With more than four months as chairman of the Securities and Exchange Commission under his belt, Jay Clayton has, thus far, been pretty quiet.
Although staff guidance and enforcement actions churn along, he and his fellow commissioners have resisted formally meeting. New and proposed rulemaking alike is in virtual abeyance with two open seats on the Commission remaining unconfirmed and unfilled.
Clayton’s personal expression of topical views has been limited, aside from occasional pledges to promote capital and reinvigorate the flagging IPO market.
Although much of a Sept. 26 hearing before the Senate Banking Committee focused on a recently discovered breach at the agency, it was also an opportunity for Clayton to delve into a variety of topics with the authority of chairman, beyond the careful parsing of a nominee.
Regarding the SEC’s breach, Sen. Mike Crapo (R-Idaho), chairman of the committee, expressed concerns about “growing data collection requirements by our regulators.”
“I’m also concerned about the massive data collection that’s going on in the private sector,” he said. “My concerns have only grown given the cyber-breaches at the Federal Deposit Insurance Corporation, Internal Revenue Service, your Commission, and other agencies. I’ve mentioned many other times at hearings that the Consumer Financial Protection Bureau and its massive data collection is something I am very concerned about.”
“Given the amount of data they collect, and the roles they play as stewards of our markets, the SEC and other government agencies must be held to a higher standard when it comes to cyber-readiness,” he added.
Clayton, addressing the gravity of the situation, said the SEC will make increased use of penetration testing. “We are under constant attack by nefarious actors,” he said.
Crapo raised data security concerns inherent in the SEC’s Consolidated Audit Trail.
Back in 2011, the SEC first planted the seeds for the system. Following a massive “flash crash” in 2010, it adopted Rule 613, a plan to create a consolidated audit trail (CAT) that allows regulators to efficiently and accurately track all trading activity throughout the U.S. markets. Implementation, for now, is slated for 2018.
“Once implemented, CAT will capture customer order and event information from the time of the order inception through execution,” Crapo said. “It will include Personally Identifiable Information. Do you believe that this data must be collected and, if so, how can you ensure that it will be adequately protected?”
“You are using the decline in IPOs to argue that there is something wrong in the markets and our rules and regulations are making it too hard for companies to go public, but the data shows that more investors are putting more money into IPOs than ever before.”
Sen. Elizabeth Warren (D-Mass.)
“I do believe that data of the type we are discussing with CAT is very valuable to our oversight role, especially if you look at insider trading and monitoring of broker-dealers,” Clayton said. “This type of data enables us to detect things we would not have been able to do in the past. It allows us to prioritize our examination efforts. It is important.”
That being said, Clayton added, upon joining the Commission and earning a first-hand understanding of the system, he “quickly made the decision that we do not want to take sensitive data that we do not need to further our mission.”
“We should not take any sensitive data unless we can protect it,” he said.
What constitutes materiality? Sen. Sherrod Brown (D-Ohio) queried Clayton on the frequently tricky definition of what constitutes materiality, specifically financial materiality that triggers a disclosure to investors.
Brown’s backdrop was the fact that consumer credit rating agency Equifax waited six weeks to disclose its recent, massive data breach.
“Companies may often say that if a matter does not have a material impact on its financial results they don’t need to disclose it to investors and the public,” he said. “Is materiality the right disclosure standard when a company has a breach and American’s personal information is stolen?”
Clayton described materiality as “the core of our disclosure system.”
Companies, he said, are not as engaged in communicating matters of potential shareholder interest as he would prefer.
“As I look across the landscape of disclosure, companies should be providing better disclosure about their risk profile,” he said. “Companies should be providing faster disclosure about intrusions that may affect shareholders’ investment decisions. Across the landscape of our markets, not just company-by-company or regulator-by-regulator, there should be better disclosure as to the cyber-security risks we face.”
“We expect people to constantly assess whether a breach is material to investors and, when they determine that it is, promptly make appropriate disclosures,” he added.
Clayton said it would be inappropriate for him to directly discuss Equifax at that time, but did share a broad view of executives profiting from high stock prices that are the result of a failure to disclose material information such as a data breach. Yes, he said, executive pay clawbacks would be appropriate if gains were related to a violation of securities laws.
Down on the fiduciary rule. Sen. Tim Scott (R-S.C.) discussed the Department of Labor’s controversial fiduciary rule, a set of standards for the retirement advice offered by financial advisers and brokers.
“I do think it is important for us to recognize that the fiduciary rule has had a negative impact on many Americans and restricted their access to financial professionals,” he said, praising the Labor Department’s current eight-month delay and relatively new efforts to coordinate with the SEC on the rule.
