Speaker 1: Okay, so let's talk securities regulation. Securities regulation refers to the laws and rules governing the issuance, sale, and trading of securities. So stocks, bonds, mutual funds, things like that, and the primary purpose of these regulations is to protect investors from fraud, ensure transparency, and maintain fairness in our financial markets. So what is a security? According to the Securities Act of 1933, the security includes, quote, any note, stock, treasury stock, bond, den venture, evidence of indebtedness, certificate of interest or participation in any profit-sharing agreement, collateral trust certificate, pre-organization certificate or subscription, transferable share, investment contract, voting trust certificate, certificate of a deposit for a security, fractional undivided interest in oil, gas, or other mineral rights, or in general, any interest in or instrument commonly known as a security or any certificate of interest or participation in temporary or interim certificate for receipt, guarantee of, warrant of, or right to subscribe or to purchase any of the foregoing. So basically, there are many investment vehicles that we refer to as securities. Pretty much any investment vehicle that is not cash is considered a security. The Securities Act of 1933 was the first federal law that was enacted to regulate the securities market in the United States. It was known as the Truth in Securities Act, and its primary aim was to ensure transparency in financial statements that were provided to investors before they purchased securities, and was passed in response to the stock market crash of 1929, which was really about mass, which was brought about in many ways by massive amounts of fraudulent activities that were taking place in securities markets. And so the goal of the law is to protect investors and prevent misrepresentation or deceit in the sale of securities. So some goals of the Act. The first goal is really full and fair disclosure, meaning that companies offering securities to the public have to provide comprehensive and truthful financial information about their operations and the risks involved with investing. And so this allows investors to make informed decisions based on accurate audited data. So before a company can issue stock, it has to provide a detailed perspective that includes audited financial statements and a disclosure of all of the risk factors involved with investing in that particular company. These are actually very comprehensive documents. Most of them are going to be in the 150 to 300 pages category, depending on the size of the company. And they include a variety of information, including like background of the CEO and the management team, compensation data, information about key products and services, markets that the company does business in, risks associated with doing business in those markets. So lots and lots of stuff is included in a prospectus. Another goal of the Act is to prevent fraud and deception. The Act prohibits deceit, misrepresentation or other fraudulent practices in the sale of securities. And this is designed to protect investors from fraudulent schemes that could lead to financial losses. So for example, a company cannot inflate its earnings in its financial imports just to entice investors to buy stock under false pretenses. It also has a goal of regulating securities. And so the Act regulates the initial offering of securities through what's called the IPO or initial public offering process. The company has to register with the SEC prior to issuing their IPO and they have to comply with the disclosure requirements as outlined in the 1933 Act. So they have to submit a registration statement with all of the financial details prior to selling stock on the stock exchange. Companies offering securities to the public have to register those securities with the SEC before they can be sold. The registration allows for transparency by requiring the full disclosure of that key financial information. The registration helps protect investors by making all of that essential information publicly available. So for example, a tech startup planning to raise capital by selling shares first has to register those shares with the SEC. As part of the registration requirement, we talked about prospectus. They have to prepare the prospectus which outlines all of the detailed financial information and the potential risk, allowing investors to evaluate whether or not they want to invest in the company. If a company provides false or misleading information in the registration statement or prospectus, they can be held legally liable for securities fraud. This deters companies from deceiving investors by providing inaccurate or incomplete information. If the company hides evidence of their financial troubles in their prospectus and investors lose money, they can sue the company for misrepresentation. So really this act has both civil and criminal penalties for companies that knowingly provide false information. Not all securities require registration. Private offerings, government securities, and some interest state offerings are exempt from registration requirements. So smaller companies can offer securities without having to go through the hoops, for lack of a better word, or all of the costs involved with full registration because it is a very expensive process. Just in thinking about the fact auditing your financial records going back five years is extremely costly. So after the 1933 Act, the government realized that they didn't quite go far enough because the 1933 Act really talked about regulating the initial offering. But then once stock is sold for the first time, it gets sold again. And so most stock markets are secondary markets. And the 1933 Act didn't go far enough in regulating those secondary markets. So in came the Securities Exchange Act of 1934, which was designed to regulate the trading of stocks in secondary markets after they've been through the IPO process. So where the 1933 Act is about initial trading, the 1934 Act focuses on ongoing trading, ensuring transparency, fairness, and accountability. It also created the SEC, or the Securities Exchange Commission, to enforce federal securities laws. So goals of the 1934 Act, to regulate the secondary