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SEC 1996 Annual Report

Regulation of the Securities Market

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The Division of Market Regulation oversees the operations of the nation's securities markets and market participants. In calendar year 1996, the SEC supervised approximately 8,500 registered broker-dealers with over 62,000 branch offices and over 530,600 registered representatives. In addition, the SEC oversaw 8 active registered securities exchanges, the National Association of Securities Dealers (NASD) and the over-the-counter (OTC) securities markets, 15 registered clearing agencies, 748 transfer agents, the Municipal Securities Rulemaking Board (MSRB), and the Securities Investor Protection Corporation.

Broker-dealers filing FOCUS reports with the Commission had approximately $1.6 trillion in total assets for fiscal year 1996 and $95.6 billion in total capital, respectively. At the end of fiscal 1996, equity market capitalization equalled approximately $9.2 trillion in the United States and $22.4 trillion worldwide. Average daily trading volume reached 402.6 million shares on the New York Stock Exchange (NYSE) and 540.9 million shares on the Nasdaq Stock Market. The fastest growing market segment continues to be in the area of derivatives activities.

Key 1996 Results

The division's achievements this year reflect its commitment to streamlining regulation while reinforcing competition and investor protections in light of recent technological developments in the markets. Newly adopted order execution obligations will provide enhanced market transparency, improved access to the best available prices, better interaction of customer orders, and increased competition. Guidance was provided by the division to facilitate trading in securities on the internet, subject to certain conditions designed to protect investors. The Commission proposed Regulation M to streamline and simplify anti-manipulation rules for offerings and to facilitate the capital raising process. This initiative represents the most significant change in the Commission's anti-manipulation regulation since the trading practices rules were adopted over 40 years ago. The division also played a leading role in international efforts to enhance investor protection, including conducting joint reviews of select global financial institutions with significant cross-border securities and derivatives activities. These reviews provided in-depth analyses of the financial, operational, and management controls used by these firms.

Broker-Dealer Regulation

Application for Broker-Dealer Registration

Amendments to Form BD, the uniform broker-dealer registration form under the Exchange Act, were adopted by the Commission to respond to design updates to the Central Registration Depository (CRD) system operated by the NASD. These amendments will ultimately allow for electronic filing of Form BD, as well as Forms U-4 and U-5 (the uniform forms used to notify the SEC, the states, and the SROs of the employment and termination, respectively, of broker-dealers' registered representatives). Amendments to the disclosure section of Form BD will provide regulators with better information about an applicant's disciplinary history.

The Commission also proposed amendments to Form BDW, the uniform request for withdrawal from broker-dealer registration under the Exchange Act, together with amendments to rules governing withdrawal from registration under the Exchange Act. These amendments would permit broker-dealers that are withdrawing from registration to consent to an extension of the effective date of their withdrawal, and would permit the Commission to extend the effective date for such period as the Commission by order may determine. The Commission also proposed revisions to Exchange Act rules governing the filing of Forms BD and BDW to provide for electronic filing of these forms and to accommodate the conversion of existing registration information to the redesigned CRD system.

Foreign Broker-Dealers

On January 30, 1996, the staff issued a no-action letter designed to address concerns that foreign broker-dealers that effect transactions in foreign securities in foreign markets for their offshore clients may become subject to U.S. broker-dealer registration if the clients' orders are placed by U.S. resident fiduciaries. This no-action position conditionally permits these transactions to be effected without the foreign broker-dealers registering in the United States.

Telemarketing Rules

The Telemarketing and Consumer Fraud Prevention Act (Telemarketing Act) requires the Commission to adopt a rule, or direct the SROs to adopt a rule, that prohibits certain deceptive and abusive telemarketing practices in connection with the sale of securities. After working with division staff, on June 28, 1996, the NASD filed a proposed rule change addressing telemarketing activities. Other SROs are expected to file comparable rule changes.

Money Laundering

Work continued with the Financial Crimes Enforcement Network of the Department of the Treasury on practical approaches to combat money laundering. The division also participated in the Bank Secrecy Act Advisory Group and in the United States delegation to the Financial Action Task Force on Money Laundering.

Arbitration and Mediation

Attempting to strengthen the securities arbitration process, the division worked closely with the NASD and other members of the Securities Industry Conference on Arbitration to assess changes to the arbitration process recommended in a January 1996 report by the NASD Arbitration Policy Task Force. Recommendations arising out of that report included the following: seeking earlier active involvement of arbitrators; using a list selection method for appointing arbitrators; implementing a less discretionary system for discovery; and using simplified discovery procedures for cases involving larger claims.

Extension of Credit

In 1996, the Commission worked with Congress, the industry, and other regulators to develop a margin proposal that addresses concerns raised about the current margin scheme while maintaining the safeguards arising from margin standards. As part of the NSMIA of 1996, Congress enacted a margin reform bill that should improve the federal margin scheme by reducing broker-dealers' costs in obtaining financing.

