Mr. MACK. How are your disciplinary actions taken against the members? Mr. FUNSTON. Well, we have three different levels at which it In the first place, let me say that the exchange has 1,600 employees and all of these employees are responsible, of course with varying degrees of effectiveness because a pageboy on the floor can't be too effective in this area, but they are all responsible for seeing that the rules and regulations of the exchange and the SEC and the Federal laws are adhered to.

Mr. MACK. You mentioned a specific number on page 2 of your statement that 219 staff members

Mr. FUNSTON. Right. Of the 1,600, some 219 have specific responsibility for seeing that our rules are adhered to. Then the way that this is enforced is: (1) certain actions are taken by the staff of the exchange in enforcing the rules; (2) certain actions are referred to the advisory committee of the board; and (3) certain actions are dealt with by the board, itself, depending upon the severity of the infraction.

Mr. MACK. Who directs the investigation?

Mr. FUNSTON. I do. The staff of the exchange directs it. If I may take just an example-I don't know how much detail you want me to go into.

Mr. MACK. Who finally makes the decision? Would that be the board of governors?

Mr. FUNSTON. Yes.

Mr. MACK. It is an appealing process?

Mr. FUNSTON. Yes. The residual disciplinary power resides in the board. They delegate certain authorities to the advisory committee. They also delegate certain authorities to me, which I, in turn, redelegate to the members of the enforcement staff of the exchange.

Mr. MACK. Then you would make recommendations for the disciplinary action which would be taken against the member?

Mr. FUNSTON. Yes, sir.

Mr. MACK. Are they all initiated by you or your exchange, or does the Securities and Exchange Commission initiate any?

Mr. FUNSTON. As far as I know, in my 10 years there, I don't recall, and I may be wrong in this, any case where the SEC has had to come to us and say "Here is a situation. You better look into it." They are initiated by us and, of course, where we get the information to initiate them depends on many different avenues. We have a very complete auditing staff, investigatory staff. That is one source. The governors of the exchange who are policing the floor may pick up things. The general public is a great source of information for us. Other competitors in the business are a source of information. In other words, we get leads from wherever we can.

Mr. MACK. If I understood you correctly, you said that you do not recall an occasion when the SEC had suggested to you to make a certain investigation.

Mr. FUNSTON. That is right.

Mr. MACK. Would your decision be reviewable by the Securities and Exchange Commission?

Mr. FUNSTON. Yes.

Mr. MACK. Is it that a decision would be appealable to the Securities and Exchange Commission?

Mr. FUNSTON. I would probably say reviewable would be better. Mr. MACK. Are all of your decisions reviewed by the Securities and Exchange Commission?

Mr. FUNSTON. No. Any disciplinary action that we take we refer to the SEC, the statement of it, and sometimes they will question us about the action and get further information. I would assume that if somebody wanted to complain about any one of those cases, they could go to the SEC about it. The same thing goes for any of the actions that we take that are not reported. Well, I don't know about that. May I ask counsel?

Do we report all kinds of disciplinary action?

Mr. BRANDOW. I think the Commission is fully informed of all disciplinary action taken and the steps taken, but there isn't any statutory review procedure set up as there is in the case of the NASD in certain areas.

Mr. MACK. Then it is not reviewable?

Mr. FUNSTON. Not in the formal sense.

Mr. MACK. Then the Commission would not be in a position to compel the exchange to take disciplinary action?

Mr. FUNSTON. Yes, the SEC can revise anyone of our rules or regulations, and I am sure that under that power if they felt that we are not dealing strongly in any situation they could step in and tell us that they wanted a change.

Mr. MACK. What is the extent of your jurisdiction in the matter of disciplining your members?

Mr. FUNSTON. It is very broad. When the exchange was first

Mr. MACK. I would like to further ask if it goes beyond the actual operation of the exchange?

Mr. FUNSTON. Under the original constitution of the exchange, when it was set up in 1792, the purpose of the exchange was to promote just and equitable principles of trade, and I think the other phase was to provide for high standards of business conduct.