market transactions. So where securities are bought and sold after they are initially issued, ensuring fair trading practices and transparency. So protecting investors from manipulation and fraudulent stock trading. The stocks traded on things like the New York Stock Exchange or the NASDAQ are governed by the 1934 Act. The 1934 Act also has continuous disclosure requirements requiring companies to disclose key financial information both quarterly, so once every three months. And then annually, the quarterly reports are referred to as 10-K, and then the annual report is referred to as a 10-Q, to ensure that investors have up-to-date, accurate, current information enabling them to make informed decisions. The 1934 Act also prohibits insider trading, which occurs when individuals who might have special non-public information buy or sell securities based on that knowledge. So insiders are folks that might work in the company, that might have some special information about the company, and therefore can either buy or sell stocks with that special insider information that gives them an unfair advantage. So a CEO cannot legally trade company stocks based on confidential non-public information about an upcoming merger, as an example. The 1934 Act also monitored and regulated what are called broker-dealers. Broker-dealers are individuals that trade securities on behalf of clients. So they require the broker-dealers to register with the SEC and follow regulations to prevent unethical practices. So they have to adhere to what are called best execution strategies or practices to ensure the best possible price for client trades. They have to trade at the market price or at the price that is set by the client. They can't just trade whenever they want. The 1934 Act also established the Securities and Exchange Commission, which is responsible for enforcing securities laws, overseeing markets, and protecting investors. They have the ability to investigate, regulate, and enforce compliance in securities markets. Again, they can bring criminal actions with civil penalties. We talked about the reporting requirements, which are the 10-K and the 10-Q. 10-Q is the quarterly report. The 10-K is the annual report. The 1934 Act also prohibited acts of market manipulation, so practices that can artificially impact the volume of securities, such as what's called pump-and-dump schemes, where it promotes a fair and transparent marketplace where prices reflect actual supply and demand. An example of a pump-and-dump would be a person spreading false rumors to artificially inflate a stock price and then selling off their shares for profit. I talked about insider trading regulations. Corporate officers, directors, employees, all of those folks are insiders. They cannot trade based on that non-public confidential information. If they know about a business acquisition or something that's going to happen, they can't legally buy or sell company stock based on that information. The Act also governs how companies communicate with shareholders and solicit proxies, ensuring investors receive accurate information before voting on important corporate decisions. This ensures that shareholder voting is based on full disclosure, so companies have to disclose all relevant information about a prospective merger before shareholders can vote on the deal. They have to disclose the information, shareholders can vote, and give it a thumbs up or a thumbs down on whether or not to engage in something like a merger. The Dodd-Frank Wall Street Reform and Consumer Protection Act was passed in 2010 in response to the 2008 financial crisis. Its primary goal is to reduce risks in the financial system and prevent future economic collapses. Some key provisions of Dodd-Frank, first of all, it established oversight through the Financial Stability Oversight Council, or the FSOC, to monitor systemic risks and ensure that institutions are not deemed what are called too big to fail, meaning that institutions that are so massive and important that their failure would detrimentally impact the U.S. economy, because that's what happened in 2008. It created the CFPB, or the Consumer Financial Protection Bureau, to oversee financial products like mortgages and credit cards and student loans, ensuring fairness and transparency in the system, imposed stricter regulations on banks and financial institutions by including higher capital requirements. They regulated derivatives by increasing transparency in the derivative market by requiring trades to be cleared through exchanges, and enacted something called the Volcker Rule, which limits banks from engaging in risky trading activities with their own funds. And just a quick aside, the way that these pieces of legislation are named or how they're called, Dodd-Frank, Chris Dodd, Senator, Barney Frank, Representative, both from states that were heavily impacted by the 2008 financial crisis, so they came together and proposed these series of reforms. In addition to Dodd-Frank, we also have the Sarbanes-Oxley Act of 2002, which was enacted in response to major corporate scandals like Enron and WorldCom to restore public confidence in financial markets. Sarbanes' primary goals were to enhance transparency, prevent fraud, and help ensure accuracy of financial reporting. It required senior executives to personally certify the accuracy of their financial statements. It created stronger internal controls in order to prevent and detect fraud. It created the Public Company Accounting Oversight Board, or the PCAOB, to oversee the audits of public companies to ensure compliance with accounting standards. They have harsher penalties for corporate fraud, including fines and imprisonment for executives who knowingly misrepresent financial information. And probably most importantly was it created whistleblower protections for employees who report corporate fraud, which encourages or encouraged the exposure of unethical behavior in publicly traded companies. So pretty short and sweet for securities regulation. We're going to talk a bit more about securities when we get to antitrust. And so really the main points of this lecture is to understand the components of that 1933 and 1934 Act and know what Dodd-Frank is and Sarbanes-Oxley. So that's it for now.