Tuesday, May 3, 2016
What factors generate a healthy secondary market in securities? That is my question for this week. I have found myself struggling with this question since I was first called by a reporter writing a story for The Wall Street Journal about a work-in-process written by one of our colleagues, Seth Oranburg (a Visiting Assistant Professor at Chicago-Kent College of Law). The article came out yesterday (and I was quoted in it--glory be!), but the puzzle remains . . . .
Secondary securities markets have been hot topics for a while now. I followed with interest Usha Rodrigues's work on this paper, for example, which came out in 2013. Yet, that project focused on markets involving only accredited investors.
Seth's idea, however, is intended to prime a different kind of secondary market in securities: a trading platform for securities bought by the average Joe (or Joan!) non-accredited investor in a crowdfunded offering (specifically, an offering conducted under the CROWDFUND Act, Title III of the JOBS Act). [Note: I will not bother to unpack the statutory acronyms used in that last parenthetical expression, since I know most of our readers understand them well. But please comment below or message me if you need help on that.] Leaving aside one's view of the need for or desirability of a secondary market for securities acquired through crowdfunding (which depends, at least to some extent, on the type of issuer, investment instrument, and investor involved in the crowdfunding), the idea of fostering a secondary securities market is intriguing. What, other than willing buyers and sellers and a facilitating (or at least non-hostile) regulatory environment, makes a trading market in securities?
The time has come to try to solve this puzzle. Many--including Securities and Exchange Commission ("SEC") member Daniel Gallagher--observe that, at least when it comes to privately held small business equity (including shares of stock obtained through equity crowdfunding), a secondary market can make or break the primary market. This may or may not be true for debt or investment contract crowdfunding.
At least one SEC member, Luis Aguilar, has resurrected the idea of venture exchanges. Subsequently, Congress took up the issue; the blogosphere has noticed, too. Commissioner Aguilar and others (see, e.g., here) also are concerned about the need for changes to Rule 15c2-11 (adopted by the SEC under the Securities Exchange Act of 1934, as amended) to accommodate a secondary market for the privately held securities of non-public issuers. It is unclear, however, where any of this is going.
I hope that those of you who know something about this area (in which I have truly done no research) will chime in by leaving a comment or sending me a message. I would appreciate a leg up of some kind--e.g., an author who (or body of work that) I can consult for guidance. I assume there is some market-oriented literature in economics that may be helpful. But I also wonder whether there are finance papers or even law papers that address matters relevant to the creation of a sustainable secondary securities market.
In closing, I will note parenthetically the following: although my scholarship and teaching engagement with crowdfunding led me to this puzzle, I am not a proponent of across-the-board trading in crowdfunded securities, especially at this early stage of the securities crowdfunding market. I may want to explain the reasons why in a separate post, since they are complex. But I will note here that my overall ideal vision of crowdfunding as a small business capital formation alternative does not involve promoting a heavy use of equity crowdfunding or catering to traditional profit-centric investors. That summary may give you a better idea of where I am coming from until I next pick up this thread . . . .