The Go-Go Years (13 page)

Cary treated the securities industry warily, and generally, as he liked to put it, “with deference,” but hardly with friendship.
As David Jackson learned, the Cary men were sometimes overzealous about boring in with hard questions, and certainly in Jackson's case deference was severely strained. Cary had a reserved opinion of Keith Funston as New York Stock Exchange president, for reasons that were scarcely Funston's fault—because, as a former businessman and college president who had been hired to fill an essentially public-relations function, he didn't really know the securities business. But Cary and his staff did not avoid face-to-face meetings with Funston or anyone else; rather, they spent as much time in Wall Street as they could, watching and listening. Although Cary himself had a few close friends holding the levers of Wall Street power—perhaps the chief among them being Amyas Ames of Kidder, Peabody and Company—he generally avoided social contacts there, and once when he took George Woods of First Boston Corporation to lunch, he was startled to find that it was the talk of the Street.

Two actions during his first year in office gave the financial district an inkling of Cary's mettle and the S.E.C.'s new mood. One was a case called
In the Matter of Cady, Roberts and Co.,
which concerned events that had. taken place two years before. In November 1959, Robert M. Gintel, a young member of the brokerage firm of Cady, Roberts and Company, had been informed one morning by one of his associates, J. Cheever Cowdin, that Curtiss-Wright Corporation was about to announce a drastic cut in its quarterly dividend. Gintel had the very best of reasons to believe that Cowdin knew what he was talking about, since Cowdin was a director of Curtiss-Wright and had presumably participated in the very decision he was reporting on. Possessing this classic piece of insider information, Gintei immediately ordered the sale of 7,000 shares of Curtiss-Wright stock on behalf of his firm's customers. The order was executed at above 40; one-half hour later the dividend cut was publicly announced, and the first trade in Curtiss-Wright thereafter was at 36 1/2—not quite 10 percent lower.

Such profitable use of privileged information was apparently illegal under Rule 10B-5 of the S.E.C., promulgated in 1942 under authority of the 1934 Securities Exchange Act, and
intended to prohibit precisely this sort of thing. But so firmly entrenched was the Wall Street tradition of taking unfair advantage of the larger investing public, and so lax the S.E.C.'s administration of that particular part of the law between 1942 and 1961, that not a single stockbroker had ever been prosecuted for improper use of privileged information during those two decades. In the tarpaper shack, 10B-5 had simply been considered too hot to handle. It was the law in name only, and thus it is not surprising that prior to Cary's time the S.E.C. had taken no action in the matter of Cady, Roberts. But now, in an opinion written by the new chairman himself, the S.E.C. decided that in not waiting until the public announcement of the dividend reduction before selling Curtiss-Wright stock, Gintei had violated the antifraud provisions of the law, and accordingly it suspended him from trading in securities for twenty days.

The sentence was light, no doubt in consideration of the fact that by the Wall Street standards of the time, Gintei had done nothing seriously wrong; indeed, it was his argument that his fiduciary relationship with his clients
compelled
him to act on what he knew. But the implication was far-reaching: at last the S.E.C. had affirmed that the easygoing days were over and that Rule 10B-5 now meant precisely what it said. Presumably the agency would pursue the new policy in the future—as, in fact, it did in 1966, when it brought, and for the most part eventually won, a civil complaint against Texas Gulf Sulphur and thirteen of its directors and employees charging that they had made improper use of inside information of a Canadian ore strike, in a case that shook Wall Street to its foundations. Cady, Roberts was the little-publicized forerunner of Texas Gulf, and marked a sharp turn toward stiffer S.E.C. policy on insider trading, the most ubiquitous of stock-market frauds in all countries at all times. One who immediately recognized the importance of what had happened was Keith Funston, who telephoned Cary to complain bitterly that the S.E.C. action was unnecessary and improper in view of the fact that the Stock Exchange had already disciplined Gintel on its own. There were other grumblings from Wall Street, used as it was to Washington permissiveness.
But soon the grumbling died down, and the Stock Exchange turned around and issued a strong set of new directives to its members against the use of inside information by brokers. Thus the stock market had moved in the direction of fairness for the outsider, and no pillars of finance had fallen; that is to say, regulation had worked as it is supposed to work.

