcoin user information, the SEC generally must rely on other sources, such as Bitcoin exchanges or users, for this type of information.

Seizing or freezing bitcoins. Law enforcement officials may have difficulty seizing or freezing illicit proceeds held in bitcoins. Bitcoin wallets are encrypted and unlike money held in a bank or brokerage account, bitcoins may not be held by a third-party custodian.

Investments involving Bitcoin present unique risks.

Consider these risks when evaluating investments involving Bitcoin:

Not insured. While securities accounts at U.S. brokerage firms are often insured by the Securities Investor Protection Corporation (SIPC) and bank accounts at U.S. banks are often insured by the Federal Deposit Insurance Corporation (FDIC), bitcoins held in a digital wallet or Bitcoin exchange currently do not have similar protections.

History of volatility. The exchange rate of Bitcoin historically has been very volatile and the exchange rate of Bitcoin could drastically decline. For example, the exchange rate of Bitcoin has dropped more than 50% in a single day. Bitcoin-related investments may be affected by such volatility.
Government regulation. Bitcoins are not legal tender. Federal, state or foreign governments may restrict the use and exchange of Bitcoin.

Security concerns. Bitcoin exchanges may stop operating or permanently shut down due to fraud, technical glitches, hackers or malware. Bitcoins also may be stolen by hackers.

New and developing. As a recent invention, Bitcoin does not have an established track record of credibility and trust. Bitcoin and other virtual currencies are evolving.

Recent Bitcoin exchange failure. A Bitcoin exchange in Japan called Mt. Gox recently failed after hackers apparently stole bitcoins worth hundreds of millions of dollars from the exchange. Mt. Gox subsequently filed for bankruptcy. Many Bitcoin users participating on the exchange are left with little recourse.
***

Before making any investment, carefully read any materials you are given and verify the truth of every statement you are told about the investment. For more information about how to research an investment, read our publication Ask Questions. Investigate the individuals and firms offering the investment, and check out their backgrounds by searching the SEC’s IAPD website or FINRA’s BrokerCheck website and by contacting your state securities regulator.

Additional Resources

SEC Investor Alert: Ponzi Schemes Using Virtual Currencies
SEC Investor Alert: Social Media and Investing – Avoiding Fraud
SEC Investor Alert: Private Oil and Gas Offerings
SEC Investor Bulletin: Affinity Fraud
FINRA Investor Alert: Bitcoin: More Than a Bit Risky
NASAA Top Investor Threats
IRS Virtual Currency Guidance
European Banking Authority Warning to Consumers on Virtual Currencies

RICK FLEMING NAMED FIRST HEAD OFFICE OF THE INVESTOR ADVOCATE

FROM:  SECURITIES AND EXCHANGE COMMISSION 

The Securities and Exchange Commission announced that Rick A. Fleming has been named as the first head of the agency’s Office of the Investor Advocate. 

As the Investor Advocate, Mr. Fleming will lead an office charged with assisting retail investors in interactions with the Commission and with self-regulatory organizations (SROs), identifying areas where investors would benefit from changes in, and analyzing the impact of, the rules and regulations of the Commission and SROs, identifying problems that investors have with financial service providers and investment products and proposing related changes to promote the interests of investors.

Mr. Fleming, currently deputy general counsel with the North American Securities Administrators Association (NASAA), will assume his new role on Feb. 24, 2014.

“I am very pleased that Rick will be joining the Commission as its inaugural director of our Office of the Investor Advocate,” said Mary Jo White, Chair of the SEC.  “Rick brings a depth of experience advocating for the interests of investors, a keen understanding of the markets, and a true passion for investor protection.”

Mr. Fleming has been NASAA’s deputy general counsel since October 2011, where he advocated for investors and represented the organization of state securities regulators before Congress and federal agencies, including the SEC.  Previously, he spent more than 20 years in state government in Kansas working in the Office of the Secretary of State, the Office of the Governor, and the Office of the Securities Commissioner.

“It is a great honor to be appointed as the first Investor Advocate at the Commission, where I will work alongside the many talented professionals at the SEC who have dedicated their careers to the protection of investors.  I look forward to helping ensure that investors are always heard and treated fairly,” said Mr. Fleming.

Mr. Fleming worked from 1996 until 2011 in the Office of the Securities Commissioner in Kansas, first as associate general counsel and later as general counsel, where he represented the state in disciplinary proceedings against broker-dealers and investment advisers, prosecuted civil and criminal securities-fraud cases, reviewed public securities offerings, drafted legislation, and testified before the state legislature on securities and investor-protection matters.

Mr. Fleming received his bachelor’s degree with a dual major in finance and economics from Washburn University and holds a law degree from Wake Forest University.

The Dodd-Frank Wall Street Reform and Consumer Protection Act established an Office of the Investor Advocate at the SEC and required appointment of an Investor Advocate to report to the Chair, to lead the new office.