Thursday, July 25, 2013


Code 10b-5 of the Securities and Exchange Commission (SEC) is pretty clear. You can not lie or omit information about the investment (security) products you are trying to sell. Pretty simple. 

For example, you can't create a fancy investment product that you know is crap and then dump it on clients - like pension plans or the U.S. government - without telling them about the downside. The warning "buyer beware" is not good enough when you know you're peddling crap.

As is the case with any car salesmen, you can't lie or omit information when you know about potential product defects and hazards. Call SEC 10b-5 the lemon law for Wall Street. Still, with all the market smoke & mirrors that we see on Wall Street, deception happens all the time

This explains why so many financial institutions have settled cases for billions of dollars rather than try to defend themselves in court. They know how they have defrauded customers, and also know that it's cheaper to settle than to go to court. Barry Ritholtz, CEO of Fusion IQ (and author of "Bailout Nation"), does a pretty good job of explaining the issue here

So there is no doubt, this is what SEC 10b-5 says:
§ 240.10b-5 Employment of manipulative and deceptive devices.It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,
(a) To employ any device, scheme, or artifice to defraud,
(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or
(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person,
in connection with the purchase or sale of any security.
(Sec. 10; 48 Stat. 891; 15 U.S.C. 78j)
[13 FR 8183, Dec. 22, 1948, as amended at 16 FR 7928, Aug. 11, 1951]

This all looks good except for one thing. All the exemptions and loopholes the U.S. Congress has granted Wall Street. 

I especially like the exemption for SIPA, which might as well be called "let Wall Street do what they want as long as the fine print is good" law. In the FYI category SIPA was designed to protect customers from Wall Street firms who like to dip into customer accounts without their knowledge (which you can read about here). The SIPA exemption combined with this exemption for broker-dealers - and the fact that Glass-Steagall was effectively repealed in 1999 - essentially allows broker-dealers and Wall Street's biggest players to do what want (as long as the fine print is worked out).

Long story short? Favorable legislation and deregulation is undermining both the spirit and integrity of the SEC's Lemon Law, and nobody seems to care.

- Mark 

UPDATE: Here's a list of JP Morgan's most recent fines, which add up to more than $7 billion.

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