The North American Securities Administrators Association yesterday called for Congress to regulate derivatives and hedge funds as well as impose a fiduciary duty on all investment professionals.
Outlining NASAA's agenda for the year, Fred Joseph, Colorado Securities Commissioner and the group's president, also said that Congress should make bold reforms to the financial regulatory system in light of the financial crisis, but stressed that state securities regulators, whom NASAA represents, should be not be pre-empted by the new regulatory framework.
"Regulating our financial markets is an enormous challenge, one that can only be met through the combined efforts of state and federal regulators, working together to protect the integrity of the marketplace and to shield consumers from fraud and abuse," he said. "Congress must resist attempts to weaken this collaborative system."
Speaking to about 15 reporters here, Joseph said that between 2004 and 2007, state securities regulators conducted investigations that resulted in more than 8,300 enforcement actions, which led to $178 million in monetary fines and penalties and orders for more than $1.8 billion in restitution to investors. In addition, state regulators were responsible for sending "fraudsters" away for a total of more than 2,700 years in prison.
"Just imagine what life would be like without us," Joseph said. "We do a lot."
His remarks come as lawmakers have begun drafting legislation to reform the regulatory system, starting with bringing over-the-counter credit default swaps under some level of oversight.
House Agriculture Committee chairman Collin Peterson, D-Minn., and Senate Agriculture Committee chairman Tom Harkin, D-Iowa, have drafted or introduced legislation that would bring CDS onto regulated exchanges. And on Wednesday, Bart Chilten, a Democratic commissioner on the Commodity Futures Trading Commission, called for widening the CFTC's authority over derivatives by, among other things, mandating CDS clearinghouses. At yesterday's press conference, Joseph appeared to endorse those proposals.
"At a minimum, Congress should pass legislation to provide regulatory safeguards making the over-the-counter derivative markets more transparent and subject to effective oversight," he said.
In a credit default swap, the seller of a contract receives a premium for agreeing to guarantee payments of an underlying security, such as a corporate bond, if it defaults. Although CDS can be used as a type of insurance - even though they aren't regulated as such - only 20% of credit default swaps are purchased by someone that owns the underlying risks, according to estimates by the New York Insurance Department.
The other 80% - so-called naked swaps - are sometimes purchased to hedge against another risk one company might have with another, such as outstanding receivables. But often, someone purchases a CDS solely to make a directional bet against a firm or structured finance product.
None of the legislation introduced so far specifically references interest-rate swap agreements, another type of unregulated derivative that is commonly entered into by muni bond issuers to hedge against interest-rate risk on floating-rate debt. But congressional sources have said that some form of regulation over interest-rate swaps may be in the works.
Meanwhile, Joseph said Congress also should authorize the regulation of hedge funds by giving the Securities and Exchange Commission the authority to regulate hedge fund advisers as investment advisers. In addition, the SEC should have the authority to require hedge funds to disclose their portfolios, including positions, leverage amounts, and identities of counterparties "to the appropriate regulators," he said.
He also urged Congress to impose a fiduciary duty to all financial professionals who give investment advice regarding securities - "broker-dealers and investment advisers alike," he said. "This will enhance investor protection, eliminate confusion and even promote regulatory fairness by establishing conduct standards according to the nature of the services provided, not the licensing status of the provider."