[Senate Hearing 106-137]
[From the U.S. Government Printing Office]


                                                        S. Hrg. 106-137


 
                    SECURITIES FRAUD ON THE INTERNET

=======================================================================


                                HEARINGS

                               before the

                               PERMANENT
                     SUBCOMMITTEE ON INVESTIGATIONS

                                 of the

                              COMMITTEE ON
                          GOVERNMENTAL AFFAIRS
                          UNITED STATES SENATE

                       ONE HUNDRED SIXTH CONGRESS

                             FIRST SESSION



                               __________

                         MARCH 22 AND 23, 1999

                               __________

      Printed for the use of the Committee on Governmental Affairs


                                


                      U.S. GOVERNMENT PRINTING OFFICE
 57-616cc                    WASHINGTON : 1999
_______________________________________________________________________
For sale by the Superintendent of Documents, Congressional Sales Office
         U.S. Government Printing Office, Washington, DC 20402



                   COMMITTEE ON GOVERNMENTAL AFFAIRS

                   FRED THOMPSON, Tennessee, Chairman
WILLIAM V. ROTH, Jr., Delaware       JOSEPH I. LIEBERMAN, Connecticut
TED STEVENS, Alaska                  CARL LEVIN, Michigan
SUSAN M. COLLINS, Maine              DANIEL K. AKAKA, Hawaii
GEORGE V. VOINOVICH, Ohio            RICHARD J. DURBIN, Illinois
PETE V. DOMENICI, New Mexico         ROBERT G. TORRICELLI, New Jersey
THAD COCHRAN, Mississippi            MAX CLELAND, Georgia
ARLEN SPECTER, Pennsylvania          JOHN EDWARDS, North Carolina
JUDD GREGG, New Hampshire
             Hannah S. Sistare, Staff Director and Counsel
      Joyce A. Rechtschaffen, Minority Staff Director and Counsel
                  Darla D. Cassell, Administrive Clerk

                                 ------                                

                PERMANENT SUBCOMMITTEE ON INVESTIGATIONS

                   SUSAN M. COLLINS, Maine, Chairman
WILLIAM V. ROTH, Jr., Delaware       CARL LEVIN, Michigan
TED STEVENS, Alaska                  DANIEL K. AKAKA, Hawaii
GEORGE V. VOINOVICH, Ohio            RICHARD J. DURBIN, Illinois
PETE V. DOMENICI, New Mexico         MAX CLELAND, Georgia
THAD COCHRAN, Mississippi            JOHN EDWARDS, North Carolina
ARLEN SPECTER, Pennsylvania
           Timothy J. Shea, Chief Counsel and Staff Director
      Linda J. Gustitus, Minority Chief Counsel and Staff Director
                     Mary D. Robertson, Chief Clerk



                            C O N T E N T S

                                 ------                                
Opening statements:
                                                                   Page
    Senator Collins.............................................. 1, 43
    Senator Levin................................................     3
    Senator Edwards..............................................    17

                               WITNESSES
                         Monday, March 22, 1999

Galen O'Kane, Ellsworth, Maine...................................     6
Kristin Morris, Berryville, Virginia.............................     8
Tom Gardner, Head Fool, The Motley Fool, Alexandria, Virginia....    20
Howard M. Friedman, Professor of Law, The University of Toledo, 
  Toledo, Ohio...................................................    22
Richard J. Hillman, Associate Director, Financial Institutions 
  and Markets Issues, General Government Division, U.S. General 
  Accounting Office, Washington, DC..............................    24

                        Tuesday, March 23, 1999

Richard H. Walker, Director, Division of Enforcement, U.S. 
  Securities and Exchange Commission, Washington, DC, accompanied 
  by John R. Stark Chief, Office of Internet Enforcement, 
  Division of Enforcement, SEC...................................    45
Peter C. Hildreth, President, North American Securities 
  Administrators Association, Inc., Washington, DC...............    49
G. Philip Ruthledge, Deputy Chief Counsel, Pennsylvania 
  Securities Commission, Harrisburg, Pennsylvania................    51

                     Alphabetical List of Witnesses

Friedman, Howard M.:
    Testimony....................................................    22
    Prepared statement...........................................    92
Gardner, Tom:
    Testimony....................................................    20
    Prepared statement...........................................    79
Hildreth, Peter C.:
    Testimony....................................................    49
    Prepared statement...........................................   179
Hillman, Richard J.:
    Testimony....................................................    24
    Prepared statement...........................................   102
Morris, Kristin:
    Testimony....................................................     8
    Prepared statement...........................................    76
O'Kane, Galen:
    Testimony....................................................     6
    Prepared statement...........................................    73
Rutledge, G. Philip:
    Testimony....................................................    51
    Prepared statement...........................................   219
Walker, Richard H.:
    Testimony....................................................    45
    Prepared statement...........................................   139

                                Exhibits

 1. Memoranda prepared by Elliot S. Berke, Counsel, Smokey 
  Everett and Wesley Phillips, Investigators, Permanent 
  Subcommittee on Investigations, dated March 16, 1999, to 
  Permanent Subcommittee on Investigations' Membership Liaisons 
  regarding ``Securities Fraud On The Internet''.................   265
 2. PowerPoint presentation by Richard H. Walker, Director, 
  Division of Enforcement, U.S. Securities and Exchange 
  Commission presented March 23, 1999............................   318

 3. PowerPoint presentation by G. Philip Rutledge, Deputy Chief 
  Counsel, Pennsylvania Securities Commission presented March 23, 
  1999...........................................................   323

 4. ``The Scary Rise of Internet Stock Scans'' by Katrina 
  Brooker, Fortune, October 26, 1998.............................   331

 5. ``Cybercop'' by P.B. Gray, MONEY.COM, Fall 1998.............   336

 6. For These Day Traders, Stock Market Is One Big Casino'' by 
  Ianthe Jeanne Dugan, Washington Post, February 25, 1999........   339

 7. CPA Web Trust Fact Sheet prepared by the American Institute 
  of Certified Public Accountants................................   343

 8. Cyberspace Fraud And The Small Investor, pamphlet prepared 
  by the North American Securities Administrators Association, 
  Inc............................................................   347



                    SECURITIES FRAUD ON THE INTERNET

                              ----------                              


                         MONDAY, MARCH 22, 1999

                                       U.S. Senate,
                Permanent Subcommittee on Investigations,  
                  of the Committee on Governmental Affairs,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 1:31 p.m., in 
room SD-342, Dirksen Senate Office Building, Hon. Susan 
Collins, Chairman of the Subcommittee, presiding.
    Present: Senators Collins, Levin, and Edwards.
    Staff Present: Timothy J. Shea, Chief Counsel/Staff 
Director; Mary D. Robertson, Chief Clerk; Lee Blalack, Deputy 
Chief Counsel; Elliot Berke, Counsel; Kirk E. Walder, 
Investigator; Smokey Everett, Detailee/Secret Service; Wesley 
Phillips, Detailee/GAO; Linda Gustitus, Minority Chief Counsel; 
Bob Roach, Counsel to the Minority; Butch Burke (Senator 
Stevens); Michael Loesch (Senator Cochran); Felicia Knight 
(Senator Collins); Seema Singh (Senator Specter); Judy White 
(Senator Cochran); John Elliot (Senator Specter); Julie Vincent 
(Senator Voinovich); Nanci Langley (Senator Akaka); Maureen 
Mahon (Senator Edwards); and Peter Ludgin (Senator Lieberman).

