Some Conflicts That it's Impossible to Reasonably Mitigate

Jay Clayton spent much of his career at the Wall Street law firm of Sullivan & Cromwell, advising market participants on regulatory enforcement, after serving as a clerk for the Honorable Marvin Katz of the U.S. District Court for the Eastern District of Pennsylvania. In 2017 he became the Chairman the U.S. Securities and Exchange Commission. Since he was sworn in he has focused on finishing Regulation Best Interest to replace the Fiduciary standard for investment advisors and he is looking at allowing retail investors access to private investments. Chairman Jay Clayton sits with former SEC Chairman Arthur Levitt discussing facing new regulatory challenges from social media and how it can influence markets and the challenges posed by digital-age technologies. 

 Host: Arthur Levitt Producer: Madena Parwana 

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Episode Transcript

Speaker 1 (00:00):
This is a closer look with Arthur Levitt. Arthur Levitt
is a former chairman of the u S Securities and
Exchange Commission, a Bloomberg LP board member, a senior advisor
to the Promontory Financial Group, and a policy adviser to
Goldman Sachs. J. Clayton spent much of his career at

(00:21):
the Wall Street law firm Sullivan and Cromwell, advising market
participants on regulatory enforcement. After serving as a clerk for
the Honorable Marvin Katz of the U S District Court
for the Eastern District of Pennsylvania, in two thousand and seventeen,

(00:42):
he became the Chairman of the U S Securities and
Exchange Commission. Since he was sworn in, he's focused on
finishing regulation best interest to replace the fiduciary standard for
investment advisors rejected by the courts, and he's looked at
allowing retail investors access to private investments. He's also facing

(01:06):
new regulatory challenges from social media and how it can
influence markets, and the challenges posed by digital age technologies.
He joins me now for a closer look, Let's start
with Elon Musk. Because it's hard to ignore Elon and

(01:27):
his recent problem with the Commission. It highlights a new
issue for regulators social media. To remind listeners, must send
a tweet saying that he had funding secured to take
Tesla private, causing such a spike in the company's share
price that trading was halted temporarily. You began an investigation

(01:53):
into this immediately and the settlement was swift. Why did
you act so quickly on this and what are the
highlights of the settlement? Well, Chairman Levitt, let me just
first of all say it's nice to be back with you, UM,
and I'll turn to the enforcement matter that you mentioned
and say that you know at the Commission, UM, I

(02:15):
am so pleased with the people we have leading the
Enforcement division. UM are co directors Stephanie of Aichian and
Steve Peakin, and and the way they approach UM matters
of the day. UM. This particular matter it's difficult for
me to comment on with specificity because it's still pending UM.

(02:36):
But in terms of moving quickly, UM, that is a
priority of mine UM across our Enforcement division. UM. In
matters of public attention, UH, moving quickly is often the
best course. UH said another way, waiting years and years
um to remedy a current wrong is not a good course.

(03:00):
But let me also turn to another area where moving
quickly is really important, and that is when retail investors
have lost money. And I'm proud of our enforcement division
because they're moving quickly in that area too. Um. Getting
somebody their money back today is so much better than
getting their money back four years from now. In the

(03:22):
Musk settlement, is there an admission of guilt by Musk,
Kessler or even the board the settlement your references. Like
many of our settlements, it's referred to by practitioners as
a no admit, no deny settlement. What that means is

(03:42):
the person settling U doesn't have to admit, but is
not able to deny um the basis for the settlement.
Is it possible to get beyond that? Well? You know, um, chairman,
You you know this so well because you, uh, you
of you are very effective in these situations. There when

(04:04):
you have an enforcement matter and you take it to court,
it is a blunt instrument. It may be your only
available recourse, but a court proceeding where you get to
a final judgment of guilt or innocence is a blunt practice,
not just in terms of the judgment guilty or innocence,

(04:27):
but in terms of the remedy. UM. Very often a
blunt instrument is not the most effective instrument for our
markets UM, and we recognize that if it's the only
instrument available, we'll use it. But in a settlement where
you have various terms, including UM, what the subject of

(04:50):
the settlement is willing to admit to or not, you
can craft a better result for our markets and our investors.
Guys must have to pay the fine personally? Or can
his insurance company pay for it? Again, I can't get
into the details because it's pending, but I what what
you're raising with that question, Chairman, is individual responsibility and

(05:14):
do you have real individual responsibility? Individual responsibility is very
important to me and it's important to the leaders our
enforcement division. If you don't mind, can I comment on
why When I was a practitioner, if someone asked, Hey, Jay,
can I engage in this activity? And I wanted to

(05:34):
caution them and say, you know what, you really need
to think twice over the line close to line. You
don't want to get into that gray area. If I
said X y Z company had to pay a fine
for doing that, it may have resonated with them. If
I said Miss why or Mr X got into deep
personal trouble for doing just that, it always resonated with them.

