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No safety yet in fraud net : SIPC dog-and-pony show fails to convince critics

Investment News

With a federal watchdog yapping at its heels and a tarnished image to polish, the battered Securities Investor Protection Corp. needs a shot at redemption.

It tried to orchestrate one last week with a new public relations agency and a photo opportunity – a news conference about a record payout to investors scamm-ed of $31 million in a Texas-size fraud.

The only problem is that the payments were made a year ago, and the news conference did little to quell complaints that the quasi-public agency still isn’t doing enough to help defrauded investors.

Lawyers representing bilked investors in other such cases say that the SIPC’s standards are far too narrow to determine fairly who should be reimbursed.

The agency is also bracing for the release next month of the first of two General Accounting Office studies of its operations, and both Congress and state regulators are examining its mandate, as is the SIPC’s president.

“It’s appropriate to take a fresh look at SIPC’s mandate and determine whether the program is still working and how well it serves investors,” says Bradley Skolnik, president of the North American Securities Administrators Association, which represents state and provincial securities regulators.

“If the protections are broadened, that will have an economic impact, adds Mr. Skolnik, Indiana’s securities commissioner. “Costs will be increased, and ultimately that will be passed on to the consumer.”


Last week the SIPC said it made the largest payments in its history from its $1.1 billion reserve fund. The reimbursements went to 9,738 investors who lost money in a scandal at Sunpoint Securities, a Longview, Texas, firm that is now in bankruptcy court in Tyler, Texas.

The case “illustrates in vivid terms why SIPC is the investor’s first line of defense in the event of brokerage bankruptcy,” Michael Don, the SIPC’s president, declared in a news conference.

Earlier this year, the SIPC hired the Hastings Group, a high-powered Washington public relations firm to oversee an “education campaign” about the agency. “It has nothing to do with burnishing our image,” Mr. Don insisted.

Still, the timing of last week’s news conference seemed eerily coincidental, especially in light of the SIPC’s predicament in Washington.

Critics like Steven Caruso, a New York lawyer with Indianapolis-based Maddox Koeller Hargett & Caruso, charge that the SIPC routinely shortchanges investors while lavishing fees on hand-picked Wall Street law firms.

Robert Uhl, a lawyer who represents investors in arbitration cases with brokerage firms, Mr. Caruso and his Indianapolis-based partner Mark Maddox, are members of the Public Investors Arbitration Bar Association in Norman, Okla.

The group wants Congress to expand SIPC coverage to include all arbitration awards that result from fraud or other violations of securities regulations, such as suitability requirements.

They’ve gotten the attention of Rep. John Dingell, D-Mich. The ranking minority member of the House Commerce Committee, he instigated the GAO studies of the SIPC.

One study, on unpaid arbitration awards, will likely be out within the next month, while a larger review of all of the SIPC’s operations will be ready at the end of the year.

Other regulators also think the SIPC’s mandate should be revisited.

“Our nation’s financial markets have changed considerably” since the SIPC was established in 1970, says NASA’s Mr. Skolnik, the Indiana securities commissioner.

The number of investors has increased enormously to include more average, unsophisticated people, he adds.

With the cost of securities fraud running anywhere from $10 billion to $40 billion annually, the SIPC could not keep its doors open for long if it compensated all victims of fraud, said Mr. Don at the telephone news conference at which the Sunpoint payments were announced.

Brokerage houses currently pay only a nominal charge of $150 a year for SIPC coverage. If investors were charged a penny a trade, that would probably cover the cost of full compensation, says Mr. Maddox.

The securities industry opposes expanding SIPC coverage as the lawyers suggest, and last year, in comments filed with the Senate Banking Committee, the Securities and Exchange Commission also opposed such an expansion.

“Insuring against fraud could create a moral hazard for investors by causing them to take less responsibility for investment decisions and lessening their incentive to question brokers about proposed or executed trades,” it said.

In all, the SIPC paid $49.5 million to investors last year, up from $16 million in 1998.

In a settlement last month with the SEC, Sunpoint’s former president and chief executive, Van Lewis, agreed to pay a civil fine that has yet to be determined. In exchange, he neither admitted nor denied violating securities laws. A criminal investigation is continuing.