FOREWORD

A little over 25 years has passed since adoption of the first Federal securities law which, like subsequent enactments, was designed to protect the interests of investors and of the public generally. On this "silver anniversary" of the organization of the Securities and Exchange Commission to administer those laws, it is fitting in this 25th Annual Report to review the causes, objectives and principal features of the statutes under which the Commission is charged with responsibilities in the interest of protecting investors and the public.

The Federal securities laws were not designed to prevent investors from losing money in the stock market; indeed, it is extremely doubtful whether any laws could do this in a free economy. These laws seek, by requiring disclosure of the facts about issues of securities offered in interstate commerce or traded on exchanges, by prohibiting fraud in such transactions, and by other means, to secure the dissemination of accurate information to investors and to foster sound securities markets. More fundamentally, they aim to require that those who deal with the investments of the American people observe high standards of conduct.

If the present financial markets are compared with those of thirty years ago, it may reasonably be concluded that these basic objectives have been realized. This is so notwithstanding the fact that the present level of economic and financial activity, with resulting opportunities for fraud and malpractice, puts the structure of Federal securities regulation to a most severe test.

One of the basic objectives of the Federal securities laws in providing protection for investors was to bring about a restoration of investor confidence in securities and the securities markets. Such confidence had been severely shaken as a result of the stock market debacle of 1929 and its aftermath. Restoration of investor confidence was important not only to those in the securities industry whose livelihood depended upon it, but was of tremendous importance to our whole economy. In order to grow and prosper, business and industry require large amounts of capital for plant expansion, new equipment and working capital, and the availability of such capital depends in large measure upon the investing public's confidence in securities as a safe and profitable medium for the investment of its savings. The restoration and maintenance of investor confidence are thus intimately related to industrial growth and a healthy economy.

On September 1, 1929, the market value of all stocks listed on the New York Stock Exchange amounted to $89 billion. By the middle of 1932 their market value had declined to $15 billion. As of June 30, 1959, stocks listed on that Exchange had an aggregate market value of almost $300 billion.

Also significant are the data with respect to the public offerings. During the last 5 fiscal years (1955-59), there have been 4,336 registered public offerings of securities aggregating nearly $71 billion in amount or an average of 867 offerings amounting to $14 billion per year. For the prior 20 fiscal years (1935-54), the number of registered offerings averaged 446 and were in the average amount of $42 billion per year. Although figures for the years prior to 1934 are not strictly comparable, it appears that less than $400 million of new issues were offered in the depression year 1933, while about $10 billion were offered in the peak year 1929, much of which proved worthless.

It is interesting to note in this connection that, according to available data, business invested about $11 billion in new plant and equipment in 1929. Capital outlays by business averaged $412 billion per year during the 3 years 1934-35-36, increased to an average of $10 billion during the years 1944-45-46 and reached an average of $30 billion in the years 1954–55–56. New capital investment amounted to a record $37 billion in 1957 and $30 billion in 1958; and it is anticipated that such investments will increase to $33 billion in 1959. To complete the picture, gross national product, which amounted to $104 billion in 1929, averaged $73 billion per year for the period 1934-35-36, $212 billion for 1944-45-46, and $393 billion for 1954-55-56. The figure grew to $442 billion for each of the years 1957 and 1958, and is expected to reach an all-time high of $485 billion for 1959.

A true measurement of the benefits which have derived from Federal securities administration is of course impossible, but some indication of the advancements made in behalf of investor protection appears in a comparison of the financial community and the nature of its operations today with that which existed prior to the federal regulation of securities.

