Post by jcline on Oct 1, 2007 10:30:01 GMT -5
STOCKGATE TODAY
An online newspaper reporting the issues of Securities Fraud
Who's Watching Your Back - October 1, 2007
David Patch
Without a doubt, when it comes to the growth of the US Capital Markets there is no higher priority than the priority of DC Bureaucrats to create liquidity.
In a February 2007 keynote address at the 8th Annual Risk Convention and Exhibition, Global Association of Risk Professionals Timothy F. Geithner president and chief executive officer of the Federal Reserve Bank of New York stated, "Liquidity plays a central role in the functioning of financial markets."
Geither went on to address the audience on the multiple roles liquidity has in creating "shock absorbers" in the market to maintain pricing efficiencies [stability] and ease volatile trading activities.
As seems to be the case nowadays, Wall Street has cuddled to this line of reasoning and has solicited the services of the Securities Industries and Financial Markets Association (SIFMA) to lobby the Securities and Exchange Commission and Congress on policymaking regarding market liquidity.
The mission of SIFMA; put a stop to any policy change that would slow down the recent liquidity explosion.
SIFMA's incentive of course is simple. Liquidity correlates to trade volume and trade volume means commissions and revenues to Wall Street. To slow liquidity growth would be to put the breaks on the growth in Wall Street's revenue train.
But all is not well with the liquidity growth the markets are experiencing.
On several occasions over these past few years the SEC has come across possible cracks in regulatory policies on trade. The SEC responded with attempts to strengthen financial rules in order to prevent market abuses. Each attempt was met with Wall Street threats of a liquidity reduction and market disruption. Ironically, most of those cracks that surfaced were in the areas of short sale policies and the increase in settlement failures. Short selling being the code word for liquidity.
As excess liquidity came via the short sale process the SEC came to understand that some investors may be using the loopholes created in the rules to manipulate market pricing and thus efficiencies.
In 2003 the first of several proposed reforms was presented to the public for comment. Since then no less than a half dozen reforms have followed addressing similar issues in the short sale process. The SEC admittedly began this deluge of short sale reform proposals over growing concerns regarding the increase in trade settlement failures linked to the present short sale process.
While the concerns have been supported with empirical data the industry continues to deny a problem exists.
The primary rally cry of Wall Street has been a simple one and one ironically supported by some inside the SEC. Settlement failures account for approximately 1% of all trades, in dollar value, on any given day and 1% is a negligible percentage. The industry was willing to sacrifice 1% of all trades as representative of the cost of liquidity.
Such willingness to sacrifice comes in direct conflict with Federal Law that requires the SEC to put a settlement system in place that insures the "prompt and accurate clearance and settlement of securities transactions, including the transfer of record ownership and the safeguarding of securities and funds related thereto ... for the protection of investors and persons facilitating transactions by and acting on behalf of investors." [Securities Act of 1934; Section 17A] Today, exemptions [loopholes] created for market participants have allowed settlement failures to persist for months if not years despite the Federal mandate to settle trades promptly for teh protection of teh investing public.
So you ask, how much does 1% in liquidity amount to in dollar value?
Consider that in 2001 the Depository Trust Corporation (DTC) Annual report identified that $250 Trillion in trades, by dollar value, were cleared by the agency. If 1% of $250 trillion failed in meeting the 3-day settlement failed trades amounted to $2.5 Trillion. By 2003 the DTC was reporting annual clearance values of $973 Trillion and by 2006 that level had reached $1.5 Quadrillion.
As liquidity exploded so too exploded the level of fails, by dollar value. Suddenly, 1% in trade failures equaled $15 Trillion.
What the SEC and DTC reported to the public was simply that the level of failed trades equaled $6 Billion daily in aged and new fails but failed to capture what the total level of failed trades amassed to over the course of a full trade year. The DTCC was proud of their $1.5 Quadrillion in cleared trades and repeatedly correlated the $1.5 Quadrillion to the $6 Billion. In reality teh correlation was Apples and Oranges! If the numbers are as presented by the DTCC, the $1.5 Quadrillion in cleared trades correlates to $15 Trillion in trades that fail regulatory settlement rules.
