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Those Wanting the SEC to Target Large Firms Should Think Again

Nov. 15, 2022, 9:00 AM

As a former senior trial counsel at the Securities and Exchange Commission, I am annoyingly familiar with criticism regarding the agency’s choice of targets. In my era at the SEC, criticism shifted from protests that the agency focused mostly on companies for wrongdoing—ignoring the culpable executives at those companies—to complaints that individuals were unfairly blamed for larger corporate failures.

But one evergreen grumble is that the SEC under Chairman Gary Gensler targets smaller entities, leaving the larger financial services firms alone—leading to calls for the SEC to more aggressively investigate and prosecute misconduct by the largest firms.

Critics might carp at the SEC’s recent cases against smaller providers of convertible debt to smallcap companies, the so-called “dealer cases,” while ignoring larger firms that essentially engage in the same conduct, but outside the microcap space. Others have pointed out the absence of the kind of larger, systemically important cases against larger entities that characterized the immediate post-credit crisis period.

These criticisms are largely unfounded. While there was a general concern during the last presidential administration (when I was still at the agency) that bringing cases against larger companies would be career-damaging, that apprehension does not characterize the current SEC. There are three reasons why I think this misperception is misplaced.

Billions Assessed

First, it is inaccurate. Close to $2 billion was recently assessed in settlements against 15 of the largest broker/dealers (and one affiliated investment adviser) for violations of the record-keeping provisions of the federal securities laws. This was based on those firms’ employees discussing business matters using text messaging applications on their personal devices, and failing to preserve many of these off-channel communications.

Having secured these settlements, the SEC is reportedly now focusing on the largest investment advisers and private equity firms. Moreover, the collapse of Archegos Capital Management was met with an aggressive prosecution action against that company and its founder.

Startup Culture

Second, the plethora of cases against smaller companies can also be tied in part to the fact that these entities tend to have less robust compliance structures and devote fewer resources to compliance than larger institutions. Moreover, it might be that smaller firms, lacking the institutional market power of larger ones, might feel forced to take risks that could potentially subject them to investigations and enforcement actions.

Also, it is more likely that smaller firms—especially those that deal with individuals more frequently as counterparties—have a business model that has greater regulatory exposure.

Less Systemic Risk

Third, unlike in the immediate post-credit crisis era, larger firms are not seen as posing as much of a systemic risk, either to the efficiency of capital markets or to investors. A larger number of cases against larger institutions tend to be brought in times of significant market turmoil. At these times, the systemic shocks that affect all market participants tend to hit the largest firms hardest, leading to the kind of larger cases that some identify as evidence the SEC is doing its job.

Crypto Chaos

But perhaps those who wish Gensler would spearhead cases against larger targets should be careful what they wish for, as chaos in the cryptocurrency sector sparks fear of more widespread contagion. Potential signs include the recent collapse of FTX, one of the largest cryptocurrency exchanges, amid revelations about potential failures to safeguard customer assets and improper uses of customer funds.

Moreover, the SEC is prevailing in multiple jurisdictions on the claim that many cryptocurrencies are securities, most recently in New Hampshire District Court. These court wins promise to bring an entirely new wing of the financial services world under the aegis of the SEC.

Thus, collapsing asset values, along with billions of dollars in losses, might lead to an onslaught of investigations of the major crypto institutions—as well as their lenders, counterparties, and so on. Those who yearned for a halcyon era of swashbuckling SEC enforcement attorneys investigating and charging multibillion dollar institutions might soon get their wish.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

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Howard Fischer is a partner in the litigation and white collar departments of Moses & Singer and a former senior trial counsel at the SEC.