              OPENING STATEMENT OF SENATOR COLLINS

    Senator Collins. Good afternoon. The Subcommittee will 
please come to order.
    Today, the Permanent Subcommittee on Investigations begins 
hearings concerning securities fraud on the Internet. The 
investigation that led to these hearings is the logical union 
of two earlier inquiries conducted by this Subcommittee.
    In September 1997, this Subcommittee held hearings on fraud 
in the micro-capital markets, which explored market 
manipulation, such as ``pump and dump'' schemes, intended to 
bilk unwitting investors out of their hard-earned money. Then, 
in February of last year, the Subcommittee held hearings which 
examined various Internet scams and detailed the numerous ways 
in which consumers have been swindled by con artists using 
computers.
    As more and more investors turn to the Internet as a 
resource for obtaining financial information, not to mention 
actual on-line trading, it made sense for the Subcommittee to 
explore the connection, if any, between securities fraud and 
the Internet. What we have found is that swindlers have 
embraced the new technologies of the Internet in order to prey 
on Web-surfing investors. In fact, securities frauds have moved 
from the boiler rooms of yesterday to the Internet chat rooms 
of today.
    Over the next 2 days, we will hear testimony from victims 
of Internet securities fraud, from Federal and State 
regulators, the General Accounting Office, the founder of a 
popular on-line financial forum, and the author of the book 
``Securities Regulation in Cyberspace.'' Their testimony will 
examine the types of fraud perpetrated in cyberspace. They will 
also discuss what it is about this new medium, the Internet, 
that dramatically accelerates the commission of fraud and how 
perpetrators of fraudulent schemes infiltrate on-line bulletin 
boards, chat rooms, and newsletters, as well as using mass E-
mails to seek out unwary investors.
    I want to emphasize that we are not holding these hearings 
as a means of killing the messenger, so to speak. The Internet 
has proven to be a remarkably beneficial and revolutionary 
technology. It offers consumers substantially greater access to 
financial information and investment opportunities previously 
available only to industry professionals. Moreover, the 
securities industry has experienced notable growth due to the 
surge in on-line activity.
    The Web, the Internet's interactive multi-media side, 
provides an inexpensive and convenient method for placing buy 
and sell orders, obtaining market information, discovering 
investment opportunities, and reviewing personal stock 
portfolios. Unlike traditional information providers, the Web 
does not close down at the end of the business or trading day. 
Recent studies suggest that nearly one-third of the 30 million 
American households now on-line use the Web for researching or 
investing in securities. In addition, studies report that some 
3 million people now have on-line trading accounts, a number 
which is anticipated to reach 14 million people by the year 
2001. Let me repeat, generally, this is good news. It is good 
for investors, it is good for the securities industry, and it 
is good for our economy as a whole.
    That said, however, I am concerned that the Internet 
appears to be providing cybercrooks with equally profound 
avenues for committing financial fraud. Indeed, as USA Today 
recently reported, ``1998 stood out not so much for the nature 
of the investment frauds as for the way that they were 
delivered, the Internet.'' The Internet often gives some 
consumers a false sense of security, credibility, and control 
regarding their investments. Some people, unfortunately, seem 
to believe that if they see something on the Internet, it must 
be true. Technology, in some cases, is mistaken for truth.
    Micro-cap and penny stocks have become attractive vehicles 
for Internet-based scams because of their low prices and their 
``get rich quick'' appeal. One SEC official has compared 
investments in micro-cap stocks to gambling. Yet, while 
investors might not be willing to gamble with their life 
savings at a Las Vegas casino, too many appear willing to place 
their family's nest egg in the hands of an on-line con artist 
illegally touting a penny stock that is ``sure to become the 
next Microsoft or America on-line.''
    It is my hope that these hearings will demonstrate to what 
degree the Internet has changed the nature and the extent of 
securities fraud. We will also discuss the best way for 
consumers to protect themselves against these on-line scams and 
determine whether or not adequate consumer education programs 
are in place. Finally, we will explore whether Federal and 
State law enforcement efforts to combat securities fraud on the 
Internet have been effective.
    I would note as part of our consumer education effort 
today, these hearings are being broadcast live on the Internet 
today and tomorrow on the Governmental Affairs Committee's home 
page.
    It is now my pleasure to recognize my distinguished 
colleague and friend, Senator Levin, for any opening remarks 
that he might have.

               OPENING STATEMENT OF SENATOR LEVIN

    Senator Levin. Madam Chairman, thank you and thank you for 
calling these very significant hearings.
    The growth of the Internet as a medium for communication 
and commerce is revolutionizing the way that business is 
conducted in this country and the securities industry is no 
different. Today, an investor with a computer and an Internet 
connection has immediate access to vast amounts of information, 
such as company earnings, stock performance, industry trends, 
Securities and Exchange Commission filings, and up-to-the-
minute market information. As Madam Chairman said, some 
opportunities that were previously reserved for professionals 
are now available to the average investor. That is a positive 
consequence of the Internet.
    But along with its unprecedented volume of information and 
access for the average investor come concerns and problems 
related to fraud and market stability. The Internet is a 
target-rich environment for old-style frauds and for new scams. 
As a spokesman for the State securities regulators said, ``If 
you are a con artist and you are not on the Internet, you 
should be sued for malpractice.''
    Using scams that have been committed through the mail and 
over the phone have existed for many years, scams such as 
``pump and dump'' with con artists using those scams, and they 
found in the Internet a cheaper and easier way to access 
millions of potential targets in a very short time. It costs 
only about $100 to send bulk E-mail, known as spam, to one 
million people. Messages can be sent in ways that disguise or 
hide the identity of the sender. Unscrupulous individuals can 
easily operate across international borders, from places where 
it is more difficult for enforcement officials to reach them 
and shut them down. Con artists can cheaply design fancy Web 
sites and even illegally copy authentic sites to add an air of 
legitimacy to their schemes.
    Holding the line against fraud in a medium like this is a 
difficult job. Programs to combat these frauds are just getting 
underway, and as we will hear today from the General Accounting 
Office, enforcement agencies face a number of obstacles that 
could limit their long-term effectiveness in this area. 
Policing a whole new medium will put more demands on agencies 
that are already short-staffed. As con artists exploit the 
Internet to commit international crimes, apprehension and 
prosecution will become even more difficult and time consuming.
    We need to learn whether there are additional authorities 
or new strategies that might enhance enforcement efforts, such 
as increased penalties or criminal prosecutions of 
perpetrators, expanded authority to bar chronic offenders from 
all sectors of the industry, or improved technology that would 
allow more comprehensive monitoring programs.
    At the same time we have to address the use of the Internet 
for securities fraud, we also have to face the daunting 
challenges the Internet is creating with the use of on-line 
trading and day trading. With instant access to information 
about price fluctuations and instant access to the trading 
floor through the Internet for all Americans with a computer 
and a phone line, we face the real possibility that our stock 
exchanges will become more like Las Vegas and less like Wall 
Street. The term ``blue chip stock'' will have an ironic 
meaning, as many stocks will become chips in a poker-like 
trading world, where long-term investment and company 
development will be concepts relegated to history and minute-
by-minute price changes in a virtual stock gambling casino will 
move the market.
    There is a growing concern about the U.S. stock market as a 
whole, where more and more dollars are chasing a limited number 
of shares, where the price-to-earning ratios of stocks have 
risen dramatically, where the number of shares traded on a 
daily basis has grown exponentially over the last few decades, 
and where the bulk of the public's retirement accounts reside.
    A certain degree of market volatility is expected, of 
course, but with the changes that are sweeping over the stock 
markets today, a significant part of which is the result of the 
Internet, our regulators need to move swiftly to anticipate the 
twists and turns that these new elements create, and on-line 
trading and day trading are two practices which I believe need 
particular attention and where we are just starting to see the 
problems on the horizon.
    It is estimated that 7.5 million investors have on-line 
accounts today, and the number may grow to 18 million by 2002. 
The ease and lower price of on-line trading can bring more 
people into the market who have little or no experience and a 
misunderstanding of the risks involved.
    But it is day trading, making dozens, perhaps hundreds of 
trades in 1 day, sometimes with the same stock, hoping to make 
profits by capturing small increases in stock prices, that 
raises even more troublesome issues. There are now about 40 day 
trading firms, with a total of 70 offices around the country, 
and they now account for 12 to 15 percent of the daily volume 
of the NASDAQ market. As this sector has grown, so have 
concerns about its impact on market volatility. Day traders do 
not buy and sell on the basis of value or growth potential of a 
stock. They are betting on momentum, rumor, and anything else 
that might enable them to capture a small rise in the price of 
a stock. Then they can dump it and start all over again. They 
are turning the most trusted market in the world into a virtual 
gambling casino.
    If anyone thinks that this is an overstatement, I refer 
them to a recent article in the Washington Post that profiles a 
casino gambler who has opened a chain of day trading firms.\1\ 
One of the traders at that firm put the practice of day trading 
this way: ``Wall Street is not about investments any more, it 
is about big numbers. Who cares whether it is a car company or 
a chemical company? Who cares what they are going to be doing 
in the year 2000?''
---------------------------------------------------------------------------
    \1\ See Exhibit No. 6 in the Appendix on page 339.
---------------------------------------------------------------------------
    Well, I do, and investors do. I know our Chairman does, 
because she has been taking the lead in a very large number of 
areas that involve consumer protection. The people who have 
their retirement savings in the stock market of those companies 
surely do, and the future health of our economy does. We have 
to be paying attention to this new and growing phenomenon so we 
do not wake up one morning and sift through the debris of a 
broken economy and ask, what happened?
    Madam Chairman, again, I thank you for your important work 
in this area and so many other areas of consumer protection and 
I look forward to today's witnesses.
    Senator Collins. Thank you very much, Senator.
    I want to welcome the students who have joined us in the 
back of the room. I have a feeling that as on-line trading 
becomes more and more popular, that your generation will use it 
even more often than mine and I hope that you will learn today 
from the testimony you hear of some of the pitfalls if you are 
investing on-line or if your parents are investing on-line to 
help you save for your college education. So I hope today will 
be educational for you, as well.
    I want to welcome our first panel of witnesses this 
afternoon. They are two on-line investors who, unfortunately, 
fell victim to sophisticated Internet securities fraud scams. I 
would note that both of them are very bright individuals. They 
are well educated. Each of them had considerable experience 
using the Internet, and I think that their experience 
demonstrates that even those with experience, those who are not 
first-time investors, for example, can be preyed upon by con 
artists using the Internet.
    I want to thank them. I thanked them personally, but I want 
to thank them publicly for their willingness to come forward 
and share their experience. I know it is very difficult when 
you have been the victim of a scam to come forward publicly and 
share your story, but by doing so today you will help so many 
others avoid being ripped off as you were. So I thank you for 
your courage in coming forward and sharing your experience.
    Our first witness is going to be Galen O'Kane. He is a 
constituent of mine from Ellsworth, Maine, where he lives with 
his wife and two sons. He is an electrical engineer by 
training.
    Our second witness will be Mrs. Kristin Morris. She works 
for a computer company from her home in Berryville, Virginia, 
where she resides with her husband and daughter. I would note 
that as part of her work, working at home, she uses the 
Internet every day to do her job. So both of our witnesses are 
experienced in using the Internet.
    Pursuant to the Subcommittee's Rule 6, all witnesses who 
testify are required to be sworn in, so I would ask that you 
just rise and raise your right hand. Do you swear that the 
testimony you are about to give to the Subcommittee will be the 
truth, the whole truth, and nothing but the truth, so help you, 
God?
    Mrs. Morris. Yes.
    Mr. O'Kane. I do.
    Senator Collins. Thank you. Again, I very much appreciate 
your willingness to be here today. Your written testimony will 
be made part of the official hearing record. We are going to 
ask that you limit your oral presentation to no more than 10 
minutes each. The lights that are in front of you will help 
give you guidance as to when your time is expiring. When you 
have 2 minutes left, the yellow light will go on and that will 
give you some indication that it is time to wrap up your 
remarks.
    We are going to start with you, Mr. O'Kane.

