Gordon Macklin, President of the National Association of Securities Deale Washington, D.C.;

John M. Meyer, Jr., Chairman of the Banking and Securities Industry Co mittee, New York;

Thomas Phelan, President of the Pacific Coast Stock Exchange, Los Angel and San Francisco;

Samuel Stewart, Senior Vice Chairman of the Board, Bank of America, S Francisco.

(Whereupon, at 12:15 p.m., the subcommittee adjourned, to reco vene at 10 a.m., Tuesday, October 26, 1971.)

STUDY OF THE SECURITIES INDUSTRY

TUESDAY, OCTOBER 26, 1971

HOUSE OF REPRESENTATIVES,

SUBCOMMITTEE ON COMMERCE AND FINANCE,

COMMITTEE ON INTERSTATE AND FOREIGN COMMERCE,

Washington, D.C. The subcommittee met at 10 a.m., pursuant to recess, in room 2123 Rayburn House Office Building, Hon. John E. Moss (chairman) presiding.

Mr. Moss. The subcommittee will be in order.

This morning the Subcommittee on Commerce and Finance of the House Committee on Interstate and Foreign Commerce opens the fifth in its series of hearings in its study of the securities industry. In our last hearing we focused on the pervasive effect of the stock certificates as a primary factor in back-office difficulties and an obstacle to the rapid and efficient processing of transactions both on the exchanges and over-the-counter. That hearing dealt specifically with the feasibility and desirabilty of one or more depositories to immobilize stock certificates, the development of a machine-readable certificate and accompanying documents, the development of a more efficient system for clearance, settlement, delivery, and transfer of securities and the development of automated systems for reducing theft of certificates.

In this hearing we shall focus on the feasibilty and desirability of bringing about a complete elimination of stock certificates. Since there have been several studies suggesting that this not only can be done but that it should be done as rapidly as possible, it appeared wise to consider these studies in a separate hearing, rather than discuss them at the same time as we were discussing projects, such as depositories, which are currently in operation. I do not mean to imply that the complete elimination of the stock certificate, if it can be obtained, will result in the elimination of all back-office paperwork. However, since at least a significant part of back-office paperwork seems to involve the stock certificate in one way or another, one would hope that, by eliminating stock certificates, the total amount of paperwork in the industry would be materially lessened.

In my letter of invitation to the panelists appearing here this morning, I set forth 13 questions toward which we hope your testimony will specifically be directed. Since I know that you are all familiar with those questions, I shall not repeat them now, but I hope that you will keep them in mind as we proceed and that you will, wherever necessary, supplement your written statements by further observations respon

sive to the questions asked in the letter of invitation. I also hope that each panelist will find it possible to comment on the statements submitted by the other panelists.

As in our prior hearings, we have determined that this hearing will take the form of a panel discussion rather than the usual formal presentation of statements. In this way, the subcommittee hopes it will be possible to achieve an interchange of views, both between this subcommittee and the panelists and between the panelists themselves. At the outset each panelist has been asked to present a brief summary of his views. The written statements will, of course, be made a part of the record and the Chair, at this point requests unanimous consent to include such statements, as well as any exhibits appended thereto, in the record as they are presented.

Is there objection? Hearing none, the record will be held open to receive them.

I appreciate the difficulties inherent in the next request, but I ask that you keep your summaries as brief as possible. I hope that 10 minutes will suffice. If there are points left uncovered, you may pick them up at a later stage in our discussion. To make the record clear and simplify the task of the reporter, please identify yourself before presenting your remarks and also later in the discussion, if this seems

necessary.

I am very pleased to recognize the first member of the panel, Mr. Stanley Sporkin of the Securities and Exchange Commission.

STATEMENT OF STANLEY SPORKIN, ASSOCIATE DIRECTOR, ENFORCEMENT, DIVISION OF TRADING AND MARKETS, SECURITIES AND EXCHANGE COMMISSION

Mr. SPORKIN. Thank you, Mr. Chairman.

I would like to introduce two of my colleagues on the staff who are accompanying me here today, Mr. Morris Simkin and Mr. Robert Millstone.

We are pleased to participate here today to discuss the most effective and efficient means for the settlement of securities transactions. It is our view that the long term solution to this problem is the elimination of the stock certificate. Based on the information that has been submitted to the Commission, it appears that the technology is presently available to achieve this objective. However, this will require a significant leadtime. It will be necessary not only to educate the public as to the needs and benefits of this change, it will also be necessary to significantly modify the systems of the entire financial community.

Finally, eliminating the stock certificate will not be feasible without certain significant legal modifications: The uniform commercial code, estates, powers and trust laws, tax laws of the several States and Internal Revenue Code, or replacement of these laws under the supremacy clause of the Constitution by enactment of appropriate Federal legislation.

These are matters of great concern and pressing importance which require utmost consideration and study. We appreciate the opportunity to appear on this panel and will be of whatever assistance we can. Thank you.

(The prepared statement submitted by Mr. Sporkin follows:) STATEMENT OF STANLEY SPORKIN, ASSOCIATE DIRECTOR, DIVISION OF TRAding and MARKETS, U.S. SECURITIES AND EXCHANGE COMMISSION

Mr. Chairman and members of the Subcommittee, I am glad to be here to discuss with you the feasibility and desirability of developing a fully automated system for the execution and processing of securities transactions. Accompanying me today is Morris N. Simkin, Special Counsel in our Division of Trading and Markets.

The securities industry has devoted a considerable amount of time and money to studying the problems of the present transaction completion system and ways in which it might be improved. Present today before you on the panel are representatives of several of the consulting organizations which the industry has retained to study these systems and to suggest proposed changes and modifications to make them efficient. Their testimony before you today as well as the studies they have performed which I understand will be made part of the record discuss in some depth the proposed changes and modifications and the ways in which their systems may be effectuated.