When a man comes in and signs the consitution of the exchange, a member, he agrees to abide by these rules, and the exchange can, by invoking any one of these things, exercise whatever discipline is necessary to bring about compliance with these stands. So our power is very broad. It is generally recognized. The members sign the constitution agreeing to it when they buy a seat on the exchange, and the same rule applies to all of the allied members of a member of the exchange.

Mr. MACK. Then it would include other activity in other fields?

Mr. FUNSTON. Yes, sir. Any member of the New York Stock Exchange is responsible to the exchange for the performance of just and equitable principles of trade in any line of business in which he is engaged.

Mr. MACK. Last year you took disciplinary action against one of the members of the exchange. I think you are to be commended on the action that you took. It was the first time, I think, in 22 years that you have expelled a member of the exchange.

Mr. FUNSTON. Right.

Mr. MACK. This case would have been decided by the board of governors finally?

Mr. FUNSTON. Yes, sir. Sir, if I may just say one thing, this wasn't the first time in 22 years that we had expelled a member. We had expelled some other people in the past 22 years. It was the first time in 22 years that a member doing business with the public had gotten himself into such a situation that had it run its normal course, he would have gone into bankruptcy and the public would have lost. its money. As you say, we did step into that situation and have handled it.

Mr. MACK. How many members have you expelled in the last 10 years?

Mr. FUNSTON. I would say, just a guess, and I can check and send it in, I think three or four, or maybe more.

Mr. MACK. What other types of disciplinary cases have you had before the board of governors?

Mr. FUNSTON. Well, the way this works is that—and if I start going into too much detail, I hope you will stop me, because I don't want to bore you with it—when a disciplinary action

Mr. MACK. Without consuming too much time, I would like you to tell us about other cases which the board of governors has dealt with in the last year. That is, where disciplinary action was taken.

Mr. FUNSTON. It is hard to remember. We usually have each year about one or two trials before the board, and then we have about a dozen cases that come up before the advisory committee. And then there are a number of matters that are handled by the staff. If I can find a paper here, I have examples.

Mr. MACK. It is not necessary to take the time. If you could submit for our record two or three other cases which you have considered, that would suffice.

Mr. FUNSTON. Here is the type of major cases since 1936. I have a list of nine of them. Do you want me to give them now or send them in for the record later on?

Mr. MACK. I would just as soon have them included in the record, if you don't mind.

Mr. FUNSTON. Fine.

Mr. MACK. Without objection, they will be placed into the record at this point when you submit them.

(Material referred to follows:)

NEW YORK STOCK EXCHANGE

DISCIPLINARY PROCEDURES

I. REGULATION OF EXCHANGE

Under the constitution, the board of governors is vested with all powers necessary for the government of the exchange, the regulation of the business conduct of members and allied members, and the promotion of the welfare and objects of the exchange. Among its objects is the maintenance of high standards of commercial honor and the inculcation of just and equitable principles of trade and business. These broad standards and principles have been delineated through the adoption by the board of detailed rules and policies on practically every phase of the securities business.

73010-61 -8

II. METHODS OF SUPERVISION

To carry out its responsibity to see that membership adheres to the standards and principles which have been established, the board has instituted various methods of supervision; these include the financial questionnaire system, exchange examiners' surprise visits to firms' offices, surprise checks on specialists' dealings, floor trading reports, etc. As a result of such supervision, facts are developed from time to time indicating possible violations.

III. DISCIPLINARY POWERS

The consideration of possible violations and the discipline of members and allied members for violations rests solely with the board. Generally, the cases divide themselves into two categories, minor (less serious) cases and major (more serious) ones. Over the years, a pattern of procedure for handling each category has been established by the board.

The handling of minor cases has been delegated by the board to the advisory committee with authority to impose limited penalties, while major cases are presented to the board for determination.

IV. DETERMINATION OF PROCEDURE

There arises from time to time a case concerning which a determination must be reached whether it should be considered by the advisory committee or by the board itself, i.e., whether a case should be regarded as minor or major.

In each such case, the chairman, the vice chairman and the president, acting as an informal committee, consider the facts ascertained by the exchange staff and decide whether the facts in the particular case warrant a proceeding before the board. This step insures that only those cases which appear to be of a more serious and substantial nature are presented to the board itself.

