[Federal Register Volume 63, Number 250 (Wednesday, December 30, 1998)]
[Notices]
[Pages 71984-71991]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-34513]
=======================================================================
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-40826; File No. SR-NASD-98-80]
Self-Regulatory Organizations; Notice of Filing of Proposed Rule
Change and Amendment No. 1 Thereto by the National Association of
Securities Dealers, Inc. Relating to the Issuance of Temporary Cease
and Desist Orders
December 22, 1998.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on October 28, 1998, the National Association of Securities Dealers,
Inc. (``NASD'' or ``Association''), through its regulatory subsidiary,
NASD Regulation, Inc. (``NASD Regulation'') filed with the Securities
and Exchange Commission (``SEC'' or ``Commission'') the proposed rule
change as described in Items I, II, and III below, which Items have
been prepared by NASD Regulation. The Association amended the proposal
on December 15 and 16, 1998.\3\ The Commission is publishing this
notice to solicit comments on the proposed rule change, as amended,
from interested persons.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ The first amendment to the proposal included changes to the
evidentiary standard and the tenure of a temporary cease and desist
order. See Letter from Alden S. Adkins, Senior Vice President and
General Counsel, NASD, to Katherine A. England, Assistant Director,
Division of Market Regulation (``Division''), Commission, dated
December 15, 1998. On December 16, 1998, the NASD made further non-
substantive changes to the proposed rule language at a meeting
between Peter Geraghty, Assistant General Counsel, NASD Regulation,
and Mandy S. Cohen, Special Counsel, and Anitra T. Cassas, Attorney,
Division, Commission. See Memorandum entitled: Meeting with Staff of
NASD regulation, dated December 17, 1998. The NASD also agreed to
extend the public comment period to sixty days by letter dated
December 21, 1998. See Letter from Alden S. Adkins, Senior Vice
President and General Counsel, NASD, to Katherine A. England,
Assistant Director, Divisions, Commission.
---------------------------------------------------------------------------
I. Self-Regulatory Organization's Statement of the Terms of
Substance of the Proposed Rule Change
The Association is proposing to create the Rule 9800 Series and to
amend certain existing NASD Rules of the Association to establish
procedures to enable the Association to issue temporary cease and
desist orders. The proposed rule change also would grant the NASD
authority to initiate non-summary proceedings when temporary or
permanent cease and desist orders are violated. The text of the
proposed rule change follows. Additions are italicized; deletions are
[bracketed].\4\
---------------------------------------------------------------------------
\4\ Language in proposed rules IM-8310-2, 9360, 9500, 9510,
9511, and 9513 includes changes proposed in File No. SR-NASD-98-56.
See Securities Exchange Act Release No. 34-40378 (August 27, 1998),
63 FR 47058 (September 3, 1998). Language in proposed rule 9120
includes changes proposed in File No. SR-NASD-98-90. See Securities
Exchange Act Release No. 34-40755 (December 7, 1998), 63 FR 68814
(December 14, 1998). For purposes of this notice, the proposed rule
language in File Nos. SR-NASD-98-56 and 98-90 is treated as
approved.
---------------------------------------------------------------------------
8300. Sanctions
8301. Sanctions for Violation of the Rules
(a) Imposition of Sanctions
After compliance with the Rule 9000 Series, the Association may
impose one or more of the following sanctions on a member or person
associated with a member for each violation of the federal
securities laws, rules or regulations thereunder, the rules of the
Municipal Securities Rulemaking Board, or Rules of the Association,
or may impose one or more of the following sanctions on a member or
person associated with a member for any neglect or refusal to comply
with an order, direction, or decision issued under the Rules of the
Association:
(5) suspend or bar a member or person associated with a member
from association with all members; [or]
(6) [impose any other fitting sanction.]impose a temporary or
permanent cease and desist order against a member or a person
associated with a member; or
(7) impose any other fitting sanction.
* * * * *
IM-8310-2. Release of Disciplinary Information
* * * * *
(d)(1) The Association shall release to the public information
with respect to any disciplinary decision issued pursuant to the
Rule 9000 Series imposing a suspension, cancellation or expulsion of
a member; or suspension or revocation of the registration of a
person associated with a member; or barring of a member or person
associated with a member from association with all members; or
imposition of monetary sanctions of $10,000 or more upon a member or
person associated with a member; or containing an allegation of a
violation of a Designated Rule; and may also release such
information with respect to any disciplinary decision or group of
decisions that involve a significant policy or enforcement
determination where the release of information is deemed by the
President of NASD Regulation, Inc. to be in the public interest. The
Association also may release to the public information with respect
to any disciplinary decision issued pursuant to the Rule 8220 Series
imposing a suspension or cancellation of the member or a suspension
of the association of a person with a member, unless the National
Adjudicatory Council determines otherwise. The National Adjudicatory
Council may, in its discretion, determine to waive the requirement
to release information with respect to a disciplinary decision under
those extraordinary circumstances where the release of such
information would violate fundamental notions of fairness or work an
injustice. The Association also shall release to the public
information with respect to any temporary cease and desist order
issued pursuant to the Rule 9800 Series.
* * * * *
(h) If a final decision of the Association is not appealed to
the Commission, the sanctions specified in the decision (other than
bars, [and] expulsions, permanent cease and desist orders, and
temporary cease and desist orders) shall become effective on a date
established by the Association but not before the expiration of 30
days after the date of the decision. Bars, [and] expulsions,
permanent cease and desist orders, and temporary cease and desist
orders, however, shall become effective upon issuance of the
decision, unless the decision specifies otherwise. An appeal to the
Commission of a decision that imposes a permanent cease and desist
order or a temporary cease and desist order shall not stay the
effectiveness of such orders, unless the Commission specifies
otherwise.