Suddenly the number is not so small; $15 Trillion annually in trades that fail to meet 3-day settlement in a system automated by computers and where 97% of all shares are held in electronic form.
While the SEC created reform after reform, the empirical data provided by the SEC continued to show an ever-increasing level of fails taking place despite the rule changes put in place. The SEC was publicly claiming success under Regulation SHO all the while the level of fails and the number of companies with excessive fails in their markets continued to rise.
Which brings us to the most recent reform up for public comment. A reform aimed at eliminating the Options market making exemption.
The SEC has propositioned that the Options market making exemption, an exemption that allows the Options market maker to short an infinite number of shares, without settlement for an indefinite amount of time, as being a major contributor to the persistence of excessive settlement failures.
Suddenly the hole in the dike was being exposed and the SEC proposed a change that would plug the hole.
The opposition to the SEC proposal can be summed up by the commentary of the member spokesperson, SIFMA. "SIFMA is concerned that the proposed elimination of such exception will negatively impact the liquidity of the options market in Threshold Securities, or securities which may be expected to become Threshold Securities." The options market liquidity apparently taking precedent over investor protection.
The members cite a 2007 report out of the Vodia Group whose analysis identified a meager 2.5% reduction in Options contracts [liquidity] if such an exemption were to be eliminated. Suddenly 2.5% represents "the sky is falling" to Wall Street while 1% is an insignificant value.
It's not like the Options market was stagnant and 2.5% represented some major setback.
In a 2006 speech before the Securities Industry Association (SIFMA) Options Market Structure Conference, Commissioner Annette Nazareth informed the audience that "Indeed, over this period we have witnessed dramatic growth in the options markets. In 2005 and 2004 alone we saw increases of 25.7% and 30.8%, respectively, over the prior year. Clearly, these market developments have been a "win" for everyone."
With 25 - 30% annual growth in the options market liquidity you would think that SIFMA, who claims to represent the interests of some 96 Million investors worldwide, would be willing to sacrifice a possible 2.5% of that double digit growth if such sacrifice would ultimately protect the investing public. Does SIFMA not recognize that maintaining investor confidence can increase liquidity all in itself?
With a mission statement focused squarely on protecting the investing public, the recent proposal up for public comment is one that clearly compromises the SEC. Should investors purchasing through the primary equity market have their safety put at risk for the minority few who trade the derivative options markets? Will the SEC watch the backs of the unsuspecting investor or will the drive to maintain market liquidity be so strong that investor protection is taken to the back seat?
The Comment period on this critical proposal concluded earlier last month. It is now up to the SEC's Division of Market Regulation to draft a rule change based on the comments provided. As they do they should carefully consider every aspect of market liquidity before simply caving in to the Wall Street lobbyists.
Not everybody believes liquidity should grow without controls.
In a report by Ross Levine, Senior Economist in the Finance and Private Sector Development Division of the World Bank's Policy Research Department it is clear that not all are under the impression that unlimited and unregulated liquidity is a good thing.
In the report Stock Markets: A Spur to Economic Growth Levine writes, "There are alternative views about the effect of liquidity on long-term economic growth, however. Some analysts argue that very liquid markets encourage investor myopia. Because they make it easy for dissatisfied investors to sell quickly, liquid markets may weaken investors' commitment and reduce investors' incentives to exert corporate control by overseeing managers and monitoring firm performance and potential. According to this view, enhanced stock market liquidity may actually hurt economic growth." While Levine himself dismisses this argument he nonetheless admits such an argument exists amongst the professionals.
Those analysts surmising that just because trade volumes are high, and just because Wall Street revenues continue to climb at double digit levels does not automatically insinuate our economy is growing or that all investors are being equally and fully protected. Liquidity could just mean that the financial security of the small investor is simply being diverted to the wealthy of this nation.
Such a case would imply that nobody is really watching your back.