         TESTIMONY OF GALEN O'KANE,\1\ ELLSWORTH, MAINE

    Mr. O'Kane. Madam Chairman and Members of the Subcommittee, 
thank you for inviting me to testify before you today. My name 
is Galen O'Kane and I am pleased to be here to testify about my 
recent experiences concerning a shell company portrayed as an 
up-and-coming technology of the future.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. O'Kane appears in the Appendix on 
page 73.
---------------------------------------------------------------------------
    I am 38 years old and presently employed by Able Custom 
Yacht in Trenton, Maine. I graduated from the University of 
Maine with a degree in electrical engineering. My wife is also 
a University of Maine graduate, with a degree in mechanical 
engineering. We moved to Boston, Massachusetts, after I could 
not find an engineering job close to home.
    My interest in investing in stocks began while I was 
working in Boston. I worked with a lot of older people that 
were getting ready for retirement and listened as they talked 
about their investments. Taking a commuter rail to work each 
day, I developed a habit of being the last one off the train so 
that I could gather up discarded newspapers like the Wall 
Street Journal, Investors Daily, and occasionally, a Barrons.
    Sometime in 1989, I tied into Prodigy, which is an on-line 
service for E-mail access and news updates. I soon discovered 
that I could track a list of stocks. Once I became comfortable 
with my knowledge of the market and after obtaining my wife's 
approval, I began to invest approximately ten percent of my 
income in stocks. I did most of my investing through the local 
Quick and Reilly office and was doing OK. Most of the stocks 
that I invested in were blue chip or well-known companies.
    With the addition of our two sons, my wife and I decided 
that the country would be a far better place to raise a family. 
We knew what living in a small Maine community was like, the 
``Mayberry of Andy Griffith'' life, and missed it dearly. So we 
moved to Maine, because that is the way life should be. In 
1993, my son was diagnosed with dermatomyositis, a rare form of 
muscular dystrophy. I began to focus all my energy and 
resources into fighting and managing this terrible disease. By 
1995, I could not keep a job because of all the medical 
attention my son required.
    In 1997, we got on the Web to gain medical information 
about my son's illness and this got me more involved with 
stocks again on a day-to-day basis. I was buying and selling 
stocks more and sometimes on-line. I did this in an attempt to 
offset my son's medical expenses. I continued to use my 
discount broker, Quick and Reilly, which had been my broker 
from the beginning.
    One day, while using Yahoo! Finance, I saw an advertisement 
for an Internet newsletter, ``The Future Superstock,'' which 
was operated by an individual named Jeffrey Bruss. The site 
promoted a company called Electro-Optical, which developed and 
produced low-cost, high-quality fingerprint identification 
devices small enough to be placed on a computer mouse. ``The 
Future Superstock'' promoted Electro-Optical as its stock pick 
of the month, and a few weeks later as its stock pick of the 
year.
    I was impressed with the engineering and low unit cost of 
Electro-Optical's technology and envisioned the product being 
used as a security device on everything from ATMs to door locks 
to computer mouses. I invested approximately $5,400 in Electro-
Optical, purchasing 900 shares through my Quick and Reilly on-
line account at slightly less than $6 a share.
    Based on the stock's performance, I felt it was behaving 
normally for market conditions. In January 1998, I spotted a 
press release about Electro-Optical on Yahoo! announcing a huge 
purchase order. After reading the press release, I became 
convinced that Electro-Optical and its product had tremendous 
growth potential. I immediately purchased 3,000 more shares at 
approximately $6 per share. By this time, I had put in over 
$23,000 in the company.
    An article which ran in the Bangor Daily News in January 
1998 entitled, ``Computers to Send Fingerprints: New Technology 
Will Cut Identification Time for Maine Police,'' further 
validated my belief in Electro-Optical's product and the 
incredible possibilities it offered.
    In February 1998, while surfing the Internet, I came across 
a Barrow Street Research press release that discussed Electro-
Optical. In the fine print, Barrow Street disclosed that it had 
been paid to promote the Electro-Optical stock. I had never 
noticed such a disclaimer on any of the prior press releases or 
Web sites that I had used to make my investment decisions.
    In March 1998, I had to take my son, James, to the New 
England Medical Center in Boston for treatment. Before 
returning to Maine, I decided that I should stop by Electro-
Optical's office, which was located just outside of Boston. I 
was surprised when I was blocked from entering the building by 
the one employee that I saw. I looked into the building and was 
shocked to find that the building was completely empty. I 
expected to see an assembly line, equipment, employees, but 
there was nothing. I felt that Electro-Optical had completely 
misrepresented the nature of its apparently nonexistent 
operation. I immediately sold 1,900 of my shares for $1.10 per 
share. Presently, my total loss is over $20,000.
    This experience reminds me of the old saying, if it is too 
good to be true, then it probably is. If one is looking to 
invest in a risky start-up stock, then he or she should go 
visit the company first. The other advice that I would offer is 
to acquire advice from a reputable stock advisor. Many bulletin 
boards on the Web are full of information from sources that are 
not looking out for your best interests. I listened to a 
newsletter that appeared to be professional to me because they 
had a Web site, published a letter on a regular basis, had Web 
links to the stocks that they recommended, had other firms' 
recommendations, which I never heard of, like Barrow Street 
Research, and appeared to know what they were talking about. 
Being an engineer, knowing a little bit about the technology, 
and feeling that Electro-Optical had a viable product with 
countless uses intrigued me.
    This was my first attempt at investing in a stock promoted 
on the Internet and it will be my last. I have continued to 
invest on-line, but I now turn to an investment advisor for 
advice on all of my investments. The Internet provided my 
family with invaluable information regarding my son's 
condition, and today he is much better because of it. However, 
I also discovered the darker side of the Internet. Even after 
this experience, I still believe that the Internet does far 
more good than bad.
    That concludes my oral testimony. Thank you again for 
allowing me to come here today to tell my story. Hopefully, it 
will help prevent others from falling into the same situation.
    Senator Collins. Thank you very much, Mr. O'Kane.
    Mrs. Morris.

