By Jesse Westbrook Dec. 30 (Bloomberg) — Mary Schapiro , chairman of the U.S. Securities and Exchange Commission , said she wanted to show that her agency was cracking down after missing Bernard Madoff’s $65 billion Ponzi scheme. In May, she proposed that almost 10,000 money managers undergo surprise inspections to make sure they weren’t ripping off clients. “Investors are looking to the SEC to assure the safekeeping of their assets,” Schapiro said at the time. “We cannot let them down.” On Dec. 16, she settled for something less sweeping. Schapiro joined four other commissioners in approving a rule that requires about 1,600 U.S. fund managers to submit to unannounced audits, 83 percent fewer than seven months ago. The revision came after lobbying by fund companies, including executives from T. Rowe Price Group Inc. , who met with Schapiro, and Legg Mason Inc. , who met with another commissioner, SEC records show. The diminished inspections rule is one of at least four Schapiro announced as a way to protect investors and boost confidence, then later scaled back or delayed. In August, she bought herself more time on a rule to rein in short-sellers, after lobbying by hedge funds. In October, Schapiro put off plans to give investors more power to decide who sits on corporate boards after the U.S. Chamber of Commerce questioned the SEC’s jurisdiction. ‘Driving Hard’ “I’ve been driving people very, very hard in this building,” Schapiro said in a Dec. 22 interview. “We just don’t have the capacity to move any faster. We’re still at, I think, a very good pace.” Schapiro became SEC chairman in January, having been nominated by President-elect Barack Obama to attack Wall Street’s “culture of greed” and bring the “new ideas, new reforms and new spirit of accountability” to an agency whose failures, Obama said, helped spur the 2008 market meltdown. In her first year in office, Schapiro’s found that issuing proposals is easier than finalizing them. “You get zero points in history for what you proposed,” said former SEC Chairman Richard Breeden , who now manages a hedge fund that tries to remove directors at companies he believes are underperforming. “You get points for what you get over the goal line.” The SEC under Schapiro, 54, has suffered some setbacks, including a public humiliation in September by a federal judge who called a proposed $33 million settlement of an enforcement case with Bank of America Corp. a “contrivance.” Democratic Relations Even Schapiro’s attempts to maintain good relations with Democrats in Congress have prompted SEC Commissioner Kathleen Casey , a Republican, to caution against politicizing an independent agency. Regulation “needs to be driven by data, not politics or unfounded assumptions,” the SEC commissioner said at an October public meeting. “If you go back to my days there were attempts to bring political pressure over some of our cases,” said Stanley Sporkin , a retired federal judge who in the 1970s led the SEC unit that investigates corporate fraud. “Everybody at the SEC knows you’ve got to fight it off. Mary knows that.” Schapiro, who graduated from Franklin and Marshall College in Lancaster, Pennsylvania, before receiving a law degree from George Washington University, has spent more than two decades in financial regulation. She was first a staff attorney at the Commodity Futures Trading Commission , followed by stints as an SEC commissioner, chairman of the CFTC and then chief executive officer of the Financial Industry Regulatory Authority , a Wall Street-funded overseer of more than 5,000 U.S. brokerages. Image Rehabilitated Former SEC officials say Schapiro’s strategy of proposing rules and pursuing cases against industries and executives involved in the financial crisis helped rehabilitate the agency’s image — even if she has had to change her mind on occasion. “Sometimes you shoot too fast and you find out there are things you should have thought about first,” said Edward Fleischman , a former SEC commissioner who’s now a senior counsel at the Linklaters law firm in New York. “She doesn’t appear to be a steamroller who says ‘I made the proposal so it must be right.’” At a time when lawmakers were threatening to strip the SEC of power because of failures in policing Wall Street, she helped restore its credibility, former officials said, by cleaning up units that missed Madoff’s crimes and proposing regulations for credit-rating companies that assigned top grades to toxic mortgage securities. “Mary has behaved admirably,” said David Ruder , a Republican SEC chairman under President Ronald Reagan who now teaches law at Northwestern University in Chicago. “She has really made an effort to show the commission is revitalizing itself.” Unfinished Rules The SEC is