The Exchange Act entrusts supervision of exchange rules to the Commission, requiring it to pass on their fairness and adequacy as a condition of exchange registration, requiring exchanges to file rule amendments with the Commission promptly upon their adoption, and empowering the Commission to request changes in rules relating to specified topics and, in the absence of compliance, itself to promulgate alterations or additions. The range of those specified subjects is quite broad; safeguards relating to the financial responsibility of members; registration of or trading in a security within a specified period after its issuance or primary distribution; listing or delisting of any security; hours of trading; the manner, method, and place of making settlements, payment and deliveries, and of closing accounts; the reporting of transactions, both on the exchange floor and on tickers; the fixing of reasonable rates of commission, interest, listing, and other charges; minimum units of trading and odd-lot purchases and sales; minimum deposits on margin accounts; and similar matters. The Exchange Act relies heavily on supervised self-regulation to control over-the-counter markets also. It includes some direct prescriptions, either set forth explicitly in the statute itself or stated generally for more precise definition by the Commission, e.g., provisions requiring registration of broker-dealers and directing the Commission to deny registration to and revoke that of persons who have been guilty of offenses against securities laws, and provisions prohibiting fraud, misrepresentation, and manipulation in the purchase and sale of securities traded over the counter. But in addition to these provisions for direct governmental regulation, a section of prime importance in the total regulatory scheme was added by amendment in 1938, authorizing the registration of associations of brokers or dealers as national securities associations and entrusting the regulation of the business of their members to such associations, subject to the supervision and ultimate responsibility of the Commission.

The act provides that association rules must make any over-thecounter broker or dealer eligible for membership unless he has been guilty of specified violations of securities laws or exchange or association rules; but membership may be restricted geographically, or by type of business, "or on such other specified and appropriate basis, as appears to the Commission to be necessary or appropriate in the public interest or for the protection of investors The rules must also assure fair representation of members in the conduct of association affairs; provide for equitable allocation of dues; and be "designed to prevent fraudulent and manipulative acts and practices, to promote just and equitable principles of trade, to provide safeguards against unreasonable profits or unreasonable rates of commissions or other charges, and, in general, to protect investors and the public interest, and to remove impediments to and perfect the mechanism of a free and open market; *** The existing rules and interpretations of the National Association of Securities Dealers (NASD), although not so extensive or detailed as those of some of the exchanges, implement the quoted statutory language by incorporating provisions relating to such subjects as fraudulent and manipulative transactions; advertising: "free riding and withholding

Exchange Act, sec. 15A (b) (3).
Exchange Act, sec. 15A (b) (7).

(i.e., improper handling of allotments in connection with a public offering); suitability of recommended investments; charges, prices (including "markups," i.e., the spread between a dealer's selling price and his cost or the prevailing market price) and commissions; certain types of disclosure; transactions in mutual fund shares; and recordkeeping. When the resolution authorizing the study was being considered by Congress, W. H. Claflin III, then chairman of the board of governors of the NASD testified:

As we find problems that are new or coming up that we have not met before, we try to either build a rule or interpretation that will give us the authority or the ability to solve that problem, or we rewrite an existing interpretation or rule to try to fill in the niche. Obviously new problems and new ways of getting around existing regulations are being thought up all the time and we have to keep on our feet to meet the changing times."

The generality of the statutory language delineating the scope of association rules obviously calls for such an effort, and the resulting body of existing rules covers a considerable number of subjects.

The rules of national securities associations are subjected to Commission authority in a manner comparable but not identical to those of exchanges: the Commission is empowered to disapprove rule changes before they become effective, to abrogate existing rules, and to request or itself formulate certain rule changes.

