When is a new financial product “too risky”?

by on April 30, 2010 at 8:27 am in Economics, Law | Permalink

Can this be true?  Paul Atkins writes:

For example, before 1996, certain initial public offerings of stocks were subject to merit review in certain states, where the state decided if a security is a "bad" investment and thus not appropriate to be offered to its citizens. In fact, this is exactly what happened to Apple Computer when it first went public in 1980. Massachusetts prohibited the offering of Apple shares because they were "too risky," and Apple did not even bother to offer its shares in Illinois due to strict state laws on new issues. What if federal bureaucrats had had the power to impose their judgment on a "risky" financial product (such as an IPO) on a nationwide scale, or every state followed Massachusetts' lead?

1 fusion April 30, 2010 at 8:35 am

True. States used to have lots of power regarding securities laws, then the federal government preempted much of state law and gave the power to the SEC. This makes securities offerings easier, at the possible cost of decreased protection for investors.

2 Bill April 30, 2010 at 8:59 am

Come on, you’re kidding. You didn’t know about change in state regulation and added SEC responsiblities?

If you are doing a public offering or issuance, you have to send material to the SEC for review. It is quite helpful in avoiding problems down the road.

The SEC workload has been increasing for years.

Here are some statistics on workload and funding:

http://www.ritholtz.com/blog/2010/03/sec-defective-by-design/

3 Andrew April 30, 2010 at 9:49 am

Bill,
Please give me some SEC success stories.

Of course people will try to take your money. The SEC et. al. have been at it for quite a while and they still haven’t redeemed human nature. If you are investing in IPOs and are relying on the SEC you really do deserve what you get because you are part of the problem.

4 anonymoose April 30, 2010 at 9:54 am

Bill,

Insider trading is also only punished under one direction: buying/selling selling before a gain/loss. What about not selling before a gain or not buying before a loss? Surely we are missing 50% of all insider trading (or non-trading) taking place.

Don’t forget the regulators too ala Bernie Madoff. He was given a seal of approval by the SEC which many people trusted. You still need someone to enforce the rules that are written.

Sometimes regulation, like the medicine you take, has no effect.

5 Bill April 30, 2010 at 10:18 am

Andrew,

Here is the SEC website list of enforcement and agency actions:
http://www.sec.gov/ Just go to the enforcement and agency action section.

6 Joe Torben April 30, 2010 at 10:20 am

Bill, why is the trust coming from regulators? Frankly, that’s nuts. Trust comes, ultimately, from enforcement of contracts. We do certainly need courts of law for society to work. But regulators?

Without regulators, there would be more stock exchanges. Some, maybe even most, of these would have rules that were not to your liking. But the probability that the one you would find the most attractive to use would be better than anything we have today is very close to 100%.

Without regulators, there would be more kinds of midicine treating more diseases. Food would be cheaper. But there are downsides too. For instance, government spending would be lower. Can’t have that, can we?

7 Bill April 30, 2010 at 11:18 am

Andrew,

No one is saying that a Maddoff would occur or would not occur with or without regulation. People are deceptive; people violate laws; people get caught and are punished.

Look. I’m an antitrust lawyer. You can go to jail for 3 years for price fixing. The government investigates what gets discovered, disclosed and tipped off.

Should we repeal the laws because people violate them, or the agency doesn’t catch everyone?

8 Andrew April 30, 2010 at 12:36 pm

Should we repeal laws? Maybe not, but we can have rational expectations about seals of approval.

My point about Madoff is not that it happened under the SECs watch (but that could be a point). According to my understanding, the research was served up on a silver platter and the SEC did exactly what all the people rely on the SEC do, they looked around and said, “well, noone else is too worried about it, so must be okay.”

So, then it seems to me that the ball is back in the court of “well, they could enforce effectively if they were funded.” But the apparent degree to which all the work was done for them and they still fumbled on the goal line undermines that reasoning.

Noone is saying that Moody’s or S&P would have done a better job if only they’d gotten more money. In fact they mostly say that the financing from the industry was partly to blame. And, they did in fact almost double their income over the past 10 years.

To the extent that the SEC can self-finance for selling their seal of approval, they also become almost indistinguishable from a private service. So, we are back to how different really the SEC is. With the distinction that a private service is held liable for their failures. And, supposedly that they would be “independented” from the industry. But, that’s not a free lunch even if true. If they self-finance, they will be too tied to the financial sector. If they are “independent” the turtle back in their cubicles. If you just throw money at them, how do you know if it is wisely spent?

9 q April 30, 2010 at 1:14 pm

“And, insider trading. Not to worry. GMU economist Henry Manne says insider trading brings information to the market, and that’s a good thing. Of course, if you are on the other side of the trade, you brought the information to the market with your assets.”

I suppose anyone with any information that would lead to a fall in stock price shouldn’t be trading on it, huh? Let’s only trade on happy thoughts!

10 FE April 30, 2010 at 5:11 pm

Paul Atkins served on the SEC from 2002 through 2008, during which time the SEC missed the fund scandal, was willfully blind to the Madoff scandal, and facilitated the the failures of Bear and Lehman by letting investment banks raise their debt-to-net-capital ratio from 12-to-1 to 40-to-1. Why can’t he be satisfied with his legacy of nonenforcement and retire quietly?

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