The Securities and Exchange Commission (SEC) is the federal government agency responsible for regulating and enforcing federal securities laws.
SEC regulations restricting commercial speech have led to First Amendment challenges
The SEC engages in numerous activities to protect investors from fraud, unfair dealing, and insider trading. To the extent that such activities suppress information or regulate advertising, they sometimes involve challenges to First Amendment freedoms.
The laws and rules governing the securities industry are based on the theory that all investors need the basic facts about an investment in order to maintain a fair and efficient market for the U.S. economy. The SEC seeks to achieve an equitable system by requiring public companies to disclose certain financial and other company information.
SEC was created after 1929 stock market crash
While states began to pass laws regulating securities before 1929, the federal government left the securities industry largely uncontrolled. The market was often abused during the 1920s; fraudulent activities, dangerous investments, and easy credit were commonplace. These abuses cumulated into the great stock market crash of 1929, which resulted in the loss of large amounts of money by investors and banks.
To restore the country’s faith in the economy, Congress passed two significant reforms: the Securities Act of 1933 and the Securities Exchange Act of 1934. At their core, these acts provide increased structure and improved oversight to the securities market.
SEC ensures full and fair disclosure of facts regarding securities
The SEC itself was born out of these acts. To monitor the newly structured securities industry, Congress authorized the formation of the SEC in 1934 to enforce the securities laws and protect investors. The SEC’s chief duty was — and continues to be — to ensure full and fair disclosure of all material facts regarding securities offered to the public for investment.
The SEC is comprised of five commissioners, four divisions, and 18 offices. While the majority of the over 3,000 staff members nationwide work in the Washington, D.C., headquarters, there are also staff working in several regional and district offices located throughout the United States.
SEC establishes rules that regulate the securities market
One of the most important responsibilities of the SEC is rulemaking. The SEC promulgates new rules that interpret and implement broadly written securities legislation. The SEC’s rule-making power allows the agency to adapt securities law to the expanding securities markets and remain responsive to changing technologies. It is quickly able to create new rules or regulations or amend old ones. Many of the commission’s promulgations have the force of law. Even those that do not have the force of law nevertheless influence the courts and the meaning of federal securities regulations.
The SEC’s Division of Enforcement investigates possible securities law violations and recommends when further action is needed. Since the division only retains civil enforcement authority, it must work closely with other divisions and with law enforcement agencies to gather evidence and bring criminal charges. If the division believes a violation has occurred, it will enforce securities law by first conducting an informal private investigation.
The commission will then issue a formal investigation order and decide if the case should go to federal court or if instead the commission should undertake administrative proceedings. Common SEC violations involve insider trading, misrepresentation, deliberate omissions on company filings, market manipulation, improper registration and sale of securities, and breach of broker/dealer fiduciary duties.
Securities law requires that investors receive financial information, prohibits misrepresentation
The laws initially forming the SEC, the Securities Act of 1933 and the Securities Exchange Act of 1934, remain the primary source of securities law. The Securities Act of 1933 regulates the issuance of securities by public companies. More specifically, before securities are offered for sale, the 1933 act requires that investors receive financial and other crucial information concerning securities. It also prohibits deceit, misrepresentation, and fraud in a securities sale. To ensure this, the act requires registration of all securities.
In contrast, the Securities Exchange Act of 1934, which was responsible for the formal creation of the SEC, grants broad authority to implement federal securities law. The 1934 act governs the trading, purchase, and sale of securities. In particular, it provides the SEC with the power to register, regulate, and oversee brokerage firms, transfer agents, and self-regulatory organizations such as the New York Stock Exchange, the American Stock Exchange, and the National Association of Securities Dealers. The act allows the SEC to require regular reporting of company information and to discipline entities and persons engaging in prohibited conduct.
Sarbanes-Oxley Act passed in response to securities fraud
A relatively recent reform, the Sarbanes-Oxley Act of 2002, was passed in response to the frauds perpetrated by, and subsequent collapse of, the Enron Corporation and other companies and is designed to improve corporate responsibility and prevent corporate and accounting fraud.
Supreme Court ruled in SEC case that investment advice letters were not illegal
In Lowe v. Securities and Exchange Commission (1985), the Supreme Court addressed whether the SEC violated the First Amendment when it sought to prohibit Christopher L. Lowe from distributing his “impersonal” investment advice letters. The SEC sought to regulate Lowe’s newsletters under the Investment Advice Act of 1940.
The Court decided the case primarily on statutory, rather than constitutional, grounds in determining that Lowe had the right to publish his letters under a statutory exception for newspapers.
Supreme Court rejected First Amendment claim of man convicted of securities fraud for disclosure omissions
Lower courts have addressed a variety of claims from individuals charged with violating securities laws. For example, the Tenth Circuit Court of Appeals in 2005 rejected the First Amendment defense of Jerome Wenger, who was convicted of securities fraud for failing to reveal in his newsletter and syndicated radio program that he was being compensated by the companies whose stocks he was promoting.
This article was originally published in 2009. Professor John H. Matheson is the Law Alumni Distinguished Professor of Law at the University of Minnesota Law School. He is an internationally recognized expert in the area of corporate and business law. He is also a practicing lawyer.