3. GENERAL SCOPE AND LIMITS OF SPECIAL STUDY

It will be apparent from even this brief description of the rules of the exchanges and of the NASD that a study of those rules' adequacy for the protection of investors, as contemplated by Congress, would potentially include virtually every aspect of the securities business and the securities markets. The committee report preceding enactment of section 19 (d) makes clear, moreover, that Congress intended its actual coverage to be "very broad." At page 5 of that report, the intended scope of the study was set forth as follows:

7

The resolution directs the Commission to make a study and investigation of the adequacy, for the protection of investors, of the rules of national securities exchanges and national securities associations. It should be noted that while the language of the resolution is specific, the scope of the resolution which is telescoped in this succinct language is very broad inasmuch as the subject matter encompassed or not encompassed by the rules of the securities exchanges and securities associations is extremely wide in breadth. The rules not only cover such items as are appropriate to the mechanism of a free and open market, the prevention of fraudulent and manipulative acts and practices, the promotion of just and equitable principles of trade, safeguards against unreasonable profits or unreasonable rates or commissions or charges, the financial responsibility of members and the financing of transactions, and the protection of investors in the public interest, but also certain types of disclosure of information by the issuers of the securities which are being traded. In addition, the rules (including those relating to expulsion, suspension, or disciplining of a member) of the exchanges and of the national securities association cover the ethical conduct of its members in all of their activities.

In view of the wide scope of existing rules of the exchanges and the NASD, and the clear indication by Congress that the inadequacy or absence of rules should also be examined, the study was led in

Hearings on H.J. Res. 438. "Securities Markets Investigation." before the Subcommittee on Commerce and Finance of the House Interstate and Foreign Commerce Committee, 87th Cong., 1st sess., pp. 61, 68 (1961).

7 See note 6, above.

evitably to survey almost all aspects of the securities business and the securities markets. Included were such subjects as the caliber and qualifications of persons active in the business, including broker-dealers and investment advisers, and the standards of conduct and responsibility to which they adhered or should be expected to adhere; distribution practices, procedures, and problems; operations of the various exchange markets and over-the-counter markets, their mechanisms, components and structures, and their interrelationships; certain activities and obligations of issuers that affect the markets, including financial reporting, proxy solicitation, controls over "insider" profits and corporate publicity; securities credit and margin requirements; certain aspects of mutual funds related to the foregoing; existing and emerging uses of electronic equipment and their bearing on both business and regulatory methods; and the theory and practice of selfregulation, which underlies and pervades the entire regulatory structure.

Most of these subjects were first studied in the context of conditions prevailing in 1961 or early 1962 and many of them were, so to speak, restudied in the circumstances prevailing immediately before, during, and after the severe market "break" of May 28-29, 1962. That occurrence presented to the study both an added burden and an opportunity. As a separate market phenomenon it could not, of course, have been ignored; the study was clearly called upon to ascertain as accurately as possible what occurred during the actual “break” and, to the extent feasible, its causes and effects. At the same time an effort was made to supplément and further illuminate data that the study had already assembled on certain subjects, by obtaining comparable data as of a quite different set of conditions.

It will be evident that the actual scope of the study was extremely broad, and yet not so broad as the potential scope suggested by the enabling statute and its legislative history. It was apparent almost from the outset that the potential scope was too great to be covered completely, in a thorough and responsible manner, within the limits of time and budget provided in the authorizing legislation. In order to give maximum assurance that whatever data were presented and whatever conclusions were expressed would be reliable and meaningful ones, it was necessary to be selective and to exclude many subjects that might well have been considered under the potential scope.

4. METHODS OF INVESTIGATION AND STUDY

The tools and techniques of the study have been many and varied, depending on the nature of each subject matter. Among the principal means of study have been formal and informal questionnaires, interviews with individuals and groups, private and public hearings, examination of records and files of firms and organizations, analyses of data accumulated in the Commission's administration of the various securities laws, and review of prior studies by the Commission itself and by other persons and organizations. In the body of the report the methods of study are set forth in detail in connection with each

The titles and designations of the questionnaires submitted to different groups and used in the study are set forth in an appendix to this chapter. Copies of the questionnaires are presented in appendixes to the appropriate chapters.

topic discussed. Statistical tables and charts presenting data obtained from the questionnaires and other sources are generally presented at the end of each chapter; the bulk of them are discussed and referred to in the text.

