SEC Directors Defend Expiration of Global Research Analyst Settlement
Commentary by Steven Lofchie
SEC Division of Trading and Markets Director Jamie Selway and Division of Examinations Director Keith Cassidy defended the expiration of the Global Research Analyst Settlement ("GRAS") against recent public criticism by former SEC Chair Arthur Levitt.
In a joint statement responding to an opinion piece by Mr. Levitt, the Directors rejected the notion that ending GRAS weakens investor safeguards. They emphasized that the settlement, established over twenty years ago to address undue influence by investment banks, was intended to be a "provisional" stopgap with a specific sunset clause, not a permanent regulatory fixture. The Directors argued that clinging to the expired settlement favors "nostalgia over progress."
The Directors asserted that the current regulatory framework—specifically Regulation Analyst Certification ("Reg AC") and FINRA Rules 2241 ("Research Analysts and Research Reports") and 2242 ("Debt Research Analysts and Debt Research Reports")—surpasses the protections originally offered by GRAS. They noted that Reg AC requires analysts to affirm their views and disclose compensation, while FINRA rules provide comprehensive standards for managing conflicts in both equity and debt research. The Directors stated that these modern measures are "broader in scope" and "more enforceable in practice" than the expired settlement.
Citing comments by FINRA CEO Robert Cook, the Directors maintained that existing rules provide superior protection by accounting for diverse business models and complex fact patterns. They highlighted the agency's continued collaboration with FINRA to monitor market practices, concluding that the current regime effectively targets the misconduct that originally led to GRAS while adapting to the evolution of market regulation.
Commentary
The Global Research Settlement was imposed about 20 years ago in reaction to findings that investment banks were publishing over-optimistic research on internet startups in order to win investment banking business. The firms made subject to the Settlement were those that were found to have pumped internet issuers with their research. The urgency of imposing rules, specifically on those firms, derived from the fact that there were no specific rules as to the production of research and the control of related conflicts, so it made some sense to impose judge-made regulation on those firms.
That said, the Global Research Settlement, as originally imposed, was not particularly well conceived. It was imposed in haste and unlike ordinary rulemaking it was judge-made, not subject to public comment or to cost-benefit analysis. That such a rule should have survived so long past its expiry date (by its initial terms, it was to expire in five years) is simply illustrative of how difficult it is for the government to repeal a rule that no longer serves a purpose. Former SEC Chair Levitt's complaint illustrates the difficulty that even former regulators seem to have of rethinking rules.
More broadly, repeal of the Global Research Settlement does not go far enough. The entire rule structure around research is worth re-examination. The economic reality is that the production of investment research is a good thing for the markets; and the myriad rules governing research discourage its production. There is quite a bit that could be done to lessen the burden of those rules, without sacrificing their main object, which is to limit the conflicts of interest between research and investment banking. Without limiting the foregoing, the rules governing the way in which analysts are paid, and restricting the freedom of investment banks to decide which issues are worthy of coverage, should be pared back or eliminated. Knowledge is good.
(For those unfamiliar with the Spartan Push.)
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The Securities and Exchange Commission agreed to modify final judgments against investment firms that were part of a 2003 and 2004 Global Research Analyst Settlement regarding potential conflicts of interest between equity research analysts and investment banking personnel.