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October 4, 2017

Issues to Watch For As SEC Chair Clayton Testifies Before House Financial Services

Wednesday, October 4, 2017
Contact: Nick Jacobs, 202-618-6430 or

To: Editors and Reporters Covering SEC Chairman Clayton’s Testimony Before the House Financial Services Committee

From: Lev Bagramian, Senior Securities Policy Advisor

Subject: Issues to Watch For in Today’s Hearing

In advance of SEC Chairman Jay Clayton’s oversight hearing before the House Financial Services Committee, this memo breaks down the issues to watch for during the hearing:

Hacking of EDGAR and Cybersecurity are top of mind and Chairman Clayton must remind Republican Members of the HFSC to NOT prohibit the SEC from tapping into a Reserve Fund set aside for IT-only improvements.  Cybersecurity and EDGAR hacking is the issue du jour for Chairman Clayton. He’s right to be transparent about the SEC’s own vulnerabilities, and to caution the investing public to more seriously appreciate cybersecurity threats.  Chairman Clayton calls for greater investment into and immediate hiring of experts to strengthen SEC’s own IT infrastructure.  However, he fails to note that in the past two budget cycles Republicans in Congress, and now the new Administration, have proposed to cutoff SEC’s IT funding that was supposed to serve agency’s short- and long-term IT needs, allowing the agency to upgrade its systems and make them secure.  This Reserve Fund must be preserved and the SEC must be allowed to draw down from the fund to upgrade and maintain the security of its IT systems.

Members will likely call for an “Equifax Rule,” which will require public companies to disclose significant hacks as material events.  Also expect Members to probe whether Equifax executives traded on non-public information ahead of the hacking disclosure.

SEC’s soon to be released regulatory agenda will include Dodd-Frank items that were left out from its March version. The March version reflected the priorities of then Acting-Chairman Mike Piwowar.  The upcoming one (likely to be released in October) will be Chairman Clayton’s first. Based on Chairman Clayton’s testimony and recent public appearances, the new agenda he’s putting together will likely bring back Dodd-Frank mandated rules, such as rules prohibiting incentive-based compensation arrangements that promotes risky behavior and recovery of erroneously awarded compensation (the so-called clawback provision), and proposals to regulate security-based swaps.  Finalizing these rules is long overdue, so putting them back on the SEC’s agenda would be a welcome step in the right direction.

Growing companies are choosing to stay private for reasons that go well beyond regulatory costs and burdens. Chairman Clayton is correct to be concerned about the impact of having fewer public companies for retail investors to invest in, he is also correct to point out that companies that go through the rigors of the IPO process become better companies. But the presumption that investors are overwhelmed with the amount of information available today, as he seems to hold, is wrong as it was wrong during Chair Mary Jo White’s tenure.  Last week, Chairman Clayton said that the Commission will continue the “Disclosure Effectiveness” initiative which risks reducing information investors rely upon and need to protect themselves.  

Pay Ratio remains on the books, and must be implemented and complied with. The Dodd-Frank Act requires public companies to disclose the ratio of the CEO compensation to that of the median salary of an employee in the same company. The rule became an early target for Acting-Chairman Piwowar.  The matter seems to be settled now with the SEC releasing a staff interpretive guidance, to allow companies to re-use certain data and statistical methods that will make compliance easier.

SEC staff has found no evidence that companies are having difficulties complying with DOL’s Fiduciary Duty rule. During last week’s Senate Banking Committee hearing, Chairman Clayton listed specific ways market practitioners are evolving in response to the DOL rule, including issuances of “clean shares” which are free of any sales loads or distribution costs, and allow for brokers to be transparent with their clients as it relates to commissions and compensation. He also noted SEC’s extensive interactions with DOL, a point that contradicts the narrative some Congress want to draw: that DOL staff wrote and is implementing the rule in isolation. Chairman Clayton will also note that now that DOL’s rule is in place (albeit partly), the SEC must catch-up with its own work on fiduciary duty.

Certain market structure reforms are coming, but nothing fundamental. Chairman Clayton supports a 2015 SEC proposal to better regulate Alternative Trading Systems (ATS) and a 2016 proposal to increase information on how brokers choose to route customer trades.  Expect GOP Members to vigorously push for a delay in the implementation of the Consolidated Audit Trail (CAT), especially since it now clear that some PII was exposed through the EDGAR hack.  Chairman Clayton has thus far resisted these calls, but has agreed that the security of personally identifiable information (PII) that CAT will collect is paramount.  Chairman will also express hope hope that the Fixed Income Market Structure Advisory Committee (FIMSAC), a new SEC advisory committee, unfortunately modeled after EMSAC, that’s supposed to take up issues related to corporate, treasury and municipal bonds, will hold its first meeting sometime in December.  Unfortunately, Chairman Clayton does not indicate any urgency to fix some clearly broken aspects of the markets: the pernicious practice of kickbacks exchanges give to brokers for order flow, latency arbitrage (also known as HFT front-running) or weak or non-existent market surveillance that large exchanges conduct (in contravention to their obligations as self-regulatory organizations).


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