Can the SEC’s landmark reforms survive a Wall Street fightback?

Hanging on the wall in Gary Gensler’s office is a quote from a letter penned by Felix Frankfurter, later a Supreme Court justice, to President Franklin Roosevelt. It is dated 1934, the year the Securities and Exchange Commission was established to regulate markets.

It advises the president to appoint administrators “who have stamina and do not weary of the fight, who are moved neither by blandishments nor fears, who in a word, unite public zeal with unusual capacity.”

To his advocates Gensler, the chair of America’s securities watchdog and one of the most powerful regulators in the world, is just such an individual.

“Gary will be one of the most consequential chairs of the SEC in many, many decades because he has been so single-mindedly and fearlessly focused on protecting investors and the markets,” says Dennis Kelleher, chief executive of the Better Markets campaign group.

John Coffee, a professor at Columbia Law School, describes him as “the most activist commissioner since Arthur Levitt”, referring to the SEC’s longest-serving chair who was known for his interventionist tendencies.

From the outset of his term in 2021, Gensler has undertaken a sweeping reassessment of rules that have underpinned US markets for decades, just as the industry is adapting to new technologies, asset classes and market participants.

“It shouldn’t be that investors and issuers work for the markets and the market intermediaries in the middle,” he tells the Financial Times. Many of his reform projects focus on intermediaries in the equity, private capital and government bond markets to ensure “fair, orderly and efficient” operation, he adds.

He has so far proposed 67 rules, the highest number since Mary Schapiro, who neared 100 during her tenure after the global financial crisis, and more than recent predecessors Jay Clayton and Mary Jo White did during their full terms.

But Gensler’s reforms and his tough stance on enforcement, with targets ranging from top Wall Street banks to upstart crypto exchanges, have antagonised some on Wall Street. 

The industry has accused him of regulatory over-reach and is fighting back with a slew of lawsuits aimed at throwing out rules that are key to his agenda.

“This SEC has repeatedly undertaken rushed, unworkable and politically driven rule-makings that harm investor protection and make America’s capital markets less competitive,” says Tom Quaadman, executive vice-president at the US Chamber of Commerce’s centre for capital markets competitiveness.

Gensler, centre, with Congressman Mike Quigley and Lina Khan, chair of the Federal Trade Commission. Industry groups argue that the SEC has adopted too many rules too quickly © Al Drago/Bloomberg

Undeterred, Gensler is pushing ahead with the biggest regulatory blitz since the financial crisis, setting the stage for the latest in a long line of battles between Wall Street and its main regulator. 

The question now is whether he can see through his ambitious agenda in the face of an industry fightback, sceptical judges and the possibility of a new administration in the White House after the 2024 presidential elections.

His legacy “will be determined in the next few months,” says Elizabeth Warren, a Democratic senator who is critical of Wall Street’s excesses and supportive of Gensler’s reform agenda. She says that he should continue pushing for strong rules on climate-related disclosure and private funds as well as misconduct in the crypto sector. 

“That will determine how he is known forever.” 

Unlike most SEC chairs, Gensler is not a lawyer. Instead, he spent 18 years at investment bank Goldman Sachs before moving into public service to regulate the markets he once worked in.

He was chair of the Commodity Futures Trading Commission from 2009 to 2014, catapulting the regulator into the spotlight by boldly harnessing its mandate and the new authorities granted by the Dodd-Frank Act, a sweeping piece of legislation passed in the wake of the financial crisis. He adopted dozens of rules and launched high-profile enforcement actions, leading a global investigation into the rigging of the benchmark Libor borrowing rate that generated billions of dollars in fines.

These were “big and hard hitting” cases, says a former colleague. Some of Gensler’s reforms affected the “entire swaps market [and] reached into other countries. That was major”.

He spent time teaching at MIT before being picked by President Biden in 2021 to chair the SEC, a far larger regulatory agency.

He is “much more of a finance mind than a legal mind,” says Robert Jackson, professor at the New York University School of Law and a former SEC commissioner. “He sees in the way that a finance mind does that the risk of inaction is just as great as the risk of action”.

Not fitting the mould means Gensler has taken a different approach to risk, Jackson adds. “Previous chairs . . . have been extremely cautious. They were motivated significantly by being afraid . . . to lose a case, afraid to pass a rule that would be unpopular in the marketplace. You can say many things about the man, but he’s not afraid.” 

