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security. The owners are entitled to the widest possible field of purchasers—that is, the buyers of the Nation.
Itis undoubtedly easy to maintain a market when it is difficult to learn prices, where owners do not know from daily observations of exchange transactions what prices are, the extent of the activity and the tendency of the market. They take everything for granted, and may wake up to a grievous surprise.
Complaints are sometimes made that markets on the New York Curb Exchange, as well as on exchanges generally, by reason of publicity, particularly in a declining market, have disturbed holders of securities and have induced sales that might otherwise not have taken place. It is undoubtedly true that knowledge of declining prices makes for unsettlement and sales and that an advancing market induces purchases. We believe, however, that it is preferable for the public to face conditions rather than to hold on to or to purchase on a foundation of ignorance.
Stock exchanges both in their early days and in the more recent past, have not been free from criticism, much of it justified. On the whole, however, it is believed that the exchanges have come in for much unwarranted denunciation merely because they are organized and constitute focal points towards which the searchlight of public opinion may be directed in much the same way as Wall Street has always been blamed for all of the dishonesty and overreaching which from time to time are “turned up” in the financial world. It is easy to point to something definite and concrete, and difficult to lay hold of that which is unorganized.
But the problems of recent years have been less questions of listing and of the safeguards surrounding the admission of securities to trading than of protecting the public against its own speculative fervor and against the machinations of the unscrupulous. These are largely trading problems induced, not alone by the unscrupulous or by greed, whether specific or Nation-wide, but by national and international policies for which the stock exchanges as well as the individual investor are not solely responsible.
Criticism of the exchange comes from exchanges in other parts of the country which feel and, in the past at least with justification, that the action of the New York Curb Exchange in admitting a security to unlisted trading, where it is already listed upon another exchange, is unfair. There are many such exchanges, each of which fulfills an important and valuable function. They provide the facilities for the purchase and sale in their various centers of securities, when an active market exists in such centers. However, the grounds for such criticism have to a very large degree been removed and in the future, no security will be admitted to unlisted trading upon the New York Curb Exchange merely because an active market in the security exists on some other exchange or elsewhere in the country. Today the basic principle is that there must be an active market in the security in the section of the country which the New York Curb Exchange particularly serves and especially in New York. For the reasons heretofore advanced, it is believed that the Curb Exchange is justified in permitting a market on its floor where an actual market in the security exists here.
A security is listed upon a local out-of-town exchange because the security issued by a company which is a local enterprise or because the security is known locally. The issuing corporation recognizes this. Transactions in the stock are at first limited to those in the neighborhood who are familiar with the industry. There is little general distribution; but as the local market becomes active, investors in other financial centers take notice. They give orders which are executed “over the wire" or "over the counter." The former are to the advantage of the members of the exchange of listing as well as to the company which is securing a broader field for its securities and for its products. But there comes a time when a substantial number of stockholders, for example, live in or about New York. The same condition may prevail in any other financial community. There is a center of interest other than in the original community. It is at this point, when the market is active in New York, that the Curb Exchange believes that it is in a position to render service to the New York holders or purchasers of the stock to enable them to buy or sell on an exchange in New York and to complete the transaction here rather than in the distant city. Application is made to admit the security to trading. The application must be by a regular member of the exchange, himself a stockholder. There must be sufficient distribution in and around New York to warrant the belief that an active market exists in New York. The authorized issue must not be less than 100,000 shares. There must be submitted balance sheets and profit and loss statements covering a period of not less than 2 years immediately preceding the date of application. There must be furnished the history and description of the business from its
inception to date, a tabulated record of dividends on all classes of stock from initial payment to date, a tabulation showing fully the funded indebtedness and an official copy of the latest annual report of the corporation in the form as issued to its stockholders.
All the pertinent factors are then considered by the listing department and are passed upon by the committee. If approved, the application goes to the board of governors which must be satisfied before giving its vise. If it be accepted as a Curb stock, the public throughout the country becomes aware of the security by reason of newspaper reports of transactions. It may attract investors in many quarters who do not base their decisions to buy solely upon the merit of the security but also because of the market upon the curb which gives it a banking value. Here in New York are banking facilities to care for the largest transactions. Here is the financial center. It may be that the members of the exchange of issue may lose orders. The curb members will certainly profit. On the other hand, the wider knowledge of the security may increase the business on the home exchange. In any event, it would seem inconceivable that a company, by listing upon a small exchange might prevent a security, no matter how important it might have become, from being dealt in on any other exchange.