9000. CODE OF PROCEDURE
9100. Application and Purpose
* * * * *
9120. Definitions
* * * * *
(x) ``Party''
With respect to a particular proceeding, the term ``Party''
means:
(1) in the Rule 9200 Series, [and] the Rule 9300 Series, and the
Rule 9800 Series, the Department of Enforcement or a Respondent;
* * * * *
9200. DISCIPLINARY PROCEEDINGS
* * * * *
9240. Pre-Hearing Conference and Submission
9241. Pre-Hearing Conference
* * * * *
(c) Subjects to be Discussed
At a pre-hearing conference, the Hearing Officer shall schedule
an expedited proceeding if required by Rule 9290, and may consider
and take action with respect to any or all of the following:
* * * * *
[[Page 71985]]
9290. Expedited Disciplinary Proceedings
For any disciplinary proceeding, the subject matter of which
also is subject to a temporary cease and desist proceeding initiated
pursuant to Rule 9810 or a temporary cease and desist order,
hearings shall be held and decisions shall be rendered at the
earliest possible time. An expedited hearing schedule shall be
determined at a pre-hearing conference held in accordance with Rule
9241.
9300. REVIEW OF DISCIPLINARY PROCEEDING BY NATIONAL ADJUDICATORY
COUNCIL AND NASD BOARD; APPLICATION FOR COMMISSION REVIEW
9310. Appeal to or Review by National Adjudicatory Council
9311. Appeal by Any Party; Cross-Appeal
* * * * *
(b) Effect
An appeal to the national Adjudicatory Council from a decision
issued pursuant to Rule 9268 or Rule 9269 shall operate as a stay of
that decision until the National Adjudicatory Council issues a
decision pursuant to Rule 9349 or, in cases called for discretionary
review by the NASD Board, until a decision is issued pursuant to
Rule 9351. Any such appeal, however, will not stay a decision, or
that part of a decision, that imposes a permanent cease and desist
order.
* * * * *
9312. Review Proceeding Initiated By National Adjudicatory Council
* * * * *
(b) Effect
Institution of review by a member of the National Adjudicatory
Council on his or her own motion, a member of the Review
Subcommittee on his or her own motion, or the General Counsel, on
his or her own motion, shall operate as a stay of a final decision
issued pursuant to Rule 9268 or Rule 9269 as to all Parties subject
to the notice of review, until the National Adjudicatory Council
issues a decision pursuant to Rule 9349, or, in cases called for
discretionary review by the NASD Board, until a decision is issued
pursuant to Rule 9351. Institution of any such review, however, will
not stay a decision, or that part of a decision, that imposes a
permanent cease and desist order.
9360. Effectiveness of Sanctions
Unless otherwise provided in the decision issued under Rule 9349
or Rule 9351, a sanction (other than a bar, [or] an expulsion, or a
permanent cease and desist order) specified in a decision
constituting final disciplinary action of the Association for
purposes of SEC Rule 19d-1(c)(1) shall become effective 30 days
after the date of service of the decision constituting final
disciplinary action. A bar, [or] an expulsion, or a permanent cease
and desist order shall become effective upon service of the decision
constituting final disciplinary action of the Association for
purposes of SEC Rule 19d-1(c)(1), unless otherwise specified
therein. The Association shall take reasonable steps to obtain
personal service of a Respondent when the sanction is a bar or an
expulsion.
9500. OTHER PROCEEDINGS
9510. Summary and Non-Summary Proceedings
9511. Purpose and Computation of Time
(a) Purpose
The Rule 9510 Series sets forth procedures for: (1) summary
proceedings authorized by Section 15A(h)(3) of the Act; and (2) non-
summary proceedings to impose (A) a suspension or cancellation for
failure to comply with an arbitration award or a settlement
agreement related to an arbitration or mediation pursuant to Article
VI, Section 3 of the NASD By-Laws; (B) a suspension or cancellation
of a member, or a limitation or prohibition on any member,
associated person, or other person with respect to access to
services offered by the Association or a member thereof, if the
Association determines that such member or person does not meet the
qualification requirements or other prerequisites for such access or
such member or person cannot be permitted to continue to have such
access with safety to investors, creditors, members, or the
Association; [or](C) an advertising pre-use filing requirement; or
(D) a suspension or cancellation of the membership of a member or
the registration of a person for failure to comply with a permanent
cease and desist order entered pursuant to a decision issued under
the Rule 9200 Series or Rule 9300 Series or a temporary cease and
desist order entered pursuant to a decision issued under the Rule
9800 Series.
* * * * *
9513. Initiation of Non-Summary Proceeding
(a) Notice
Association staff may initiate a proceeding authorized under
Rule 9511(a)(2)(A) or (B), by issuing a written notice to the
member, associated person, or other person. Association staff may
initiate a proceeding authorized under Rule 9511(a)(2)(D), after
receiving written authorization from the President or Chief
Operating Officer of the Association, by issuing a written notice to
the member or associated person. The notice shall specify the
grounds for and effective date of the cancellation, suspension, bar,
limitation, or prohibition and shall state that the member,
associated person, or other person may file a written request for a
hearing under Rule 9514. In addition, if the proceeding is
authorized under Rule 9511(a)(2)(D), the notice shall specifically
identify the provision of the permanent or temporary cease and
desist order that is alleged to have been violated, and shall
contain a statement of facts specifying the alleged violation. The
notice shall be served by facsimile or overnight commercial courier.
(b) Effective Date
For any cancellation or suspension pursuant to Rule
9511(a)(2)(A), the effective date shall be at least 15 days after
service of the notice on the member or associated person. For any
action taken pursuant to Rule 9511(a)(2)(B) or (D), the effective
date shall be at least seven days after service of the notice on the
member or person, except that the effective date for a notice of a
limitation or prohibition on access to services offered by the
Association or a member thereof with respect to services to which
the member, associated person, or other person does not have access
shall be upon receipt of the notice.
9800. TEMPORARY CEASE AND DESIST ORDERS
9810. Initiation of Proceeding
(a) Department of Enforcement
With the prior written authorization of the President or Chief
Operating Officer of NASD Regulation, Inc., the Department of
Enforcement may initiate a temporary cease and desist proceeding
with respect to alleged violations of Section 10(b) of the
Securities and Exchange Act of 1934 and SEC Rule 10b-5 thereunder;
SEC Rules 15g-1 through 15g-9; NASD Rule 2110 (if the alleged
violation is unauthorized trading, or misuse or conversion of
customer assets, or based on violations of Section 17(a) of the
Securities Act of 1933); NASD Rule 2120; or NASD Rule 2330 (if the
alleged violation is misuse or conversion of customer assets). The
Department of Enforcement shall initiate the proceeding by serving a
notice on a member or associated person (hereinafter ``Respondent'')
and filing a copy thereof with the Office of Hearing Officers. The
Department of Enforcement shall serve the notice by personal
service, overnight commercial courier, or facsimile. If service is
made by facsimile, the Department of Enforcement shall send an
additional copy of the notice by overnight commercial courier. The
notice shall be effective upon service.
