One On One: "Investors don’t realize that … they are totally unrepresented"

In his tenure as the longest-serving chairman of the Securities and Exchange Commission, Arthur Levitt had the highest visibility of any SEC chief in recent memory.

“People in the industry, the press, typical investors viewed Arthur Levitt the same way they would view [Federal Reserve Board Chairman] Alan Greenspan and [former Treasury Secretary] Robert Rubin,” says Barry Barbash, who served under Mr. Levitt from 1993 to 1998 as director of the division of investment management.

“In terms of the financial services area, I can’t remember that having been the case in the past,” adds Mr. Barbash, now a partner in the Washington office of the New York law firm Shearman & Sterling.

Mr. Levitt was clearly interested in populist issues, helping investors get better treatment from the industry and understanding the investment process more clearly.

He left the commission in February after strengthening the independence of auditors, improving investor access to information released by publicly traded companies and making mutual fund governance more independent.

Many in the industry, however, found to their dismay that Mr. Levitt became more of an activist toward the end of his term.

“I think in some cases he missed the opportunity to fundamentally rethink the role of securities regulation in a much more competitive environment,” says Jerry Ellig, who follows securities regulation closely as a senior research fellow at the Mercatus Center in Arlington, Va.

Q What are you going to do next?

A I am writing a book. That’s going to be a very important project for me. The working title is “The Lonely Investor.” It’s going to outline all of the ways that investors may be disadvantaged and not know about it.

It’s going to teach investors how to protect themselves against things that they don’t realize interfere with their investing success, such as payment for order flow, such as the right to determine which market their orders will be executed on, such as hidden costs of mutual fund investing.

It will also talk about matters such as all of the pieces of legislation that deal with investor issues that Congress must act upon that investors know absolutely nothing about.

As we talk right now, lobbyists for the accounting professions, the stock exchanges, the brokerage firms, the mutual funds, are all on Capitol Hill pressing for different kinds of bills dealing with market structure, dealing with fees, dealing with governance, dealing with regulation.

Investors don’t realize that in spite of the fact they are the most important constituent, they are totally unrepresented.

I am also serving on the Bloomberg board. I will probably elect to serve on another board. I may affiliate with a merchant bank.

Q Since Regulation FD was issued, analysts are being quoted as saying they are getting less information.

A The commission studies and my observation indicate there is substantially more information coming out. Cisco’s filing a report on bad debts is something that would never have happened in the absence of Regulation FD.

Q Some have argued that mutual funds should be required to disclose their holdings more frequently. What is your view?

A I certainly want more disclosure. But I think that mutual funds often are so active in their trading, to give a picture every week – I think that’s overkill. I think that investors need to know changes in investment philosophy, and need to know changes of investment management. But I question the utility of disclosing the frequency of portfolio changes. I just think you have to balance disclosure with confusion.

Q What do you expect from the Bush administration in securities regulation?

A With the number of new individual investors in our markets today, any administration is going to have to give a high priority to their protection and education. In my conversations with [Senate Banking Committee Chairman] Phil Gramm, I believe he embraces that same concept.

Q How do you view the rise of the Internet? Does it need more regulation?

A I think there’s more fraud on the Internet, but it’s also out there for us to see and to address. We set up a special division, which is doing a good job.

I think the Internet is a positive force for educating investors. Will there be misuse of it? Of course. No government agency can guarantee investors against their own inattentiveness. An important mission of the SEC is to educate investors.

Q In what area do you see the biggest problems now?

A I see more accounting fraud today than ever before in history. My book and my speeches are going to be directed toward awakening investors to the distortions of managed earnings.

Q Various rules were pushed through quickly at the end of your tenure. Were you trying to rush changes before the new administration took over?

A We weren’t pushing things through. They were all issues we had been working on. The accounting issue was worked on for two and a half years. None of these were new, none were surprises. All had been addressed in speeches over the past eight years. Also, we garnered significant bipartisan support for all of this.

Q What are your thoughts about the stock market this year?

A We’re witnessing a reaction that followed a long period of rising markets. It’s nothing new. I think the structural soundness of our market is very firm. I don’t think we need to be concerned about the ability of our system to handle the volumes that we’re seeing.

Q What about technology stocks? Do you think there has been a bubble?

A Yes, I do. It became a frenzy. Many of the people who ran high-tech companies believed that they were to be judged by standards different from traditional established American enterprises. And I think they were just plain wrong.

Q Do you think we’re headed for an economic slump?

A I think the economy is fundamentally sound. I think that many investors are overleveraged. They borrowed too much in their enthusiasm, which was more emotional than intellectual. The principal danger to our economy is the possible disillusionment of investors.

Q Do you think the financial adviser industry needs more regulation?

A I don’t think in general the country requires more regulation. What the country needs is more education. The best protection against fraud is an educated investor.

Q What do you think are the most important issues for the mutual fund industry?

A From an investor’s point of view, they have to understand the impact fees have on their results. They have to understand the impact taxes have on their bottom lines. Funds have to do more to clarify those issues for their shareholders.

Q Critics have said the after-tax disclosure rule could be misleading for people at different tax levels.

A I think that is an important piece of disclosure. The disclosure would clearly define different levels of taxable income that would impact people in varying tax brackets.

Q What is the biggest problem you see with the fund industry?

A I think mutual fund advertising devotes much too much to past results, which I think for investors is misleading. Past results are not necessarily indicative of future earnings.

Q How should funds advertise?

A If I ran a mutual fund, I would advertise in ways to educate my investors. I would emphasize the quality of my business, my mutual fund. I’d say very little about performance. I’d advertise about the capabilities of my managers. I would try to use my advertising to teach investors to be smart investors.

SNAP SHOT

Arthur Levitt, 70

Career: 1993-2000, chairman, Securities and Exchange Commission; 1989-93, chairman, New York City Economic Development Corp.; 1978-89, chairman, American Stock Exchange