      TESTIMONY OF KRISTIN MORRIS,\1\ BERRYVILLE, VIRGINIA

    Mrs. Morris. Madam Chairman, Members of the Subcommittee, 
good afternoon to you all. I would like to thank you for 
allowing me the opportunity to share my experience with you 
this afternoon.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mrs. Morris appears in the Appendix 
on page 76.
---------------------------------------------------------------------------
    My name is Kristin Morris. I am a 34-year-old Washington, 
DC native. I have been married for almost 4 years and had my 
first child in October 1998. I am and have been an employee for 
7 years with a small business, Advanced Computing Solutions, 
and we are resellers to the Federal Government, selling 
computer parts, components, and systems.
    I have always felt that I am very knowledgeable about 
computers and the Internet. At the time of my original purchase 
of stock on the Internet, I felt very comfortable with the 
process. I first came upon Interactive Products and Services 
sometime in April 1997. At the time, I was losing money in the 
utility stock which I had owned for several years prior and 
thought I needed to get out of that investment and try to be a 
little bit less conservative with my money.
    While surfing the Internet, I located a Web page through 
the ``Webcrawler'' search engine that maintained a list of 
different initial public offerings being offered over the 
Internet. I was attracted to IPS because of its products and 
its claims.
    What enticed me were several main items. One, the products 
being offered by IPS made sense to me. These products were an 
Internet telephone and a hand-held keyboard/mouse that would 
work with Web TV and other like products.
    I agreed with the owner of IPS, Mr. Bowin, and his 
suggestion that many people will purchase products like Web TV 
because of its cost. Computers are extremely expensive and are 
often more than the average person needs. Mr. Bowin went into 
this subject in detail. He discussed within the prospectus that 
many service-oriented and blue-collar workers would be more 
likely to purchase Internet television products before 
investing in costly computers because of the cost savings to 
them.
    Third, Mr. Bowin included a link within his Web site 
containing an IPS press release announcing that they were in 
the process of working directly with companies such as 
Microsoft, Sun, Apple, and to integrate his IPS products to 
work with their software and their Internet TV hardware. These 
press releases stated that a deal was imminent and that he 
expected the stock to be worth somewhere around $500 per share 
within the next 5 years. Of course, I saw this and I figured I 
could not go wrong. I thought I was getting in on the ground 
floor of something big.
    Last, Mr. Bowin also included links within his Web site 
prospectus of camera-ready color photographs of the actual 
products themselves. These pictures were very impressive in 
their design. The prospectus gave detailed instructions on the 
products and how to use them. He even went on to claim in his 
description of the keyboard that the design was so innovative 
and so easy to use that it would change the way we type in the 
future.
    Though the Web site looked very impressive, I did not rush 
immediately to buy the stock. Instead, I printed out the 
prospectus and had my husband read it over. We later agreed to 
sell my utility stock and invest $1,000 in IPS. The minimum 
purchase of the stock was $250. We knew, of course, we could 
lose this money if IPS did not succeed, but I never dreamed it 
was an elaborate scam and my money would be stolen.
    Because the initial offering deadline was 2 weeks away when 
I first came across it, I only took two steps to verify the 
company. I called the long distance operator and asked for the 
telephone number of the address listed on the prospectus. I 
wanted to see if the number given to me by the operator matched 
the number in the IPS prospectus. This telephone number did 
match, so I then called the number and Mr. Bowin answered the 
call.
    I asked several direct questions about IPS and its stock 
offerings. I asked Mr. Bowin how close he was to meeting his 
financial goals. He said he was close but he might need to file 
for an extension and told me this information was in the 
prospectus. I asked how the talks were going with Microsoft, 
Sun, AND Apple. He informed me things looked very good, but, of 
course, nothing was signed as of yet and anything could happen. 
Last, he said he had filed for a U.S. patent on the keyboard 
and the telephone product and this patent would be secured 
shortly. This information was also within the prospectus.
    Satisfied with these answers, I proceeded to fill out the 
application form and wrote my check for $1,000 payable to 
Interactive Products and Services. I sent the form and my check 
by certified mail. In a little over a week, I received my 
certified mail receipt with Mr. Bowin's signature. Actually, I 
remember feeling a little bit odd about that. Since my past 
experience working in the corporate world, I found it strange 
that someone so high up like a president or a CEO would 
personally sign for mail. But after my initial suspicion had 
passed, I decided it was no big deal.
    A couple of months passed and the initial offering was 
over, but I still had not heard from IPS or received my stock 
certificates. I called the IPS offices and once again reached 
Mr. Bowin personally. I inquired as to when these certificates 
would be mailed. He informed me that the offering had been 
extended through July 1997. He told me to make a duplicate copy 
of my application and resend it. My stock purchase would be 
verified. I did as he requested.
    After this last telephone conversation with Mr. Bowin, I 
would never again be able to reach him and no one from his 
office would return my messages. After several months, I gave 
up. I knew I had been scammed. Out of sheer embarrassment, I 
never spoke of my experience to anyone. I wrote the money and 
experience off as a lesson learned the hard way.
    Then, after many months had passed, I received a letter 
from the California State District Attorney informing me that 
Mr. Bowin had been arrested for fraud and I had been identified 
as one of his victims. I received another letter in December 
1998 from the District Attorney stating that Mr. Bowin had been 
sentenced to 10 years in a California State prison and the case 
was concluded.
    My advice to anyone looking to purchase the stock over the 
Internet is just do not. It is not worth the risk. An average 
investor like myself has no way to verify whether the stocks 
they are interested in are fraudulent or not. Until there is a 
solid, verifiable way to confirm the legitimacy of a stock, I 
just say, do not do it.
    Today, I get an average of two E-mails a week offering 
stocks and ``get rich quick'' schemes. Many of these E-mails 
arrive without a return E-mail address, so even if I wanted to, 
I could not report them. These E-mails usually direct the 
recipient to a Web site announcing a stock purchase plan, and 
like the IPS Web site, many are extremely sophisticated and 
professional. I believe most of these stocks appeal to the 
small investor because they stress knocking out the stockbroker 
commissions and they play on past successes of Internet stocks. 
Anyone who even remotely follows the stock market knows the 
incredible gains these types of stocks have made in the recent 
past.
    I consider Internet Web pages to be a much more 
sophisticated approach to fraud than the overzealous 
stockbroker who calls you at your home or your office. Whereas 
you can always hang up on the stockbroker, a Web page can be as 
professional and legitimate as any legitimate prospectus out 
there. These Web sites can even fool the most experienced of 
consumers.
    I have no way to recover my money in which Mr. Bowin stole 
from me, but I would like to close by offering my opinion, 
better yet, my advice, which might help the average small 
investor like myself. I suggest that the SEC provide an 
authorized banner to any legitimate stock offering to post on 
their Web page. This banner could provide a central telephone 
number the consumer can call to verify an offering by either 
the stock name or by its registration number. One quick phone 
call to an SEC operator to check the name or the registration 
number and the consumer would immediately know if this was a 
legitimate security. I also believe this would inhibit any 
potential criminal activity, due to the fact that their stock 
would, of course, not be registered within the SEC. If I had 
been given this option, I know I would not be sitting in front 
of you today.
    Again, thank you very much for allowing me to tell my 
story. I hope in some way your Subcommittee will find it 
useful. I appreciate what you are trying to do and I know it is 
a very difficult job you have ahead of you. Thank you.
    Senator Collins. Thank you very much, Mrs. Morris.
    I just want to get a few more of the facts of your two 
experiences before the Subcommittee.
    Mr. O'Kane, how long had you been investing prior to 
stumbling upon the scam in which you lost your money?
    Mr. O'Kane. I had been investing for about 10 years. I 
would consider myself a seasoned investor and I felt I 
understood the market at the time that I bought it.
    Senator Collins. Mrs. Morris, how about you? How long had 
you been investing?
    Mrs. Morris. About 5 years, mutual funds, IRAs, things like 
that.
    Senator Collins. So neither of you were first-time, brand 
