Transcript from the Global Research Analyst Settlement Fairness Hearing.

Fairness Hearing

This hearing was held to determine the fairness of the SEC's $1.4 billion dollar "settlement with the nation's top investment firms to resolve issues of conflict of interest at brokerage firms. The 'global settlement' concluded a joint investigation begun in April (2002) by regulators into the undue influence of investment banking interests on securities research at brokerage firms.

Creative Investment Research was the only investment advisor to testify at this hearing. We believe other private sector institutions and companies ostensibly responsible for protecting investors, NRSRO's like Moody's, Standard and Poor's, may have been compromised and/or fearful of retaliation, and, therefore, unable to offer honest and unbiased advice to the Court.

THE COURT: Now, one other investor requested permission to speak, Mr. William Cunningham. Mr. Cunningham, good morning to you, sir.

(MR. CUNNINGHAM: Good morning, your Honor. I appreciate the opportunity to address the Court on this matter. I am William Michael Cunningham of Creative Investment Research. We are a social investment adviser and a community development entity certified by the Department of Treasury.

In my letter dated February 3rd, 2005, I noted three points that I wanted to make at this hearing. One was the use of on-line penalty redistribution tools, second concerned the publication and notice schedule, and third concerned the ability of mutual and pension fund investors to determine damages caused to them and to request specific remuneration.

Let me talk about the use of on-line penalty redistribution tools first.

It is our belief that the experience that the federal government has with respect to bank lending might be appropriate to look at in this case. There is a database called the Home Mortgage Disclosure Act database. It's a collection of loan applications that each and every bank in the country take in. And the database is maintained by an institution called the FFEIC, Federal Financial Institutions Examination Council, that makes the data available to analysts and to the public. So if you wanted to see how many loans Bank of America had taken in, how many loan applications Bank of America had taken in in Harlem, you could do so as a way of reviewing their social performance. And that database, by the way, contains something like 17 million records so it's a very extensive database compiled on an annual basis. So the federal government has good experience in dealing with massive sets of information and making them available to the public.

The other point that we would like to make is that computing power and data storage are inexpensive so it's certainly cheap to make these types of large data sets available to the public.

We suggest that the Court mandate that the settling firms strip away personal information concerning transactions that are relevant here and post the information on a Web site. This would allow the public to look at transactions made by the settling firm, within the relevant time periods in the relevant securities, without revealing the personal information attached to those transactions. It's exactly analogous to what the federal government does with respect to the Home Mortgage Disclosure Act data. They strip out any personal information concerning the people who are making loan applications. They retain information on property location by census tract and also on the ethnic makeup of the people who are requesting financing. The latter, by the way, is voluntary, so if you don't want to report your ethnicity, consumers have the option to redact that information.

We think this approach would be appropriate in this case so that the public would be allowed to see the exact nature of the damage caused to them and to the investing public as a whole.

One thing I would note about the settlement itself is our belief that the penalties should have been income based. I know that's a settled point, but our suggestion would have been that the settling firms be stripped of all income for a 12-month period as a way of ensuring that they would not engage in these egregious actions again. What you do is let the firms run themselves for a 12-month period, you take a look back at how much money they made, and you take all of that money out of the firm as the penalty for the actions they engaged in.

We believe that these firms are critical to the future of democratic capitalism and that fraud is very, very damaging and that it risks -- basically what happens is, as you get these types of egregious actions and fraud, you risk wrecking the system in its entirety, and that's a risk that we don't believe should be borne by the public. It's a risk that we don't think is appropriate.

With respect to the use of the publication notice schedule, we note that media outlets of specific relevance to minorities and women were not on the schedule. We would suggest that some of these entities be added. Institutions like Black Enterprise, Asian Business Magazine, Hispanic Business Magazine, and Working Women Magazine might be appropriate venues to publish the schedule and the notice to reach to a broader audience.

One thing I will also say is that I note that there don't appear to be a whole lot of people of color involved in this process. We think that's problematic. We think that, to the extent that you have people of color involved, both from the standpoint of looking at the penalties and from the standpoint of crafting solutions, that you will get these types of suggestions, a broadening of the publication schedule.

One final point I would make is that we do think the notice should be published at least five times. We don't believe that the current publication schedule is frequent enough to really get the word out to individuals who have been damaged. We would certainly like to see the schedule frequency increased.