(b) Contents of Notice
The notice shall set forth the rule or statutory provision that
the Respondent is alleged to have violated and that the Department
of Enforcement is seeking to have the Respondent ordered to cease
violating. The notice also shall state whether the Department of
Enforcement is requesting the Respondent to be required to take
action or to refrain from taking action. The notice shall be
accompanied by:
(1) a declaration of facts, signed by a person with knowledge of
the facts contained therein, that specifies the acts or omissions
that constitute the alleged violation; and
(2) a proposed order that contains the required elements of a
temporary cease and desist order (except the date and hour of the
orders issuance), which are set forth in Rule 9840(b).
(c) Filing of Underlying Complaint
If the Department of Enforcement has not issued a complaint
under Rule 9211 against the Respondent relating to the subject
matter of the temporary cease and desist proceeding and alleging
violations of the rule or statutory provision specified in the
notice described in paragraph (b), the Department of Enforcement
shall serve such a complaint with the notice initiating the
temporary cease and desist proceeding.
9820. Appointment of Hearing Officer and Hearing Panel
(a) As soon as practicable after the Department of Enforcement
files a copy of the notice initiating a temporary cease and
[[Page 71986]]
desist proceeding with the Office of Hearing Officers, the Chief
Hearing Officer shall assign a Hearing Officer to preside over the
temporary cease and desist proceeding. The Chief Hearing Officer
shall appoint two Panelists to serve on a Hearing Panel with the
Hearing Officer. The Panelists shall be current or former Governors,
Directors, or National Adjudicatory Council members, and at least
one Panelist shall be an associated person.
(b) If at any time a Hearing Officer or Hearing Panelist
determines that he or she has a conflict of interest or bias or
circumstances otherwise exist where his or her fairness might
reasonably be questioned, or if a Party files a motion to disqualify
a Hearing Officer or Hearing Panelist, the recusal and
disqualification proceeding shall be conducted in accordance with
Rules 9233 and 9234, except that:
(1) a motion seeking disqualification of a Hearing Officer or
Hearing Panelist must be filed no later than 5 days after the later
of the events described in paragraph (b) of Rules 9233 and 9234; and
(2) the Chief Hearing Officer shall appoint a replacement
Panelist using the criteria set forth in paragraph (a) of this Rule.
9830. Hearing
(a) When Held
The hearing shall be held not later than 15 days after service
of the notice initiating the temporary cease and desist proceeding,
unless a Hearing Officer or Hearing Panelist is recused or
disqualified, in which case the hearing shall be held not later than
five days after a replacement Hearing Officer or Hearing Panelist is
appointed.
(b) Service of Notice of Hearing
The Hearing Officer shall serve a notice of date, time, and
place of the hearing on the Department of Enforcement and the
Respondent not later than four days before the hearing, unless
otherwise ordered by the Hearing Officer. Service shall be made by
personal service, overnight commercial courier, or facsimile. If
service is made by facsimile, the Hearing Officer shall send an
additional copy of the notice by overnight commercial courier. The
notice shall be effective upon service.
(c) Authority of Hearing Officer
The Hearing Officer shall have authority to do all things
necessary and appropriate to discharge his or her duties as set
forth under Rule 9235.
(d) Witnesses
A person who is subject to the jurisdiction of the Association
shall testify under oath or affirmation. The oath or affirmation
shall be administered by a court reporter or a notary public.
(e) Additional Information
At any time during its consideration, the Hearing Panel may
direct a Party to submit additional information. Any additional
information submitted shall be provided to all Parties at least one
day before the Hearing Panel renders its decisions.
(f) Transcript
The hearing shall be recorded by a court reporter and a written
transcript thereof shall be prepared. A transcript of the hearing
shall be available to the Parties for purchase from the court
reporter as prescribed rates. A witness may purchase a copy of the
transcript of his or her own testimony from the court reporter as
prescribed rates. Proposed corrections to the transcript may be
submitted by affidavit to the Hearing Panel within a reasonable time
determined by the Hearing Panel. Upon notice to all the Parties to
the proceeding, the Hearing Panel may order corrections to the
transcript as requested or sua sponte.
(g) Record and Evidence Not Admitted
The record shall consist of the notice initiating the
proceeding, the declaration, and the proposed order described in
Rule 9810(b); the transcript of the hearing; and all evidence
considered by the Hearing Panel. The Office of Hearing Officers
shall be the custodian of the record. Proffered evidence that is not
accepted into the record by the Hearing Panel shall be retained by
the custodian of the record until the date when the Association's
decision becomes final or, if applicable, upon the conclusion of any
review by the Commission or the federal courts.
(h) Failure to Appear at Hearing
If a Respondent fails to appear at a hearing for which it has
notice, the allegations in the notice and accompanying declaration
may be deemed admitted, and the Hearing Panel may issue a temporary
cease and desist order without further proceedings. If the
Department of Enforcement fails to appear at a hearing for which it
has notice, the Hearing Panel may order that the temporary cease and
desist proceeding be dismissed.
9840. Issuance of Temporary Cease and Desist Order by Hearing Panel
(a) Basis for Issuance
The Hearing Panel shall issue a written decision stating whether
a temporary cease and desist order shall be imposed. The Hearing
Panel shall issue the decision not later than ten days after receipt
of the hearing transcript. A temporary cease and desist order shall
be imposed if the Hearing Panel finds:
(1) by a preponderenace of the evidence that the alleged
violation specified in the notice has occurred; and
(2) that the violative conduct or continuation thereof is likely
to result in significant dissipation or conversion of assets or
other significant harm to investors prior to the completion of the
underlying disciplinary proceeding under the Rule 9200 and 9300
Series.
