Mr. MARSH. This would be a matter for the underwriting judgment of the individual company.

Senator DOMINICK. If the underwriting company did not think they were sufficiently stable to have a bond, why should we permit them to go ahead and sell for something less than a bond?

Mr. MARSH. It would appear that the alternate security would serve much of the same security of the bond. In other words, the funds would still be there for persons agrieved.

Senator DOMINICK. If they can't put up enough to comply with these provisions, why shouldn't he be required to put up a bond? Mr. MARSH. We believe they should have this alternative. Some people may want to put up a bond; some people may want to put up a cashier's check or other securities as adopted by the Commission. Senator DOMINICK. It is my understanding that if you put up securities for example, and the securities happen to go down, and the suit was started for some improper act, the purchaser could be in trouble on that, but he would not be under a bond. Isn't this correct, as a rule?

Mr. MARSH. That may be correct. I believe in some instances that regulatory authorities have required perhaps more securities or have, of course, certainly watched the value of these securities.

Senator DOMINICK. Well, the purpose of the bill is for the protection of the buying public. In your opinion, will the buying public have as much protection under your setup as it would under the existing subsection (e)?

Mr. MARSH. Yes, sir.

Senator Dominick. Why?

Mr. MARSH. Well, we believe that the proper security would give the public just as much protection. We believe this is up to the regulating authority. We are not advocating any particular type of securities.

Presumably if they felt that the stocks were not appropriate they would not allow alternate security in that form.

Senator DOMINICK. What additional requirements are made in order to obtain a bond that would not be applicable to other securities?

Mr. MARSH. Well, of course, there is the underwriting judgment of the company involved. They would look at the broker-dealer to determine whether or not they would issue the bond.

Senator DOMINICK. To what extent would the existing requirement restrict the number of existing people who are selling variable annuity contracts or stocks or other things?

Mr. MARSH. I would have no opinion on that, sir. I just have no way of telling at this point.

Senator DOMINICK. What induced you to suggest these changes? Mr. MARSH. Well, one thing, uniformity. I believe the last expression of the Congress on this point was with regard to home improvement contracts, and we believe that these changes will make for more normal underwriting practices within the surety business and will conform this particular bill to the normal licensing-bonding provisions. Senator DOMINICK. That's all, Mr. Chairman.

Senator HARTKE. Your association, the members of your association would, under normal circumstances, be the people who would be writing these bonds; is that true?

Mr. MARSH. In the main, sir. There are other companies.

Senator HARTKE. Yes, I understand there are others. But your membership basically is not helped by this amendment; on the contrary, it makes it possible, as I understand what you are saying for people to still comply with the law and still not purchase a bond from your association?

Mr. MARSH. That's correct, sir.

Senator HARTKE. So, this certainly is not anything which is of special benefit to the members of your association; is that right?

Mr. MARSH. I believe not, sir. We think that the respective licensees should have this option.

Senator HARTKE. What you are asking for is really an extension of the requirements here of the act

Mr. MARSH. Yes, sir.

Senator HARTKE (continuing). So as to include not alone the type of bonding authority which members of your association could issue, but also to include as a requirement here, the permission to "include cash or securities," is that true?

Mr. MARSH. Yes, sir.

Senator HARTKE. I think I understand what you are saying. Thank you, sir.

Mr. MARSH. Thank you.

Senator DOMINICK. One more question, Mr. Chairman.

Senator HARTKE. Yes.

Senator DOMINICK. Under subsection (d), it would be permissible for the Commission to license a dealer with no more than $5,000 of net capital, right?

Mr. MARSH. Yes, sir.

Senator DOMINICK. Under those circumstances, do you read the existing 5(e) as saying that although they are licensed to $5,000 net capital, they have to have a bond for $25,000?

Mr. MARSH. No, sir; not necessarily. I believe 5 (e) starts out-and we would leave it so "The Commission may In other words,

***"

it gives them permissive authority to require the bond. Senator DOMINICK. That's all, Mr. Chairman.

Senator HARTKE. Let me ask one question: In your opinion, would the amendment which you suggest in any way weaken or water down the present act?

Mr. MARSH. I don't believe so at all, sir.

Senator HARTKE. Would it in any way lessen the security which the public would have as a result of the passage of such legislation?

Mr. MARSH. I do not believe so, sir.

Senator HARTKE. All right. Thank you, sir.

Senator DOMINICK. Well, it would seem to me, Mr. Chairman, if they put up securities in the value that are not in the window, and then you don't have anything, the bonding company, as I understand it, if they are going to issue a surety bond, have to have quite a net capital behind it to issue this.

Senator HARTKE. Mr. Marsh, let me ask a question on that point: As I understand, what you are saying is that the Commission has the authority by rule to make the determination, and this determination is to be based on what they think is necessary for the protection of the public. And as I understand, your contention is that at the present

time, it has only the authority to provide for certain types of bonding requirements?

Mr. MARSH. Yes.

Senator HARTKE. And you are saying that if some broker or agent could not, for some reason due to underwriting requirements—whether they be arbitrary or reasonable-have the bond, he could post cash or securities which the Commission would determine to be of a nature to protect the public, that this would satisfy the bonding requirements of the assurance to the public. Is that a fair statement?

Mr. MARSH. Yes, sir.

Senator HARTKE. All right. Thank you.

We have one witness and we have exactly 11 minutes, so Mr. Wolfgang von Schmertzing is that a German name, by any chance? Mr. SCHMERTZING. The name; yes, sir.

Senator HARTKE. Well, come on into the family. I'm a German, too, so that's all right. Fine.

STATEMENT OF WOLFGANG VON SCHMERTZING, PRESIDENT, SERVICE INVESTMENT CORP., WASHINGTON, D.C.