(05:57):
So you know, individual accountability in terms of going after
a person who has committed a wrongdoing is important, but
it also has I believe, a greater deterrent effect on
others who might think about acting improperly. Focusing the mind.
I think it's a It's an important part of our
regulatory and enforcement ecosystem to have individual accountability. Is miss

(06:22):
still eligible to voted shares for the next chairman? Again,
I think you're asking a lot of good questions. I'm
not going to get into the specifics of this, but
the the governance remedies that were put in place are
something that the Commission, all five of us fully supported. Jay,

(06:44):
what if any action has been taken with respect to
the lead director, audit Committee chair or other board members
in light of their oversight and continue explicit supportive elon
muss M Chairman Levit, I'm I'm not aware of specific
action that's been taken. Do you think that this in

(07:09):
any way impacts Musk's board membership on any other public
company or one doing an I p O. That's a
that's an interesting question. I think you know what, what
we're looking at here is a moment in time. We'll
have to see how these things evolve. Does the Must

(07:30):
case provide any guidelines or lessons for other company leaders
about responsible use of social media? Look, I think that
company leaders CEOs UM understand our securities laws and the

(07:54):
responsibility of communication to the marketplace, and that when you
community eight to the marketplace, and you know, again, I
don't I don't like to discuss specific matters, but I
put out a statement in connection with the agreed Must
settlement that affirmed this, when corporate leaders speak to the marketplace,

(08:16):
they need to speak fairly and without omitting information. UM.
That's necessary for the statements they make to be true.
And that's that is a well understood part of our
securities markets. It served us well for years. When you

(08:36):
speak to the marketplace about important information, you have to
do so in a way that's comprehensive. Now, you say
that the SEC and Congress have taken a lot of
steps to promote capital formation, and you've an ambitious capital
formation agenda. Add what specifically have you done and what's

(08:58):
on your current gender. So we've done a number of
things that I believe have made access to capital h
smoother and less risky for those seeking capital without in
any way degrading investor protection UM. We have shortened the

(09:21):
time that companies coming to the public markets are exposed
to UM, their competitors and to market vagaries, whilst without
in any way reducing the information that investors receive in
connection with a public offering. The time span from the
announcement of a potential i p O to the pricing

(09:43):
of that I p o UM has shrunk significantly, but
there's still plenty of time for the marketplace to digest
the information. I consider that to be a positive development,
and we're looking at We're looking at other measures to
simplify the disclosure rules but at the same time make

(10:06):
the disclosure more meaningful and clearer to investors. You hope
to expand the ability of companies that are contemplating raising
capital to test the waters. How would that work well?
Testing the waters is the term that the securities practitioners

(10:28):
use for a company or its representatives contacting potential investors
and saying, what do you think about the value of
this company? As a public company. UM that has been
restricted for some time. It goes back to the communications

(10:50):
systems of yesterday. In the communications systems of today, and
UM the ability of information to be eseminated quickly, that
restriction really doesn't make a lot of sense. It becomes
readily apparent UM. Once a public announcement has made that

(11:10):
a company is considering going public and people start talking
about pricing, UM, what you have to do is talk
about that pricing in a responsible way. And if you're
able to talk about that pricing in a responsible way,
you probably get to a better price when it's time
to go public, a price that better reflects the market's
interest in the company, and you don't have significant swings

(11:33):
in price at the time of the I p O.
So I hope that's a clear response to your question.
It is. In the first quarter of this year, California, Massachusetts,
in New York received more than seventy of all equity
financing for venture capital backed companies. Is there anything the

(11:55):
Commission can do to help capital flow to other areas
the country? So that statistic UH concerns me because we
have much much of our venture capital and early stage
capital is UH is concentrated in several geographic areas UH

(12:18):
in the United States. Now, is that a function of
where people who deploy capital live, I would say a bit.
Is it a function of where the human the human
capital talent is I would say a bit. But we
have many areas in our country, Chairman Levitt, where we
have really talented individuals who could use capital. As I

(12:39):
look down, you know, the Midwest, for example, I see,
you know universities that have you know, tremendous talent, just
like our great universities on the West Coast and and
here on the East Coast, And I say to myself,
why don't we have pools of venture capital that are
building up around those areas? Um And while our tools

(13:00):
are limited in that area, it's an issue that I've
brought some attention to. I want to continue to do
so and figure out ways where we can have that
kind of venture and early stage capital in places in
America other than h California, New York, Massachusetts. In a