(b) Content, Scope, and Form of Order
A temporary cease and desist order shall:
(1) be limited to ordering a Respondent to cease and desist from
violating a specific rule or statutory provision, and, where
applicable, to ordering a Respondent to cease and desist from
dissipating or covering assets or causing other harm to investors;
(2) set forth the alleged violation and the significant
dissipation or conversion of assets or other significant harm to
investors that is likely to result without the issuance of an order;
(3) describe in reasonable detail the act or acts the
Respondents is to take or refrain from taking; and
(4) include the date and hour of its service.
(c) Duration of Order
A temporary cease and desist order shall remain effective and
enforceable until the issuance of a decision under Rule 9268 or Rule
9269.
(d) Service
The Hearing Officer shall serve the Hearing Panel's decision and
any temporary cease and desist order by personal service, overnight
commercial courier, or facsimile. If service is made by facsimile,
the Hearing Officer shall send an additional copy of the Hearing
Panel's decision and any temporary cease and desist order by
overnight commercial courier. The temporary cease and desist order
shall be effective upon service.
9850. Review by Hearing Panel
At any time after the Hearing Officer serves the Respondent with
a temporary cease and desist order, a Party may apply to the Hearing
Panel to have the order modified, set aside, limited, or suspended.
The application shall set forth with specificity the facts that
support the request. The Hearing Panel shall respond to the request
in writing within ten days after receipt of the request. The Hearing
Panel's response shall be served on the Respondent via personal
service, overnight commercial courier, or facsimile. If service is
made by facsimile, the Hearing Officer shall send an additional copy
of the temporary cease and desist order by overnight commercial
courier. The filing of an application under this Rule shall not stay
the effectiveness of the temporary cease and desist order.
9860. Violation of TCDO
A Respondent who violates a temporary cease and desist order
imposed under this Rule Series may have its association or
membership suspended or canceled under the Rule 9510 Series. The
President or Chief Operating Officer of NASD Regulation, Inc., must
authorize the initiation of any such proceeding in writing.
9870. Application to Commission for Review
Temporary cease and desist orders issued pursuant to this Rule
Series constitute final and immediately effective disciplinary
sanctions imposed by the Association. The right to have any action
under this Rule Series reviewed by the Commission is governed by
Section 19 of the Act. The filing of an application for review shall
not stay the effectiveness of temporary cease and desist order,
unless the Commission otherwise orders.
* * * * *
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the Association included
statements concerning the purpose of, and basis for, the proposed rule
change and discussed any comments it received on the proposed rule
change. The text of these statements may be examined at the places
specified in Item IV below. The
[[Page 71987]]
Association has prepared summaries, set forth in Sections A, B, and C
below, of the most significant aspects of such statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
(i) Background
In 1997, the Commission approved a proposed rule change filed by
the Association that, among other things, removed from the NASD's rules
the provision that granted the NASD the authority to conduct Expedited
Remedial Proceedings.5 These rules were intended to provide
the Association with a mechanism to take appropriate remedial action
against an NASD member or an associated person if the member or
associated person had engaged and there was a reasonable likelihood
that the member or person would again engage in securities law
violations.6 Unfortunately, the rules did not serve their
intended purpose. In the proposed rule change removing these rules, the
NASD stated that it would file a proposed rule change in the future
that would propose a different approach to expedited remedial
proceedings.7 This proposal contains the alternative
approach.
---------------------------------------------------------------------------
\5\ See Securities Act Release No. 38908 (August 7, 1997), 62 FR
43387 (August 13, 1997) (File No. SR-NASD-97-28).
\6\ Under these rules, the NASD was authorized to suspend,
limit, or condition a broker-dealer's membership or suspend, limit,
or condition a person's association with a broker-dealer.
\7\ See Release No. 34-38908.
---------------------------------------------------------------------------
The proposed rules are based upon and closely mirror the SEC rules
pertaining to temporary cease and desist orders,8 but with
increased procedural protections in some respects. For example, the SEC
rules permit a temporary cease and desist order to be entered against a
person without prior notice and an opportunity for a hearing. Such ex
parte proceedings are not permitted under the rules proposed by the
NASD. In addition, under the rules the NASD is proposing, a temporary
cease and desist proceeding can be initiated only with respect to
alleged violations of certain sections of the securities laws and
certain NASD rules. The SEC rules have no such limitation.
---------------------------------------------------------------------------
\8\ See 17 CFR 201.500-201.514.
---------------------------------------------------------------------------
(ii) NASD Notice to Members 98-42
The NASD issued a Notice to Members in June 1998 to solicit comment
on proposed temporary cease and desist rules that differed in a number
of respects from the proposal contained in this filing.\9\ The comment
period closed on July 31, 1998. The Association received 13 comment
letters in response.\10\ While three commentators expressed support for
the Association's overall goal of effective regulation of the
securities markets, none of the commentators voiced support for the
proposal. The commentators generally stated that the Association has
not justified the need for the rules and, if adopted, the rules lacked
sufficient procedural protections for proposed respondents (hereinafter
referred to as ``Respondents''). One commentator questioned whether the
Act provides self-regulatory organizations with the authority to issue
temporary cease and desist orders. As discussed in greater detail
later, the Association believes that the Act does provide it with the
authority, and that the proposed rules are both necessary and fair. The
staff has carefully reviewed all comments and, as a result, modified
the proposal in many significant respects. These changes will:
---------------------------------------------------------------------------
\9\ See NASD Notice to Members 98-42 (June 1998) (``NTM-98-
42'').
\10\ See Letters from PIM Financial Services, Inc. (June 18,
1998); Choice Investments (June 19, 1998); Dan Jamieson (June 19,
1998); Cunner & Company (June 24, 1998); Wulff, Hansen & Co. (June
22, 1998); Combined Research & Trading, Inc. (June 22, 1998); A.G.
Edwards & Sons, Inc. (June 26, 1998); Dortch Securities &
Investments, Inc. (July 10, 1998); Whale Securities Co., L.P. (July
17, 1998); Orrick, Herrington & Sutcliffe LLP (July 17, 1998);
Securities Industry Association, Compliance and Legal Division
(August 5, 1998); Securities Industry Association, Federal
Regulation Committee and Self-Regulation and Supervisory Practices
Committee (August 17, 1998); and American Bar Association, Section
of Litigation and Business Law (August 18, 1998).
