SEC's New Gag Rule Just Might Backfire

Tuesday, October 24, 2000
by Marc J. Lane

Posted online at on October 24, 2000.

A new Securities and Exchange Commission rule bans senior officials of public companies from disclosing "material information" to financial analysts and big investors before making it public. And "material information" includes nearly anything an investor might want to know before buying or selling a security.

Regulation FD (for "fair disclosure"), which takes effect Oct. 23, is a major victory for SEC Chairman Arthur Levitt Jr., who has been unrelenting in his criticism of the too-close-for-comfort relationship between corporate decision-makers and their favorite Wall Street analysts. He is especially concerned about private communications guiding company earnings estimates higher or lower.

Mr. Levitt's heart is in the right place. The little guy would surely pay the price if a company's stock soars or plummets because institutional investors buy or sell after company officials get the word out to hand-picked analysts.

No longer will the law permit institutions and analysts to be privy to important company information before small investors are. When significant news is divulged to friendly analysts or large stockholders, the company must reveal the same information to the public at the same time through an Internet posting, an SEC filing or a press release. And, if anything sensitive inadvertently slips out to an analyst or a reporter, the company has 24 hours to tell the whole truth to the world or suffer the SEC's wrath.

Bringing all investors into the information loop is clearly the right thing to do. And 6,000 letters of support for the new rule demonstrate its popularity among consumer groups and others.

But Regulation FD is controversial, and for a good reason. Companies and their lawyers aren't at all comfortable that officials can accurately judge what is "material" and what isn't. Guessing wrong in an innocent, off-the-cuff conversation with a reporter or a shareholder might risk fines, sanctions and lawsuits.

So lawyers are already counseling their clients not to whisper anymore, but not to speak out loud, either. Companies are likely to scale back on meaningful conversations with analysts and others concerned about stock prices. And one day soon, good, tough research may be hard to find.

As candor and insight become less available to investors, they may hit the buy or sell button quicker than they should. Knee-jerk reactions to company events may move stock prices erratically and may unnecessarily inflict pain on the most vulnerable of investors.

Fairness demands that no special class of investors be granted private audiences with corporate movers and shakers. But the new rule might have an unintended chilling effect on corporate communications. And there is no reason to believe that selective disclosures are much of a problem anyway: The evidence of tip-offs is scant, and almost every public company has voluntarily opened its conference calls to all investors.

The SEC shouldn't view its fair-disclosure mission as having been accomplished just yet. If by gagging execs, Regulation FD creates an information blackout that actually hurts small investors, let's hope the agency will remain true to its principles and rethink its approach.

Marc J. Lane ( is a Chicago lawyer and financial planner and an adjunct professor of law at Northwestern University School of Law.

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Copyright © 2000 by Crain Communications Inc.

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