Mr. VON SCHMERTZING. Mr. Chairman and Senator Dominick I, like everybody else in the investment field, welcome this effort made by the various parts of Congress to protect the public through any excesses committed by investment dealers vis-a-vis the public. But there are certain things which I believe that are not quite the way they should be, in my opinion, in this bill.

If you take, for example, there exists in section 10 a certain ambiguity in dealing with the withdrawal of licenses. Subsection (f) (2) states:

No order may be entered under any part of this section except the first sentence of subsection (c) without *** opportunity for hearing.

And the first sentence of subsection (c) reads:

The Commission may, by order, summarily postpone issuance of a license or suspend an effective license pending determination of any proceeding under this section.

My question is, does this not take away one of the basic and inherent rights of an American citizen under the Constitution to be heard before being found guilty and punished? To me, at least, it seems that way.

When reading the local papers, I find that their reporting of Government witnesses has been such that it leaves one with the impression that there is not an honest small business left in the investment field in the District of Columbia. This may be due to gross exaggeration on the part of the press in reporting on such testimony, but it nevertheless exists. And I, for one, resent this attitude, and I do feel that there are many honest, decent businessmen in the field of the investment business.

These small businessmen who are restricted to the sale of mutual funds, for them I believe that this legislation would constitute a very considerable hardship. Let me stress again that it is the small, honest, independent businessman who would be punished, whose livelihood, which he may have spent years to build up, would be taken away from him. He may be reduced to depend on charity, or at best, his independence would be shattered. All this, moreover, is a result of "ex post facto legislation." After all, when I myself and others started to build up our businesses, we complied with all laws, rules, and regulations existing.

May I cite briefly my own case. I was r.i.f.'d from the Government service. I had to make my decision of what to do. I had a friend who with me started an investment business in mutual funds. Since then, I have taken over his business, bought it from him. He returned to Government service. I have restricted this business entirely to the sale of mutual fund shares, since I have come to realize that I could not advise people as to individual stocks in honesty and good faith; but I believe that in the more than 10 years I have become an expert in the specialized field of mutual funds, and fully understand their place, function, and usefulness in the investment field.

My firm has been a member of the National Security Association of Securities Dealers all these years, and I believe we have a good reputation. I also know that when SEC and any of the auditors came to check up, they have given us a clean bill of health, and some of them have taken the trouble to compliment us on the condition of our business.

I just presented this, my own case, as an example, and I am sure there are many independent dealers, small businessmen in this community and elsewhere who could not possibly afford a net capital of $25,000 and a reputed $1,000 a year for surety bonds.

I have not yet been able to find out what the actual cost of such a surety bond would be, but nobody seems to care about these small business people. We have no powerful lobby to speak for us. And although these small members are members of the NASD, it is the stated policy of the NASD not to take a stand with regard to so-called blue-sky laws. Thus it seems the only place where we small businessmen could expect a sympathetic hearing is here before the elected representatives of the people themselves.

I would most sincerely ask you, gentlemen, to give to this plea your most thorough consideration. It seems to me that there is much more involved in this extinction of more small businesses than meets the eye. Small businessmen in the United States have been an important class which has had its very important function in building up this country through their ingenuity, and they have helped build America to what it is. They have done a yeoman's service through the ages. I think they should have some protection somewhere, and I do believe that it is here that some protection may be forthcoming.

There is a tendency in modern times to, let me say "swallow up" small business. As an example, I would like to mention the chain grocery stores which have certainly done away with most of the small business in the grocery field. And this could be enlarged, these examples. I have not heard any voice raised in Government circles to come to the assistance of this small business group.

But let me turn now to this proposed bill. I believe the purpose of the bill, which is to protect an unsuspecting public from unscrupulous operators, can be just as well served, without forcing a whole group of small businessmen out of business. The essential point is, that the financial responibility of the mutual fund dealer is relatively small: He never makes a position in any stocks; he does not accept accounts from clients buying and selling various stocks, et cetera. Even if he buyes a mutual fund stock, he can only do so because he has a client who has given him a firm order for the exact same number of shares. But it is a matter of indifference to the mutual bond dealer whether the client makes out a check to him or to the fund or to a custodian bank of the fund. The dealer is only entitled to his commission.

In addition, we are checked and policed now. We are checked and policed by the SEC and the NASD and both of them have done an excellent job of it, particularly during the last few years. From 1959 to 1963, for example, the NASD has handled innumerable cases, and in the District of Columbia alone it has expelled from membership 32 individual firms for infractions and violations of the rules of the NASD, and suspended 4 more. I do think these figures speak for themselves.

Section 5: License Procedure, subsection (d) states that minimum net capital that a broker-dealer must maintain is $25,000—

except that the Commission may, by rule, fix a minimum net capital in lesser amounts *

**

And the same language is again used in subsection (e) dealing with the requirements of surety bonds. Larger firms, of course, will have no difficulty raising this amount for net capital and absorbing the expense for a surety bond. But if these exemptions mentioned in the bill are intended for small businessmen restricted to the sale of mutual fund shares, the wording as used in the bill, places these businesses at the whim and mercy of the Commission. As an independent, small businessman, I believe I may speak for most of us, if I say that we do not want mercy and do not want to be dependent on anybody's whims. Therefore I believe that this category of investment business should be spelled out as being subject to a smaller net capital and no surety bond.

After all, there will now be a third agency to police our business, namely the Commission. It seems to me that between these three, it should really be possible to keep any fraud and deceit to a minimum. Thus, it would be my proposal to exempt the small mutual fund dealer who has been in business more than 5 years and whose records have always been found to be in good order, whose honesty has not been questioned, subject to a net capital rule say of $5,000-without the necessity of a surety bond. The mutual fund dealer would still be