new at this. Each of you had considerable investment 
experience, which I think is an important point.
    The other common thread that I noticed in listening to both 
of you tell your stories is that each of you were attracted to 
products that you thought you knew something about, and that 
is, of course, common investment advice that we are all given 
by the professional, is to invest in something that you 
understand.
    Mr. O'Kane, how important was it to you that the 
engineering of the product that this company supposedly was 
producing made sense to you? Did that influence your decision, 
that being an engineer, you were able to bring your own 
expertise and it made sense to you?
    Mr. O'Kane. It did affect the decision quite a bit. The 
write-up that they gave was, as far as the technology goes, 
realistic to me. I felt that they had a viable product because 
of my background, and yes, I think it did make a--carry a heavy 
part.
    Senator Collins. And Mrs. Morris, I noticed in your case it 
was something related to computer products, and again, that is 
the industry that you are in.
    Mrs. Morris. Right.
    Senator Collins. Was that part of your comfort level, that 
it made sense to you?
    Mrs. Morris. Yes, because when people come in--I sell to 
the Federal Government, but when Joe Public comes into our 
offices and wants to buy a computer, they nickel and dime you, 
and I knew that computers are very expensive and my first 
question to someone who walks in the door is, what do you want 
to do with it, and most of the time, they want to surf the 
Internet or they want to do E-mail, or they want to play games. 
This is why I thought the idea of having an Internet television 
product would suit the general public much more than a computer 
would and it is less expensive.
    Senator Collins. And again, these appeared to be legitimate 
products based on your own personal expertise, and you each 
have a lot of expertise in this area.
    Mrs. Morris. Yes.
    Senator Collins. Mr. O'Kane, Mrs. Morris mentioned that she 
lost $1,000. I understand that your loss was considerably 
greater. Can you tell us how much money you lost and give us 
some idea of was this a great deal of money to you, or put it 
in context for us.
    Mr. O'Kane. It really was a great deal of money for me 
because it was part of my retirement and investment account I 
was using to generate income to live on. It was a considerable 
amount of my savings.
    Senator Collins. How much did you lose?
    Mr. O'Kane. It was--I try to forget--it was over $20,000.
    Senator Collins. So it was more than $20,000. Have either 
of you received any restitution? I know in Mrs. Morris's case, 
at least you have the comfort of knowing that the person went 
to jail, and I believe, Mr. O'Kane, in your case, the SEC has 
some pending action. But to date, have either of you received 
any restitution? Mr. O'Kane, we will start with you.
    Mr. O'Kane. No, I have not, not yet, but I have hope.
    Senator Collins. Mrs. Morris.
    Mrs. Morris. No. I will not receive--I received a letter 
from the District Attorney in the State of California stating 
that chances were very slim to none. But I do have the 
satisfaction that he is in jail, which most of the time is not 
the case.
    Senator Collins. That is exactly right. One of the lessons 
that I took from your testimony is it appears that you put more 
trust in this scam in each of your cases because it came to you 
over the Internet. Mrs. Morris, could you expand on what it was 
about the professionalism of the scam that you uncovered, or 
the fact that you uncovered it yourself, this investment 
opportunity, that made it seem more credible to you?
    Mrs. Morris. Well, I found it listed among many different 
IPOs that were being offered over the Internet. I chose that 
one because, like you said, it was in my field. I could 
understand it. It made sense to me. The prospectus itself was 
extremely sophisticated, down to the links and attaching itself 
to different Web sites, its own links with its own press 
releases. To me, it was not somebody calling me on the phone--
buy this stock, buy now, buy now, buy now, where you do not 
believe a word they say. This was a very passive, where I took 
control, and I printed it out. I took my time. I made the phone 
calls and nobody was telling me what to do. So I had much 
higher hopes for it.
    Senator Collins. So the fact that the Web page for the 
stock offering was a passive solicitation made it more credible 
to you?
    Mrs. Morris. Yes.
    Senator Collins. Because you found it as opposed to someone 
calling you at dinnertime?
    Mrs. Morris. Exactly.
    Senator Collins. What about you, Mr. O'Kane? Do you think 
if you had gotten a cold call at dinnertime with exactly the 
same information presented over the telephone that you would 
have invested?
    Mr. O'Kane. I think I would hang up and finish my lunch.
    Senator Collins. So the fact that these offerings were on 
the Internet gave them a credibility that they would not have 
had if you had received a call from an aggressive salesman at 
dinnertime, is that correct in both your cases?
    Mr. O'Kane. That is correct.
    Mrs. Morris. Correct.
    Senator Collins. Mr. O'Kane, you said in your opening 
statement that when you first came across the information about 
Electro-Optical, that it was through an on-line newsletter 
called ``The Future Superstock'' and that you found this on 
Yahoo! and that the Yahoo! site then linked you to ``The Future 
Superstock'' Web site, which touted the fortunes of the company 
that you invested in. Had you ever heard of this newsletter 
before or used it before?
    Mr. O'Kane. Never
    Senator Collins. And did you rely on this on-line 
newsletter which promoted this stock to make your decision to 
invest? Was it influential to you?
    Mr. O'Kane. It was very influential. It appeared to be 
professional. It had all the appropriate links and it looked 
just like a blue chip-style company format.
    Senator Collins. And at that time, were you aware that 
there is a problem with some of these on-line newsletters 
touting stocks that they are being paid to promote, or were you 
under the impression this was some sort of objective source of 
information?
    Mr. O'Kane. No. I was not aware that they were paid for 
that.
    Senator Collins. You subsequently learned that both ``The 
Future Superstock'' newsletter and the Barrow Street press 
release were, in fact, paid to promote this stock, is that 
correct?
    Mr. O'Kane. Yes, it is.
    Senator Collins. When did you first become suspicious?
    Mr. O'Kane. It was after I already had my shares and I was 
looking at a press release from Barrow Street and the fine 
print on the very bottom said something to the effect that it 
was paid for by EOSC, and that is when I smelled a rat.
    Senator Collins. So you saw the disclosure in this 
particular case. Would your decision to invest in Electro-
Optical have been affected if you had known that the company 
paid this newsletter to promote its stock? Would you have still 
gone ahead?
    Mr. O'Kane. It would most definitely make a difference, and 
whether I went ahead, I am not sure. I do not think so. I would 
have to seek the advice of somebody else. Someone is paying for 
that. No. I would not do it.
    Senator Collins. Mrs. Morris, I was struck in your 
testimony that you did take some steps to try to verify the 
company rather than just immediately writing off your check for 
$1,000. Now, as I understand it, for example, you knew to look 
through a prospectus and to request a prospectus, is that 
correct?
    Mrs. Morris. Yes.
    Senator Collins. And you also matched up the telephone 
numbers. Were there any other steps that you took?
    Mrs. Morris. Well, I did call and I did speak with Mr. 
Bowin, who was the person who was president, CEO, the person 
offering the stock.
    Senator Collins. And again, were you influenced by the 
press release you found on-line touting the stock?
    Mrs. Morris. Yes, definitely. When I saw the names 
Microsoft, Sun, Oracle, or Apple, working closely, deals are 
imminent type of thing, and then him actually verbally saying 
these things to me also, yes, I was very satisfied.
    Senator Collins. So in both cases, your decision to 
purchase the stock was greatly influenced by information in on-
line newsletters, by press accounts that appeared to you to be 
legitimate, is that correct, Mr. O'Kane?
    Mr. O'Kane. Yes.
    Senator Collins. Mrs. Morris.
    Mrs. Morris. That is correct, yes.
    Senator Collins. And in both cases, it was the 
professionalism of the Web site, the links, the graphics, that 
it made it seem much more credible than if you had received 
just a solicitation by mail or the usual aggressive cold call 
at dinnertime, is that correct?
    Mrs. Morris. That is correct.
    Mr. O'Kane. That is right.
    Senator Collins. Mrs. Morris, you said that your final 
advice, and I can certainly understand it, based on your 
experience, would be simply to not invest over the Internet. 
If, in fact, we were able to do the kinds of disclosures you 
talked about, having perhaps a third party verification of the 
Web site or other disclaimers put up front, would you feel more 
comfortable in making investments over the Internet?
    Mrs. Morris. Yes.
    Senator Collins. Is it really the lack of a way that you 
found to verify the information as opposed to the Internet 
itself?
    Mrs. Morris. Yes. Right now, since there is no way to 
verify, they are not regulated. They can say whatever they want 
and there is nobody to tell the consumer, like myself, who 