The work of the study was performed by a special staff, recruited in part from regular Commission personnel, and formed into a temporary division of the Commission; it varied slightly in number from time to time, but was maintained at a general level of 65 persons. Management and direction of the study were the responsibility of the Director, assisted and advised by an Associate Director, a Chief Counsel, a Chief Economist, and an Assistant Director. Under their general supervision worked a staff of attorneys, economists and statisticians, analysts, investigators, clerks, and stenographers. Personnel from regular divisions of the Commission were called upon for assistance in limited areas and, on some aspects of the subject of securities credit, collaborative studies with the Board of Governors of the Federal Reserve System were made. Other studies were made with the assistance of outside groups or consultants. In order to permit the evaluation within the time available of the vast body of data collected, various Government agencies cooperated by providing data-processing equipment and attendant personnel.

5. NATURE OF CONCLUSIONS AND RECOMMENDATIONS

Because of the range and variety of subject matters, it was necessary to determine separately, for each individual topic and subtopic that was to be studied at all, what technique or combination of techniques and what breadth and depth of inquiry were called for in order to obtain significant data and responsible conclusions. It obviously was not practical to obtain a universal or 100 percent compilation of data relevant to every subject, and accordingly it was the constant concern of the study to determine what would be an adequate sample to provide representative and reliable data for each subject. In the course of the study a very great volume of material was amassed, but it can by no means be claimed that every possible permutation and combination has been examined.

In this report generalizations are expressed on particular subjects where the available data are believed to justify them; in other instances the report is confined to summarization of available data or presentation of a spectrum of representative examples. Similarly, the report contains specific or detailed recommendations with respect to only certain areas of the total study. In others, recommendations are necessarily made in broad terms, with no attempt to draw precise lines; or, they take the form of mere indications of approachessometimes alternative approaches-that merit further discussion and debate; or regarding certain subjects about which available data are clearly incomplete, they merely suggest further or continuing study by the Commission or the industry or by both in collaboration. No part of the present report has been submitted in draft form, for comment or correction or any other purpose, to any of the private persons or groups referred to or potentially affected by the contents. Assuming that this would otherwise have been an appropriate course, it was an impossible one within the time limit of this study. Thus,

such persons and groups have not had the opportunity to respond directly to any of the factual material, analyses, or proposals contained in the report, as they undoubtedly would have been entitled to if the report amounted to a final disposition of any of the questions discussed. Since the report does not "decide" any question, but only expresses conclusions and recommendations of the Special Study, adequate opportunity for pointing out errors of fact or analysis or for disputing conclusions and recommendations will be afforded in the legislative hearings or administrative proceedings that necessarily will precede adoption of any recommendations to which there might be opposition.

Many recommendations are expressed in terms of substantive goals rather than referring specifically to the means of achieving the goalswhether legislation or rulemaking, and if the latter, whether by the Commission or by the self-regulatory agencies. This reflects in part the study's inability to devote the time that would have been necessary to explore all pertinent legal questions as to adequacy of existing powers. It goes without saying that finding administrative solutions under existing powers is to be preferred to seeking new powers, and it is believed that legislative changes can be kept to a minimum. Similarly, under the theory of self-regulation, appropriate action by self-regulatory agencies would generally have preference over direct action by the Commission.

Even if available time and manpower of the study had not been as limited as they were, it would have been foolhardy to suppose that simple and obvious solutions of a welter of complex questions were an attainable goal: It is relevant here to quote from a prefatory letter dated October 8, 1946, attached to a brief report submitted to the board of governors of the Midwest (then, Chicago) Stock Exchange by James E. Day, then and now its president: "After 2 years, we have found that the more we study markets, the more humble we become when expressing an opinion."

At the same time, though the resources of the study have been finite, they have been considerable and they have been diligently used. If at some points the study was able only to take soundings, at many points the probing was deep and broad. Further, an uncommon opportunity for seeing each subject in wider perspective was afforded by the very scope of the total effort. Thus, all conclusions in the report, expressed in each case with only such definiteness as seemed warranted by the data described, are submitted with confidence and conviction.

The work of the Special Study of Securities Markets ends with the completion of this report. But the conclusions and recommendations, whether proposing specific changes in legislation or rules, or indicating approaches to problems, or merely calling for further study, will involve new responsibilities and burden for the Commission and the self-regulatory agencies. Undoubtedly those burdens will be substantial, and additional resources of budget and personnel may well be required. It will not be surprising if every single conclusion and recommendation does not find favor in all quarters, but it is essential that the issues posed in the report be met and resolved by those with regulatory and self-regulatory responsibilities.