Securities Law Prof Blog

NASAA Supports FINRA’s Effort to Reduce Deletion by Brokers of Customer Complaint Records

Details available here.

SEC Names Alberto Arevalo as Associate Director in the Office of International Affairs

Details available here.

Turk on the Convergence of Insurance, Banking, and Securities Law

Matthew C. Turk  has posted The Convergence of Insurance with Banking and Securities Industries, and the Limits of Regulatory Arbitrage in Finance on SSRN with the following abtract:

This Article explores recent overlooked innovations in insurance — namely, the widespread convergence of the insurance industry with other financial services traditionally performed by banking and securities firms — and argues that they present dramatic illustrations of the two fundamental “boundary problems” that afflict all financial regulation. The first problem is a question of jurisdictional boundaries: to what degree should diverse regulations be harmonized across jurisdictions? The second concerns definitional boundaries: within a given jurisdiction, how should distinctions be drawn among financial products and firms that perform similar economic functions? The Article then employs the framework of regulatory boundaries to evaluate a number of policy issues raised by insurance-related reforms in Dodd-Frank and various international initiatives that followed the 2008 financial crisis, both of which represent first steps towards a potentially bold new regulatory approach.

At bottom, both boundary problems are a product of the possibility for regulatory arbitrage across jurisdictions or industry definitions, and the potential inevitably of a loosely regulated “shadow finance” sector. The opportunity for regulatory arbitrage is a key variable in assessing financial reforms that draw regulatory boundaries, yet reliable empirical estimates of its magnitude are largely unavailable. For this reason, recent proposals to require federal agencies to apply quantitative cost-benefit analysis to financial regulations may fall short of expectations. Sensitive to this uncertainty, this Article presents an analytical framework that provides some tentative policy prescriptions and, at a minimum, sheds greater light on the tradeoffs involved in the regulation of insurance and finance in a post-2008 Crisis world.

Lowell Milken Institute Law Teaching Fellowship

A reader submitted the following fellowship announcement:

The Lowell Milken Institute for Business Law and Policy at UCLA School of Law is now accepting applications for the Lowell Milken Institute Law Teaching Fellowship. This fellowship is a full-time, year-round, one or two academic-year position (approximately July 2015 through June 2016 or June 2017).  The position involves law teaching, legal and policy research and writing, preparing to go on the law teaching market, and assisting with organizing projects such as conferences and workshops, and teaching.  No degree will be offered as part of the Fellowship program. Only one fellowship will be offered.

Fellowship candidates must hold a JD degree from an ABA accredited law school and be committed to a career of law teaching and scholarship in the field of  business law and policy.  Applicants should have demonstrated an outstanding aptitude for independent legal research, preferably through research and/or writing as a law student or through exceptional legal experience after law school. Law Teaching Fellowship candidates must have strong academic records that will make them highly competitive for law teaching jobs.

More information on the fellowship can be found at http://lowellmilkeninstitute.law.ucla.edu/lowell-milken-institute-business-law-and-policy-teaching-fellowship/. Applications must be submitted by November 14, 2014.

The University of California is an Equal Opportunity/Affirmative Action Employer. All qualified applicants will receive consideration for employment without regard to race, color, religion, sex, national origin, disability, age or protected veteran status. For the complete University of California nondiscrimination and affirmative action policy see: UC Nondiscrimination & Affirmative Action Policy.

The University of California seeks candidates committed to the highest standards of scholarship and professional activities and to a campus climate that supports equality and diversity.

New in Print

The following law review articles relating to securities regulation are now available in paper format:

Nicholas D. Horner, Note, If You Rate It, He Will Come:  Why Uncle Sam's Recent Intervention with the Credit Rating Agencies Was Inevitable and Suggestions for Future Reform, 41 Fla. St. U. L. Rev. 489 (2014).

Stephanie Ray, Comment, Getting Caught Between the Borders: the Proposed Exemption of the Canadian Mutual Fund from the Passive Foreign Investment Company Rules, 37 Fordham Int'l L.J. 823 (2014).

Tom Wentzell, Comment, The JOBS Act: Effects on Capital Market Competition in Both Public and Private Markets, 10 U. St. Thomas L.J. 892 (2013).

Yesha Yadav, The Case for a Market in Debt Governance, 67 Vand. L. Rev. 771 (2014).

Katherine T. Zuber, Note, Breaking Down a Great Wall:  Chinese Reverse Mergers and Regulatory Efforts to Increase Accounting Transparency, 102 Geo. L.J. 1307 (2014).

