May 07 2003


“The Committee shall come to order. On Monday, April 28, 2002, state and federal regulators announced the settlement of enforcement actions against ten Wall Street firms and two individuals. This “Global Settlement” was the culmination of a year-long investigation into conflicts of interest in Wall Street research departments during the late 1990s.”

“The court papers that memorialize the Global Settlement describe how research analysts were subject to intense pressure from investment bankers that compromised their independence. The findings show that the intertwining of analysts and investment banking has led to a situation in which objectivity took a backseat to the whims of potential underwriting clients with “buy” recommendations. Research materials have become nothing more than “selling tools for investment banking.”

“In order to attract and retain investment banking clients, investment bankers pressured analysts to issue exaggerated reports that they knew were false or omitted crucial negative information. Analysts published recommendations that characterized stocks as “strong buys” while disparaging them as “pigs” and “dogs” in private e-mails.”

“To ensure that analysts remained focused on investment banking revenues, managers compensated analysts according to the amount of investment banking business that they generated. Firms were also paid at the request of a company going public, to publish research reports in order to create greater market credibility.”

“Former Salomon analyst Jack Grubman best described the banking environment at the time when he declared: “What used to be a conflict is now a synergy.”

“These cozy relationships helped drive up the stock of unworthy companies and generated vast wealth for the bankers, brokers and their CEO clients. These insiders knew the rules of the Wall Street game and benefited handsomely.”

“Institutional investors knew that something was rotten and ignored the hyperbole.”

“The only one who was not dealt in on the game was the “little guy”—that is, the ordinary, retail investor.”

“The little guy invested his wages and retirement savings in the stock market based on the reportedly objective information and recommendations provided by brokers and research analysts. Analysts had too much to gain from inflating stock prices and issuing favorable research opinions. Therefore, the ordinary investor, who was unschooled in Wall Street’s ways, was misled and lost out.”

“The issue before this Committee today is whether the Global Settlement will reform the culture of Wall Street, restore the integrity of stock analysts and regenerate investor confidence.”

“Although the $1.4 billion settlement produced record monetary sanctions, I have serious doubts that the monetary sanctions will have a big impact on Wall Street’s bottom line.”

“For example, Citigroup agreed to make the biggest payment of $400 million, but it received $10.5 billion from investment banking revenues between 1999 and 2001—a monetary sanction of less than 4% of its investment banking revenues. It is questionable whether such a relatively small payment will serve as a deterrent to future improper conduct.”

“Indeed, I fear that the cost of settlement will be seen as a cost of doing business. I fear that firms will perform a cost-benefit analysis and determine that a settlement payment is a small price to pay for the huge sums to be gained from exploiting conflicts of interest.”

“The consent decrees that the firms executed contain the standard legal boilerplate whereby the defendant neither admits nor denies any wrongdoing. But in this case it is particularly telling. I believe that the firms are less than contrite and simply consider the fines and penalties as a means to put the issue behind them and move on.”

“I am concerned that banking executives themselves have expressed a lack of contrition for their actions. In the last three years, we have literally seen trillions of dollars of market capitalization evaporate.”

“Millions of investors lost billions of dollars on investments that were influenced by the euphoric environment fostered by misleading advice. Despite the overwhelming evidence of wrongdoing presented in the findings, Morgan Stanley’s CEO is quoted as stating: “I don’t see anything in the settlement that will concern the retail investor about Morgan Stanley.”

“If executives fail to acknowledge the pervasive conflicts of interest and continue to minimize the sanctions and reforms mandated by the Global Settlement, I do not see how the settlement can have any meaningful impact on the Wall Street culture.”

“I believe that the Wall Street culture must change from the top down, and I am not convinced that the Global Settlement has done enough to change attitudes at the top of these banks.”

“During the bull market, executives were praised for increasing earnings and producing higher stock prices. A “cult of the CEO” developed as certain CEOs were deemed indispensable and paid accordingly. As corporate wrongdoings have come to light, however, many of these superstar CEOs have escaped culpability for the improper actions they took to fuel market growth.”

“Without holding executives and CEOs personally accountable for the wrongdoing that occurred under their watch, I do not believe that Wall Street will change its ways or that investor confidence will be restored.”

“The SEC enforcement staff has informed the investing public that we should “just wait” as the SEC conducts additional investigations that may lead to charges against managers who supervised the research and investment banking divisions of banks. While I fully understand the need to act deliberatively and to follow the evidence, I do not believe that investors can wait too long.”

“The settlement seeks to minimize future conflicts of interest by establishing certain structural reforms that the banks must implement in order to further separate research and investment banking. Firms must locate research and investment banking in different offices and create separate reporting lines, budgets and legal staffs.”

“These reforms attempt to better insulate analysts from intimidation by investment bankers, making it harder for bankers to pressure analysts for favorable research or to retaliate against them for unwanted negative research. Unfortunately, I do not believe that the structural reforms can eliminate the conflicts of interest, which are an inescapable part of the banking marketplace.”

“Because analysts do not generate their own profits, they rely on investment banking revenues to help pay their compensation. The reforms continue to allow research and investment banking to operate as divisions within the same firm and allow analysts to consult with investment bankers on transactions in a variety of circumstances.”

“While these conflicts are being minimized, they will continue to exist. This cannot be helped, because we cannot legislate morality or legislate away greed. We can, however, seek to ensure that the SEC and the self-regulatory organizations vigilantly police the firms and act to implement any necessary reforms.”

“This settlement is the first step in exposing conflicts, sanctioning illegal conduct and reforming the system, but it cannot be the last. As a result of the settlement, the investing public has received notice as to how the Wall Street game works. Notice, however, is insufficient to restore investor confidence.”

“Investors will need proof that markets are once again a place where they can safely invest their money without the fear that they are the unknowing victims of a scam.”

“This hearing is the beginning of the public’s evaluation of the Global Settlement. The real value of the settlement will not be known until we see whether the penalties and reforms mandated by the settlement have changed the behavior on Wall Street.”

“The American public has numerous questions regarding the negotiation of the Global Settlement, the mechanics of the settlement and the process for returning funds to investors who collectively lost billions of dollars as a result of the conflicts of interest on Wall Street.”

“I look forward to the answers to these and other questions throughout this hearing. I look forward to the testimony of each of the witnesses.”