Marc Elovitz, partner at law firm Schulte Roth & Zabel, adds that “he doesn’t back down, he almost doubles down”.

“If you just look at the sheer number of rules proposed . . . since he started, it’s extraordinary,” says Elovitz. Coffee adds that unlike predecessors, Gensler “does not prioritise in the sense of saying, ‘Here are the one or two [or] three things I want to get done during my administration.’ He is active on all fronts.” 

But zealous rulemaking has also highlighted divisions within the commission, whose two Republican commissioners often dissent from the three-member Democratic wing when it comes to votes on proposals.

A former colleague says Gensler is very “impressive” and often “the smartest person in the room” with a deep knowledge of history. But he adds that “in executing his duty, Gary can be tough on people”. 

Gensler during an interview with Bloomberg Television in New York. Market participants are increasingly challenging his proposals in court © Christopher Goodney/Bloomberg

The SEC declined to comment, but according to a 2022 report by its inspector-general, some SEC staff have warned that a “more aggressive agenda” potentially squeezes time available for research while increasing litigation risk. The same report showed that at an estimated 6.4 per cent, the SEC in fiscal year 2022 (as of September) would face its highest attrition rate in a decade.

Gensler told a congressional committee that in a “very tight” labour market, SEC staff were “deeply sought after by law firms and outside folks”, adding that turnover was “consistent” with other agencies and his rulemaking with that of predecessors.

But lawyers representing market participants lament the agency’s lack of flexibility. One says that in routine conversations with SEC staff, “there is no openness to having any conversation about how . . . we could make [things] work . . . They’re unwilling to be creative.” The lawyer adds that informal guidance has become harder to obtain. “It’s unlike anything I’ve ever seen.”

The agency responded that it was “not the job of SEC staff to find ‘creative’ ways to bend the rules for market participants with well-connected legal representation”.

Gensler’s rulemaking has extended to all corners of the financial markets. He has proposed the biggest reform of US stock trading in almost 20 years, pushing brokers and market makers to execute deals at the best price available. 

In the past two months, the SEC adopted landmark rules to tighten oversight of the $26tn US Treasury bond market, seeking to clear more trades centrally and bringing high-speed traders and some hedge funds under direct supervision.

The regulator has also focused on toughening rules for hedge funds, private equity and venture capital groups. Gensler argues that a private funds market that is now larger than the $23tn US commercial banking sector should be more competitive and transparent.

Steve Womack, a Republican congressman, shakes hands with Gensler during a committee hearing. Some lawmakers in Congress have accused Gensler of pursuing a ‘progressive’ agenda © Al Drago/Bloomberg

But industry groups argue that the watchdog has adopted too many rules too quickly without considering their combined impact. A coalition of private equity, venture capital and hedge fund groups last year sued to block regulation that aimed to broaden disclosures, claiming they are harmful and beyond the agency’s purview, while hedge fund groups went to court to invalidate a pair of rules on short selling.

The SEC has said that it “undertakes rulemaking consistent with its authorities and laws governing the administrative process” and that it “will vigorously defend challenged rules in court”.

Another big fight is looming over requirements for reporting corporate carbon emissions. In March 2022, the SEC released proposals that would require public companies to share data on their direct greenhouse gas emissions and those derived from energy that they purchase — known as scope 1 and scope 2 emissions.

Gensler has said that the SEC is responding to investor demand for information on climate risk and highlighted that in 2021, 55 per cent of companies in the Russell 1000 already disclosed these emissions.

But the proposals have nevertheless provoked a furious backlash, especially the suggestion that the much broader scope 3, which includes emissions from supply chains and sales networks, should be included if it is material. 

In a letter after the proposal was issued, 24 Republican state attorneys-general urged the SEC to drop the rule, predicting it would “undoubtedly draw legal challenges” and “not survive this review”. Republican lawmakers in Congress have accused Gensler of pursuing a “progressive” agenda.

The time elapsed since the first proposal suggests the SEC “is well aware of the threat of judicial invalidation”, says Coffee, who adds that “it will disappoint environmentalists if it drops scope 3, but the chances of [the rule’s] reversal go way up if it does not”.