Chan, Chan & Ho on Insider Trading Law in Hong Kong

Hon Kiu Chan, Raymond Siu Yeung Chan, and Kong Shan John Ho have posted Enforcement of Insider Trading Law in Hong Kong: What Insights Can We Learn from Recent Convictions? on SSRN with the following abstract:

This study analyzes all insider trading cases in Hong Kong since a dual civil and criminal insider trading regime was implemented in 2003. The analysis reveals some significant findings. Firstly, the successful cases prosecuted under the criminal provisions outnumber those brought as civil cases, suggesting that the regulator did not sacrifice the deterrent effect of criminal convictions by using the easier procedures under the civil regime. Secondly, the largest number of insider trading contraventions occurred in 2008 when stock markets around the globe were volatile and had a significant downward adjustment. During this period, many people had significant losses, motivating them to cover their losses by illegal means. Thirdly, the most popular corporate information that triggered insider trading activities came from takeovers, as knowledge of these events before their formal announcements enabled insiders and their tippees to reap handsome profits. Finally, the monetary fines imposed on criminal offenders were generally the same as the actual profits obtained or loss avoided with the purpose of disgorging all their benefits. In contrast, imprisonment was positively related to the notional profit (i.e. the maximum potential profit that the offender could obtain from trading). These findings suggest that regulators need to be more vigilant during economic downturns and to pay particular attention to takeover and share placement activities in listed companies. For senior corporate insiders, and investment bankers and lawyers handling their corporate clients, a clear message emerges from our findings is that it does not pay to get involved in illegal insider trading.

Rapp on SOX and Dodd-Frank

Geoffrey Christopher Rapp has posted Are SOX and Dodd-Frank Securities Laws? The Answer is 'Up in the Air' on SSRN with the following abstract:

This contribution to the 2013 Instittue for Investor Protection Conference poses and addresses the question of whether the whistleblower provisions of SOX and Dodd-Frank raise the same set of policy concerns as private securities litigation, which have undergirded an increasingly skeptical approach from the bench over the past 20 years. Using the Court's recent decision in Lawson v. FMR LLC, the essay argues that the whistleblower provisions of SOX and Dodd-Frank do not raise the same set of concerns that have justified courts' hostile treatment of securities litigation.

Wang & Sallehu on Available-for-Sale Securities of US Banks

Richard Zhe Wang and Menghistu Sallehu have posted The Hidden Message in AFS Securities of US Banks on SSRN with the following abstract:

We examine US banks’ use of available-for-sale (“AFS”) securities to smooth their earnings during the most recent macroeconomic business cycle from 2001 to 2010. We contribute to the accounting literature by investigating the interaction between the macroeconomic environment and the income smoothing activities of US banks, and find four main results: First, our empirical results show evidence that US banks use AFS securities to smooth earnings. Second, we find that the realized gains and losses on AFS securities can predict the future core earnings of a bank, consistent with the signaling hypothesis of income smoothing (e.g. Barnea et al., 1975; Bartov, 1993). Third, we report evidence that US banks are more likely to smooth income when the general macroeconomic environment is favorable (“good times”) than when it is unfavorable (“bad times”). Fourth, our tests demonstrate that the signaling power of AFS securities for future core earnings tend to be higher during bad times than good times.

Bhattacharya & O'Brien on Market Efficiency

Rajeev R. Bhattacharya and Stephen O'Brien have posted Arbitrage Risk and Market Efficiency - Applications to Market Efficiencyon SSRN with the following abstract:

Measuring the efficiency of the market for a stock is important for a number of reasons. For example, it determines the necessity for an investor to acquire expensive additional information about a firm, and it is a critical factor in class certification in a securities class action. We provide a general methodology to measure the arbitrage risk, which is a negative proxy for the market efficiency, of a stock for any relevant period. We apply this methodology to calculate the arbitrage risk of each U.S. exchange-listed common stock for every calendar year from 1988 to 2010. We find that market efficiency is significantly affected by turnover (negatively), the number of market makers for Nasdaq stocks (negatively), and serial correlation in the Capital Asset Pricing Model of the stock (positively). These findings seem inconsistent with “conventional wisdom,” but we show that our findings are consistent with economic logic. The relations between market efficiency and market capitalization (positive), bid-ask spread (negative) and institutional ownership (positive) are consistent with conventional wisdom. The impact on market efficiency of the number of securities analysts following a stock and the public float ratio of a stock are of ambiguous significance.