comes upon their page, that it is not. Yes. The Internet is not 
a bad--it is a great place to find information about stocks. I 
can go out and I can research it, but I would not purchase it 
over the Internet right away. I would definitely take it to a 
reputable broker, someone who I would pay some money to direct 
me in the right direction. But no, I would not buy it over the 
Internet right now until there is a definite verifiable way.
    Senator Collins. Mr. O'Kane, do you still invest on-line?
    Mr. O'Kane. Oh, yes, I do.
    Senator Collins. And you have had better experiences than 
the one before, I trust?
    Mr. O'Kane. That is correct. I am using the widely-known 
stocks at this point.
    Senator Collins. One of the purposes of these hearings are 
to educate consumers about what the resources are out there, 
and tomorrow, we are going to hear from both Federal and State 
regulators who have very good on-line tips for investing on-
line that would be helpful to investors such as yourselves.
    Senator Levin.
    Senator Levin. Thank you, Madam Chairman.
    When you say that you continue to buy stocks on-line, Mr. 
O'Kane, you do that, I take it, following your own advice that 
you now check out the stocks as reputable brokers or 
investing----
    Mr. O'Kane. Yes, I do. I have an investment advisor that I 
check with.
    Senator Levin. There was an article in the Fortune magazine 
that went into some of these stock scams and your experience 
was covered there and I am just wondering whether or not it was 
accurate when it said, for instance, that even after your 
experience and the visit to the company, you still felt there 
could be some value left in that stock. Is that accurate?
    Mr. O'Kane. That is correct. I still have a few shares in 
the company.
    Senator Levin. If you say that you should visit a company 
before you invest, you visited the company, but you still felt 
even after the visit that the stock might really be----
    Mr. O'Kane. My stock is worth so little that it is like 
peanuts at this point and it made no sense to sell the whole 
thing.
    Senator Levin. Was it immediately after your visit to the 
company that you decided to sell the stock?
    Mr. O'Kane. Yes. I tried to get rid of it and I realized 
that my value was down to almost nothing at that point. I 
wanted to leave a little in so that I would still hear what the 
company is doing. It was a total loss, but we have some in 
there, so at least I get on the mailings.
    Senator Levin. That article still says that you still surf 
the Web every day looking for hot stock tips, is that correct?
    Mr. O'Kane. Oh, yes, I do that. I do, indeed.
    Senator Levin. When you think you have got something that 
might be real, you then check that with your advisor, is that 
correct?
    Mr. O'Kane. Right, and they usually tell me no. [Laughter.]
    Senator Levin. I wish everybody who surfs the Internet for 
hot stock tips would check with an advisor and follow the 
``no'' advice.
    Mr. O'Kane. They should.
    Senator Levin. It is not no advice, it is advice to not 
buy.
    Mr. O'Kane. Right.
    Senator Levin. I wish people would do that based on your 
experience, because I do not know how many people get burned 
every day by these kinds of hot stock tips. We checked one of 
these today, one of these hot stock tips, and I almost cannot 
believe that people can buy this stuff.
    Here is one that came out Friday in one of these stock tip 
forms and it said, if you ever want a sure thing, and you push 
that one, and here it is. If you ever want a sure thing, it 
says here, buy GARM. The company was acquired by the largest 
recycling company in the world. This is a sure thing, by the 
way. The only thing is, nobody from that big company that 
bought it was allowed to buy so much as one share until after 
the shareholders meeting. In other words, this is inside 
information and no one else can buy that except you millions of 
folks reading this out there. It says here, the shareholders 
meeting is later on today. In other words, buy it quick, while 
you can, before this information becomes public.
    When you take a look at what happened to that stock from 
Friday, when that tip was on the Web at 12:17, if you ever 
wanted a sure thing last Friday at 12:17--Bob is holding that 
up--do you see where that spike goes up in that second-to-last 
column there? That spike jumped up on Friday right after this 
hot stock tip. Well, someone got suckered into that. That last 
column is this morning, right back where it was. That spike 
represents a victim.
    Mr. O'Kane. I defer that back to, if it is too good to be 
true, then do not do it.
    Senator Levin. Yes. I was just learning how these kinds of 
scams were perpetrated today, and I was going through it and 
just picked one by random and that is one we picked. But 
somebody believed this tout, if you ever wanted a sure thing, 
you million people out there, a sure thing. A few folks, at 
least, thought that, somehow or other, there was something for 
nothing, and bought it. Then this morning, that sure thing 
looked like it was dust and someone lost a lot of money between 
last Friday and this morning because they believed this kind of 
a come-on.
    Hopefully, your testimony this morning and this afternoon 
and tomorrow's testimony will help other people resist these 
kind of temptations, because it is nothing more than just 
throwing dice on a table, and usually the dice are loaded 
against you.
    Let me just ask Mrs. Morris a question, as well. You did 
get a telephone call?
    Mrs. Morris. Yes, I did.
    Senator Levin. So you were not just conned by the Web site 
being attractive and the information being put together 
professionally. You were skeptical and actually called the guy.
    Mrs. Morris. Yes. I was conned by him personally.
    Senator Levin. You were called by him?
    Mrs. Morris. Conned by him personally.
    Senator Levin. Oh, conned by him personally. So you were 
told that this stock was going to be going up, what, 500 
percent in 5 years?
    Mrs. Morris. Within the next 5 years after the initial 
product offering.
    Senator Levin. Five hundred percent?
    Mrs. Morris. Yes.
    Senator Levin. Did that make you suspicious?
    Mrs. Morris. Yes, because--I mean, I never expected it to 
jump. I knew, of course, that they over-hype it, but I did see 
that there could be some serious initial gains due to the 
product that they were offering, which I believed to be very 
viable. And the fact that they were dealing with Microsoft was 
a whole another issue. I just thought that alone, Microsoft--he 
touted the whole product as working with their software, 
Microsoft Home. Soon, his product will integrate with his 
software, Microsoft's software, be able to open your garage, 
turn off the lights, remote your TV, everything from that.
    Senator Levin. I think both of your testimonies are 
important in terms of the credibility which some people 
apparently attribute to these stock touts on the Internet. They 
obviously do have credibility in the eyes of some people, and 
hopefully, people will be an awful lot more skeptical of these 
touts and these come-ons after your testimony than before.
    There is only so much regulation we can do. We have talked 
to some of the regulators who say they get so many thousands of 
complaints of this, they cannot possibly catch up to them. For 
instance, in your testimony, Mrs. Morris, you indicated that we 
ought to have a quick phone call to an SEC operator to check 
the name or registration number and the consumer would 
immediately know. That is one way of doing it, but there is 
apparently a Web site that the SEC does have where you can 
check a stock registration number already.
    Mrs. Morris. I did not know that.
    Senator Levin. I think, and we are going to double check 
that to make sure I am not giving out bum information here. But 
I believe that that is accurate. If so, it would be useful 
along the lines----
    Mrs. Morris. That would be very useful, but it would only 
be useful if someone knows to look for it.
    Senator Levin. But somebody would have to know to call an 
SEC operator, as well.
    Mrs. Morris. That is what I was saying. You should put it 
at--like IPS should have had that banner on their Web site, 
along with their offering.
    Senator Levin. We could, for instance, perhaps figure out a 
way to require people to put down the Web site of the SEC----
    Mrs. Morris. True.
    Senator Levin [continuing]. On any stock tip.
    Mrs. Morris. Sort of like a warning label on a pack of 
cigarettes. You have to have it there.
    Senator Levin. Right. This stock is dangerous to your 
health.
    Mrs. Morris. Exactly.
    Senator Levin. Yes. Too many of them are.
    In addition to the SEC, whether through a Web site or an 
800 number or both, there is also this reputable stock broker 
or this financial advisor that people really should rely on 
more, and that is what your experience has taught you both, and 
again, thank you for coming forward. It will be, hopefully, 
helpful in having other people avoid your kind of losses and 
your kind of suffering, in the case of some of you. Thank you.
    Senator Collins. Mrs. Morris, before I yield to Senator 
Edwards, I just want to ask you one final question, and that 
is, do you know how many other investors sent money to IPS?
    Mrs. Morris. I believe 160 lost about $190,000 all 
together.
    Senator Collins. There was a substantial amount of money in 
the aggregate that was lost?
    Mrs. Morris. Correct.
    Senator Collins. Thank you. Senator Edwards.

