Wall Street WARZONE

Politicians: The White House, Congress, etc …

by Paul B Farrell, JD, PhD
| | 4/27/2010

Today’s government leaders are little more than puppets of the “Happy Conspiracy,” thanks to huge campaign donations and vast army of lobbyists now outnumbering elected officials over ten-to-one, they can minimize and suppress all reform efforts and foster a management-favorable culture, a pattern we saw first in both corporate governance and mutual fund reform legislation efforts. The Enron/Worldcom scandals resulted in the Sarbanes/Oxley reforms. Paralleling the scandals in Corporate America, over thirty mutual funds were involved in their own scandals. But the fund industry and its lobbyists fought off Congressional reforms, with the help of their pro-management SEC. Shortly after the Senate Banking Committee suddenly and summarily killed the Mutual Fund Reform Act of 2004—which would have been the first real reform since the Investment Company Act of 1940, after long hearings and huge public support we might add—we published our final column of sixty-eight on the two-year reform effort, it was an “open letter” to the Senate Committee in April of that year. And it keeps just getting worse.

When The Mutual Fund Act of 2004 was defeated by powerful special interests, notably the Investment Company Institute, the chief lobbying and trade organization of fund company owners, my column let go with the frustrations of 95 million investors whose hope for reform had been smashed. This is our letter to Congress:

To the Honorable Senator Richard Shelby, chairman, and the members of the Senate Banking Committee. Dear Senators, when SEC chairman Bill Donaldson testified at the tenth and final hearings held by your committee on fund industry reforms he was asked whether new legislation was needed. His answer should have surprised no one. After all, it was consistent with their historic bias: SEC decisions consistently favor fund industry insiders over investors.

And yet, while predictable, Donaldson’s audacious reply—“I believe there is no need at this juncture”—was deeply offensive and insulting to America’s 95 million mutual fund investors. No need for new reform legislation? Is this some kind of cruel joke?

· After the widespread scandals exposing massive frauds throughout the industry?
· After years of rampant unethical conflicts skimming billions off investors returns?
· After the introduction of four reform bills in the Senate and the lengthy testimony from industry leaders urging wholesale reform reforms?
· And after the House of Representatives actually passed the Mutual Funds Integrity and Fee Transparency Act by an overwhelming 418-2 majority?

After all that, you senators want us to believe that no new legislation is needed? How stupid does our government think “we the people” are? Yes, this must have been a joke. But, from behind the scenes the fund industry leaders are the ones laughing loudest. Most Main Street investors know all too well why Senator Peter Fitzgerald said “the fund industry is the world’s largest skimming operation, a $7 trillion trough from which fund managers, brokers and other insiders are steadily siphoning off an excessive slice of the nation’s household, college and retirement savings.” It’s true!

So once again the fund industry and the SEC have made fools of Congress as well as America’s 95 million mutual fund investors. This corrupt industry badly needs reform. And yet here they are being rewarded, not just with immunity from prosecution for their widespread criminal behavior, by winning an exception to the Sarbanes-Oxley Law. They also get yet another renewal of their license to continue “skimming” one third right off the top of the investors returns, as Senator Fitzgerald, Jack Bogle and others had testified.

Senate has no excuse for failing investors

However, while the SEC chairman’s decision to kill new reform legislation was predictable, the Senate’s decision is inexcusable. We were flabbergasted when Senator Shelby announced that “the stakes are too high and mutual funds are too important to American investors for Congress to rush to judgment on legislation.” Senators, that’s nonsense and we are not buying it. We all know there’s been no “rush,” but rather lengthy debates. Congress has heard an incredible amount of testimony on fund reforms for over a year. Indeed, this has been called the “greatest opportunity” for reform in sixty years since the Investment Company Act of 1940.

So why did your committee go along with the SEC chairman? Unfortunately, Senator Shelby made it painfully clear by adding: “We also must be sensitive to the current political environment, in which I believe it will be very difficult to pass a bill. I fear that if Congress undertakes a complicated legislative effort, then the SEC initiatives will be caught in limbo and investors could be harmed. We must allow the SEC to move forward in an expeditious manner.” Again, Senators, we are not fools. We do not need a translator to get the coded message here: “The current political environment” simply means that the fund industry’s biggest donors—who happen to be in Wall Street and the financial services industries—persuaded the Senate to sabotage fund reform.