The picture of financial and corporate practices existing in the earlier era, as unfolded in congressional and other investigations, some conducted by the Commission itself, demonstrated the need for legislation action. Responsible persons in financial institutions, corporate executives and many others entrusted with the savings of investors, to whom they owed a high degree of fiduciary care and responsibility, had abused the trust thus reposed in them. With respect particularly to the sale of new securities, the House of Representatives in its report

on the first legislative enactment in the securities field (Report No. 85, 73d Congress, First Session) stated, in part:

"During the post-war decade some 50 billions of new securities were floated in the United States. Fully half or $25,000,000,000 worth of securities floated during this period have become worthless. These cold figures spell tragedy in the lives of thousands of individuals who invested their life savings, accumulated after years of effort, in these worthless securities. The flotation of such a mass of essentially fraudulent securities was made possible because of the complete abandonment by many underwriters and dealers in securities of those standards of fair, honest and prudent dealing that should be basic to the encouragement of investment in any enterprise. Alluring promises of vast wealth were freely made with little or no attempt to bring to the investor's attention those facts essential to estimating the worth of any security. High-pressure salesmanship rather than careful counsel was the rule in this most dangerous of enterprises."

These and other abuses contributed to a collapse of values, and their revelation seriously undermined the confidence of the investing public in the capital markets and in securities as media of investment. The orgy of speculation which had existed in the stock market, coupled with the fraud, manipulation and other malpractices then prevalent, could lead only to disaster.

One of the evils was the artificial stimulation of interest in, and the manipulation of the market price of, a given security so that it might be "dumped" on unsuspecting investors at the higher price and with a handsome profit to the manipulator. "Pool" operations were numerous, the operators timing their purchases and sales in a manner which created market activity at increasingly higher prices and thereby stimulated participation by the investing public, whose purchases further accentuated the market rise. When the price reached its desired level, the pool operators "pulled the plug", dumping their securities on the market at the higher price, whereupon the market price slumped to its original level or lower. The operators also participated in "bear raids", and, assuming a short position in a particular stock, engaged in a series of transactions which drove the market price of the stock down to a level at which they could cover their short position at a profit.

These and similar operations resulted in a situation in which no one could be sure that market prices for securities bore any reasonable relation to intrinsic values or reflected the impersonal forces of supply and demand. In fact, the investigation record demonstrated that during 1929 the prices of over 100 stocks on the New York Stock Exchange were subject to manipulation by massive pool operations. One of the principal contributing factors to the success of the manipulator was the inability of investors and their advisers to obtain reliable financial and other information upon which to evaluate securi

ties, and manipulators were further aided by the dissemination of false and misleading information, tips and rumors which flooded the market place.

There were other factors which were shown to have contributed to the fundamental weakness of the pre-SEC securities market. Principal among these was the extensive use of credit to finance speculative activities or the purchase of stock on margin. Speculators ignored the fact that the yield on stocks purchased on margin was far less than the interest on their debit balances with brokers. There was almost no limit to the amount of credit which a broker might extend to his customer. As a result, a slight decline in the market price of securities could, and did, set off a chain reaction— the customer was sold out in a declining market at a loss because he had insufficient funds to put up additional margin; such distress sales further accentuated the market decline and caused other margin customers to be sold out; and brokers who had over-extended themselves with banks in order to finance excessive speculation by customers were hard-pressed for capital and some even became insolvent, thus further endangering the position of other customers.

The misuse of corporate information by management officials and other "insiders" was also common practice. Executive officers who owed a high degree of fiduciary responsibility to the company and its stockholders withheld vital information about the company, its operations and earnings, while accumulating a personal position in its stock, placing themselves in position to capitalize on any fluctuation in the price of the stock when the news was released to the public. Moreover, the entrenched position of management was fortified by lax standards governing the solicitation of proxies by means of which management perpetuated itself in power.

An extensive investigation of electric and gas utility holding companies conducted by the Federal Trade Commission, which has often been termed the most comprehensive study of any industry undertaken by the Federal government, had disclosed widespread abuses in the formation and operation of utility holding company systems, including (1) inadequate disclosure to investors of the information necessary to appraise the financial position and earning power of the companies whose securities they purchase; (2) issuance of securities against fictitious and unsound values; (3) overloading of operating companies with debt and fixed charges, which tended to prevent voluntary rate reductions; (4) imposition of excessive charges upon operating companies for various services such as management, construction work and the purchase of supplies and equipment; (5) the control by holding companies of the accounting practices and rate, dividend and other policies of their operating subsidiaries so as to