(13:23):
recent speech, you said we should be sure there's appropriate
framework to summar it smaller public companies in secondary market liquidity. Precisely,
what can the Commission do well, that's the question that
we're asking is what can we do because we know
we have an issue here. We know that the liquidity

(13:45):
for smaller public companies UM is not what we would
want it to be. Much of the trading in those
companies happens very close to the end of the day, UM,
and we just we need continue to look at this
because if you don't offer liquidity in your marketplace for
smaller and medium sized public companies, the attractiveness of becoming

(14:09):
a public company goes down. What what the promise for
people who own a company to take it public is
You're going to get liquidity. It's one of it's one
of the attractive natures of attractive aspects of being a
public company. And if we're not, we're not having a
system that provides that liquidity. We need to think about it.

(14:31):
Have you ever asked yourself whether some of the companies
that are going public are really ready to go public? Absolutely? Absolutely, UM,
And that's a that's a question all those companies should
ask themselves. There are some companies, of course, in a
sample size of forty five thousand that have gone public

(14:53):
and probably should not have. But I will say this, UM,
and I hope you agree with me. On this, I
think many practitioners do the process of becoming a public
company often makes the company a better company. There are
very few companies that I've watched to go through the
process where they're accounting hasn't gotten better, They're reporting hasn't

(15:14):
gotten better, and frankly, the management boards understanding of the
company hasn't gotten better. I think that's absolutely right. Now.
You've been working to replace the highly debated, long time
politicized Department of Labors Fiduciary rule with regulation Best Interest

(15:40):
for Investment Advisors. You said that public comments will be
crucial in shaping the agency's rule, and you just finished
seven public round tables around the country to discuss your proposal.
What stood out for you in these discussions. Loved the

(16:00):
public roundtables. It was just great to ask people what
do you expect from your financial advisor, your financial professional?
What what do you want from this relationship? Um, And
we got a lot of good answers to that that
have helped shape our our thinking around the rulemaking. Uh,

(16:21):
but I want to digress, and I'm going a bit
out of my lane here. The one common theme wherever
we went in the country and whether we were talking
to somebody in their thirties or in their seventies. Um,
they're their economic circumstances where they wish that they had
known more about our markets and investing earlier in their life.

(16:43):
That this is this is a part of American society
that has become important. Uh. We have a great responsibility
to save for our own retirements. Um. And people UH
universally said, hey, J you know, if you can do
something about getting people better educated about investing in our
markets earlier in their lives, please do it. It was

(17:07):
surprising to me how universal UM, and how I would say,
just how emotional that feeling was from the many people
I talked to. You recently called for an end to
high pressure product based sales contests that encourage brokers to
recommend certain products. Do you think there's a formal regulation

(17:32):
about to come with respect to sales contests? So let
me let me go back to your question about what
I learned from from talking to people. People understand that
when you have an investment professional, there are going to
be conflicts. Investment professionals going to get paid, they're interested
in getting paid um, and there are different types of conflicts.

(17:54):
What they also have told me is we expect the
investment professional to be aware of those conflicts and deal
with them in a reasonable way. So you know, for
a commission, you disclose the commission um you you make
sure that it's not out of line with the market.
But Chairman Levitt, there are some conflicts that it's impossible

(18:15):
to reasonably mitigate. That it's impossible to reasonably address. In
my own view, is that high pressure product specific sales contests.
If I sell you, if I sell you in a
bunch of your friends something, by the end of this week,
I get a big bonus. It's impossible for me to
reasonably mitigate that conflict. I'm putting my interests ahead of

(18:38):
yours almost invariably, if that's that kind of compensation scheme.
And so that's a long winded way of saying. You know,
along the spectrum of conflicts that are inherent in any
kind of professional advisory relationship, there are some that you
just can't mitigate. You've got to eliminate this faill J.

(18:58):
You will host around able about whether the commissions proxy
rules should be refined. What issues do you see around
proxy voting in general? Chairman, I think there are two things.
As a way to get the way I get my
head around this. There is the what people refer to
as the plumbing or the architecture, or the way voting

(19:20):
works in our marketplace. It's out of date. There are
very few people who wouldn't agree with the way that
we go about voting being out of date and the
opportunity for modernization. Then there then there are questions about
the rules of voting and how we vote, and UM
who is responsible for voting and uh fiduciary obligations around voting.

