Securities Firms:

Assessing the Need to Regulate Additional Financial Activities

GGD-92-70: Published: Apr 21, 1992. Publicly Released: Apr 21, 1992.

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GAO reviewed: (1) the organization and regulatory structure of large U.S. securities firms; (2) whether regulatory gaps exist that might affect U.S. investors and the financial system; and (3) the regulation of those firms compared to different regulatory approaches for bank holding companies and foreign securities firms.

GAO found that: (1) during the 1980s, the U.S. securities business became concentrated in large broker-dealer firms offering a wider array of financial products and services, but not all of the new activities were regulated by the Securities and Exchange Commission (SEC); (2) the possibility that losses from activities in one subsidiary could adversely affect other subsidiaries and the entire firm was illustrated by the bankruptcy of a financial conglomerate with a large broker-dealer subsidiary, from which management removed capital, forcing the whole firm into bankruptcy; (3) U.S. securities laws have focused regulation on certain subsidiaries of the complex securities firms such as the broker-dealer, but no single regulator is responsible for oversight of the entire firm; (4) following the bankruptcy, SEC amended its net capital requirements to require broker-dealers to notify SEC of large capital withdrawals made to benefit affiliated entities and to give SEC authority to temporarily halt capital withdrawals; (5) the Market Reform Act of 1990 modified regulation to require that broker-dealers routinely provide financial information on unregulated activities, and SEC plans to use the information to assess the risk such activities pose to broker-dealers and their customers; (6) unlike bank holding companies and foreign firms, which are subject to consolidated regulation, SEC does not have the authority to control the risks it finds; and (7) opinions of firm officials and regulators were divided on whether SEC authority over U.S. securities firms should be expanded to cover all financial activities.

Recommendations for Executive Action

  1. Status: Closed - Implemented

    Comments: SEC testified in June 1994 that it can appropriately oversee the activities of unregulated broker-dealer affiliates under its existing regulatory authority and has taken action to do so. A GAO report (GAO/GGD-94-133) recommends that some agency be given regulatory authority over these affiliates.

    Recommendation: The Chairman, SEC, should use the Market Reform Act provisions to gather and study data both to accommodate its current regulatory approach and to determine whether the overall risks posed by the unregulated financial activities of broker-dealer holding companies and affiliates warrant additional regulation.

    Agency Affected: United States Securities and Exchange Commission

  2. Status: Closed - Implemented

    Comments: Although a 2-year study of the results of its risk assessment program has yet to be released, SEC, in cooperation with CFTC, has already worked with six major broker-dealers to develop voluntary regulatory oversight for their derivatives subsidiaries. These dealers, called the Derivatives Policy Group (DPG), constitute about 85 percent of the volume of over-the-counter derivatives activities among all securities firms. In March 1995, SEC and CFTC reached agreement with DPG for the firms to abide by stringent standards for internal controls and to provide additional disclosure to the regulators about the derivatives activities of their unregulated affiliates. The voluntary disclosures will include information about individual counterparty concentrations and earnings. These measures should improve both the management of the firms' derivatives activities and the oversight of the unregulated affiliates.

    Recommendation: SEC should report its results as soon as possible and, if it determines that additional regulation is warranted, identify any needed legislative or regulatory changes.

    Agency Affected: United States Securities and Exchange Commission


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