Former SEC Chairman on Market Risks Even Stock Traders Can’t Ignore

The Wall Street establishment and Reddit, even Robinhood-powered stock traders disagree, on just about anything. In fact, rolling your eyes at traditional stock market methods is inherent in transactions like GameStop and AMC Entertainment.

Warnings from market greats like Warren Buffett might as well be a badge of honor among new traders. But one thing Buffett failed to notice in his reviews of the “casino” atmosphere of this bull market and companies like Robinhood, which he beat down hard, is that when he was himself a young investor, he had a penchant for the “cigar butt”. “stores the dregs of the market, companies that still have a few puffs before moving on to a more refined type of investing that has made him a billionaire. And this footnote from Buffett brings up an important point about new investors of the market.

The phenomenon of retail has led to a debate about whether investors’ entry into the market is key, not how they get there, and what happens today will do more for wealth creation. in the long run than “playing” in actions and scaring people. to participate in the market.

“This is a permanent change,” said Catherine Keating, CEO of BNY Mellon Wealth Management, at the CNBC Evolve Global Summit last week. “It’s a new generation of investors.

She said retail investment has grown faster than institutional commerce over the past decade, and in the past year since the pandemic has grown from around 20% in business activity to 35%.

“It’s an ongoing phenomenon and retail investors are very important to the market and the market is important to retail investors,” Keating said.

Jay Clayton, the former chairman of the Securities and Exchange Commission, who recently returned to the law firm Sullivan & Cromwell, told the CNBC Evolve event that as life expectancy increases, it is important to encourage more US households to invest in the market, which makes it a good thing that there is more equity participation, more broadly in US households, and sooner.

But memes stocks are another matter.

“Let’s separate the two things,” Clayton said. “Memes stocks and the non-fundamental activity around memes stocks is something that regulators, and all of us, need to be aware of,” he said. “We need to look at memes stocks and deviations from fundamentals, but if part of this is to invest earlier and participate more broadly, it is necessary.”

It might be as close as the establishment is willing to give Robinhood and Reddit at least one left-hand compliment. And that doesn’t mean Clayton doesn’t have a warning or two to offer, whether stock traders even like it or not to help keep new investors on track, and maybe scare them off a bit. .

One of Clayton’s big concerns is that retail investors are unaware of the SEC’s limited leverage over new ways in which investors communicate information.

The SEC’s job in stock market communications is to ensure that when companies disclose material information, it is not misleading and is disclosed fairly, but it is not the SEC’s job to regulate. price other than in stock breaker scenarios and that doesn’t have much if any power to punish people making recommendations on social media message boards.

The current situation worries Clayton about “the bits of information that retail investors buy and sell on” and new methods of trading and communicating in the marketplace increase the risk of new types of stock pump-and-dump programs. the SEC is powerless. against.

“We’re seeing unprecedented flows, flows of retail investor trading… driving these price swings,” Clayton said. “In America, we don’t tell people you can’t buy and sell securities,” unless the information violates securities law or there has been manipulation of the stock.

Businesses have an important legal responsibility that they take on by being public companies, and investors need to understand that this is not the case with Reddit. “Those who provide information that isn’t business, on message boards… the simple truth is they should be given less credibility, less deference,” Clayton said.

“I don’t think the SEC should ignore this, and if it’s analogous to a pump and dump penny stock arena, then of course it should be watching. But we need people to watch and ask, ‘is that a reliable source of information?’ “said Clayton. “I get it. People may not feel like companies are open, but companies have legal responsibility and the SEC is monitoring, and they have auditors. So I think we have a situation where things are a problem. little crooked, “he said.

As the SEC considers further action under the leadership of new chairman Gary Gensler, including an in-depth look at how the The practice of selling the order flow to large hedge funds influences the best execution of stock trades which is at the heart of the free trading platform business model, including Robinhood NYSE President Stacey Cunningham said it would be a mistake to deny an opportunity to investors.

Individual stocks and memes stocks, in particular, have a high level of trading with retail investors and the vast majority of order flow can be traded over the counter. This is a problem when the price formation does not reflect the aggregate supply and demand of the market. “That’s what the market is supposed to do… find the best price… and when you don’t include 65% of investors,” Cunningham said, referring to data on over-the-counter trading, “we think the pendulum has gone too far. ”

But she added that it can also go too far the other way around.

“It is really essential that we give access to opportunities to investors,” said Cunningham. “It’s not just the SEC where investors are frustrated. They feel the system is being rigged against them, whether it’s hedge funds or whatever, so we want to make sure it. is open to them.… we don’t want to close access by regulations that deny the opportunity. “