(19:46):
I think we should look at both aspects. UM. I
know that we want to get to fixing the plumbing,
but I also think we need to look at some
of the issues that people have identified in voting, including
the use of proxy advisory firms, including the ability to
vote when maybe you don't have economic exposure to the

(20:08):
stock um issues such as that more than a dozen
members of Congress recently sent you a letter asking for
a clearer picture of how the Commission views the digital
asset class and what criteria you're using to determine under
what circumstances the offer and sale of a digital token

(20:32):
should properly be considered an investment contract and therefore an
offer or sale of securities. Stakeholders fear a lack of
clarity could cause innovation to flee overseas. Do you expect
an answer soon? So the letter from Congress UM highlights

(20:56):
really what we've been trying to do in this space,
which is bring clad already. I'm going to be happy
to join with my colleagues from our Division of Corporation
Finance and our Travision of Trading and Markets to UH
to provide those members with a response. But this is
something we've been doing on a on a day in,
UH day out basis. We have made it clear that

(21:19):
we think our securities law framework is a solid one
and that these new digital assets can fit within it,
but also need to abide by I always say we've
built a nineteen trillion dollar economy that's the envy of
the world, following some fairly straightforward laws about the offer

(21:43):
and sale and trading of securities that said, we are
open for business. If people have interpretive questions, they can
come see us UM. And I believe that my colleagues,
again in the Division of Corporation Finance and Trading and
Markets are regularly updating the market on these issues. But

(22:04):
I very Look, I've one of the things I've learned
is that dialogue with Congress is valuable for everyone. UM,
and so I welcome the letter. We're going to be
responding and UH. In the meantime, if people have questions,
we're open for business. The Winkle Voice brothers are creating
a self regulatory group for cryptocurrencies called the Virtual Commodity Association,

(22:31):
and that's meant to work with regulators. The CFTC and
the SEC have traditionally relied on self regulatory organizations to
monitor trading. So do you welcome this industry trying to
regulate itself? I think I think of broad answer your
question is we always welcome people trying to be responsible.

(22:53):
But are we in the business of turning over regulation
to industry groups. Not often. The SEC has been vigilant
in pursuing illegal activity in the market for i c
o s initial coin offerings. Why do you focus so
much on I c o s? And how long before
retail investors will feel comfortable investing in this product? Well,

(23:18):
why are we focusing on I c o s? I
might turn the question a bit and say, why are
we focusing on unregistered public offerings? And that's what many,
if not all, of the I c o s that
I've seen are they are unregistered public offerings of securities.
That's a fundamental aspect of our securities laws. If you're

(23:41):
going to make a public offering of securities, you either
have to register it with US, provide financial statements, take
responsibility for the offering, or you have to find an exemption.
We are working with people to help them register i
c o s or find an exemption, but those who
have sold to do neither are exactly the people who

(24:02):
we should be focused on. The Commission has issued guidance
calling on public companies to be more forthcoming when disclosing
cyber security risks. But the two Democrats are said to
be disappointed with what they see as the commissions too
limited action. How do you address their concerns? But let

(24:26):
me say that we we all um believe that encouraging
companies to do two things. M Then there's two aspects
of this, Chairman Levit. One is what I would call
the prophylactic uh disclosure of saying, here's how our company works,
Here's how cyber affects our company. Here are the risks

(24:46):
that we face from our dependence on Information Technology systems UM.
You as an investor should be aware of these risks.
I think we've been clear, and I think companies are improving.
When I first got to the Commission, when I looked
at that this closure across the marketplace, I was not
happy with it. I did not think that companies UM
as a general matter, were informing their investors of the

(25:10):
risks that cyber issues present for those companies. I think
that's improved. Then there's the question of if you have
a cyber incident, what are the criteria for when and
how you disclose it. We have been trying to provide
guidance in that area. Those are, by their very nature
idiosyncratic events, so it is difficult to provide precise guidance

(25:35):
in the abstract for those idiosyncratic events. What I do
say is, if you have an incident, air on the
side of disclosing it early and as comprehensively as possible.
Before becoming the Chairman of the SEC in two thousand
and seventeen, he was a partner at the Wall Street
law firm of Sullivan and Cromwell, An a lecturer in

(25:55):
law and adjunct professor at the University of Pennsylvania. Law school.
Since joining the Commission, he is proposed a package of
new rules for a fiduciary standard for broker dealers. He's
fighting fraud in the ic O token's market, and looking
at allowing retail investors access to private investments. SEC Chairman

(26:21):
J Clayton, thanks for joining us. By the way, if
you have comments about the show or suggestions for topics,
please email me at a Closer Look at Bloomberg dot net.
That's a closer look one word at Bloomberg dot net
and follow me on Twitter at Arthur Levitt. This is

(26:41):
a Closer Look with Arthur Levitt.