Or take the converse. A security may be listed on no exchange. A market may arise in New York. It is admitted to the Curb Exchange. It becomes & nationally known stock such as several now on the exchange. Would it be in the public interest for the Curb to be compelled to cease trading in this stock because the company, perhaps for selfish reasons, listed the stock in an exchange, say for illustration, in Arizona.
A substantial market in a security admitted to trading on the Curb Exchange could not be abandoned without tremendous financial disaster. The public has learned to rely on Curb quotations. Bankers use them for purposes of credit. To cease trading in such securities in order that a local exchange should become the sole market place might produce a financial crisis. It would benefit the distant exchange to a degree; it would give plenty of orders to the outside market; but it would leave the public confused and alarmed. It might cause bankers to call loans based upon New York quotations. The market upon which all have relief for values and for sale would have disappeared and no local or outside market would afford an adequate substitute.
Some securities are fully listed on several exchanges. This occurs when the company itself desires numerous distrubution points for the sale of new capital issues. On the other hand, a security may be distributed following listing on a small exchange and the company may have no interest in new financing. It may be content to have the market at home. But if a market be created in New York, the New York Curb Exchange enters in, to provide the public interested in a security with a market which is recognized throughout the country.
In past years, securities were admitted to the Curb Exchange when there was no market here; when the security was local. This was not a proper exercise of the function of the Curb Exchange. Now, the requirements forbid this. An active market must be here in advance of, and as the reason for, admission.
It is undoubtedly desirable that adequate information should be available to the public as to every security bought or sold in the United States. The New York Curb Exchange believes, moreover, that all trading should take place upon the floor of an exchange where it will always be subject to proper regulation and control; but so long as such an enormous amount of trading takes place of or outside any exchange and until the day comes when all trading is required to be upon exchanges, it is believed that it is in the public interest that trading in so-called “unlisted securities” should be permitted on an organized exchange when an active market exists in the security in the neighborhood of the exchange, and where sufficient information is on file with the exchange to give to the investor substantial information in respect to the security. No exchange is more sincerely or honestly run than the New York Curb Exchange, and barring the New York Stock Exchange, no exchange is so Nation-wide in its scope, or offers more efficient and modern facilities. As against trading upon a recognized and organized exchange and trading off an exchange, and unless and until a security may not be bought or sold other than on an exchange, the issue would seem to be overwhelmingly in favor of exchange trading.
(Thereupon, at 11:48 a.m., the committee adjourned to meet at 10 a.m., the following day, Thursday, Mar. 1, 1934.)
NATIONAL SECURITIES EXCHANGES-H.R. 7852
THURSDAY, MARCH 1, 1934
HOUSE OF REPRESENTATIVES,
Washington, D.C. The committee met, pursuant to adjournment, at 10 a.m., in the committee room, New House Office Building, Hon. Sam Rayburn (chairman) presiding:
The CHAIRMAN. The committee will come to order. We will hear Mr. Witter.
STATEMENT OF DEAN WITTER, SAN FRANCISCO, CALIF., APPEARING ON BEHALF OF 204 DEALERS ON THE PACIFIC COAST
Mr. WITTER. My name is Dean Witter, of San Francisco. authorized to speak for 204 dealers on the Pacific coast. All of these dealers also operate as brokers.
I have prepared a statement here, and I do not intend to go through it in any detail, if I may omit it, because the statement
The CHAIRMAN. You may put the whole statement in the record and refer to any part you desire.
Mr. WITTER. I would like, however, to read one of the wires that is typical of several that I have received from the coast in connection with the proposed bill, and I will skip through that, too, if I may, and put that in the record.
This wire is from the Washington State Securities Dealers Association, a voluntary association of all dealers in the State of Washington, and makes particular objection to section 6, which would prohibit banks from extending credit on unlisted securities in the regular course of business, and which would deprive them of the credit they now receive on bank drafts, as well as on inventory.
It makes particular objection to section 10, which prohibits the dealer from acting as both dealer and broker, stating that all dealers in the State of Washington must operate as both brokers and dealers in order to render a complete investment service.
It makes objection to section 14, which purports to control overthe-counter transactions in unlisted securities, and states, among other things:
"The stock of only one corporation and the bonds of only one corporation incorporated under the laws of the State of Washington are listed on a recognized national exchange", which means that all remaining securities which are not listed would be without market under this bill. It says that taking away the collateral value of these unlisted securities "would be detrimental not only to the security dealers, but to the entire community.
I will not read the rest of it, except that it makes further objections to the reports and listing requirements, as applied to small corporations, and says in part that this group of dealers feel that it would be exceedingly dangerous to the interests of the public, and, moreover, the penalty clause provided thereunder bears no relation to any losses incurred and places a premium upon the activities of “litigous chiselers." I do not know what a “litigous chiseler" is, but I imagine that this man does.