Financial Responsibility Rules

A no-action letter to the Securities Industry Association regarding the net capital treatment of securities that cannot be publicly offered or sold without registration under the Securities Act was issued by the staff. The no-action letter provided that debt securities that cannot be publicly offered or sold without registration under the Securities Act of 1933 (Securities Act) and that are not rated investment grade by at least two nationally recognized statistical rating organizations would be deemed liquid for purposes of calculating net capital if they meet certain specified factors.

Unlisted Trading Privileges

The Joint Industry Plan for Unlisted Trading Privileges in OTC Securities (OTC/UTP Plan), operating under temporary Commission approval, permits exchanges to trade Nasdaq/National Market Securities subject to the terms of the OTC/UTP Plan. Currently, any exchange participant to the plan may trade up to 500 Nasdaq/National Market Securities. On October 1, 1996, the Commission extended its temporary approval of the OTC/UTP Plan through March 30, 1997, and temporarily approved the plan participants' recently proposed revenue sharing agreement under the Plan.

Transfer Agent Regulation

In an effort to reduce the number of lost securityholders and to address the associated problems of undeliverable principal, dividend, and interest distributions, the SEC published a release requesting comment on rules requiring that transfer agents conduct periodic searches in an effort to locate such lost securityholders, and requiring transfer agents and broker-dealers to file with the Commission lists of lost securityholders for which they hold assets. The release also requests comment on the extent to which further regulatory or remedial steps are necessary to reduce lost shareholders, such as whether there should be a national database identifying lost securityholders.

In December 1994, the SEC published a concept release requesting comment on a transfer agent-operated direct registration system (DRS) that would expand investor choice regarding forms of security ownership. Since publication of that release, the SEC has worked with industry representatives to establish a DRS, which began pilot operation in November 1996. Under the DRS, investors are able to have their securities registered in book-entry form directly on the books of the issuer, to receive a statement of ownership in lieu of a securities certificate, and to transfer their securities between issuers' transfer agents and the broker-dealers of their choice. Investors also have the option to receive a certificate upon request.

Lost and Stolen Securities

Rule 17f-1 under the Exchange Act sets forth participation, reporting, and inquiry requirements for the SEC's Lost and Stolen Securities Program. Statistics for calendar year 1995 (the most recent data available) reflect the program's continuing effectiveness. As of December 31, 1995, 24,925 financial institutions were registered in the program, a 2 percent increase over 1994. The number of securities certificates reported as lost, stolen, missing, or counterfeit decreased from 2,954,692 in 1994 to 2,171,867 in 1995, a 26 percent decrease, but the dollar value of these reported certificates increased from $3.8 billion in 1994 to $6.2 billion in 1995, a 63 percent increase. The aggregate dollar value of the securities contained in the program's database increased from $96.4 billion in 1994 to $102.5 billion in 1995, a 6.4 percent increase. The total number of certificates inquired about by institutions participating in the program decreased slightly from 6,245,375 billion in 1994 to 6,221,425 billion, a decrease of 0.4 percent. In 1995, the dollar value of certificate inquiries that matched previous reports of lost, stolen, missing, or counterfeit securities certificates increased from $159 million in 1994 to $526 million in 1995, a 231 percent increase.

Oversight of Self-Regulatory Organizations

National Securities Exchanges

As of September 30, 1996, there were eight active securities exchanges registered with the SEC as national securities exchanges: American Stock Exchange, Boston Stock Exchange (BSE), Chicago Board Options Exchange (CBOE), Cincinnati Stock Exchange (CSE), Chicago Stock Exchange (CHX), NYSE, Philadelphia Stock Exchange, and Pacific Stock Exchange. The agency granted exchange applications to delist 127 debt and equity issues, and granted applications by issuers requesting withdrawal from listing and registration for 191 issues.

The exchanges submitted 328 proposed rule changes during 1996. A total of 299 pending and new filings were approved by the Commission, and 22 were withdrawn. Rule filings approved by the Commission included:

National Association of Securities Dealers, Inc.

The NASD is the only national securities association registered with the SEC and includes more than 5,500 member firms. Through a wholly-owned subsidiary, the NASD owns and operates the Nasdaq Stock Market, which trades more than 6,200 securities and is the world's second largest stock market.

On August 8, 1996, the Commission announced the settlement of an enforcement action against the NASD, citing various anti-competitive practices on Nasdaq and various oversight failures by the NASD. As part of the NASD's settlement with the Commission, the NASD agreed to undertake a number of initiatives including changes in the NASD's governance structure, improvements to the NASD's surveillance, enforcement, and examination functions, and the creation of a comprehensive audit trail. In cooperation with the Division of Enforcement, the market regulation staff has worked extensively with the NASD to implement these undertakings.

The NASD submitted 54 proposed rule changes to the Commission during the year. The Commission approved 49 proposed rule changes, including some pending from the previous year. Among the significant changes approved by the Commission were: