Securities Law Prof Blog

Editor: Eric C. Chaffee
Univ. of Toledo College of Law

Thursday, January 12, 2012

GAO Recommends Additional Actions to Address Analysts' Conflicts

The GAO issued a report today on Additional Actions Could Improve Regulatory Oversight of Analyst Conflicts of Interest (GAO-12-209, Jan 12, 2012)( Download GAO-12-209).  Here is an excerpt from the highlights:

What GAO Found
Existing research and stakeholder views suggest that the Global Settlement and other regulatory actions have helped to address conflicts faced by equity research analysts. The results of the empirical studies that GAO reviewed generally suggest that the Global Settlement and equity research rules adopted by the SROs were associated with improvements in analysts’ stock recommendations. FINRA officials and SEC staff told GAO that the regulatory reforms have been effective, citing minor deficiencies in their examinations and the limited number of enforcement actions involving conflicts between research and investment banking as evidence of the reforms’ effectiveness. Independent monitors, which were required as part of the Global Settlement, also found that the 12 firms generally were complying with the Global Settlement. Finally, broker-dealers, institutional investors, and others told GAO that the regulatory actions have helped insulate equity research from investment banking influence, although some noted that not all conflicts can be eliminated and certain restrictions can be circumvented.

Although SEC and FINRA have been taking regulatory action to further address conflicts faced by research analysts, additional action is warranted. FINRA has been working to finalize a rule proposal designed to broaden the obligations of firms to identify and manage equity analyst conflicts and better balance the goals of helping ensure objective and reliable research with minimizing regulatory costs and burdens. FINRA also has been working to finalize another rule proposal that would address conflicts faced by debt research analysts. The current SRO research rules do not cover debt research analysts, although these analysts face conflicts of interests similar to those faced by their equity analyst counterparts. In the absence of an SRO debt research rule, the SROs have relied on antifraud statutes and SRO rules requiring ethical conduct. They also have encouraged firms—with limited success—to comply voluntarily with industry-developed principles designed to address debt analyst conflicts. FINRA plans to package its two rule proposals together and submit them to SEC in the first half of 2012. In contrast, SEC and FINRA have not proposed codifying the Global Settlement’s remaining terms. At the request of the broker-dealers, a court modified the Global Settlement in 2010 and eliminated settlement terms where, for the most part, comparable SRO rules existed. Nonetheless, some of the Global Settlement’s terms that serve to protect investors have not been codified. As a result, the Global Settlement firms continue to be subject to the requirements of the Global Settlement and the SRO research analyst rules, while other firms that provide the same services are subject only to the SRO research analyst rules. As a result, investors may not be provided the same level of protection. GAO has previously reported that a regulatory framework should ensure that market participants receive consistent and useful information as well as consistent protections for similar financial products and services. SEC staff told GAO that they periodically have discussed and analyzed the Global Settlement terms but have not formally assessed and documented whether any of the Global Settlement’s remaining terms should be codified. By not formally assessing whether codifying any of the Global Settlement’s remaining terms provides an effective way of furthering investor protection, SEC may be missing an opportunity to provide the same level of protection for all investors.

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