---------------------------------------------------------------------------
Limit markup violations for which temporary cease and
desist orders can be pursued to those violations involving fraudulent
markups;
Require that a hearing panel find by a preponderance of
the evidence that a violation occurred;
Require that the disciplinary action underlying a
temporary cease and desist order be conducted on an expedited basis;
Limit the duration of a temporary cease and desist order;
Require that a member or associated person being charged
with violating a temporary or permanent cease and desist order be
notified of the specific provision of the order alleged to have been
violated and that the notification be accompanied by specific facts
supporting the alleged violation; and
Specify that temporary cease and desist orders are final
and immediately effective decisions of the NASD that can be appealed to
the SEC under Section 19 of the Exchange Act.
(iii) Need for Temporary Cease and Desist Authority
The Association believes there is a clear need for an additional
tool to stop members' or associated persons' misconduct that causes
significant dissipation of or conversion of assets or other significant
harm to investors while a disciplinary action is pending. While NASD
Regulation litigates disciplinary actions involving limited
capitalization, or microcap, securities, for example, investors may
continue to lose substantial sums.\11\ Without a temporary cease and
desist rule, the Association has no immediate means to order cessation
of egregious, ongoing violative conduct.
---------------------------------------------------------------------------
\11\ While the need for temporary cease and desist authority is
often expressed in the context of microcap fraud, it is not
necessarily so limited. Temporary cease and desist orders could be
used to address fraudulent conduct in many contexts.
---------------------------------------------------------------------------
Several commentators believe that the Association's regular
disciplinary proceedings provide sufficient measures to combat the
violative conduct that concerns the NASD. The Association disagrees.
Temporary cease and desist orders would be pursued in cases where the
Association believes significant dissipation or conversion of assets or
other significant harm to investors is likely to occur before a
disciplinary proceeding under the Rules of the Association is
concluded. In addition, under the NASD's current rules, it takes a
minimum of four months to complete a disciplinary proceeding. This
scenario assumes that the action is not settled and that each aspect of
the proceeding occurs without delay. The Association's experience with
microcap fraud is that investor losses tend to occur quickly, over very
short periods of time.
One commentator suggested that the Association could use its
summary suspension authority to address egregious cases of fraud, while
another commentator suggested that the NASD could use its non-summary
suspension authority in such circumstances. The NASD believes that it,
and any other self-regulatory organization, can summarily suspend a
member or associated person only in the limited situations that are
described in Section 15A(h)(3) of the Act, which do not include the
types of situations the Association is attempting to address with the
temporary cease and desist rules. The NASD's non-summary suspension
rules \12\ also can be used only in limited situations that do not
include the types of situations that the
[[Page 71988]]
Association is attempting to address. For example, the NASD, after
notice and opportunity for a hearing, may suspend or cancel the
membership of a member or the registration of a person for failure to
pay fees, dues, assessments or other charges, or for failure to comply
with an arbitration award or settlement agreement. In addition, the
non-summary suspension rules and temporary cease and desist rules are
designed for different purposes. Non-summary suspension proceedings are
designed to limit or stop a member's or associated person's ability to
conduct business, whereas temporary cease and desist orders are
designed to stop ongoing, violative conduct while an underlying
disciplinary proceeding is being litigated.
---------------------------------------------------------------------------
\12\ NASD Rules 9511(a)(2) and 9513.
---------------------------------------------------------------------------
In addition, some commentators believe that the NASD could refer
cases to the SEC or a state regulatory authority for prosecution where
an emergency exists. The Association's experience demonstrates that
this is not a viable alternative to the proposed rule. Even though the
NASD, the SEC and other regulators have made great strides in
coordinating their respective enforcement efforts, this is not a
substitute for temporary cease and desist authority. There are
situations where the Association is in the best position to take
immediate action, based on its preexisting investigation and access to
case-specific information. In such situations, the need to refer the
case to another regulatory authority might result in unacceptable delay
and would not be an efficient use of the Association's or other
regulators' resources.
(iv) Authority for Issuing Temporary Cease and Desist Orders
The Association believes that relevant provisions of the Act
provide self regulatory organizations with the authority to issue
temporary cease and desist orders. Section 15A(b)(2) of the Act, among
other things, requires that an association of brokers and dealers have
the capacity to be able to carry out the purposes of the Act and to
enforce compliance by its members and persons associated with its
members with the Act, the rules and regulations thereunder, and the
rules of the Association. In addition, Section 15A(b)(6) requires that
the rules of an association be designed to prevent fraudulent and
manipulative acts and practices, to promote just and equitable
principles of trade, and, in general, to protect investors and the
public interest. Section 15A(b)(7) permits an association to sanction
its members and persons associated with members in many different ways,
including through the imposition of any ``fitting sanction,'' and
Section 15A(b)(8), among other things, requires that the rules of an
association, in general, provide a fair procedure for disciplining
members and persons associated with members. The proposed rules are
consistent with the Association's obligations under Sections 15A(b)(2),
(6), (7), and (8) because temporary cease and desist orders are fitting
sanctions designed to stop violative conduct that is likely to cause
significant dissipation or conversion of assets or other significant
harm to investors, subject to the specific procedures contained in the
rules.
(v) Due Process Protections
The Association recognizes that temporary cease and desist orders
are powerful measures that should be used very cautiously.
Consequently, the rules have been designed to ensure that the
proceedings are used to address only the most serious types of
misconduct and that the interests of Respondents are protected. For
example, to ensure that temporary cease and desist proceedings are used
appropriately and that he decision to initiate a proceeding is made
only at the highest staff levels, the proposed rules require the
President or Chief Operating Officer of NASD Regulation to issue
written authorization before NASD Regulation's Department of
Enforcement can institute a temporary cease and desist proceeding. Two
commentators stated that the President or Chief Operating Officer
should be required to follow specific guidelines or meet a specific
standard before authorizing temporary cease and desist proceeding. The
Association believes that such guidelines or standards already exist.
The Association believes it is implicit that the President or Chief
Operating Officer must be convinced by a preponderance of the evidence
that the alleged violation has occurred, and the violative conduct or
the continuation thereof is likely to result in significant dissipation
or conversion of assets or other significant harm to investors prior to
completion of the disciplinary proceeding under the Rule 9200 and 9300
Series. This is the same standard that guides the hearing panel in
determining whether to issue a temporary cease and desist order.