The Re case and the ensuing Amex reorganization were not Cary projects. They had been initiated by his predecessors; but the success with which they were carried forward was a second feather in his cap. Many of the people involved came to believe that the rapid self-transformation of the Amex from a sort of Tammany ward in Wall Street to a reasonable approximation of a model stock exchange simply would not have happened without such a tough and conscientious regulatory climate as the new chairman was beginning to achieve. So Cary headed into his second and most challenging period at the S.E.C., the summer of the '62 market crash, the aftermath of which would give rise to his masterwork.

3

When a market panic is in progress, the S.E.C. is as helpless as a meteorologist in a storm. No power vested in it enables it to turn markets around, or cause persons and institutions that are selling stocks to change their minds and begin buying them instead. The agency's mandate, or one of its mandates, is to promote conditions that will make panics least likely to occur. When one does occur, as one did in May of 1962—and there can be little doubt that the S.E.C.'s somnolence over most of the preceding decade was one of the contributing causes—the regulators can only watch ruefully, and prepare to get back to their regulatory drawing board as soon as possible.

So it was with Cary and his S.E.C. in 1962. What comfort they could find came from the fact that the previous year they,
with help from Congress, had recognized the unhealthy state of the markets and had attempted to do something about it in advance—but not far enough in advance, as things turned out. In June 1961, when Cary had been in office three months and the speculative market was near the peak of its unhealthy flowering, he told a subcommittee of the House Committee on Interstate and Foreign Commerce that he strongly favored the immediate undertaking by the S.E.C. of a comprehensive study and investigation of the adequacy of protection to investors provided by the rules of all the major stock exchanges and the over-the-counter market. There was, of course, a price tag attached. As Cary explained to the subcommittee, the S.E.C.'s current budget and manpower supply simply wouldn't support such a study: “The constant danger in our Commission is that with market activity at an all-time high, we become so overwhelmed with immediate problems that we are virtually forced to concentrate all our funds and manpower upon them and cannot do any long-range planning.” He called attention to the irony of the situation—the frantic boom itself creating so much work for the regulators that they were all but prevented from exercising their regulatory function. Recognizing the need for action, in August of 1961 the House and Senate passed a measure authorizing $750,000 to the S.E.C. for a two-year Special Study of the Securities Markets—such a study as had not been undertaken for a generation—and on September 5, President Kennedy signed it into law.

Work began almost at once; a blue-ribbon staff of sixty-five was assembled, headed by Milton H. Cohen, a Chicago lawyer whom Cary imported, with the S.E.C.'s own Ralph Saul as second in command. But when the bottom fell out of the market in the spring of 1962 the Special Study could be of no immediate use because it was less than half finished.

Through that summer and fall work went on, and late in November Cary gave an indication of what was to come. The occasion he chose was a speech he gave at the annual meeting of the Investment Bankers Association, at Hollywood, Florida. Into this sun-warmed outing of fat cats only slightly thinned
and chastened by the events of the past May, Cary injected a shaft of criticism like a sharp New England icicle. He spoke of the customary bland tameness of the S.E.C., so often lately looked upon as a harmless adjunct of Wall Street, and said pointedly—in allusion to an incident well remembered by all good Wall Streeters, the famous encounter of Morgan with Miss Lya Graf in 1933—“I do not intend to be a midget on anyone's lap.” He singled out the New York Stock Exchange, the National Association of Securities Dealers, and the Investment Company Institute as specific organizations that had been consistently recalcitrant about regulating themselves and correcting abuses. He zeroed in on the Big Board's president, with a touch of sarcasm: “Keith Funston has framed his attitude toward self-regulation.… Who, he asks, can best set operating standards and determine the most effective level of service to the public? The securities industry—or the government? He did not answer that rhetorical question, but I doubt that we need to be more explicit with this distinguished audience. I can appreciate the basis for his point of view. After all, he is the head of the New York Stock Exchange.” Then Cary made the most telling jab of the icicle. “Every member of the New York Stock Exchange will concede,” he said, that the Exchange, for all of its evermore-important public function, “still seems to have certain characteristics of a private club—a very good club, I might say.”