              OPENING STATEMENT OF SENATOR EDWARDS

    Senator Edwards. Thank you, Madam Chairman. Good morning.
    Mrs. Morris. Good morning.
    Mr. O'Kane. Good morning.
    Senator Edwards. Mrs. Morris, let me ask you this question. 
Did you, prior to your purchase, did you know what a direct 
public offering was?
    Mrs. Morris. Yes, I did.
    Senator Edwards. Maybe you mentioned this earlier, and I 
apologize I was not here----
    Mrs. Morris. That is OK.
    Senator Edwards. What kind of research did you do on 
Interactive Products and Services?
    Mrs. Morris. When I first ran across the Internet site, I 
just basically read the prospectus. I called the long distance 
operator. The company was located in California. I called the 
long distance operator and used their address given on their 
prospectus as their corporate headquarters and verified that 
the number they gave me for them matched the number given on 
the prospectus. I then called the number and I reached Mr. 
Bowin, who was the president, I guess, directly and spoke with 
him and asked him several questions about the offering, its 
products, and made my decision from that.
    Senator Edwards. What kind of information would have been 
helpful to you in making a thoughtful decision about this 
investment?
    Mrs. Morris. What I asked him, I thought was pretty 
thoughtful. I asked him, one, where he was in reaching his goal 
financially. I asked him about the products and his dealings 
with the other companies where his hardware would work with 
their software, the Microsoft, the Apple, the Sun, the Oracle, 
which he had stated. He also--we discussed a U.S. patent 
pending on his products, he said was basically coming down the 
line. It was imminent. Just several items like that.
    Senator Edwards. Mr. O'Kane, let me ask you a couple of 
questions, if I can. Can you give me some idea of, from your 
perspective as an investor or potential investor, I gather that 
you had felt some comfort with using the Internet prior to 
making your investment, is that right?
    Mr. O'Kane. Yes, I did.
    Senator Edwards. Did you feel comfort in buying other kinds 
of goods over the Internet?
    Mr. O'Kane. Yes, I did.
    Senator Edwards. Tell me, knowing what you know now about 
the company that you invested in, or the lack thereof, can you 
tell me what kinds of disclaimers, information, would have been 
useful for you that would have alerted you to the potential 
problems you were confronted with?
    Mr. O'Kane. Well, the number one thing I look for now is I 
scan down to the bottom of the newsletter or the press release 
or whatever and see if it is paid for by the stock that they 
are talking about. I check that first, look at the fine print.
    Senator Edwards. What else? Is there anything else that you 
need to know?
    Mr. O'Kane. Beyond that, I do not think there is anything 
they can offer me other than the SEC connections that I would 
go to now that I did not know about.
    Senator Edwards. Thank you, Madam Chairman. Thank you both 
for being here.
    Mrs. Morris. Thank you.
    Senator Edwards. Your testimony is very important for what 
we are doing here today.
    Mr. O'Kane. Good.
    Senator Collins. I just have one final question for each of 
you. Were either of you aware that you could have called your 
State Division of Securities or Bureau of Securities for 
advice, to run this investment by them to see whether they had 
had any previous complaints, to see whether the investment 
opportunity was registered with the State? Were either of you 
aware of the State role in regulating securities? Mr. O'Kane.
    Mr. O'Kane. No, I really was not.
    Senator Collins. Mrs. Morris.
    Mrs. Morris. No, not at all.
    Senator Collins. Thank you. The States do do a good job----
    Mrs. Morris. I know that now.
    Mr. O'Kane. We know that now, yes.
    Senator Collins [continuing]. In this area, but obviously, 
if investors who have been in the market as long as each of you 
have been, in one case 10 years and in one case 5 years, were 
unaware of the State role, that suggests we need to do a lot 
more to make people aware that help is out there. Thank you.
    Mr. O'Kane. You need to have some of those banners posted 
on the sites.
    Senator Collins. I think you are right. Thank you very much 
for sharing your experience and being here today. We have 
learned a lot from your experience. Thank you.
    Mrs. Morris. Thank you.
    Mr. O'Kane. Thank you.
    Senator Collins. Our second panel will provide the 
Subcommittee with a broad overview of Internet securities fraud 
and describe Federal, State, and private sector efforts to 
combat this growing problem.
    Our first witness is going to be Tom Gardner of The Motley 
Fool, which is a free on-line financial forum that is available 
over the Internet. The Motley Fool reaches millions of 
investors each month and provides financial information and 
investment strategies in several different mediums, including 
its Web site, books, radio programs, and newspaper columns.
    Our second witness will be Howard Friedman, a professor of 
law at the University of Toledo. Professor Friedman has taught 
securities law for more than 30 years with a special focus on 
securities regulation and the Internet over the past several 
years. Last year, he published a book entitled Securities 
Regulation in Cyberspace.
    Our final witness this afternoon will be Richard Hillman. 
He is the Associate Director with the Financial Institutions 
and Markets Issues Group of the U.S. General Accounting Office. 
He will summarize the findings of a GAO study that I initiated 
to determine the extent of Internet securities fraud and to 
discuss the efforts to detect these frauds by the Securities 
and Exchange Commission and State regulatory agencies.
    Again, I welcome all of you and I would ask, pursuant to 
Rule 6, that you stand and raise your right hand so I can swear 
you in. Do you swear that the testimony you are about to give 
to the Subcommittee will be the truth, the whole truth, and 
nothing but the truth, so help you, God?
    Mr. Gardner. I do.
    Mr. Friedman. I do.
    Mr. Hillman. I do.
    Senator Collins. Thank you. We very much appreciate your 
willingness to join us today. I would ask that you each limit 
your oral presentation to about 10 minutes and we will put your 
prepared testimony into the record.
    Mr. Gardner, you may proceed. I want to tell you that I did 
go on site today on The Motley Fool Web site and had a great 
time. It was really very interesting.
    Mr. Gardner. Thank you.
    Senator Collins. So please proceed.