V. TYPES OF MINOR CASES

Minor cases (which have averaged eight a year for the past 10 years) have included:

A technical and unwillful violation of the minimum capital requirements. Failure to adhere to regulation T of the Federal Reserve Board and exchange maintenance margin requirements in several instances.

Isolated instances of failure to place account names on orders prior to execution.

An infraction of the rules governing exchange member floor trading.
A violation of rules regarding execution of orders.
Failure properly to perform specialists' function.
Unauthorized gratuities to floor employees.

VI. PROCEDURE IN MINOR CASES

The facts with respect to such cases are developed by the exchange staff, which obtains from the member or partner concerned his explanation for the

Occurrence.

A memorandum is then prepared by the staff and sent to the member or firm involved in order that he or the firm can point out any inaccuracies and submit any further comment or explanation.

The memorandum and the member's or firm's comments are sent to the advisory committee. At its next meeting the advisory committee determines by majority vote of those committee members present whether a violation has occurred and, if so, what penalty should be imposed. The maximum penalty the advisory committee can impose is a censure and a fine of $250 for each violation.

At a subsequent meeting, the member or partner appears before the advisory committee and is given an opportunity to make further comment and explanation.

If there is no new information elicited the disciplinary action, previously determined upon, is then taken.

If new information is given to the advisory committee, the member or partner is asked to retire. The committee then determines whether to change its previous decision. If a determination is made that disciplinary action should be taken, the member or partner is recalled for that purpose.

A report of all such actions is made to the board of governors at its next meeting. Similar information is thereafter given to the SEC in accordance with an agreement so to do.

In certain cases, the advisory committee has felt publicity, without names, concerning a particular case would have a salutary effect. This publicity has taken the form of a brief description of the violation and of the penalty imposed. In floor procedure cases, the notice has been posted on the exchange floor bulletin boards; in office procedure cases, it has been disseminated as an educational circular.

VII. TYPES OF MAJOR CASES

Major cases since 1936 (which have averaged two a year for the last 10 years) have included:

Member fraudulently misappropriated customers' securities and pledged them as collateral for personal loans.

Member forged signature of customer on check issued by clearing firm to which member introduced account and deposited proceeds in member's own bank account.

Allied member embezzled his firm's funds through falsification of records. Money loaned by member firm to an individual was used to purchase control of investment trusts, the portfolios of which were liquidated to pay off the loans.

Execution of customer's order designed to mark up price of stock at close.
Repeated violations of capital requirements.

Failure to use due diligence in a large number of cases to obtain essential facts concerning customers.

Violations of commission law, by rebates to customer or nonmember broker-dealer, or by employment of person in nominal position because of business obtained by him.

Violation of exchange policy prohibiting the making of any agreement through which gratuity fund payments would go to other than deceased member's family.

VIII. PROCEDURE IN MAJOR CASES

(a) Person presenting the charges

Charges presented to the board are customarily signed by a senior staff member of the exchange department which administers the particular rules involved. This is done only after the informal committee of the chairman, vice chairman, and president have determined that the alleged facts warrant such a proceeding and have so reported in a memorandum to the board.

(b) Presentation of charges to board

After the informal committee's report and the charges have been read to the board, it determines whether to adopt a resolution setting the date of the hearing and directing the secretary to notify the member or allied member of the procedure to be followed under the constitution.

In advance of the board hearing, each governor is sent a copy of the informal committee's report, the charges and any written answer to them, the board resolution prescribing a hearing, a memorandum describing the hearing procedures applicable to the case, a business history of the person charged or his firm and a résumé of any previous similar cases.

IX. HEARING OF CHARGES

At the prescribed meeting, the charge and any written answer of the person charged are read.

The facts upon which the charge is based are placed before the board by the exchange staff through documents and records and through interrogation of the person charged or through other witnesses.

The person charged is given opportunity to question any witnesses produced. Governors may also question the person charged, the witnesses and the exchange staff.

The person charged is then given full opportunity to present his defense or explanation in any way he chooses, which may be through documents and records, witnesses, and through written or oral statements.

Again, the governors may raise any questions.

If there is no further evidence to be submitted or questions asked, the person charged and the exchange staff are asked to retire.

The Board then commences consideration of the charge.