Mary Jo White, chairwoman of the Securities and Exchange Commission, plans to strengthen its law enforcement, broadening its reach and seeking more admissions of guilt.
SEC enforcement could use toughening. In particular, it must drive harder bargains in the interests of shareholders when negotiating settlements in securities cases. But even then, pension funds and other institutional investors must continue to pursue their own legal actions to recover losses from corporate misconduct.
A combined $2.8 billion in penalties, disgorgement or other monetary damages has come from SEC enforcement actions as of Nov. 7, addressing misconduct that contributed to the financial crisis, or that emerged from it, according to an SEC report. Most of that took place before Ms. White was named to the SEC.
By contrast, securities class-action litigation settlements generally have achieved far more for shareholders.
Recent settlements by financial institutions include Bank of America Corp., which settled a case this year for $2.4 billion, according to Securities Class Action Services, a unit of Institutional Shareholder Services Inc. Among other settlements were cases involving Wachovia Corp. for $627 million and Countrywide Financial Corp., for $624 million; both were settled in 2011. A Lehman Brothers Holdings Inc. action last year resulted in $516 million settlement. These settlements resulted from securities class-action litigation filed by pension funds.
The outcome of the SEC's plans for tougher enforcement is too new to have played out, but even if they are effective, institutional investors will have to continue to lead efforts to seek corporate accountability and deter wrongdoing through securities litigation because they cannot rely on the SEC or other institutions to protect their assets.
Investing is not just a matter of setting asset allocation policy and implementing it through hiring and firing managers to accomplish performance objectives. When corporate negligence or wrongdoing puts a company at risk or causes loss, it is the duty of fiduciary shareholders to pursue claims to protect their investments on behalf of participants, whether actively filing suit and seeking to lead the case or as passive participants recovering assets lost through corporate misdeeds.
Some recent SEC enforcement decisions have come into question. Judge Jed S. Rakoff of the U.S. District Court in New York in 2009 stepped up to protect shareholders from an SEC settlement agreement, which is subject to judicial review.
The judge rejected the SEC's proposed $33 million settlement with Bank of America concerning disclosure of $5.8 billion in bonuses paid by Merrill Lynch & Co. in 2008 during the financial crisis, just before the banking company acquired the financial services firm. That suggests the SEC must drive harder bargains in the interests of shareholders.
The presence of pension funds has made a positive difference in the outcome of securities class-action cases. According to a Vanderbilt Law Review article in 2008, results of securities class-action litigation “show a positive and significant impact on settlement size from the presence of a public pension fund, or labor union fund, as lead plaintiff.”
Institutional investor cases tend to result in higher recoveries of damages, and lower attorney and litigation fees, a testimony to the value of fiduciaries pursuing such cases is in the best interest of participants. In addition, such cases can result in swifter accountability and promote deterrence, while sometimes imposing corporate governance reforms.
But pursuing action often takes conviction and patience. So far, investors have come up short in their efforts to recover damages from the 2011 collapse of MF Global Holdings Ltd., although not for lack of trying by the Virginia Retirement System and Alberta Investment Management Corp.
The two funds, which are co-lead plaintiffs, won an important ruling Nov. 8 in U.S. District Court some two years after they filed lawsuits. The court denied a motion by defendants to dismiss the case. As a result, the two funds can proceed with the case, including seeking discovery and class-action status on behalf of other shareholders and debtholders in MF Global, matters suspended while awaiting the outcome of the motion.
In his ruling in Judge Victor Marrero of the U.S. District Court in New York likened MF Global's “catastrophic collapse ... to a massive train wreck in which thousands of people — passengers, crew, bystanders and others — were seriously injured upon sudden impact with a force the victims could not see coming.” The wreckage includes $1.6 billion in customer funds that were “improperly commingled and used to cover questionable company transaction,” Mr. Marrero noted.
The 23 defendants include Jon S. Corzine, who was MF Global's chairman and CEO; Goldman Sachs & Co.; Citigroup Global Markets Inc.; Deutsche Bank Securities Inc.; and J.P. Morgan Securities LLC.
“Defendants seem convinced that no one named in this lawsuit could possibly have done anything wrong,” the judge wrote in his decision denying their motion. Despite “dire signs of mounting crisis, MF Global continued to issue securities in public exchanges, repeatedly assuring investors that everything at the company was running smoothly,” Mr. Marrero wrote. “Plaintiffs purchased MF Global securities issued while unknown to them ... the company was unraveling.”
The defendants deflect blame, attributing the collapse just to “stuff happens,” Mr. Marrero wrote. By inference, the defendants contend the events at MF Global “represents ... the acceptable model for how corporate managers should be permitted to run a company's affairs ... insulated from accountability.”
The two funds have stood their ground to show such a lax corporate governance standard isn't acceptable, just as other pension funds and institutional investors have done in other securities litigation.
The SEC effort to step up enforcement is commendable. But pension funds cannot rely on such action alone. They must take their own measures to protect their assets, even if it means filing legal action.