In addition, the NASD proposes limiting use of this tool to only
the most serious offenses. A temporary cease and desist proceeding can
be initiated only with respect to alleged violations of certain
sections of the securities laws and certain NASD rules.\13\ In
addition, the alleged violations of NASD rules for which a temporary
cease and desist proceeding can be initiated are further limited to
circumstances involving fraud, unauthorized trading, misuse or
conversion of customer assets, or markups.
---------------------------------------------------------------------------
\13\ The sections and rules are specified in proposed NASD Rule
9810(a) and are limited to alleged violations of Section 10(b) of
the Act and Rule 10b-5 thereunder, Rules 15g-1 through 15g-9 under
the Act and NASD Rules 2110, 2120, or 2330. The alleged violations
of NASD rules for which a temporary cease and desist proceeding can
be initiated are further limited. For NASD Rule 2110, which governs
standards of commercial honor and principles of trade, the alleged
violations are limited to circumstances involving alleged violations
of Section 17(a) of Securities Act of 1933, or circumstances
involving unauthorized trading or misuse or conversion of customer
assets. For Rule 2330, which governs members' use of customers'
securities or funds, the alleged violations for which a temporary
cease and desist proceeding can be initiated are limited to
circumstances involving misuse or conversion of customer assets.
---------------------------------------------------------------------------
In the NTM-98-42, the Association proposed pursuing temporary cease
and desist orders in cases in which the Department of Enforcement
alleged that the markups were excessive and in violation of Rule 2110.
Two commentators believed it would be inappropriate to pursue a
temporary cease and desist order for excessive markups because of the
degree of uncertainty involved in determining appropriate markups. In
response to the comments, the Association has modified the proposal to
permit temporary cease and desist orders only in cases in which it is
alleged that the markups are fraudulent under Section 10(b) of the
Exchange Act, SEC Rule 10b-5 thereunder, or NASD Rule 2120.
The proposed rules are based upon the rules that govern NASD
disciplinary proceedings, with certain modifications made to reflect
that temporary cease and desist proceedings are expedited proceedings.
The proposed rules therefore provide Respondents with many procedural
protections.
In addition, once the President or Chief Operating Officer of NASD
Regulation has provided written authorization to initiate a temporary
cease and desist proceeding, the Department of Enforcement must file a
notice with the Office of Hearing Officers and serve the Respondent
with a copy of the notice. The notice must set forth the rule or
statutory provision the Respondent is alleged to have violated, include
a declaration of facts that specifies the acts or omissions that
constitute the alleged violation,\14\ and
[[Page 71989]]
must contain a proposed order that contains the required elements of a
temporary cease and desist order.\15\ In addition, if the Department of
Enforcement has not already issued a complaint under Rule 9211 against
the Respondent relating to the subject matter of the temporary cease
and desist proceeding and alleging violations of the rule or statutory
provisions specified in the notice initiating the temporary cease and
desist proceeding, the Department must serve such a complaint with the
notice initiating the temporary cease and desist proceeding.
---------------------------------------------------------------------------
\14\ The declaration of facts must be signed by a person with
knowledge of the facts contained in the declaration. Such persons
may include the Association staff.
\15\ The required elements of a temporary cease and desist order
are set forth in proposed Rule 9840(b).
---------------------------------------------------------------------------
Further, a hearing to determine whether a temporary cease and
desist order should be issued must be held within 15 days after service
of the notice (unless a Hearing Officer or Hearing Panelist is recused
or disqualified),\16\ and the Respondent must be served with notice of
the date, time, and location of the hearing not later than four days
before the hearing,\17\ unless the Hearing Officer orders otherwise.
One commentator believes that requiring the hearing to be held within
15 days after service of the notice does not provide a Respondent with
sufficient time to prepare for the hearing and, by way of comparison,
notes that the Securities Act of 1933 and the Act require that hearings
in SEC temporary cease and desist proceedings be held no earlier than
30 days nor later than 60 days after service of the notice. The
Association believes that conducting the hearing within 15 days after
service of the notice is appropriate because its rules would require
the notice initiating the proceeding to have sufficient detail of the
alleged violation.\18\ In addition, these proceedings are designed to
occur on an expedited basis so as to stop ongoing violative conduct
that is likely to cause significant dissipation or conversion of assets
or other significant harm to investors before the underlying
disciplinary proceeding is concluded.
---------------------------------------------------------------------------
\16\ See proposed Rule 9830(a).
\17\ The Association believes that a four day notice requirement
should provide the Respondent with sufficient notice prior to the
initiation of a hearing.
\18\ See proposed Rule 9810(b).
---------------------------------------------------------------------------
Each hearing panel would be appointed by the Chief Hearing Officer
of the NASD's Office of Hearing Officers, and would be comprised of a
hearing officer and two panelists. The two panelists would be selected
from a roster of candidates that is comprised of current or former
members of the National Adjudicatory Council, NASD Board of Governors,
or the Association Board of Directors, and at least one panelist would
have to be an associated person. A hearing officer, who is an attorney
and an employee of the Association, would preside over each proceeding
and would have the authority to do all things necessary and appropriate
to discharge his or her own duties as set forth in Rule 9235.
One commentator suggested that the same hearing panel that issued
the temporary cease and desist order be assigned to hear the
disciplinary proceeding. The Association agrees that this is desirable
whenever possible. The class of persons eligible to serve on a
temporary cease and desist hearing panel, however, is more limited than
the class eligible to serve on disciplinary hearing panels, so such
dual service may not be possible in all situations. The Association
would attempt to use the same panels whenever possible.
The proposed rules also set a specific standard that must be met
before a hearing panel can issue such a temporary cease and desist
order. A hearing panel must find by a preponderance of the evidence
that the alleged violation has occurred, which is the same evidentiary
standard used in the underlying disciplinary proceeding. The hearing
panel also must find that the violative conduct or the continuation
thereof is likely to result in significant dissipation or conversion of
assets or other significant harm to investors prior to completion of
the disciplinary proceeding under the Rule 9200 and 9300 Series. This
standard is designed to ensure that a temporary cease and desist order
cannot be issued for technical violations of rules, but can be issued
only if the violative conduct or the continuation thereof is likely to
result in significant dissipation or conversion of assets or other
significant harm to investors before completion of the underlying
disciplinary proceeding.
