November 29, 1993
TO: COMPLIANCE COMMITTEE NO. 28-93
TASK FORCE ON INSIDER TRADING
RE: SEC REPORT ON BROKER-DEALER COMPLIANCE PROCEDURES FOR HIGH
YIELD SECURITIES
__________________________________________________________
The SEC's Division of Market Regulation recently issued the attached report
concerning the internal control procedures of broker-dealers for high yield
securities. The Division interviewed key personnel at six broker-dealers "that
are among the most active firms in trading, sales, underwriting, and research
operations for High Yield securities." The Division found that "despite the
firms' substantial efforts over the last year to strengthen their internal
control procedures in this area, further work needs to be done."
In particular, the Division's interviews:
have raised some questions whether existing Chinese Wall
procedures can be effective in dealing with the types of
research, trading, and sales operations commonly used
for High Yield securities. The Division is concerned
that oral dissemination of High Yield research may not
provide firms with sufficient records to ensure that
traditional Chinese Wall procedures and controls of
employee trading are implemented effectively . . . . In
such an environment, the approach already adopted by
some firms, to prohibit all employee trading in High
Yield securities, appears to be more realistic.
The Division did not, however, recommend that all firms immediately impose
absolute prohibitions against employee trading in high yield securities. The
Division does believe "that it would be prudent for those firms that choose not
to impose prohibitions on employee trading to scrutinize their existing internal
control procedures for High Yield securities."
The report estimates that no more than 20 to 50 institutional customers
(including mutual funds) are active in the high yield market. The report found
that the large mutual funds are "highly sophisticated" with "market 'leverage'
vastly superior to the customer base for equities." The report also found that
since some investors receive quotation sheets from several broker-dealers, they
may have informational advantages over the broker-dealers.
Brokerage firms indicated that their contacts with institutional investors
"are more in the nature of trader-to-trader or analyst-to-analyst conversations",
due to the training and experience of the institutional investors' personnel.
The report found that institutional investors generally have little interest in
the broker-dealers' "buy, sell or hold" recommendations.
Thomas M. Selman
Assistant Counsel
Attachment