 

Fisch on Money Market Funds

Jill E. Fisch has posted The Broken Buck Stops Here: Embracing Sponsor Support in Money Market Fund Reform on SSRN with the following abstract:

Since the 2008 financial crisis, in which the Reserve Primary Fund “broke the buck,” money market funds (MMFs) have been the subject of ongoing policy debate. Many commentators view MMFs as a key contributor to the crisis, in part because widespread redemption demands during the days following the Lehman bankruptcy led to a freeze in the credit markets. The response has been to deem MMFs a component of the nefarious shadow banking industry and to target them for regulatory reform.

Determining the appropriate approach to MMF reform has proven difficult. Banks regulators prefer a requirement that MMFs trade at a floating NAV rather than a stable $1 share price. By definition, a floating NAV would prevent future MMFs from breaking the buck, but it is unclear that it would eliminate the risk of large redemptions in a time of crisis. Other reform proposals have similar shortcomings. More fundamentally, pending reform proposals could substantially reduce the utility of MMFs for many investors, which could, in turn, dramatically reduce the availability of short term credit.

The complexity of regulating MMFs has been exacerbated by a turf war among regulators. The Securities and Exchange Commission has battled with bank regulators both about the need for additional reforms and about the structure and timing of any such reforms. Importantly, the involvement of bank regulators has shaped the terms of the debate. To justify their demands for greater regulation, bank regulators have framed the narrative of MMF fragility using banking rhetoric. This rhetoric masks critical differences between banks and MMFs, specifically the fact that, unlike banks, MMF sponsors have assets and operations that are separate from the assets of the MMF itself. Because of this structural difference, sponsor support is not a negative for MMFs but a stability-enhancing feature.

The difference between MMFs and banks provides the basis for a simple yet unprecedented regulatory solution: requiring sponsors of MMFs explicitly to guarantee a $1 share price. Taking sponsor support out of the shadows provides a mechanism for enhancing MMF stability that embraces rather than ignoring the advantage that MMFs offer over banks through asset partitioning.

Bradford on Crowdfunding

C. Steven Bradford has posted Shooting the Messenger: The Liability of Crowdfunding Intermediaries for the Fraud of Others on SSRN with the following abstract:

The new federal crowdfunding exemption in section 4(a)(6) of the Securities Act requires that securities be sold only through regulated intermediaries—brokers and funding portals. Much of the information appearing on those crowdfunding intermediaries’ platforms will be provided by someone other than the intermediary. Crowdfunding intermediaries must post extensive disclosure provided by issuers of the securities being sold. Under the SEC’s proposed rules, they must also provide communication channels where prospective investors and others may post comments.

Neither the statute nor the proposed rules say much about the intermediary’s obligation to verify the information posted by others or its liability if that information is false or misleading. The result under the securities antifraud rules is unclear. Unless the law is clarified, crowdfunding intermediaries face a significant risk of liability that could make crowdfunded securities offerings unfeasible.

I argue that crowdfunding intermediaries should be liable for information provided by others in only three circumstances: (1) if they knew the posted information was false; (2) if they were aware of red flags that should have alerted them to the fraud; or (3) if they recommend a particular security or offering without an adequate investigation.

Mooney on Bankruptcy and Securities Contracts

Charles W. Mooney Jr. has posted The Bankruptcy Code's Safe Harbors for Settlement Payments and Securities Contracts: When Is Safe Too on SSRN with the following abstract:

This Article addresses insolvency law-related issues in connection with certain financial-markets contracts, such as securities contracts, commodity contracts, forward contracts, repurchase agreements (repos), swaps and other derivatives, and master netting agreements. The Bankruptcy Code provides special treatment — safe harbors — for these contracts (collectively, qualified financial contracts or QFCs). This special treatment is considerably more favorable for nondebtor parties to QFCs than the rules applicable to nondebtor parties to other contracts with a debtor. Yet even some strong critics of the safe harbors concede that some special treatment may be warranted. This Article offers a critique of the safe harbor for settlement payments, as interpreted by the courts, and the safe harbor for transfers in connection with securities contracts that is clearly written into the Bankruptcy Code. It provides an overview of the legislative history, describes the scope and operation of the statutory components of the safe harbors, briefly describes the various academic critiques, and offers my general views on revisions that should be made to the safe harbor provisions. It questions the quite expansive interpretation given by some courts to the safe harbor for settlement payments. It then explains how the safe harbor for transfers made in connection with security contracts could be used to protect from the avoidance powers payments and collateralizations of ordinary debt, transactions that have nothing to do with the QFC markets.

