The new rules to segregate research analysts from investment bankers on Wall Street, implemented after the dot-com crisis, did not work and cost half a billion dollars, says Sallie Krawcheck, former CEO of the wealth management unit of Citigroup.
But lessons learned from that crisis may be applied, with caution, to ratings agencies to avoid a replay of last year's subprime lending crisis, she writes in the Financial Times.
"At midnight on Sunday, portions of the sweeping U.S. equity research settlement, put in place with great fanfare after the conflict scandals of the dotcom bubble, expire. Some would argue the multi-hundred million dollar settlement was a success: equity research analysts do not feature in the rogues gallery blamed for the current crisis," notes Krawcheck.
"Others would argue it was a failure: the analysts’ absence in the downturn generally extended to their absence in warning of the downturn.”
There are, however, she notes, lessons learned from the settlement that regulators and the industry should apply now — particularly how ratings agencies are treated.
"Among the things that did not work in the settlement was the much-heralded independent research provided for individual investors, at a cost of more than $430 million. Despite prescribed disclosure that it was available, clients yawned, ignoring it to the extent that for some firms, only 2 per cent of clients accessed it," she writes.
"One Wall Street settlement firm had just 200 views of independent research over four years, costing them $200,000 per view."
Increased disclosure did not work, either, Krawcheck notes.
"Wall Street firms each send out hundreds of millions of pages of disclosures each year; adding to this clutter simply led clients to report that they had even more of it to ignore. Given the density of the disclosures, there are few individual investors who say they read it, or even understand it," she said.
What's more, the "significantly increased bureaucracy" simply did not work, either.
"Red tape is driven by gatekeepers required to monitor conversations between investment bankers and research analysts, independent monitors who report to regulators on the settlement, reports by watchdogs on the independence of research and $80 million set aside for investor education," writes Krawcheck.
"This translated into lots of man-hours but led to an undetermined, very likely negative, return, with little significance for the individual investor."
What did work were two commonsense changes, she noted, including paying analysts on the accuracy of their stock recommendations and research quality, and publishing their performance.
Credit rating agencies will face a raft of new disclosure rules and restrictions but will not be forced to overhaul their business models under proposed U.S. legislation sent to Congress on Tuesday by the Obama administration.
The proposal by Obama is aimed at reducing conflicts of interest at rating agencies, boosting the regulatory authority of the US Securities and Exchange Commission over the agencies and reducing the financial system’s reliance on credit ratings.
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