reviewing public comments on the still- unfinished credit-rating rules, which would require companies such as Moody’s Investors Service and Standard & Poor’s to disclose how much revenue they get from their biggest clients and subject their employees to the same liability standards as auditors. Schapiro also has yet to complete work on rules for money market funds. After last year’s collapse of the $62.5 billion Reserve Primary Fund , the Obama administration called the industry a “significant source of systemic risk.” SEC commissioners plan to vote next year on a proposal to force funds to hold a bigger share of their assets in investments that are easy to liquidate. Other regulatory initiatives, however, are stuck in limbo. After saying in April that she would consider curbs on short- selling, which lawmakers blame for pushing down stock prices, Schapiro has postponed any rules until next year. Hedge Fund Push Back The decision followed push back from hedge funds, including Citadel Investment Group LLC, D.E. Shaw & Co. LP, and Renaissance Technologies Corp. They told the SEC in letters that there was little evidence that bearish traders caused the steep decline of share prices in 2008. The fund managers also said the SEC’s plans would damage markets. Schapiro, in the interview, said the SEC in August sought a second round of comment because it was considering an alternative approach to the short-selling rules proposed four months earlier. On the surprise audits, fund managers complained in private meetings that the agency was unfairly punishing an entire industry for the sins of one of history’s biggest fraudsters, according to attendees who requested anonymity to discuss the private sessions. Exams Unnecessary The exams weren’t necessary, the money managers also argued, because most investment firms hire banks to safeguard customer funds. And they said it would cost them at least double the SEC’s $8,100 estimate to pay for the annual exams. “My view is always, if we are a bit more aggressive in proposing, we have more leeway,” Schapiro said in the interview. In May, she proposed a rule that would give shareholders more power to choose board directors by making it easier to wage proxy fights. Under the proposal, groups of shareholders who collectively own 1 percent of the biggest companies could nominate board members directly on corporate ballots, rather than absorbing the cost of printing and mailing a second proxy statement. She linked the proposal to the global financial crisis, saying bank losses raised “serious questions” about the oversight performed by directors. ‘Unworkable’ Plan The U.S. Chamber of Commerce, which represents more than 3 million companies, called the SEC plan “unworkable” in an August letter. The nation’s largest business lobby has also been discussing with Gibson, Dunn & Crutcher LLP attorneys a strategy for suing the SEC, said Tom Quaadman , a Chamber executive director. By September, Schapiro’s staff began telling investors that the so-called proxy-access rules wouldn’t be in place for 2010 director elections. In October, the SEC publicly announced the delay. Schapiro said the SEC still hopes to approve the rule in the first three months of 2010. “It’s a pretty profound change to the fabric of corporate governance,” she said in the interview. “We need to do it carefully and thoughtfully.” Her agenda has sometimes been driven by political pressure, said James Angel , a finance professor at Georgetown University in Washington who has served as an adviser to stock exchanges. Lawmaker Lobbying The effort to curtail short-selling, in which traders borrow stock and sell it, hoping to profit by replacing the shares at a lower price, followed lobbying from Democratic lawmakers after the Standard & Poor’s 500 Index fell 19 percent in the first two months of the year. Representative Barney Frank , chairman of the House Financial Services Committee — the SEC’s overseer in the House — announced Schapiro’s plans for her at a March 10 press conference. The Massachusetts Democrat said he was “hopeful,” after speaking with the SEC boss, that she’d reinstate the uptick rule “within a month.” The SEC in 2007 had scrapped the rule, which required investors to wait for the price of a stock to rise before executing short sales. In July, the prodding came from Senator Charles Schumer . The New York Democrat urged Schapiro, a political independent, to ban flash orders, which such trading venues as Direct Edge Holdings LLC were using to take market share from NYSE Euronext. Two-Tiered Market Schumer said the practice, in which brokers get a split- second advance peek at buy and sell orders for stock, risked creating a two-tiered market that favored those with sophisticated computer systems