Changing of the Guard at SEC

So long, and thanks for the memories, even if they weren’t so good.

That might have been outgoing Chairman Mary Schapiro’s final lament as she stepped out the door at the Securities and Exchange Commission last month.

Schapiro took office in early 2009, as the nation’s financial markets tried to recover from a meltdown that reached crisis proportions in September 2008. Her tenure also was punctuated by the May 10, 2010 Flash Crash. The agency faced huge criticism for not catching Bernard Madoff’s multibillion-dollar Ponzi scheme, which cratered during the credit crisis. It also did not catch up to the barrage of rule-makings required of it by the 2010 Dodd-Frank Wall Street Reform Act. And the Consolidated Audit Trail initiative Schapiro launched immediately after the Flash Crash is still a work in progress.

“Chairman Schapiro took over the Securities and Exchange Commission at an extremely challenging time, both for the agency and for the markets,” said Richard Ketchum, chairman and chief executive at the Financial Industry Regulatory Authority, following her resignation. “Ms. Schapiro’s commitment to investors and investor protection is unwavering. She significantly improved the commission’s enforcement division, boosted agency morale and streamlined the commission’s processes.”

In a recent note to clients, Themis Trading wrote that Schapiro, trying to steer a regulatory agency with huge responsibilities and constricted resources, should be lauded. “With all these hurdles she must be given credit for her accomplishments,” the firm wrote.

Schapiro was the first woman selected as chairman.

After Schapiro announced her plan to depart, other top SEC officials followed suit. Robert Cook, director of the Division of Trading and Markets, said he was leaving, as did chief of staff Didem Nisanci and general counsel Mark Cahn.

The Record

Schapiro pushed hard to bring trading into its microsecond-measured, highly automated future. Starting with the Concept Release on Equity Market Structure back in January 2010, she solicited the market’s collective opinion on the challenges facing it. Then, when the Flash Crash hit just four months later, Schapiro came out with fixes, in a flurry.

These included the outright banning of stub quotes, the abolition of so-called “naked access” and the creation of the Market Access rule 15c:3-5, to govern direct connections to markets granted clients by sponsoring brokers. The agency also brought out new single-stock and marketwide circuit breakers; and in April 2013, price bands that regulate how much a stock can move up or down in a given trading session are on track to take effect.

Still to come: The audit trail-likely to arrive in 2014-which will allow regulators to watch equities and options markets for unusual or abusive trading patterns; and “kill switches” that can stop trading in the event of a Knight Capital-like incident, where a market maker or other participant floods exchanges with erroneous orders or exceeds its own ability to stand behind trades it makes. No more algos gone wild.

But perhaps Schapiro’s biggest challenge came in trying to fulfill the requirements of the Dodd-Frank act, Congress’ attempt to prevent another implosion of markets such as that of late 2008.

Dodd-Frank was her highest priority, and the rules being implemented as a result are her biggest accomplishment, said Chris Nagy, chief executive at KOR Trading and former managing director for order routing and market data strategy and co-head of government relations at TD Ameritrade.

“Without question, Dodd-Frank is her legacy,” Nagy said. “This one thing consumed 90 percent of her resources over last two years. Dodd-Frank implementation, with its myriad requirements and objectives, really took up all her time.”

That legacy remains largely to be writ. As of Dec. 3, the SEC had finalized 32 of the 95 rules that are its charge to implement, coming out of Dodd-Frank, according to the monthly progress report kept by law firm Davis Polk & Wardwell. Fifty deadlines, the report notes, have been missed. Yet Nagy maintained that Schapiro’s batting average wasn’t that bad.

“Thirty-eight percent is OK, as the rules themselves were daunting,” he said. “The other agencies involved with Dodd-Frank didn’t fare much better in making the deadlines. She never got the additional staff or money she needed to get the job done, so she made do with what was available, and I think she did well.”

During Schapiro’s tenure, the agency instituted, in the aftermath of the Madoff scandal, a whistle-blower program that allows individuals of all stripes to earn cash rewards by reporting securities fraud and corporate fraud. The Division of Enforcement, under chief Robert Khuzami, also got tough on insider trading, reaching the highest echelons of Wall Street.

In fact, in its annual report for fiscal year 2012, the SEC noted that the Division of Enforcement brought 734 actions-the second-highest number of enforcement initiatives filed in a single year. In connection with the financial crisis itself, the SEC counts 117 entities and individuals-including more than 50 CEOs, CFOs and other senior corporate officers-that it has charged with malfeasance and obtained more than $2.2 billion in monetary relief.

Not bad for the tenure of an anthropology major from Babylon, New York. As one trading desk chief from Boston told Traders Magazine, “All in all, she’s leaving the agency in better shape than when she found it.”

The Future

She leaves, however, many issues for her successor to address. At a recent industry roundtable, Schapiro told attendees these include market structure issues and rules of conduct that need further examination, such as examining the high volume of cancellations in the marketplace, the proliferation of order types (see cover story), other aspects of high-frequency trading, possibly manipulative trading strategies and whether public investors get market information more slowly than professionals.

“These issues will require attention, and we are committed to addressing them,” she said at the roundtable.

One issue in particular she championed of late was the concept of a “kill switch”-a mechanism designed by stock exchanges that will automatically shut off a firm’s incoming orders. Schapiro wanted the exchanges to install simple and speedy trip wires that automatically cut brokers off. In contrast, the brokers want to be alerted before they are cut off.

“Our concern is not whether a single firm might fail, but whether it causes collateral damage to investors and their confidence in the integrity and stability of our markets,” she said.

Who will take this on remains to be seen. President Obama nominated Elisse Walter to take over the commission until a permanent replacement is found. Walter’s confirmation is pending, but the hunt for a long-term successor is ongoing.

Duncan Niederauer, chief executive of NYSE Euronext, said in a release that the exchange welcomes Walter’s nomination on what looks like an interim basis, citing her “wealth of regulatory and financial markets expertise.”

Jamie Brigagliano, partner in the securities and futures group at Sidley Austin LLP and former deputy director of the commission’s Division of Trading and Markets, also likes Walker’s pedigree.

“Elisse Walter has an important breadth of experience based on her work at the Commodity Futures Trading Commission and FINRA-the former of particular note, given the joint rule-makings required by Dodd-Frank,” Brigagliano said.

Which, even in the short term, could be Walter’s own legacy. Not only has she served as a commissioner, but she is also a former senior staffer in the Division of Corporation Finance and in the Office of the General Counsel.

“She is well positioned both to maintain the productivity of the SEC while also seeking a consensus where possible, so that the agency can move forward with its market oversight responsibilities and its Dodd-Frank rule-making mandates,” Brigagliano said.

FINRA’s Ketchum added that Walker’s depth of knowledge of securities regulation and the markets and abiding concern for investors will provide her a sound foundation as she leads the agency forward.

 

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