Debate over whether SEC can cope with influx of rules and data

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LegalOperational RiskRegulation
30 Apr, 2012

The Securities and Exchange Commission (SEC) has said it will do the best it can to effectively monitor systemic risk amid concerns the organisation is seriously under-resourced.

“It is a resources allocation game,” said Norm Champ, deputy director of the SEC’s examination group, the body assigned to police hedge fund compliance with Dodd-Frank. “We will allocate resources to the areas we believe resources are required on a risk-based basis. The SEC has a lot of experience in monitoring such activity,” he added.

This last statement will certainly ring hollow among victims of Bernard Madoff, although even the SEC’s biggest detractors admit the organisation has learnt a lot from its mistakes since 2008. The SEC has, for example, undertaken major internal reviews in light of its serious regulatory shortcomings during the crisis. “We are focusing our efforts on how we can perform our job better, and we have done this through a series of internal self-assessment reviews over the last 18 months,” said Champ.

Some experts, however, question how the SEC will cope with its increased workload.  “In my opinion, the SEC is not adequately resourced to deal with the mountain of rules it needs to enforce. It struggled with enforcing rules pre-2008, and it now has a regulatory workload at least three times the size,” said Daniel Crowley, partner at K&L Gates in Washington. The problem is further exacerbated by regulators’ inability to retain staff, with talent frequently lured by better pay prospects in the private sector.

Nevertheless, one hedge fund industry insider commented the SEC had a large talent pool to choose from. “Historically, a lot of regulators would move towards private practice. Chairman of the SEC Mary Shapiro has repeatedly said she wants to beef up the regulator and she is doing this. There have been a lot of new hires, particularly people with economics and academic backgrounds. There has even been an increase in the number of PhDs working at the SEC,” said Stuart Kaswell, executive vice president, managing director and general counsel at the Managed Funds Association (MFA), the US hedge fund industry association in Washington.

Allocating precious resources sensibly is fundamental to the SEC successfully implementing Dodd-Frank.  Part of Dodd-Frank’s 2,000 pages plus remit requires hedge funds to register with and report to the SEC. Managers with northwards of $1.5 billion in regulatory AuM will be required to submit Form PF, an incredibly detailed quarterly reporting checklist, to the SEC no later than December 2012. Managers with more than $5 billion must hand it over by June 2012.

The data will be utilised by the Financial Stability Oversight Council (FSOC) to monitor systemic risk and will include information about hedge funds’ exposures by asset class, counterparty risk, leverage, geographical concentration, risk profile, investor details, collateral details, liquidity, strategy coverage and turnover by asset class. Managers could even be required to report other risk measures such as stress test results and Value at Risk (VaR) data. The SEC is therefore going to be inundated with mountains of paperwork.

“Our priority is to protect investors. We are going to monitor the information we receive, and where we find errors and inconsistencies in the data, we are going to investigate further. We’re not going to do surprise visits because of minor inconsistencies but only in events where there are serious concerns,” said Drew Bowden, associate director at the SEC’s examinations group and a former Legg Mason compliance executive.

Exacerbating matters, the SEC is facing budgetary threats from incredibly vocal and activist Republicans in Congress -many of whom have expressed disdain at the cost implications of Dodd-Frank, and the damage they believe it will cause to financial institutions. The SEC declined to comment about how it would function if its budget was cut significantly by Congress.  Crowley, however, remained confident the SEC would be given an adequate budget despite entrenched Republican opposition and insisted talk to the contrary was mere scaremongering.

There are also concerns the SEC’s technology infrastructure is in poor shape. “The SEC has a somewhat antiquated technology system. Technology is going to be the solution to concerns that the SEC will not be able to monitor all the data it receives. I know it is something they are investing in and over time, they will be able to more effectively manage the data,” added Crowley. Champ also confirmed the SEC would be improving its technology infrastructure to handle the data reporting requirements.

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