Clayton said his goal for the SEC’s involvement and potential rulemaking regarding retirement accounts is “clarity and consistency.” That philosophy, he said, must also apply to related state regulations.
Harmonization of these rules, he said, is a priority: “We are pushing this one; this is at the top of my list for the Commission.”
Shareholder resubmissions. Scott solicited Clayton’s views on what some say are overly generous rule interpretations that allow activist shareholders to resubmit proposals at annual meeting that are nearly identical to previous, failed demands.
“Management at public companies should be held accountable by their shareholders,” he said. “A balance between both sides ensures productivity and corporate transparency. That said, I wonder if the scales have not been tipped a little bit too far.”
“We now allow for the resubmission of shareholder proposals even if nearly 90 percent of shareholders have already voted ‘no’ in the past,” Scott added. “That creates costs and distracts from long-term thinking, all the while doing little to protect investors. How are other shareholders affected by such a low bar for proposal of resubmission?”
Clayton said this was an area that merits ongoing re-examination.
“Shareholder access to management is important,” he said. There are many times where shareholders have made proposals that have gotten traction and led to positive change. That said, you have identified an issue where you can have the not-widely-held and idiosyncratic view of a few shareholders cost other shareholders a substantial amount of money and time.”
Enforcement. In 2009, the SEC expanded the authority to issue investigative subpoenas to a dozen or so senior officials in Enforcement Division.
“Before that time, commissioners themselves had to vote on each and every subpoena and it slowed enforcement down to a crawl, Sen. Catherine Cortez Masto (D-Nevada) said.
Commissioner Michael Piwowar has suggested that the SEC revert to the prior process, once again positioning commissioners as sole arbitrators.
Clayton explained that wile subpoena authority has been somewhat restrained, authority does lie with the SEC’s co-directors of the Enforcement Division.
Cortez Masto also raised Clayton’s past discussions of the improved deterrence that comes with individual, not just corporate, culpability. Does Clayton still have that belief, and maintain support of the Justice Department’s “Yates Memo,” given current, politically motivated efforts to rescind it?
Clayton said, without delving into Justice Department politics, that he was “comfortable with how the Enforcement Division is approaching these matters, that it is correct, and that it is going to continue.”
As for the Foreign Corrupt Practices Act, he pledged that his past criticisms do not translate into a prosecutorial slowdown.
As of Sept 1, under the Trump Administration, there have only been three FCPA related enforcement actions. Two of those cases date back to Obama Administration investigations.
“We are not slowing down,” Clayton argued. As for his past concerns with the application of the law, “what I was saying is that we need to think about whether we are doing this alone around the world. Getting our partners in other countries on board makes it easier to pursue these behaviors.”
Mandatory arbitration. Among the more controversial rules crafted by the CFPB is banning the use of mandatory arbitration agreements by financial firms. Adding fuel to the fire, Commissioner Piwowar has suggested that companies that go public should be permitted to require that shareholders resolve claims in arbitration and not in the courts.
Sen Ben Sasse (R-Neb.) called that idea “contrary to best governance practices.” He asked: “Will you continue to support SEC practice that preserves shareholder rights to go to court?”
“I’m not going to prejudge this issue,” Clayton said. “This is also state law issue. In many states you are not permitted to have mandatory arbitration.”
“I am very cognizant that the ability to go to court is something that has great value to shareholders,” he added, explaining that the SEC, for now, has “no definitive view on this issue.”
Sen. Elizabeth Warren (D-Mass.) and Clayton squared off over the state of the IPO marketplace.
“In one of your first speeches as chairman you noted that there has a been a 50 percent decline in the total number of U.S. listed public companies over the past two decades,” she said. “You called it a serious issue for markets, and the country, and you wanted to encourage more companies to go public.”
That encouragement, positioned as “helping Mr. and Mrs. 401k invest in emerging companies,” could lead to a potential reduction in reporting and disclosure obligations, Warren added. She argued that increases in M&A activity led to a decrease of IPOS more than any perceived effects of the disclosure regime.
Clayton maintained his philosophy that investors benefit by the opportunity to get into the ground floor of growing companies.
Warren countered with her data that “fewer, but bigger IPOs is better for investors” and provide “more revenue.”
“You are using the decline in IPOs to argue that there is something wrong in the markets and our rules and regulations are making it too hard for companies to go public, but the data shows that more investors are putting more money into IPOs than ever before,” she said. “Those companies are doing better for investors because they are more stable before they come to market.”
“Loosening the disclosure and registration requirements may make life a whole lot more profitable for a handful of bankers and attorneys who just want more IPOS in the system, but there is no evidence that it will make life better for investors,” she argued.