I also have wires which are somewhat similar, which I shall not read, which come from the Portland Bond Club; from the San Francisco dealers, which include 52 dealers, and from the security dealers of Los Angeles, which include 71. I think that there are more than those whom are included in some of the other associations, whom I am also authorized to speak for.
I have been allowed only 15 minutes, and I would like to skip on this statement, and I would like to begin by saying—and I think that I speak for these two-hundred-odd dealers, that I am in favor of Federal supervision and control of stock exchanges; that I am in favor of complete and accurate reports to stockholders; that I am in favor of punishing misrepresentation, fraud, and other acts by either brokers or dealers which are detrimental to the public interest, and I am opposed to pools, corners, and the manipulation of markets.
I have certain general objections to the regulation of stock exchanges by rigid and fixed statutes.
The CHAIRMAN. Mr. Witter, would you prohibit pools?
Mr. WITTER. That is such a broad subject, sir, that if I began to discuss it, I would not be able to conclude in 15 minutes.
The CHAIRMAN. You remarked on that in your statement.
Mr. WITTER. The definition of "pool" has never been made, clearly made, to me.
The CHAIRMAN. I thought that I understood you to say that you were opposed to pools.
Mr. WITTER. I am opposed to the accepted sense of pools which are combinations made for the purpose of manipulation of markets. There are some types of pools which I think are quite necessary to the conduct of investment businesses, but that is a rather difficult and rather long story, and I am afraid I would not have time to tell it.
I have certain general objections to the regulation of stock exchanges by rigid and fixed statutes. I do not think that a fixed statute endeavoring to deal with all the complex and intricate problems of the brokerage business can be so drawn as to eliminate the possibility of abuses, without at the same time destroying the functions of exchanges and free and open markets for securities to the great detriment of the public.
As I said before, I do not intend to cover all of the provisions of this bill, and I would like to confine my statements to the effect of those particular sections which are referred to in this wire which I have read, and particularly to section 10, and not to all of section 10, because I am not competent to speak on all of it, but the first subsection of section 10, which relates to the separation of dealers and underwriters from brokers.
I have never heard of any argument that I thought had the slightest weight that would favor the segregation or separation which is proposed in this bill, and it is therefore difficult for me to present any
argument as to why that proposed segregation should not be undertaken.
The presumed purpose of these sections which provide for the divorce of broker and dealer is, first, to insure the customer knows whether he is dealing with a firm as a broker or a dealer; and, second, to prevent the use of the same capital for the conduct of two businesses.
I do not presume that the bill was intended to enforce a bardship upon the conduct of legitimate business nor to further reduce the already decimated ranks of the dealers, although these sections, sections 10, 7, and 19, would do both. I shall later suggest how the purposes of these sections can be fulfilled without damage to the public interest.
It would not be constructive to object to the divorcement of the brokerage and the dealer business without suggesting some means which would insure the public against confusion of functions. This can be done by the segregation of the two businesses under one ownership, and by having all letterheads printed either “bond department” or “brokerage department." All statements showing transactions with customers should be clearly phrased to indicate, without possibility of misunderstanding, whether the firm is acting as a broker or as a principal in that particular transaction.
And, I may say, by the way, that that has been very comprehensively covered in the investment bankers' code, which has just been drafted, and I think is now fiaally approved. It makes it obligatory upon all firms to indicate clearly whether they are dealing as a broker or a dealer.
In the conduct of my firm and many others, we have scrupulously separated our brokerage department premises, books, accounts, organization, capital, personnel, and functions. In general, our brokerage departments and bond departments are as separate as though they were two different firms, except for mutuality of name, ownership, and general policy. I think that no harm and some advantage has come to the customers of each department through the dual functions of the firm. No brokerage department customer's man is allowed to sell our own participations or underwritings to his customers. The reason is practical as well as ethical. And I will not go into detail as to this, if you do not mind.
I do not believe it is practical to provide by statute that the two businesses should be as completely segregated as ours, as small dealers cannot afford the segregation of capital and premises. The large dealers could, by the way, and it might be wise to treat them differently, and I can suggest a means of doing that.
The main purpose of segregating is served by making it clear whether the dealer is a broker or a principal. This should be indicated in verbal statements and in written bills and confirmations.
The dealer and underwriter business has recently been largely confined to the purchase and sale of municipal bonds. These bonds are rarely, if ever, listed, and under the provisions of section 7 (c), a dealer can neither use his capital to carry such security, nor could he borrow money against them.
Section 6 of the proposed bill forbids lending on unlisted securities, which would enforce a great hardship upon the market for unlisted securities, and particularly upon the smaller firms.