Several commentators believe that the hearing panels should be
required to find a likelihood of success on the merits and irreparable
harm to investors, and should explicitly consider the effect of the
order on the Respondent. While the Association believes that the
``likelihood of success'' standard is inappropriate in the context of
the other required showings, it does agree that there should be an
express evidentiary standard in the rule. Thus, in response to the
commentators' concerns, the proposed rules require that there be a
preponderance of evidence of a violation of one of the specified rules
before an order can be issued. The preponderance of evidence test would
be in addition to the requirement that the alleged violative conduct or
the continuation thereof be likely to result in significant dissipation
or conversion of assets or other significant harm to investors.
The Association believes that an irreparable harm standard would
frustrate its attempt to stop ongoing fraudulent activity. Under such a
standard, as long as a member could show that it is solvent and at the
time could pay any potential arbitration or mediation awards while the
disciplinary action is proceeding, the Association would be unable to
stop the ongoing fraudulent activity until the completion of the
regular disciplinary proceeding. Too often, the member's financial
condition significantly changes after the conclusion of the
disciplinary proceeding. Indeed, in a number of recent cases, the
member firm filed for bankruptcy or went into the Securities Industry
Protection Corporation, known as SIPC, liquidation during or
immediately after the completion of a NASD disciplinary action.
Finally, the Association believes that once it has been shown that the
violative conduct or the continuation thereof is likely to result in
significant dissipation or conversion of assets or other significant
harm to investors, the potential harm to the Respondent if an order is
issued is overshadowed by the harm that is likely to occur to investors
if the order is not issued.
A hearing panel must issue a written decision within ten days of
receiving the transcript of the hearing. If a hearing panel decides
that a temporary cease and desist order should be issued, the order
must direct the Respondent to cease and desist from violating specific
rule or statutory provisions and, where applicable, to cease and desist
from dissipating or converting assets or causing other harm to
investors. The order also must set forth the alleged violation and the
significant dissipation or conversion of assets or other significant
harm to investors that is likely to result without the issuance of the
order, and it must describe in reasonable detail the act or acts the
Respondent is to take or refrain from taking.\19\ A temporary cease and
desist order issued to stop unauthorized trading, for example, would
order a Respondent to cease and desist from violating NASD Rule 2110 by
directing the Respondent to stop the practice of executing unauthorized
trades for customers' accounts. The order would not instruct the
Respondent to cease and desist from conducting business with customers.
---------------------------------------------------------------------------
\19\ The order also must include the date and hour of its
issuance.
---------------------------------------------------------------------------
[[Page 71990]]
(vi) Publicizing Issuance of a Temporary Cease and Desist Order
If a hearing panel issues a temporary cease and desist order, the
Association would publicize the issuance of the order, just as it
publicizes the issuance of other final decisions in disciplinary
proceedings that result in significant sanctions. Accordingly, the
proposed rule change modifies IM-8310-2 to permit the release of this
information. When issuance of a temporary cease and desist order is
made public, if applicable, a statement would accompany the public
release indicating that the decision could still be appealed to the
Commission or that the appeal is pending.
(vii) Duration of Temporary Cease and Desist Orders
Once a temporary cease and desist order has been issued, it will
remain in effect until a decision is issued in the underlying
disciplinary proceeding.\20\ Two commentators suggested that, in any
disciplinary proceeding for which a temporary cease and desist order
has been issued, the disciplinary proceeding should be conducted on an
expedited basis. The NASD agrees with this suggestion and has proposed
Rule 9290, which would require that in any disciplinary proceeding for
which a temporary cease and desist order has been issued, every hearing
shall be held and every decision shall be rendered at the earliest
possible time.
---------------------------------------------------------------------------
\20\ The hearing panel issuing the decision in the underlying
disciplinary proceeding, however, may issue a permanent cease and
desist order as part of the sanctions, if any, imposed pursuant to
the underlying disciplinary proceeding. The effectiveness of a
permanent cease and desist order would not be stayed if the
Respondent appeals the decision in the underlying disciplinary
proceeding.
---------------------------------------------------------------------------
In addition, a Respondent is provided the opportunity to challenge
a temporary cease and desist order, pursuant to Rule 9850, if it
believes the underlying disciplinary proceeding is not being conducted
on an expedited basis. If a Respondent can prove by a preponderance of
the evidence that the underlying disciplinary proceeding is not being
conducted on an expedited basis due to bad faith conduct by the
Association, the hearing panel that issued the temporary cease and
desist order can modify, set aside, limit, or suspend the order as it
believes is appropriate. If a challenge on such a basis is pursued by a
Respondent, the hearing panel's consideration would be limited to
determining whether the underlying disciplinary proceeding was not
being conducted on an expedited basis due to the bad faith conduct of
the Association.
The proposed rules provide Respondents with several opportunities
to challenge a temporary cease and desist order. A Respondent may apply
to the hearing panel, pursuant to proposed Rule 9850, to have the order
modified, set aside, limited, or suspended, or the Respondent may
challenge the order by filing an application for review with the SEC
pursuant to Section 19 of the Exchange Act.\21\ A Respondent
challenging an order, however, will not stay the effectiveness of the
order, unless otherwise ordered by the Commission.
---------------------------------------------------------------------------
\21\ Section 19 of the Exchange Act provides for the appeal of
final disciplinary sanctions imposed by self-regulatory
organizations.
---------------------------------------------------------------------------
Two commentators raised a concern about the ability of a Respondent
to appeal decisions issuing temporary cease and desist orders to the
SEC because it was unclear whether temporary cease and desist orders
are final disciplinary decisions of the NASD. The Association believes
temporary cease and desist orders should be considered final and
immediately effective decisions of the NASD and therefore appealable to
the SEC as soon as the orders are issued. A temporary cease and desist
order is issued after notice and an opportunity for a hearing and upon
a finding by a preponderance of the evidence that a violation of a
statutory provision or rule has occurred. The temporary cease and
desist order is an ``other fitting sanction'' under Section 15A(b)(7)
of the Act because the order directs a Respondent to cease from
violating a rule, to cease specified violative conduct and, as
appropriate, to cease and desist from dissipating or converting assets.
