Meet the tenacious regulator who had a remarkable four-year run.
The US Securities and Exchange Commission (SEC) was reeling in the wake of harsh but justified criticism for failing to predict, control or even contain the global financial crisis.
Under its watch, fraudster Bernard Madoff managed to operate the largest Ponzi scheme in history and Wall Street stalwart Lehman Brothers collapsed, taking billions of dollars, business confidence and reputations down with it.
It was a heady time with traders investing in schemes they, let alone the regulators, didn’t understand and whose behaviour they couldn’t predict.
The SEC, along with many of the world’s financial regulators, was starkly exposed as ill-equipped to deal with the chaos erupting across the globe.
The US Government snapped into crisis mode and took the extraordinary move of handing the financial sector a multibillion-dollar bailout. But still the economy shook.
Enter Mary Schapiro, a career regulator, to rescue a languishing SEC. Her job was to assess what went wrong and to ensure it didn’t happen again.
Schapiro was appointed by US President Barak Obama as the 29th chairman of the SEC and its first female chair – though that fact, she says, got lost in the enormity of the task assigned to her.
“When I joined in June 2009, my thought was of restoring the agency’s vigour and credibility within the financial regulatory community,” Schapiro told INTHEBLACK during a visit to Sydney recently.
“I understood how really critical it was to the success of our economy to have an agency that was high functioning, agile and intelligent, and committed to investor protection and market integrity.
“I think I had about a day as opposed to 100 days,” she says of the much-touted first 100 days used by many executives tasked with turning a flailing company around.
So how does an executive go about picking up the pieces and devising a recovery plan for a federal regulator with 4000 staff after one of the biggest financial disasters in modern history?
Schapiro says she had three priorities: assessing what needed to be done within the organisation; shifting the agency’s focus back to protecting the investor; and acknowledging its mistakes.
The new chairman needed a new senior team. “I needed to recruit new talent, new skills that the agency hadn’t traditionally had – it had always been very lawyer-centric and my view was that we needed analysts and people who understood trading, market structure, corporate governance and a whole range of skill sets that would be important for the future,” she says.
She also needed people to restructure the SEC’s largest division – enforcement and examination – “to make this regulator more responsive, more agile and clever, and capable of seeing around corners to figure out where the next problems were before they hit us in the face. There were a lot of great people who were ready to leave Wall Street and sit on the other side of the table and we took full advantage of that.”
But Schapiro, who had worked at the agency as a commissioner from 1988 to 1994, said the SEC also had talented staff on its books, career employees who needed more “invigorating leadership”. The new leadership team set about retraining, skilling up and motivating that staff.
Leveraging is a word Schapiro uses a lot when she talks about strategy and she says she leveraged the SEC talent by bringing in new leadership. “It ended up being very constructive,” she says.
Schapiro meeting with US President Barack Obama and
Secretary of the Treasury Timothy Geithner.
Staff were sent to qualify as certified fraud examiners. A whole layer of management was removed and those employees were reassigned to the front line.
Another thousand staff were grouped into specialised units to focus on areas of concern such as corrupt foreign practices, insider trading, market manipulations and structured product – this had never been done before at the SEC.
The strategy worked and the SEC saw two record years of enforcement. All of this was achieved on a platform of new technology. Schapiro says the SEC had been “technology starved”.
Her second priority was putting devices in place to ensure “a Madoff” could never happen again to the agency. She called it the investor- focused agenda, a hallmark of her stewardship.
There was a sign on her office door that read: “How does it help investors?” And she expected everyone from staff to bankers to members of an exchange to address the question in their discussions with her.
“Because if it doesn’t, we don’t really have time for it right now. Maybe someday, but right now we are all about how do we help investors,” she used to say.
“I wanted to ensure we were on top of the largest investment banks that were our responsibility and what risks they were presenting. What rules did we need to write or actions did we need to take to make sure we understood this industry we were regulating?”
In this period hedge funds were registered for the first time and the agency’s examination program was revised to make it more risk based. Rules also were set for over-the-counter derivatives and asset-backed securities.
In July 2010 the SEC reached its largest-ever settlement with a financial institution when Goldman Sachs was fined US$550 million for committing fraud by misleading investors about mortgage securities before the US housing market collapsed in 2007.
Schapiro says one of the most glaring lessons from the financial crisis was the lack of attention to risk at every level of an enterprise – starting with the board and senior management and flowing down to all levels of decision making. “There has to be attention at every level and it has to be taken very seriously,” she says.
“It’s about understanding the risk and having transparency that is sufficient to understand the risks you are taking. Then build the structure to ensure there is compliance with all of the rules. The regulators are going to have an enormous focus on risk management in perpetuity now. We all appreciate how critical it is to the success of each financial institution and then collectively the success of the financial system.”
While tackling this gargantuan problem, Schapiro was relatively uncriticised, although some argued that she failed to act aggressively to charge leading individuals at the banks who contributed to the financial crisis.
One key initiative she’s clearly pleased with is setting up the whistleblower program. This was more than just providing a safe avenue for whistleblowers to tell their stories.
It was about coordinating all tips into one central database to be able to track movement and detect securities violations. And it was about using the knowledge contained within organisations.
“We wanted to leverage the public and insiders, we wanted to leverage self-regulatory organisations when we didn’t have adequate resources to do the job,” Schapiro says. “Because the SEC is not as big as it needs to be, and given the size of the job, the leverage thing was really important to me and we talked about it over and over again in those early years.”
Schapiro testifying before the Senate Banking, Housing and
Urban Affairs Committee.
Schapiro looked for a way to encourage whistleblowers to come forward. The SEC eventually went to US Congress with a plan to offer people a monetary reward if they provided information about ongoing securities law violations that led to a successful enforcement action. The authority to do this was the Dodd-Frank Act (see fact file, left).
“It’s proved to be hugely successful,” she says.
Schapiro’s third priority was to respond to the financial crisis itself, and to acknowledge the mistakes the SEC made, because the public believed it had a watchdog and that watchdog let them down.
The SEC had to admit to the gaps in its performance that allowed someone like Madoff to pull off his scam for so long.
Madoff was jailed in 2009 for 150 years after pleading guilty to operating a multibillion-dollar Ponzi scheme, involving thousands of investors, through his wealth management company while a non-executive chairman of NASDAQ.
Schapiro says the SEC achieved a lot during her tenure, which she has described as like running a marathon at a sprint. But she fears that in the current low interest rate environment, brokers and investors are reaching for a yield and taking on riskier products while not always understanding the downside.
“We’ve seen an increase in the sale of products that are quite complex, which have potentially greater returns but also have potentially much greater risks,” she says. “There are a number of really critical investor issues out there – a lot done, but a lot more to be done I’m afraid.”
Mary Schapiro resigned from the SEC in December 2012. In 2013 she joined other former regulators at Promontory Financial as a consultant to financial organisations seeking to comply with regulations.
She is also on the board of global corporate GE. She visited Australia to address the Committee for Economic Development of Australia.
The Dodd-Frank Wall Street Reform and Consumer Protection Act (July 2010) promotes the financial stability of the US by improving accountability and transparency in the financial system to end too-big-to-fail organisations, to protect the taxpayer by ending bailouts and to protect consumers from abusive financial services practices.
A Ponzi scheme is an investment fraud involving the payment of purported returns to existing investors from funds contributed by new investors.
Ponzi scheme organisers often solicit investors by promising high returns with little or no risk.
This article is from the September 2013 issue of INTHEBLACK.