What Continues to Monitor the Stock Market and Enforce Laws Regarding the Sale of Stocks and Bonds

Introduction to Financial Regulations

Frequently Asked Questions

• How do pyramid schemes work?

  A pyramid scheme is a fraudulent business model premised on recruiting an ever-increasing number of investors whose fees and commissions are passed up the pyramid to earlier investors. Founders will recruit a few early investors whose return on investment depends on their ability to recruit more investors. This cycle of recruitment to profit repeats until eventually there's no one left willing to join the "business" and the scheme implodes. "Investments" often include membership fees and the money new recruits pay for products they expect to resell.

• What exactly did Bernie Madoff do?

  The ponzi scheme run by Bernie Madoff for nearly two decades was pretty simple. Madoff convinced clients that he could manage their wealth and net them reliable annual returns that were good but not miraculous. Once he had their money, he would deposit it in a bank account rather than invest it. And when a client asked to cash out, he simply withdrew their initial investment plus 15% or so. All the while, Madoff used his reputation as a respected Wall Street insider and sensible wealth manger to recruit new clients whose investments were passed off as profit.

• What's the difference between bribery and lobbying?

  Bribery involves an explicit agreement between two parties, usually individuals, that one will help the other circumvent standard processes or laws in exchange for some form of compensation (usually money). Lobbying, on the other hand, does not involve an explicit agreement or conditions; instead, lobbyists liaise with politicians to advocate for policies on behalf of their clients and donate to political campaigns to help industry-friendly leaders win increasingly expensive elections.

• What is the Dodd-Frank Act?

  The Dodd-Frank Wall Street Reform and Consumer Protection Act is a piece of legislation passed by Congress in 2010 in response to the 2008 financial crisis. The act created multiple new regulatory bodies, including the Consumer Financial Protection Bureau (CFPB) and the Financial Stability Oversight Committee. It also enacted the Volcker Rule, which limits the speculative investments that banks are allowed to make. Parts of Dodd-Frank were repealed by the Economic Growth, Regulatory Relief and Consumer Protection Act signed by President Donald Trump in 2018.

Key Terms

• Securities and Exchange Commission (SEC)

  The SEC is a federal regulatory agency responsible for protecting investors and enforcing the fair and orderly functioning of securities markets. The agency was formed by the Securities Exchange Act of 1934 to help restore investor confidence in public markets after the stock market crash of 1929.

• Money Laundering

  Money laundering is the process of making money gained by illegal activities appear to have come from a legitimate source. Money laundering is an essential part of the global drug trade and terrorist financing, which has compelled countries and financial institutions around the world to collaborate on anti-money laundering enforcement.

• Howey Test

  The Howey Test refers to a standard established by the Supreme Court to determine whether a transaction qualifies as an "investment contract," and thus should be regulated as a security. Under to the Howey Test, an investment contract exists if there is an "investment of money in a common enterprise with a reasonable expectation of profits to be derived from the efforts of others."

• Basel III

  Basel III is an international accord enacted to enhance the stability of the international banking system by setting standards around liquidity, leverage, and reserve capital. Basel III, preceded by Basel I and II, was agreed upon by a consortium of 28 central banks in 2009 as part of an ongoing effort to control risk within the global banking system.

• Truth in Lending Act

  The Truth in Lending Act is federal legislation enacted in 1968 that is meant to protect consumers in their dealings with creditors. The act requires lenders to clearly disclose the terms and cost of a loan so consumers understand their obligations and can compare offerings from different lenders.

• SEC Form 13F

  Form 13F is a disclosure that all institutional investors with more than $100 in assets under management are required to file quarterly. In it they report their equity holdings at the end of the quarter. It is sometimes considered an indicator of what the "smart money" is doing, but Form 13F has many shortcomings in this regard.

• Accredited Investor

  An accredited investor is a person or entity who is allowed to invest in securities that are not registered with the Securities and Exchange Commission (SEC). Accredited investors have access to private equity and venture capital firms, which invest in companies that are not listed on public exchanges. The company selling the non-registered security is expected to verify an individual meets the income and net worth requirements to be an accredited investor.

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