SEC

Interest in financial misreporting naturally led to curiosity about how such misreporting is policed. The SEC is the primary regulator responsible for detecting misreporting. Class action lawyers and short sellers are more effective at detecting misreporting. A few or my more interesting work in the area is as follows:

  • We find that the SEC behaves like a constrained cop in that it is more likely to pursue firms for misreporting if they are located closer to its offices.

  • Mary Schapiro (US Senate 2009, page 28), then SEC Commissioner, testified that the SEC must seek to avoid conflicts created by employees “walking out the door and going to a firm and leaving everybody to wonder whether they showed some favor to that firm during their time at the SEC.” to test this statement, we trace the career paths of lawyers involved in the SEC civil actions against accounting fraud and identify the ones who eventually go on to work for private law firms. We then check whether the enforcement outcomes of cases they were involved in are systematically laxer relative to the ones where the lawyer stays back with the SEC. Contrary to concerns about the revolving door, we actually find that the enforcement outcomes of lawyers who go to work for the private sector are actually more aggressive relative to the ones who stay back at the SEC.

  • One of the concerns related to the revolving door relates to the hiring of Big N accounting firms. It turns out that the Big N audit firms hire the most number of employees leaving the SEC. This pattern raises an obvious question about whether the SEC goes easy on audit firms w.r.t enforcement. We find that (i) Big N auditors are less likely to be named in SEC actions; (ii) when named, the SEC is more likely to pursue administrative proceedings against auditors rather than the more onerous court action; and (iii) censure, as opposed to denial of privilege to practice auditing, is more common whereas disgorgement awards and monetary sanctions are not. Class action litigation is more vigorous than the SEC at charging auditors, especially the Big N audit firms. We interpret such evidence as consistent with allegations of lax enforcement by the SEC against auditors.

  • We wanted to understand whether SEC employees personally profit from the market-moving private information that they likely have access to. In a fairly controversial paper that has been widely covered in the popular press , we obtained trading records of SEC employees via a Freedom of Information Act (FOIA) request and analyzed them. We find that a hedge portfolio that goes long on SEC employees’ buys and short on SEC employees’ sells, covering 7,197 trades, over the years 2009-2011, earns positive and economically significant abnormal returns of (i) about 4% per year for all securities in general; and (ii) about 8.5% in U.S. common stocks in particular. The abnormal returns stem not from the buys but from the sale of stock ahead of a decline in stock prices. The paper seems to have caused two Republican Congressmen to seek tougher curbs on SEC employees’ ownership of stock (Ackerman 2014, May 1, Wall Street Journal).