For rogue advisers, it's thirty strikes, but not out

A lot of fire-breathing has been going on around the industry this month in reaction to the Securities and Exchange Commission's decision to grant Oppenheimer & Co. Inc. a waiver from an “automatic” five-year bar from conducting private placement activities with accredited investors. The bar would have been the result of improper penny stock trades by a separate segment of the company. The controversy began when two SEC commissioners, Luis Aguilar and Kara Stein, wrote a fierce dissent to the majority order, supported by the other three commissioners, to spare Oppenheimer this bar. The company did agree to pay $20 million in penalties, admit guilt and hire an independent law firm to review its compliance program. Though the prohibition would have punished a part of the company not involved in the misdeeds at hand, the dissenting commissioners argued that this compliance breach was only the most recent of at least 30 regulatory actions against the company for a variety of violations. Clearly, Mr. Aguilar and Ms. Stein argued, such a history indicated that Oppenheimer has a “wholly failed compliance culture.” So the battle began between what is fair and what is effective. The question was the fairness of keeping a unit not directly involved in the case from doing business to effectively create a costly deterrent to the company. That's the wrong question. The crux of the matter is simpler: How can regulators make repeat offenders in the financial arena feel enough heat that they either clean up their act or exit the industry? The threat of a potentially crippling bar that is regularly waived isn't getting the job done.

NEEDED PENALTIES

Targeted, tough penalties that kick the appropriate bad actors out of the business are essential. “Automatic” anything — though meant to save time — often ends up not fitting the best result to the issue at hand. Since the amendment to Rule 506 of Reg D involving the five-year bar became effective in September 2013, the SEC reports 12 instances of waivers — though it doesn't report which firms have asked for waivers and not received them. What might rogue firms rightly or wrongly assume from the only number available here? That the SEC is loath to use its barring capability on some segments of a company to send a message and punish the wider firm. The intended deterrent fades away as a result. What about monetary penalties, such as the $20 million in the Oppenheimer case, or the $16.7 billion global settlement with Bank of America over bad mortgage loans (another case involving a waiver Ms. Stein criticized)? Will these payments deter firms? Can companies be deterred? Corporations have deep pockets, and they don't go to jail. Even when they are made to hand over billions of dollars as punishment — as in the recent currency-rigging cases — it's a drop in the bucket for large banks. Individual responsibility never comes into play, and corporate reputations, for the most part, survive.

COLD FEAR

We're not prepared to make specific recommendations on regulatory policies that would end consistent misconduct by rogue individuals and companies. But we firmly believe that only penalties that put cold fear into the hearts of those responsible for wrongdoing will deter illegal behavior. Targeting those responsible and banning them from the industry should stop the chain of illegal events. If perpetrators aren't in the game anymore, they can't become recidivists.