A Primer on Securities Insurance

By Welling, Brad G. | American Banker, June 26, 1991 | Go to article overview

A Primer on Securities Insurance


Welling, Brad G., American Banker


A Primer on Securities Insurance

Over the past year, a substantial amount of media attention has focused on the status of the Bank Insurance Fund and the financial condition of U.S. banks. This attention has shaken some customers' confidence in commercial banks.

As a result, some funds have been disintermediated from insured commercial banks - into investment vehicles offered by other financial-services industries. Often, these funds end up in brokerage accounts covered by the Securities Investor Protection Corp.

Bank managers should have a basic understanding of the SIPC and how it compares with the Federal Deposit Insurance Corp.

From 1968 through 1970, difficult financial problems beset the securities industry. These problems led to voluntary liquidations, mergers, and - in some cases - bankruptcies of a substantial number of brokerage houses.

Based on FDIC Model

To protect investors against losses caused by the insolvency of their broker dealers, Congress passed the Securities Investor Protection Act of 1970, which established SIPC. The need to protect securities investors was similar, in many respects, to the need that prompted establishment of the FDIC, years earlier.

This legislation had two aims. It required broker-dealers to establish a fund to protect their customers. It also sought to strengthen the financial responsibilities of broker-dealers.

Unlike the Federal Deposit Insurance Corp., the SIPC is neither a government agency nor a regulatory authority. It is a non-profit membership corporation funded by its member securities broker-dealers. These members are registered with the Securities and Exchange Commission, and their principal business is conducted within the United States.

Excluded from the SIPC are broker-dealers whose business consists exclusively of the distribution of shares of mutual funds, the sale of variable annuities, insurance, or rendering investment advisory services to one or more registered investment companies.

The SIPC has no authority to examine or supervise its broker-dealer members. This responsibility lies with the securities exchanges and the National Association of Securities Dealers Inc., or NASD.

Key Role for SEC

The Securities and Exchange Commission, however, has certain regulatory oversight of the SIPC. For example, the Securities Investor Protection Corp. must seek SEC approval for proposed changes of bylaws and rules. The SEC may also require SIPC to adopt, amend, or repeal any of its bylaws or rules.

The structure of SIPC is consistent with the self-regulatory format of supervision over broker-dealers envisioned in the Securities Exchange Act of 1934. The securities exchanges and NASD exercise authority over broker-dealers; they are overseen by the SEC.

The SIPC has seven members on its board of directors. Five directors are appointed by the President of the United States, with advice and consent of the Senate. Three of these five directors are representatives of the securities industry and two are from the general public.

One of the two remaining directors is a staff member appointed by the Secretary of the Treasury and the other by the Federal Reserve Board.

The FDIC's board of directors consists of five members, all appointed by the President with advice and consent of the Senate. Both the Comptroller of the Currency and the director of the Office of Thrift Supervision serve as directors. The three remaining directors are appointed from the general public.

How Customers Are Protected

The SIPC protects each member's customers up to an aggregate $500,000 for cash and securities. Claims for cash are limited to $100,000 per customer. "Security" is defined rather broadly to include notes, stocks, bonds, and certificates of deposits.

Money-market funds are also protected, when held by a broker-dealer in a customer's securities account. …

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