On June 29, 1971 the Commission sponsored a conference on the stock certificate. This was just one of a series of measures taken by the Commission to deal with the problem of improving and automating the securities transaction systems. In a January, 1969 report on the securities industry's processing problems it was noted that many people described the present situation as a 20th century mass input system for obtaining, soliciting and executing securities orders superimposed on an 18th century system for evidencing the ownership and completing the transfer of securities. In his February 25, 1969 testimony before this Subcommittee, Chairman Budge indicated three major long range measures which the securities industry must take to develop a more efficient settlement system. These included the development of effective clearance systems for all securities markets, the standardization of documents, and data interchange among broker-dealers and participants in the securities transactions process such that each participant could take the maximum advantage of the efficiencies and economies offered by electronic data processing and modern technology, and the immobilization of the stock certificate.

In a September, 1969 speech, Commissioner Richard Smith reviewed the intricate and detailed processes through which a stock certificate must flow in a normal transaction. He noted the several studies which had then been conducted and called upon the securities industry and the banking industry to join together to develop a solution to this difficult problem. Since then further industry studies on the stock certificate have been conducted. In a February, 1971 speech referring to these studies and the industry's efforts to that date. Commissioner Smith pointed out that the only final solution to the securities industry processing problem appeared to be the rapid and systematic elimination of the stock certificate for publicly traded securities or at least the elimination of its negotiability. To achieve this end he urged the creation of a national commission or study group to consider and draft federal legislation to provide for a securities processing system capable of handling securities transactions in the modern markets. Chairman Casey in his June 10, 1971 testimony before the Permanent Subcommittee on Investigations of the Committee on Government Operations of the United States Senate stated:

“Overcoming the back office problems of brokerage firms is, I believe, basic and fundamental to both protecting the industry against theft and improving its economic health. The fundamental answer here is, in my opinion, to work towards the elimination of the stock certificate. There is a disagreement as to how soon this can be accomplished. But the potential payoff on this is so great that we intend to pursue it very vigorously."

There are various approaches to handling the securities transaction processing problem. The participants on this panel will present to you some of these competing approaches. At our June 29 conference on the stock certificate it was noted that there was a wide area of disagreement as to which of these approaches will produce the desired results most quickly and economically. Present at that conference were the presidents of the major national securities exchanges and securities associations, representatives of major securities trade organizations, the investing public, the federal banking authorities, lawyers expert with the

problems of the stock certificate, and representatives of the Canadian Security Depository. The purposes of the conference as indicated in Chairman Casey's opening remarks were fourfold. First to review what is being done to reduce the operational difficulties and economic burdens which result from the movement of stock certificates and payments due on trade. Second, to explore the possibilities of developing even more satisfactory solutions to that problem than those on which the industry is now working. Third, to pinpoint the interrelationship of time and investment and the operational interfaces between the various systems now or about to be put into operation with the view to determining the approaches most likely to yield the earliest and best solutions. Finally, to determine how and when efforts can most effectively be applied and what kind of standardization and what kind of relationships between different methods, different markets, and different regions will afford the best prospect of evolving into a satisfactory nation-wide securities handling system.

We did not expect to achieve at this conference, unanimous agreement as to any one approach or system as the definitive answer for the industry's problems. Rather we hoped to obtain a wide interchange of views and ideas among the responsible organizations, to obtain as much information on the present state of industry developments and to try to channel the industry thinking and efforts into those approaches which appear to have the most attractive potential. The Commission has been working and will continue to work with the various organizations in the industry toward the development of the most effective and efficient systems for handling the stock certificate. It is our view that the long term solution to this problem is the elimination of the stock certificate. This goal cannot be achieved until certain significant steps have been taken. The first and most important step is that the securities transaction handling abilities of the individual participants in the securities markets must be improved. There are several ways in which this can be done, including the development of efficient systems for processing securities transactions, and the standardization of data inter-change and documentation within the industry. Second an educational program must be developed to inform the public as to the ability of the securities industry to efficiently handle its operations and to convince the public that it is no longer necessary to have a negotiable stock certificate which contains in itself not only the evidence of equity ownership but actually is that equity ownership. Third, the elimination of the stock certificate will require major changes in all related service and processing systems of the banking and securities industries.

Based on the information that has been submitted to the Commission, it appears that the technology is presently available to achieve the ultimate elimination of the stock certificate. However, there will be required a significant lead time before this can be achieved. It will be necessary not only to educate the public as to the need and benefits for this change, it will also be necessary to significantly modify the systems of procedures of the entire financial community. Finally, eliminating the stock certificate will not be feasible without certain legal modifications-the uniform commercial code, the estates, powers and trusts laws, the tax laws of the several states and the internal revenue code, or the replacement of these laws under the supremacy clause of the Constitution by the enactment of appropriate federal legislation. These are matters of great concern and pressing importance which require our utmost consideration and study. The Commission in its forthcoming report to the Congress on the security industry's unsafe and unsound practices will discuss these matters in some detail.

We appreciate the opportunity to appear on this panel and will be glad to help you in any way possible.

Mr. Moss. Thank you, Mr. Sporkin.

Mr. Weinberg.

STATEMENT OF ELI WEINBERG, A PARTNER IN THE FIRM OF LYBRAND, ROSS BROS. & MONTGOMERY CO.

Mr. WEINBERG. Thank you, Mr. Chairman.

On behalf of my firm, Lybrand, Ross Bros. & Montgomery, we are pleased to be asked to participate in these hearings and to express our views on this important subject. In our view, and after much study,