Further, a temporary cease and desist order is immediately effective
and enforceable, and a Respondent that violates the terms of a
temporary cease and desist order can have its membership or
registration suspended or canceled.
(viii) Enforcement of Cease and Desist Orders
In order for temporary cease and desist orders, or permanent cease
and desist orders issued pursuant to disciplinary proceedings conducted
under Rule 9200 Series or Rule 9300 Series, to have their full effect
it is necessary to have a mechanism to enforce such orders and to be
able to sanction members or associated persons that violate the orders.
Consequently, the proposed rule change seeks to provide the Association
with the authority to suspend or cancel a Respondent's membership or
association if it is found, after a proceeding pursuant to Rule 9510
Series,\22\ that a Respondent violated a temporary cease and desist
order or a permanent cease and desist order. The proposed rule change
provides that a proceeding to suspend or cancel a Respondent's
association or membership for violating an order cannot be initiated
unless it is authorized in writing by the President or Chief Operating
Officer of NASD Regulation.\23\ This provision ensures that decisions
that can have a significant impact on a Respondent are made only at the
highest staff level.
---------------------------------------------------------------------------
\22\ The Rule 9510 Series sets forth the procedures for summary
and non-summary suspension, cancellation, bar, limitation, or
prohibition. Pursuant to the proposed amendment Rule 9511, the
sanctions for a violation of a temporary or permanent cease and
desist order are limited to suspension of cancellation of the
membership of a member of the registration of a person.
\23\ See proposed Rule 9860.
---------------------------------------------------------------------------
In addition, under the proposed rules, in any proceeding initiated
pursuant to the Rule 9510 Series to sanction a member or associated
person for violating a temporary or permanent cease and desist order,
NASD Regulation would be required to specifically identify in the
notice initiating the proceeding the provision of the temporary or
permanent cease and desist or der that is alleged to have been
violated, and the notice must contain a statement of facts specifying
the alleged violation. These provisions were included in response to a
suggestion by a commentator.
(ix) Report to Board of Directors
The Association recognizes that temporary cease and desist orders
are new and powerful enforcement tools. Therefore, the Association
staff is required to report to the Board of Directors of the
Association (``Board''), within two years after the effective date of
the rules (if the rules are approved by the SEC), on the staff's
experience with the rules and obtain the Board's authorization to
continue to exercise authority under the rules. This report will enable
the Board to assess whether the authority is being exercised as it had
envisioned.
2. Statutory Basis
The Association believes that the proposed rule change is
consistent with the provisions of Section 15A(b)(2) of the Act, which
requires, among other things, that an association of brokers and
dealers have the capacity to be able to carry out the purposes of the
Act and to enforce compliance by its members and persons associated
with its
[[Page 71991]]
members with the Act, the rules and regulations thereunder, and the
rules of the Association. In addition, the Association believes the
proposed rule change is consistent with the provisions of Section
15A(b)(6), which require that the rules of an association be designed
to prevent fraudulent and manipulative acts and practices, to promote
just and equitable principles of trade and, in general, to protect
investors and the public interest. The NASD also believes the proposal
is consistent with the provisions of Sections 15A(b)(7) and (8).
Paragraph (b)(7) permits the sanctioning of members and associated
persons by several means, including by imposing fitting sanctions, and
paragraph (b)(8) requires that the rules of an association, in general,
provide a fair procedure for disciplining members and persons
associated with members. The Association believes that the relevant
provisions of the Act provide it with authority to issue temporary
cease and desist orders. NASD also believes the proposed rules are
consistent with the Association's obligations under Sections 15A(b)(2),
(6), (7), and (8) because temporary cease and desist orders are fitting
sanctions designed to stop violative conduct that is likely to cause
significant dissipation or conversion of assets or other significant
harm to investors, subject to the specific procedures contained in the
rules.
B. Self-Regulatory Organization's Statement on Burden on Competition
The Association does not believe that the proposed rule change will
impose any burden on competition that is not necessary or appropriate
in furtherance of the purposes of the Act.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
The proposed rule change was published for comment in NASD Notice
to Members 98-42. Thirteen comments were received in response to NTM-
98-48. While three comment letters expressed support for the
Association's overall goal of effective regulation of the securities
markets, none of the comment letters voiced support for the proposed
rule change.
The Board of Directors of NASD Regulation and the National
Adjudicatory Council reviewed the Notice of Members and approved its
publication. In addition, the Small Firm Advisory Board supported
issuing NTM 98-42, although it took no formal position. Finally, a
subcommittee of the Legal Advisory Board reviewed and unanimously
supported issuing it as well.
III. Date of Effectiveness of the Proposed Rule Change and Timing
for Commission Action
Within 35 days of the publication of this notice in the Federal
Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the NASD consents, the Commission will:
(A) By order approve the proposed rule change, or
(B) Institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the proposal is
consistent with the Act. In particular, the Commission solicits
comments on (A) whether the scope of possible violations should be
narrowed; (B) what impact, if any, the issuance of an NASD temporary
cease and desist order will have on other laws (i.e., other than the
federal securities laws); and (C) whether the NASD has sufficiently
justified the need for temporary cease and desist powers. Persons
making written submissions should file six copies thereof with the
Secretary, Securities and Exchange Commission, 450 Fifth Street,, N.W.,
Washington, D.C. 20549. Copies of the submission, all subsequent
amendments, all written statements with respect to the proposed rule
change that are filed with the Commission, and all written
communications relating to the proposed rule change between the
Commission and any person, other than those that may be withheld from
the public in accordance with the provisions of 5 U.S.C. 552, will be
available for inspection and copying at the Commission's Public
Reference Room. Copies of such filing will also be available for
inspection and copying at the principal office of the NASD. Comments
also may be submitted electronically at the following E-mail address:
rule-comments@sec.gov. File Number SR-NASD-98-80 should be included on
the subject line if E-mail is used to submit a comment letter.
Electronically submitted comment letters will be posted on the
Commission's Internet web site (http://www.sec.gov). All submission
should refer to File No. SR-NASD-98-80 and should be submitted by March
1, 1999.
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-34513 Filed 12-29-98; 8:45 am]
BILLING CODE 8010-01-M
