How do you transform a market regulator into a respected agency? First, banish the lawyers, begins Harry Markopolos in ‘ No One Would Listen: A true financial thriller ’ (www.wiley.com). He rues that currently the SEC (Securities and Exchange Commission), like most Washington agencies, is dominated by lawyers. “Putting them in charge of supervising our capital markets has been an unmitigated disaster. It would be like putting a political appointee in charge of the Federal Emergency Management Agency and expecting him to handle a flood.”
Very few SEC lawyers understand the complex financial instruments of the twenty-first century, and almost none have ever sat on a trading desk or worked in the industry other than doing legal work, the author reasons. “Maybe lawyers know the difference between a tort and a tortilla, but there is a reason that most firms in the industry are run by businesspeople with capital markets or banking expertise – it’s because they’re experts.”
The second recommendation from Markopolos is that when cleaning up the SEC, it should have people with industry experience, rather than resemble ‘a clown car filled with college degrees.’ Practise reverse age discrimination, he advises. That is, the people who actually go into an office to conduct an investigation should be experienced brokers with as many years of experience as can be found.
“These people know the tricks and the hiding places; they may even have used some of them themselves when they were on the other side of the investigation. So put veteran traders and veteran back-office personnel on these investigative teams to conduct trading floor exams.”
Markopolos laments that many SEC staffers, particularly the staff attorneys, don’t know a put from a call, a convertible arbitrage strategy from a municipal bond, or an interest-only from a principal-only fixed income instrument. He instructs, therefore, that before hiring an employee the SEC should give applicants a simple entrance exam to test their knowledge of the capital markets.
Flawed inspection process
Examine the SEC’s examination process, lists the author, as the third imperative. Because the regulator’s inspections are flawed, he opines. For instance, the inspection team interacts only with the firm’s compliance team, not the traders, not the portfolio managers, not the client service officers, and not even the top management, he reports.
“The examiners sat there looking at papers, rather than taking advantage of the tremendous human intelligence – gathering opportunities who happened to be sitting a few feet away. They’re called people, and you can’t make a good pile of them, but they have a lot of information about those papers,” reads an insightful snatch.
In the author’s view, the success metrics the SEC should use to determine the value of its examination teams are not the number of examinations conducted annually – ‘a totally worthless statistic… an insult to common sense… a waste of taxpayer dollars.’ Rather, the metrics should be ‘income from fines, dollar damages recovered for investors, dollar damages prevented, and the number of complaints received from Congress complaining about the severity of those fines or the thoroughness of the agency’s investigation.’
Create fair and transparent markets
Last in the list of fifteen suggestions is the one about regulations and guidelines, the lack of which enabled Bernie Madoff to steal billions of dollars. Madoff is already a tragedy; it would be an even larger disaster if we didn’t take the steps necessary to create fair and transparent markets, Markopolos appeals.
“For example, the over-the-counter (OTC) market is unregulated space. It’s where the financial industry’s cockroaches congregate, because it is a place where there is no light, only darkness. And perhaps not coincidentally, this is also where the industry’s highest margins exist, so people will fight like Mike Tyson to protect their profit margins.”
A narrative that can keep you awake.
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