Park on Targeted Social Transparency Regimes

Stephen Park has posted Targeted Social Transparency as Global Corporate Strategy on SSRN with the following abstract:

Multinational enterprises (MNEs) are subject to a variety of U.S. laws that require public disclosure of their cross-border activities. Recent years have seen the emergence of mandatory disclosure regimes under U.S. federal securities law with the express purpose of advancing international human rights in the context of geographically-defined, issue-specific non-economic public policy objectives, which I collectively refer to as “targeted social transparency” (or “TST”) regimes. This Article addresses the appeal and shortcomings of mandatory disclosure as a means of regulating global corporate conduct, focusing on the unique challenges posed by TST. Two contemporary examples of TST are analyzed: (i) the “conflict minerals” provisions in the Dodd-Frank Act, which require the disclosure of minerals whose mining is associated with human rights violations in the Democratic Republic of Congo; and (ii) disclosure requirements under the Iran Threat Reduction and Syria Human Rights Act with respect to commercial activities associated with the Iranian government’s suppression of human rights. I present the concept of constructive discourse, which seeks to enhance the effectiveness of mandatory disclosure by addressing two related objectives: (a) how TST can catalyze internally-driven changes in corporate behavior to the mutual benefit of MNEs and stakeholders; and (b) how MNEs can use TST for strategic purposes. Using the concept of constructive discourse, this Article identifies and explores specific ways that TST regimes can shape socially-beneficial, strategically-rational corporate conduct.

Stratmann & Welborn on Short Selling

Thomas Stratmann and John W. Welborn have posted Informed Short Selling in High Fail-to-Deliver Stocks on SSRN with the following abstract:

We find that stocks with high fails-to-deliver (FTDs) experience abnormal negative returns, both in future and present periods. These findings come from both an event study and a portfolio returns analysis using Fama-French factors. They are consistent with previous research documenting that high short interest stocks experience abnormal negative returns. Using proprietary data on stock borrow costs, we also show evidence that short sellers of high FTD stocks, on average, obtain economic profits from their trades. These findings provide support for the hypothesis that high FTD levels reflect a nonbinding short sale constraint that does not restrict informed short selling.

Couture on PLRSA Discovery

Wendy Gerwick Couture has posted The PSLRA Discovery Stay Meets Complex Litigation: Five Questions Answered on SSRN with the following abstract:

The Private Securities Litigation Reform Act (“PSLRA”) was enacted nearly 20 years ago in order to combat perceived abuses in private securities litigation. One key provision of the Act is the discovery stay, which applies in any private action under the Securities Act of 1933 or the Securities Exchange Act of 1934 and which states that “all discovery and other proceedings shall be stayed during the pendency of any motion to dismiss.” Congress enacted the discovery stay to prevent the perceived abuses of fishing-expedition and extortive discovery. This stay, which applies in a straightforward fashion in simple cases, raises myriad issues in complex cases with multiple defendants, multiple claims, and staggered briefing schedules. The application of the discovery stay in complex cases is often outcome-determinative because, absent discovery, it is extraordinarily difficult for a plaintiff to meet the PSLRA’s heightened pleading standards. Yet, these complexities are rarely addressed by the appellate courts, leaving the district courts in disarray. In this essay, I seek to answer the following five questions that arise when the PSLRA discovery stay meets complex litigation: (1) When does the discovery stay begin? (2) Does the discovery stay apply to successive motions to dismiss, even if the first motion to dismiss was denied in part? (3) Does the discovery stay apply to 12(c) motions for judgment on the pleadings? (4) Does the discovery stay apply to the entire case, even if only a subset of defendants have pending motions to dismiss? (5) After the discovery stay has been lifted, does the PSLRA prevent the plaintiff from relying on discovered materials to assert additional claims against existing, new, or previously dismissed defendants?

I hope that this essay will help guide litigants and courts as they seek to apply the PSLRA discovery stay in complex litigation. I also hope that this essay will encourage other scholars and commentators to delve into this messy and unsettled, yet frequently outcome-determinative, area of securities litigation.

Dharmapala & Khanna on the JOBS Act

Dhammika Dharmapala and Vikramaditya S. Khanna have posted The Costs and Benefits of Mandatory Securities Regulation: Evidence from Market Reactions to the JOBS Act of 2012 on SSRN with the following abstract:

The effect of mandatory securities regulation on firm value has been a longstanding concern across law, economics and finance. In 2012, Congress enacted the Jumpstart Our Business Startups ("JOBS") Act, relaxing disclosure and compliance obligations for a new category of firms known as "emerging growth companies" (EGCs) that satisfied certain criteria (such as having less than $1 billion of annual revenue). The JOBS Act’s definition of an EGC involved a limited degree of retroactivity, extending its application to firms that conducted initial public offerings (IPOs) between December 8, 2011 and April 5, 2012 (the day the bill became law). The December 8 cutoff date was publicly known prior to the JOBS bill’s key legislative events, notably those of March 15, 2012, when Senate consideration began and the Senate Majority Leader expressed strong support for the bill. We analyze market reactions for EGCs that conducted IPOs after the cutoff date, relative to a control group of otherwise similar firms that conducted IPOs in the months preceding the cutoff date. We find positive and statistically significant abnormal returns for EGCs around March 15, relative to the control firms. This suggests that the value to investors of the disclosure and compliance obligations relaxed under the JOBS Act is outweighed by the associated compliance costs. The baseline results imply a positive abnormal return of between 3% and 4%, and the implied increase in firm value is at least $20 million for an EGC with the median market value in our sample.