Gensler has said the timeframe between proposal and adoption is generally 12 to 24 months and that the SEC is reviewing more than 16,000 public comments.

“We do everything within our legal authorities and how the courts interpret those legal authorities, so we have an eye on the courts,” he tells the FT.

While at MIT, Gensler was fond of paraphrasing a James Whitcomb Riley poem to describe crypto assets: “If it quacks and walks like a duck, it’s probably a security,” he told students.

It is a view that he has maintained as SEC chair. Gensler describes crypto as a “wild west” but argues that existing securities laws are clear and new rules tailored to digital assets are unnecessary. 

The industry disagrees. Kristin Smith, chief executive of the Blockchain Association, says Gensler’s chairmanship has been “incredibly counterproductive”.

“Getting in the way of [crypto] development, and not working with the industry to figure out how to address the accurate risks, is going to push the US out of this game,” she adds. 

The SEC said it is not the regulator’s responsibility “to be ‘productive’ for special interests” but to enforce law, adding that non-compliance with existing laws “is incredibly counterproductive” as it strips investors of protections such as fraud prevention.

A meeting at the SEC headquarters in Washington. The zealous rulemaking has highlighted divisions within the commission © Samuel Corum/Bloomberg

In a case against Ripple Labs, a federal court found that sale of tokens to the public via exchanges were legal under securities laws, but sales to institutional investors were not.

In December, another federal judge ruled that stablecoin operator Terraform Labs and its chief executive had failed to register tokens as securities. 

The “duck test” could be settled by two lawsuits brought last June against major crypto exchanges Coinbase and Binance. The SEC alleges they failed to register as brokers, exchanges or clearing agencies. Both platforms are seeking to throw out the cases, arguing that crypto assets are not securities. 

Last month, the SEC finally approved the first-ever batch of spot bitcoin exchange traded funds after a federal appeals court found it had been “arbitrary and capricious” in rejecting asset management firm Grayscale’s application to offer them. 

ETFs are popular among mainstream investors and crypto advocates regard regulatory approval for bitcoin-based ETFs as a vote of confidence. But the SEC resisted such a move for nearly a decade and Gensler stressed the eventual outcome was not an endorsement of crypto trading platforms or intermediaries.

He has also pursued enforcement actions against targets ranging from celebrities allegedly failing to disclose how much they were paid for token promotions to the industry’s biggest platforms. “We’re doing what the public wants, we’re being a cop on the beat,” he says.

Some question whether Gensler’s broad agenda will ultimately prove too ambitious. As CFTC chair, Gensler had a “real mission” rooted in the Dodd-Frank Act, his former colleague says. “But there is no Dodd-Frank regulatory push at the SEC now.”

He is also facing opposition from more pro-business judges sitting in higher courts; the Supreme Court in 2022 handed down a landmark ruling against the Environmental Protection Agency that raised questions around the power of federal agencies more widely.

Gensler says his goal is “helping the American public through sustainable policymaking and that means finding something that, based on the economics, the law and administrative record, is sustained in court”.

This is key because of the “collateral damage” that may arise when courts throw out rules, he told an audience at Yale University recently. Numerous court losses may set legal precedents that could hinder rulemaking for years to come.

Smith, of the Blockchain Association, says Gensler “is already seeing losses in the courts because he’s been so aggressive . . . I think he’s pushed the agency to move beyond what normal legal reasoning would dictate.”

Gensler said at the Yale event that of 34 rules so far finalised, six had been challenged in court. Though an appellate court vacated one rule, he said it was “important” it survived a challenge based on the First Amendment. On the enforcement front, the SEC has reached several settlements including with crypto platforms Genesis and BlockFi.

Some analysts say the SEC would have a better chance of surviving or avoiding legal challenges by toning down its proposals. Without such a willingness to compromise, there is a risk that litigation over his reforms will continue beyond the end of Gensler’s term, they add.

Warren disagrees. “It’s no surprise that the industry howls when [Gensler] enforces the law,” she says, adding that “weakening” rules “will not change either the likelihood that the SEC gets sued . . . nor how the courts review them”.

Others argue that he has already left a considerable mark. “Even if the proposals never go into effect, he’s accomplished something,” says Elovitz. “Just the fact of having proposed [these rules] has already chilled a lot of the industry.”

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