It was, like the Morgan allusion, a deliberate reference to Wall Street history. On November 23, 1937, at a time when the S.E.C. was heading into its greatest confrontation with the Stock Exchange up to then on the matter of the Exchange's internal organization, William O. Douglas, then S.E.C. chairman and later a Supreme Court justice, had inflamed the Whitney Old Guard and its allies by speaking of the leading stock exchanges as “private clubs” that in the context of public marketplaces were “archaic.” Their rage at the criticism had goaded that particular regiment of Old Guardsmen into excesses of intransigence that, a few months later, would be their final undoing. Cary in 1962 was a Douglas admirer of some thirty years' standing—ever since he had been a law student of the
eminent jurist at Yale. His quotation from his old master was conscious and intentional and surely intended to achieve the same effect Douglas had achieved in 1937. To some extent, he was successful. Funston, commenting on the speech that evening, said curtly that he had been quoted out of context on self-regulation, and allowed himself to add that he particularly resented the private-club remark. Other sources high in the councils of the Street commented with asperity: “Such talk does no one any good at any time.”

Did it in fact do the public any good this time? One might argue that it didn't, because despite their touchiness the private-club forces in Wall Street were better armed with moderation in 1962 than in 1937; they were also more sophisticated and less given to Blimpish sputtering against the plebs, and moreover, now they had no Richard Whitney to disgrace and discredit them. But the Special Study went forward in a new climate; the staff men working on it knew that their chief meant business and feared no one. For its part, Wall Street knew that it was not to be let off with a slap on the wrist. It was the climate of serious reform.

As the work drew toward a close early in 1963, Wall Street braced itself. The S.E.C. announced that the study would be released in three sections—the first on April 3, the second and third in July and August, respectively. As the date for the first installment drew near, there was such tension as had never before attended the impending release of any document from the S.E.C., or perhaps from any regulatory agency. A sharp, reactive drop in the market was feared, and elaborate precautions were taken against premature leaks of the contents of the study. At length, just after noon on the appointed day, the first part of the Special Study was released simultaneously to Congress and to the press.

The document's tone was reasonable but stern. “Grave abuses” had been found in Wall Street's operations, Cary wrote in his letter of transmittal to Congress, but the picture was “not one of pervasive fraudulent activity.” He emphasized that

although many specific recommendations for improvements in rules and practices are made … the report demonstrates that neither the fundamental structure of the securities markets nor of the regulatory pattern of the Securities Acts requires dramatic reconstruction. The report should not impair public confidence in the securities markets, but should strengthen it as suggestions for raising standards are put into practice.

Serious shortcomings are apparent and the report, of course, has concentrated on their examination and analysis. Yet it is not a picture of pervasive fraudulent activity and in this respect contrasts markedly with the hearings and findings of the early thirties preceding the enactment of the federal securities laws.

Specifically, the first installment said that insider-trading rules should be tightened; standards of character and competence for stockbrokers should be raised; further curbs should be put on the new-issues market; and S.E.C. surveillance should be extended to the thousands of small-company stocks traded over the counter that had previously been free of federal regulation. In sum, it was a fair and moderate report that Wall Street could take more or less in stride; the expected selloff of stocks did not materialize. But, of course, there was another shoe still to drop—or rather, two more shoes.

The second part of the study, duly issued in July, concentrated on stock-exchange operations, recommending that brokers' commissions on trades be lowered, that the freedom of action of specialists be drastically curtailed, and that floor traders—those exchange members who play the market with their own money on the floor itself, deriving from their membership the unique advantages over nonmembers of being at the scene of action and of paying no commissions to brokers—be legislated right out of existence through the interdiction of their activities. The third and final part, out in August, was probably the harshest of the three—and in view of political realities the most quixotic. Turning its attention to the wildly growing mutual-fund business, the S.E.C. now recommended outlawing of the kind of contract, called “front-end load,” under which mutual-fund buyers agreed (and still agree) to pay large sales
commissions off the top of their investment. It also accused the New York Stock Exchange of leaning toward “tenderness rather than severity” in disciplining those of its members who have broken its rules.