Singal & Tayal on Short Selling

Vijay Singal and Jitendra Tayal have posted Does Unconstrained Short Selling Result in Unbiased Security Prices? Evidence from Futures Markets on SSRN with the following abstract:

We examine whether unconstrained short selling can result in unbiased security prices. Since constraints on short selling cannot be eliminated in equity markets, we use trades from futures markets where there is no distinction between short positions and long positions. We find that in those markets, even with unconstrained short selling, there is an upward bias in prices around weekends. The bias is stronger in periods of high volatility when short sellers are unwilling to accept higher levels of risk. On the other hand, riskiness of long positions does not seem to have a similar impact on prices. Thus, evidence in the paper shows that security prices may be biased upwards even without constraints on short selling, with greater overvaluation in the more volatile securities.

Ali, Ramsay & Saunders on Securities Lending

Paul Ali, Ian Ramsay, and Benjamin Saunders have posted Securities Lending, Empty Voting and Corporate Governance on SSRN with the following abstract:

This paper examines the corporate governance implications of securities loans, in particular the impact of securities loans on shareholders’ voting rights and the control of listed Australian companies. The paper considers whether the current regulatory framework for securities loans in Australia adequately addresses the concerns associated with securities loans and whether reform is required in order to protect the interests of shareholders in listed Australian companies and to ensure that the governance of these companies is not undermined by securities loans.

Sulkowski & Waddock on Reporting

Adam J. Sulkowski and Sandra Waddock have posted Beyond Sustainability Reporting: Integrated Reporting is Practiced, Required & More Would Be Better on SSRN with the following abstract:

Ninety-five percent of the Global Fortune 250, along with thousands of other companies worldwide, voluntarily report on their environmental, societal, and economic impacts. The practice is variously known as sustainability reporting, corporate responsibility (CR) reporting, corporate social responsibility (CSR) reporting, citizenship reporting, environmental, societal, and governance (ESG) reporting, or triple bottom line (TBL) reporting. A growing number of countries now mandate or provide guidance related to this practice to some extent. For example, in the United States, the Dodd-Frank Wall Street Reform and Consumer Protection Act explicitly requires publicly traded companies to disclose data related to their supply chains of certain minerals.

Should greater disclosures be explicitly and specifically required? Should companies begin greater disclosures for their own benefit? Do the basic principles of existing laws already require a greater amount of disclosure in our current context? If so, what would be gained from greater and more explicit guidance from legislators or regulators such as the SEC? We seek to answer these questions.

This article summarizes the history, current state, and motivations and impacts of sustainability reporting and regulation-by-disclosure, along with data on the present needs of investors and recent market trends. It also reviews the definition of materiality under U.S. securities laws and regulations – the key to understanding what data a company must publicly disclose for the benefit of investors. Based on our review of recent history, the current needs of investors, and the definition of materiality, it is clear that existing laws and related rules already require greater disclosure of data on environmental and societal impacts than commonly understood. The article concludes with recommendations for managers, their attorneys, accountants, and policymakers, and provokes further questions for constructive scholarship in the fields of business and law.

Hoesli, Kadilli & Kustrim on Real Estate Securities

Martin Hoesli, Anjeza Kadilli, and Reka Kustrim have posted Commonality in Liquidity and Real Estate Securities on SSRN with the following abstract:

We conduct an empirical investigation of the pricing and economic sources of commonality in liquidity in the U.S. REIT market. Taking advantage of the specific characteristics of REITs, we analyze three types of commonality in liquidity: within-asset commonality, cross-asset commonality (with the stock market), and commonality with the underlying property market. We find evidence that the three types of commonality in liquidity are priced in REIT returns but only during bad market conditions. We alsofind that using a linear approach, rather than a conditional, would have underestimated the role of commonality in liquidity risk. This explains (at least partly) the small impact of commonality on asset prices documented in the extant literature. Finally, our analysis of the determinants of commonality in liquidity favors a demand-side explanation.