For more on this issue please visit the Host site at www.investigatethesec.com
Copyright 2007
An online newspaper reporting the issues of Securities Fraud
Who's Watching Your Back - October 1, 2007
David Patch
Without a doubt, when it comes to the growth of the US Capital Markets there is no higher priority than the priority of DC Bureaucrats to create liquidity.
In a February 2007 keynote address at the 8th Annual Risk Convention and Exhibition, Global Association of Risk Professionals Timothy F. Geithner president and chief executive officer of the Federal Reserve Bank of New York stated, "Liquidity plays a central role in the functioning of financial markets."
Geither went on to address the audience on the multiple roles liquidity has in creating "shock absorbers" in the market to maintain pricing efficiencies [stability] and ease volatile trading activities.
As seems to be the case nowadays, Wall Street has cuddled to this line of reasoning and has solicited the services of the Securities Industries and Financial Markets Association (SIFMA) to lobby the Securities and Exchange Commission and Congress on policymaking regarding market liquidity.
The mission of SIFMA; put a stop to any policy change that would slow down the recent liquidity explosion.
SIFMA's incentive of course is simple. Liquidity correlates to trade volume and trade volume means commissions and revenues to Wall Street. To slow liquidity growth would be to put the breaks on the growth in Wall Street's revenue train.
But all is not well with the liquidity growth the markets are experiencing.
On several occasions over these past few years the SEC has come across possible cracks in regulatory policies on trade. The SEC responded with attempts to strengthen financial rules in order to prevent market abuses. Each attempt was met with Wall Street threats of a liquidity reduction and market disruption. Ironically, most of those cracks that surfaced were in the areas of short sale policies and the increase in settlement failures. Short selling being the code word for liquidity.
As excess liquidity came via the short sale process the SEC came to understand that some investors may be using the loopholes created in the rules to manipulate market pricing and thus efficiencies.
In 2003 the first of several proposed reforms was presented to the public for comment. Since then no less than a half dozen reforms have followed addressing similar issues in the short sale process. The SEC admittedly began this deluge of short sale reform proposals over growing concerns regarding the increase in trade settlement failures linked to the present short sale process.
While the concerns have been supported with empirical data the industry continues to deny a problem exists.
The primary rally cry of Wall Street has been a simple one and one ironically supported by some inside the SEC. Settlement failures account for approximately 1% of all trades, in dollar value, on any given day and 1% is a negligible percentage. The industry was willing to sacrifice 1% of all trades as representative of the cost of liquidity.
Such willingness to sacrifice comes in direct conflict with Federal Law that requires the SEC to put a settlement system in place that insures the "prompt and accurate clearance and settlement of securities transactions, including the transfer of record ownership and the safeguarding of securities and funds related thereto ... for the protection of investors and persons facilitating transactions by and acting on behalf of investors." [Securities Act of 1934; Section 17A] Today, exemptions [loopholes] created for market participants have allowed settlement failures to persist for months if not years despite the Federal mandate to settle trades promptly for teh protection of teh investing public.
So you ask, how much does 1% in liquidity amount to in dollar value?
Consider that in 2001 the Depository Trust Corporation (DTC) Annual report identified that $250 Trillion in trades, by dollar value, were cleared by the agency. If 1% of $250 trillion failed in meeting the 3-day settlement failed trades amounted to $2.5 Trillion. By 2003 the DTC was reporting annual clearance values of $973 Trillion and by 2006 that level had reached $1.5 Quadrillion.
As liquidity exploded so too exploded the level of fails, by dollar value. Suddenly, 1% in trade failures equaled $15 Trillion.
What the SEC and DTC reported to the public was simply that the level of failed trades equaled $6 Billion daily in aged and new fails but failed to capture what the total level of failed trades amassed to over the course of a full trade year. The DTCC was proud of their $1.5 Quadrillion in cleared trades and repeatedly correlated the $1.5 Quadrillion to the $6 Billion. In reality teh correlation was Apples and Oranges! If the numbers are as presented by the DTCC, the $1.5 Quadrillion in cleared trades correlates to $15 Trillion in trades that fail regulatory settlement rules.