SEC consistently fails investors, cannot be trusted

Unfortunately, your trust in the SEC’s vague promises to do the job without new legislation is totally unwarranted. And the reasons are blatantly obvious to everyone: 

· Whistleblowers ignored. Back in 2003 the SEC repeatedly refused to act after several whistleblowers brought substantial evidence to them documenting widespread illegal timing and trading activities, even acted indignant when states attorneys-general took action.
· Congress attempted to limit State AG enforcement. In the months before the SEC was exposed for failing to prosecute obvious illegal actions, the SEC was supporting new Congressional legislation that would have limited the enforcement powers of state attorneys-general in prosecuting securities violations. That failed when the the New York AG brought charges that the SEC and the US Justice Department had been avoiding.
· Minimal prosecution of criminal behavior. Then after the states attorneys-general did bring charges of flagrant illegal actions rampant in the industry, the SEC has continued favoring the industry, ignoring wide-spread unethical behavior, while letting thousands of white-collar criminals off with relatively minor fines, no prosecutions, not even an admission of guilt. Clearly biased.
· Sided with industry and opposed reforms. Moreover, testimony by Senator Fitzgerald, Bogle and others made it painfully clear that the SEC simply does not have the statutory authority to do many things necessary to protect investors. New laws were needed to define crucial issues: What are a fund manager’s fiduciary duties? What is an “independent” director? What about soft dollars conflicts? The absurd 12b-1 fee conflicts? The SEC resisted.
· Actively undermining government oversight. Even Congressman Richard Baker, Chairman of the House Financial Services Subcommittee questioned the underhanded activities of the fund industry in a letter to the SEC saying he was concerned “by industry efforts to block the implementation of this important new reform by intervening in the OMB’s [Office of Management and Budget in the Executive Office of the President] routine review of the rules.”

The Senate cannot trust the SEC any more than the public should. And yet you refuse to protect investors. Instead, you want to turn us back to a regulatory agency with a proven bias against investors. As former staff attorneys have said, the SEC is a puppet of the fund industry. So, we will now have no protection against a corrupt fund industry. How the Senate and the SEC could possibly conclude that no new legislation is necessary at this point boggles the minds of investors and seriously diminishes the Senate’s credibility, leaving us with but one conclusion: The “current political environment” referred to as the reason for not passing reform must be the industry’s fat-cat donors and special interest lobbyists that have spearheaded the efforts to kill this legislation in the Senate.

Reconsider, don’t let fund company insiders buy you off

We strongly urge the members of the Senate Banking Committee to reconsider this unfortunate decision and introduce the bill for a vote in the full Senate. If not, I promise you that the failure to act will come back to haunt Congress, the financial markets, and the American economy because it will eventually backfire … investors are tired of Congress and the SEC condoning the greedy and unethical behavior that now dominates the entire fund industry.

In closing, the committee would be wise to reflect on some remarks Warren Buffett once made about moral integrity before an earlier Congressional committee, and ask how it applies to today‘s behavior here: “I want employees to ask themselves whether they are willing to have any contemplated act appear on the front page of their local paper the next day, be read by their spouses, children, and friends … If they follow this test, they will not fear my other message to them: Lose money for my firm and I will be understanding; lose a shred of reputation for the firm, and I will be ruthless.” So ask yourselves: If the deals made between members of Congress and the fund industry’s lobbyists to kill this legislation were exposed tomorrow on the front page, would your reputation remain intact? Or would the investing public react negatively and vote you out of office?

Upshot: Politicians conspire with “K-Street” lobbyists

In fact, “the deals” were exposed and it didn’t matter much. A year earlier, in January 2003, Congressman Michael Oxley’s House Committee opened an investigation of fund industry. Unfortunately, his motivations quickly became suspect. Two months later things blew up: the Washington Post ran a story exposing Oxley’s effort as part of the infamous “K-Street Project,” a larger clandestine effort by the Republican Party to stack lobbyist organizations with their political allies. At the time, the Investment Company Institute (the fund industry’s lobbying organization) was headed by two Democrats.

As a result of this early ethics flap Oxley turned the hearings over to Representative Richard Baker. However, no ethics violations were filed because, as we later learned, both political parties have a tacit “mutual non-aggression pact” not to press any ethics violations. As incredible as that may seem, that pact essentially eliminates reviewing the ethical behavior of members of Congress, until the matter explodes in the press, like the Foley, Vitter and Craig affairs. Notwithstanding this ethical mess with Oxley, the heads of mutual fund companies finally got their way, behind the scenes—a Republican lobbyist eventually replaced the Democrats as head of the all-powerful ICI.

Surrender & move on—to a new game with new rules, yours

After two years and sixty-eight columns covering reform efforts and exposing the political and ethical shenanigans of the ICI, the fund companies and their cozy relationships with Congress and the SEC, it became apparent that if industry giants like Jack Bogle, Burton Malkiel, Senator Fitzgerald, former SEC Chairman Levitt, several disinchantes former SEC attorneys, and so many other reform-minded industry insiders couldn’t get any new legislation passed—even after an incredibly large number of funds were caught in obviously illegal actions siphoning off investor money during the 2002-2004 scandals—we decided to stop beating out head against a blank wall, refocus our efforts and go in a different direction, helping investors avoid the happy conspiracy and go in a new direction too.

FirstPubDate: Apr’04

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