WHAT HAS CHANGED SINCE OUR LAST MEETING?

Stephen P. HarbeckPresident and CEO

SECURITIES INVESTOR PROTECTION CORPORATION

HOHHOT, CHINA2008

TWO NEW MATTERS MERIT DISCUSSION:

I.Disaster Recovery In China.

WE MET IN JANUARY OF THIS YEAR TO DISCUSS OVERALL CONCEPTS

II.Collapse of a Major Brokerage Firm in

the United States.

WE MET IN JANUARY OF THIS YEAR TO DISCUSS OVERALL CONCEPTS

Are there any lessons to be learned from the United States?

A small bit of history: The "Y2K" Problem.

Information technology experts warned that on January 1, 2000, many computers would fail to recognize the change from 1999 to 2000, and all data could be at risk.

I.DISASTER RECOVERY IN CHINA

I served on the "Supervisory Task Force on U.S. Broker-Dealers and the Year 2000. "

Each brokerage firm was required to upgrade computer systems to avoid the problem.

The major fear was that if even one firm had corrected the problem, corrupted data could be imported from other computer systems.

Every financial institution–banks, brokerage firms, mutual funds, insurance firms—made substantial upgrades at substantial costs.

New computer systems ran in parallel with old systems.

Tests were conducted.

Redundant backup systems were created, in remote locations.

We all waited for midnight, January 1, 2000, when. . . .

ABSOLUTELY NOTHING WENT WRONG.

SEPTEMBER 11, 2001 

THE ATTACK ON THE WORLD TRADE CENTER

IN NEW YORK

There was a horrible loss of life.

There was a profound effect on every aspect of American life.

The loss of life was particularly tragic in the financial services industry, because so many brokerage firms had headquarters offices in the Two Towers.

Forty brokerage firms had their main offices in The World Trade Center, and some of those firms lost all, or most, of their personnel.

But as the tragedy unfolded, one surprising fact developed: none of the brokerage firms failed financially.

Each firm had "off site" backup of computer records.

No customers were in need of protection under the Securities Investor Protection Act.

HOW CAN THIS BE TRUE?

By "over engineering" the solution to the "Y2K" problem, the brokerage firms in fact made it possible to reconstruct all customer records.

The Lesson: Sometimes the solution to a small problem is also the solution to a large problem.

After the attack, financial institutions again reviewed and strengthened record keeping and other procedures.

This review process is now a constant part of risk management today.

Turning to China: The Earthquake.

Events such as the 2008 earthquake require financial institutions and financial regulators to evaluate recovery policies and practices.

What things worked well?

What things need improvement?

What things were outmoded?

What would happen if such an event did extensive damage in a major financial center in China?

Are there other disaster situations to consider?

Pandemic flu

SIPC's "Practice" experience –

A three-week simulation of a major outbreak of illness.

SIPC took the event very seriously.

Individuals were forbidden to contact “sick” workers.

At the height of the exercise, more than half of the staff was “sick” and was forbidden to come to work.

At one point, for a small period, SIPC closed the office and all personnel worked from home.

SIPC discovered a need to cross-train personnel so that no critical activity was performed by only one person.

II.

COLLAPSE OF A MAJOR BROKERAGEFIRM IN THE UNITED STATES

 BEAR STEARNS, MARCH 2008

Sudden loss of confidence in Bear Stearns –

Two Hedge Funds sponsored by Bear Stearns failed.

Ratings services downgraded mortgage backed securities issued by a Bear Stearns affiliated entity.

Lenders refused to renew outstanding loans to Bear Stearns.

Bear Stearns was forced to pay higher prices to insure credit default swaps.

Counterparties refused to trade.

The value of Bear Stearns fell dramatically.

Complex products held by Bear Stearns were difficult to value.

Each of the foregoing events caused a “downward spiral” in counterparty confidence- other corporations refused to do business with Bear Stearns under any circumstances.

The corporate structure involved two SIPC member brokerage firms. Bear Stearns as principal: proprietary trading Bear Stearns as agent for customers

The separation of the "customer" business was fortunate.

Bear Stearns was purchased by J.P. Morgan Chase, but only after the United States Federal Reserve Bank guaranteed many of Bear Stearns’ obligations.

In other words, the federal government intervened to prevent a collapse which might have spread to other firms.

This was unprecedented.

Has the United States government taken a “pro-active” stance which is similar to many positions taken by China?

Yes, and No.

SECURITIES INVESTOR PROTECTION CORPORATON805 15th ST, NW

Suite 800Washington, DC 20005

(202) 371-8300www.sipc.org