over retail investors. Schapiro, after a telephone conversation with Schumer, told her staff to get to work on a ban. To make sure she honored the commitment, the senator put out a press release disclosing their phone conversation and Schapiro’s pledge. The SEC proposed a prohibition on flash trades in September and the agency’s staff is now reviewing public comments. Schumer spokesman Brian Fallon didn’t respond to requests for comment. SEC Commissioner Casey and Senator Robert Menendez , a New Jersey Democrat, are among those who want the SEC to resist what they consider political influence. Menendez, whose state is home to Jersey City, New Jersey-based Direct Edge, sent Schapiro a letter on Dec. 9 advising her to base decisions about whether to ban trading practices on data, not input from “commentators.” Schapiro said she’s not worried “at all” about the level of congressional feedback. “I welcome hearing their views just like I welcome hearing the views of the stock exchanges and the clearinghouses, retail investors and the institutional investors,” she said in the interview. “It’s all part of the mix.” Weakened Clout Her responsiveness to the concerns of lawmakers may reflect the weakened clout of the SEC after the agency missed Madoff’s fraud and politicians accused it of failing to police Wall Street, said former SEC General Counsel Ralph Ferrara . “What’s being done now is to build credibility,” said Ferrara, a partner at Dewey & LeBoeuf LLP in Washington. “If the goal is to protect the agency, then what you do when the bear comes to the mouth of the cave is feed the bear.” There’s evidence that the strategy is working. In May, the Treasury Department was mulling a recommendation to Congress that the SEC relinquish oversight of the $10 trillion mutual- fund industry. Derivatives Regulation Seven months later, the House approved legislation that would increase, not shrink, the SEC’s authority by adding regulation of derivatives to its plate and doubling its $1 billion budget. Senate Banking Committee Democrats also want to give the SEC authority over derivatives. Traders use the mostly unregulated contracts to speculate on everything from interest rates to oil prices, and companies use them to protect against losses. Obama administration officials say a lack of transparency in the $605 trillion derivatives market exacerbated the credit crisis and contributed to the near-failure of American International Group Inc., once the world’s biggest insurer. Under lawmakers’ plans, banks and investors would trade contracts on regulated platforms that are monitored by the SEC and Commodity Futures Trading Commission. Having won the battle to share oversight of derivatives with the CFTC, Schapiro now must prove that her agency can manage the new responsibility. In preparation, she has hired economists and former Wall Street traders to add market expertise to an agency staff made up mostly of attorneys. Headline-Grabbing Cases Meanwhile, new SEC Enforcement Director Robert Khuzami has tried to restore the prestige Madoff stripped from the agency by focusing on headline-grabbing cases, said Peter Henning , a former SEC attorney who now teaches at Wayne State University Law School in Detroit. The strategy went awry when U.S. District Judge Jed Rakoff questioned why the SEC settlement with Bank of America didn’t accuse any executives of wrongdoing. The proposed settlement would have resolved allegations that the Charlotte, North Carolina-based bank misled its investors about billions of dollars in bonus payments during the acquisition of Merrill Lynch & Co. The $33 million fine reflected a “cynical relationship” that allowed the SEC to say it exposed wrongdoing and permitted Bank of America to say it had been “coerced into an onerous settlement,” Rakoff wrote in a Sept. 14 decision. The SEC now must square off against Bank of America in court next year and has requested a jury trial. Lengthy Court Battles The agency may also face lengthy court battles against Angelo Mozilo , the Countrywide Financial Corp. co-founder sued for inappropriate stock sales, and billionaire investor Raj Rajaratnam , who was accused of insider trading. Like some of Schapiro’s rule proposals, she can’t declare victory until those cases wend their way through the legal system. “She’s taken on the job under extraordinarily difficult conditions, given constant demands from lawmakers and the evolving financial crisis,” said Barbara Roper , director of investor protection for the Washington-based Consumer Federation of America. “That’s had an impact on what she’s been able to accomplish. The next year will be a real proving ground.” To contact the reporter on this story: Jesse Westbrook in Washington at jwestbrook1@bloomberg.net .