As I mentioned, we also have an issue with respect to mutual and pension fund investors. We understand from speaking with Professor McGovern, certainly mutual and pension fund investors are eligible to be remunerated, but they have to depend upon their fiduciary, the pension fund or the mutual fund, to actually request compensation based on the damage that those funds suffered.

We would note, as we did in our letter, that there are some problems with respect to fiduciary duty. The SEC itself has fined several mutual funds for breach of fiduciary duty.

So as an individual investor, I am not sure that I can always depend upon a mutual fund to look out for my interest given the track record that we have seen with respect certain of these institutions not looking out for the interests of individual investors.

Therefore, we believe that there should be a tool in place that would allow an individual mutual fund investor to look through the fiduciary, to see what damage was caused to their particular mutual fund and kind of funnel their view down to their own holdings to be able to determine the dollar amount that their mutual fund should be requesting on their behalf. We don't think that all mutual funds will necessarily do that.

Part of the issue is that the mutual funds are dependent upon the settling firms. The way that we think about it is the mutual funds are like car companies, basically producing financial returns. They are buying raw materials, securities, from the settling firms. What we have seen is that the settling firms have polluted the supply network, and that's what is at issue here. They basically violated their fiduciary duty and made it more difficult for mutual funds to produce in a fair way what they are charged with producing, which is, again, financial returns. So we are not sure that we can trust anybody in that chain.

We understand the difficulty that the Court has with respect to these issues, and we respect the efforts and the mechanism that you put into place so far. What we would suggest, however, is sunshine. Simply allowing individual mutual fund and pension fund investors to look through their fiduciaries is one way to ensure that they are going to be compensated for the damage that was caused to their holdings. The way that we feel you can do that is by posting the transaction database, stripped of any personal information, on-line and allowing individuals to input their mutual funds and the holding period and have the system look through the commission -- in essence, what you're doing is putting the commission database of the settling firms on-line.

We believe that's the appropriate approach. As a former institutional broker, I can tell you that the one database we made sure we had accurate was the database that determined our compensation. So certainly looking at commissions paid to brokers is the way to get a feel for the individual transactions.

We believe that an individual should be able to go to a Web site, input their mutual fund and the holding period dates, and have a database that looks into that mutual fund and determine whether or not any of the offending securities were held during the relevant time period.

And you can even input your dollar amount. Let's say you had $10,000 in the Fidelity Magellan fund. At the end of the process, you'd come out with a number that would let you know the impact that the settling firms had, the negative impact that the settling firms had on the financial returns that were produced by a particular mutual fund.

We certainly feel that's something that's doable. We think it's relatively straightforward to do. Again, computing power is cheap, data storage is cheap. It's just a question of making sure that you have the relevant data in place.

On that point, let me finally state that we certainly think, given their track record, that the settling firms have every incentive to not provide the Court appropriate or timely information with respect to the damages caused. We would urge the Court to put into place very severe penalties should you find that you have not been given accurate data that the administrator needs to determine damage caused to individuals. There should be very severe penalties in place if any of the settling firms do not provide accurate information on a timely basis.

Let me also state that as we looked at the schedule itself, I am not sure that a nine-month distribution plan is appropriate. We certainly feel that -- this was the third principle of the distribution plan. We certainly feel that a 12month distribution time period or an 18-month distribution time period might be warranted in this case. Investors are going to have a hard time determining the damages caused to them. That's, again, why we suggest these informational tools be developed to help ease the time costs that investors will have to spend to determine damages. And we just think it's going to take a while for people to recognize they have been hurt and to request compensation. We certainly think that nine months might be too short of a time period to allow investors to recoup damages.

I believe that covers my comments. As the court is aware, we did submit a ten-page letter that outlined our comments in detail. We would be happy to provide any additional information that the Court thinks is appropriate or would like to see with respect to this case.

Again, I want to thank the Court for its indulgence and for inviting me here this morning.

THE COURT: Thank you, Mr. Cunningham.

(NOTE: On April 22, 2005, the Court extended the publication schedule and ordered that the notice schedule include publications directed at women and minorities. See: Court Order Extending Publication of the Notice.

William Michael Cunningham


  • B.A. (Economics) , MBA (Finance), A.M. (Industrial Organization)