Suddenly the number is not so small; $15 Trillion annually in trades that fail to meet 3-day settlement in a system automated by computers and where 97% of all shares are held in electronic form.
While the SEC created reform after reform, the empirical data provided by the SEC continued to show an ever-increasing level of fails taking place despite the rule changes put in place. The SEC was publicly claiming success under Regulation SHO all the while the level of fails and the number of companies with excessive fails in their markets continued to rise.
Which brings us to the most recent reform up for public comment. A reform aimed at eliminating the Options market making exemption.
The SEC has propositioned that the Options market making exemption, an exemption that allows the Options market maker to short an infinite number of shares, without settlement for an indefinite amount of time, as being a major contributor to the persistence of excessive settlement failures.
Suddenly the hole in the dike was being exposed and the SEC proposed a change that would plug the hole.
The opposition to the SEC proposal can be summed up by the commentary of the member spokesperson, SIFMA. "SIFMA is concerned that the proposed elimination of such exception will negatively impact the liquidity of the options market in Threshold Securities, or securities which may be expected to become Threshold Securities." The options market liquidity apparently taking precedent over investor protection.
The members cite a 2007 report out of the Vodia Group whose analysis identified a meager 2.5% reduction in Options contracts [liquidity] if such an exemption were to be eliminated. Suddenly 2.5% represents "the sky is falling" to Wall Street while 1% is an insignificant value.
It's not like the Options market was stagnant and 2.5% represented some major setback.
In a 2006 speech before the Securities Industry Association (SIFMA) Options Market Structure Conference, Commissioner Annette Nazareth informed the audience that "Indeed, over this period we have witnessed dramatic growth in the options markets. In 2005 and 2004 alone we saw increases of 25.7% and 30.8%, respectively, over the prior year. Clearly, these market developments have been a "win" for everyone."
With 25 - 30% annual growth in the options market liquidity you would think that SIFMA, who claims to represent the interests of some 96 Million investors worldwide, would be willing to sacrifice a possible 2.5% of that double digit growth if such sacrifice would ultimately protect the investing public. Does SIFMA not recognize that maintaining investor confidence can increase liquidity all in itself?
With a mission statement focused squarely on protecting the investing public, the recent proposal up for public comment is one that clearly compromises the SEC. Should investors purchasing through the primary equity market have their safety put at risk for the minority few who trade the derivative options markets? Will the SEC watch the backs of the unsuspecting investor or will the drive to maintain market liquidity be so strong that investor protection is taken to the back seat?
The Comment period on this critical proposal concluded earlier last month. It is now up to the SEC's Division of Market Regulation to draft a rule change based on the comments provided. As they do they should carefully consider every aspect of market liquidity before simply caving in to the Wall Street lobbyists.
Not everybody believes liquidity should grow without controls.
In a report by Ross Levine, Senior Economist in the Finance and Private Sector Development Division of the World Bank's Policy Research Department it is clear that not all are under the impression that unlimited and unregulated liquidity is a good thing.
In the report Stock Markets: A Spur to Economic Growth Levine writes, "There are alternative views about the effect of liquidity on long-term economic growth, however. Some analysts argue that very liquid markets encourage investor myopia. Because they make it easy for dissatisfied investors to sell quickly, liquid markets may weaken investors' commitment and reduce investors' incentives to exert corporate control by overseeing managers and monitoring firm performance and potential. According to this view, enhanced stock market liquidity may actually hurt economic growth." While Levine himself dismisses this argument he nonetheless admits such an argument exists amongst the professionals.
Those analysts surmising that just because trade volumes are high, and just because Wall Street revenues continue to climb at double digit levels does not automatically insinuate our economy is growing or that all investors are being equally and fully protected. Liquidity could just mean that the financial security of the small investor is simply being diverted to the wealthy of this nation.
Such a case would imply that nobody is really watching your back.
For more on this issue please visit the Host site at www.investigatethesec.com
Copyright 2007