   TESTIMONY OF TOM GARDNER,\1\ HEAD FOOL, THE MOTLEY FOOL, 
                      ALEXANDRIA, VIRGINIA

    Mr. Gardner. Thank you, Senator Collins. I would like to 
thank you, Senator Levin, Senator Edwards, and the other 
Members of the Subcommittee for holding these important 
hearings today and tomorrow.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Gardner appears in the Appendix 
on page 79.
---------------------------------------------------------------------------
    My name is Tom Gardner and I am a co-founder of The Motley 
Fool, Incorporated, based in Alexandria, Virginia. It is a 
great honor for me to address the Senate Permanent Subcommittee 
on Investigations. After all, fools do not often get a chance 
to speak in the U.S. Senate.
    Senator Collins. Some would disagree with you on that. 
[Laughter.]
    Mr. Gardner. I am pleased to have the opportunity to 
address the problem of securities fraud on the Internet today. 
I believe that the main factor that permits Internet securities 
fraud, indeed, all consumer fraud, is financial ignorance, and 
this sort of ignorance is exactly what we founded The Motley 
Fool to combat.
    We founded The Motley Fool in 1994 to educate, amuse, and 
inform the individual investor. Starting with a little 
newsletter, we now have internationally syndicated newspaper 
columns, books, a syndicated radio program, and on-line areas, 
all meeting with popular demand because we believe, and many 
do, that individuals should take as much charge of their 
financial lives as they can.
    The Motley Fool today recognizes that technology, 
especially the Internet, allows people across the world to do 
just that, by obtaining information that once was the exclusive 
property of the financial services industry. The general 
inaccessibility of critical information, coupled with the lack 
of financial education in America's schools, has delivered an 
ignorance that is the very reason we are meeting here today.
    As this Subcommittee has previously learned, one of the 
worst examples of fraud that takes place on the Internet 
apparently involves micro-cap or penny stocks. Penny stocks are 
the shares of small companies that do not qualify for listing 
on any of our major exchanges but trade over the counter. These 
stocks generally trade at less than $5 per share. Statisticians 
have noted that 75 percent of all the companies whose stocks 
trade for less than $5 per share go bankrupt over any 10-year 
period.
    These are the obscure diamond miners in Zaire. I have seen 
all of these come by, by the way. These are the obscure diamond 
miners in Zaire, the meat packing business that just launched 
an Internet service, the fingerprint technology company at 10 
cents per share that claims it will provide the foundation for 
all transactions in the century ahead, all ludicrous, but many 
of them gathered a following.
    Now, because these companies do not trade on the major 
exchanges, they often do not need to make comprehensive 
electronic or hard copy filings with the SEC. Further, because 
of their relative obscurity, many of these public corporations 
lack liquidity. In many instances, the majority of the shares 
in a penny stock company are held by company insiders and/or 
promoters.
    But why, when they present such little opportunity to long-
term investors, do penny stocks still attract attention? 
Inexperienced investors are certainly attracted by the fact 
that they can buy a ton of shares with very little money. To 
take an extreme example, $3,000 could buy you only one share of 
Warren Buffett's Berkshire Hathaway Class B stock today, but it 
could buy you 6,000 exciting shares of, say, Marginal 
Technology Systems, Incorporated, at $.50 per share.
    The combination of the opportunity to hold large share 
positions and that appearance of unlimited upside draws scads 
of new investors into this most highly speculative form of 
equities ownership. After all, if the micro-cap stock goes up 
just $.50, the stockholder would double his or her money. on-
line con artists take advantage of this gambling mentality of 
untrained investors today. Indeed, penny stocks are the public 
market's own brand of lottery ticket, the engine of financial 
dissolution among those who have not been educated about their 
money.
    For this and numerous other reasons, The Motley Fool abhors 
the dreaded penny stock. Penny stock ownership is not 
beneficial for newcomers to our public markets. It is generally 
absurdly comic to experienced investors and, thus, is not 
reported on or covered at The Motley Fool on-line.
    The question remains, though, what can we do about this? 
Our company's answer is education. If people knew enough not to 
make investment decisions based upon tips, rumors, and touts 
but to do their own homework, they would not fall for most 
stock frauds. The SEC has played an active role in trying to 
educate investors. In truth, though, they have a gigantic task 
ahead of them. They face massive financial illiteracy in this 
country, though not nearly so substantial as that across the 
world, because a great number of Americans are never taught the 
basic principles of personal finance and investing in school or 
at home. If we as a country are concerned about citizens' 
ability to control their own financial futures, to avoid 
fraudulent offerings, to sidestep poor investment vehicles, and 
to rely less on Government in the decades to come, then this 
ignorance is collectively our greatest obstacle.
    At The Motley Fool, we coach a few common sense principles 
to help individuals make sense of the money world. We advise 
that they do their own homework, understand what they own, not 
act on tips, and not instinctually believe the conventional 
wisdom that professionals in the financial services industries 
always know what they are doing and always have their clients' 
best interests at heart. If something sounds too good to be 
true, it probably is. If someone implies that you must act now 
to win big, skip it.
    It is clear to us that the only sure fire way to get rich 
is to be patient, to learn more about investments, to 
understand the role of money in the world, and to know thyself. 
Though unoriginal, these are principles that have served us and 
our community well.
    Thank you again for inviting me to be here today and I will 
be happy to answer any questions you have later.
    Senator Collins. Thank you very much. Professor Friedman.

   TESTIMONY OF HOWARD M. FRIEDMAN,\1\ PROFESSOR OF LAW, THE 
               UNIVERSITY OF TOLEDO, TOLEDO, OHIO

    Mr. Friedman. Thank you, Madam Chair, Members of the 
Subcommittee. I am Howard M. Friedman, Professor of Law at the 
University of Toledo. My book, ``Securities Regulation in 
Cyberspace,'' and my recent research focus on the impact of 
Internet technology on securities regulation. I appreciate the 
opportunity to testify before you today. My written statement 
explores additional issues beyond those which I am able to 
cover in my 10-minute oral statement.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Friedman appears in the Appendix 
on page 92.
---------------------------------------------------------------------------
    The Internet revolution is an information revolution. The 
securities markets are natural early adaptors of new 
technologies that make information more accessible. The 
Internet is young. Important experimentation to find its most 
effective uses is still underway.
    Despite occasional problems of system capacity, a major 
success story of the Internet is on-line trading. An outgrowth 
of on-line trading and low commission rates, however, is the 
troubling explosion of day trading which creates excessive 
volatility in the price of shares.
    For at least a significant number of day traders, their 
activities more closely resemble on-line gambling than on-line 
investing. Many of the dangers of gambling, including the 
addictive element, are present in unrestrained day trading. 
Therefore, it is important for brokerage firms to have in place 
appropriate criteria to screen investors who are permitted to 
engage in day trading on-line.
    Currently, when a brokerage firm makes an investment 
recommendation to a customer, the recommendation must be 
suitable in light of the customer's investment objectives and 
financial circumstances. However, now clients increasingly 
trade on the basis of their own research. A critical regulatory 
question is whether the suitability obligations now imposed on 
broker-dealers should be expanded in an on-line environment.
    Should broker-dealers be required to monitor the on-line 
trading of their clients? Should they not be required to 
intervene when clients use trading strategies that are vastly 
out of line with their investment goals and financial 
situations, even though the trading has been undertaken without 
any recommendations from the brokerage firm? Imposing 
responsibility on brokers seems appropriate, since it is the 
brokerage firm's trading facilities that permit the customer to 
engage in inappropriate trading strategies.
    Since the Internet revolution, information previously 
available only to investment professionals now is available to 
everyone at the click of a mouse. However, excessive data can 
result in information overload. Many investors, understanding 
this, welcome the newly available information but continue to 
rely on investment professionals to assist them in interpreting 
it. However, others do not. They, instead, use the Internet to 
seek out investment recommendations and stock tips. They rely 
on postings from often unknown sources who seem to have 
filtered through the mass of available information. In this 
way, they may become victims of securities fraud.
    A famous cartoon in the New Yorker portrayed two dogs 
sitting in front of a computer screen with one saying to the 
other, ``On the Internet, nobody knows you are a dog.'' Well, 
similarly on the Internet, Web sites that are ``dogs'' can 
easily look as professional as those of the most established 
firms. Moreover, at least in its early years, the Internet 
fostered a culture of community and trust that further 
encourages undiscriminating reliance by investors on all sorts 
of on-line investment recommendations.
    The various sorts of Internet securities fraud have a 
single common thread. In each case, the victim relies on 
exaggerated recommendations or false information transmitted 
on-line by a person who will profit from the victim's reliance 
on the information. The profit may come from secret payments by 
others to the person promoting the stock or may be realized 
when the stock price rises and shares secretly held by the 
person engaging in the promotion are dumped on the market.
    Many so-called Internet stock frauds are traditional 
garden-variety scams which have merely migrated to the 
Internet. Other frauds, while resembling traditional ones, have 
taken advantage of the special capabilities of cyberspace. 
While much information on the Internet is accurate, the 
Internet is also an effective instrument for disseminating 
false investment information because it permits simultaneous 
transmission of information to thousands of investors around 
the world; it permits and even encourages information to be 
transmitted anonymously; and it discourages qualitative 
differentiation between different on-line sources of 
information.
    Bulk E-mailing, called spamming, permits promoters to reach 
thousands of persons at an extremely low cost. For less than 
$300, software is available that will harvest thousands of E-
mail addresses from Internet files and create mailing lists 
from them. Similarly, bulk E-mail address lists can be 
purchased. One Web site offers a list of 10 million names for 
$10,000.
    Perhaps the most common on-line frauds are ``pump and 
dump'' schemes. Using Web sites, on-line newsletters, or 
Internet bulletin boards, insiders, brokers, or large 
shareholders drive up the price of the stock through posting 
false rumors on-line. Often, these rumors are posted 
anonymously or under assumed names. Once the market price is 
impacted by these rumors, the fraudsters sell off their earlier 
acquired shares at inflated prices. Then when the rumors prove 
to be untrue, the stock price declines for everyone else.
    Existing laws seem sufficient for prosecution of most 
Internet securities fraud. In some ways, Internet securities 
fraud is easier to detect and to prove than fraud carried out 
through high-pressure telephone sales. E-mail leaves a trail on 
disks. Enforcers can often discover fraudulent representations 
on Internet bulletin boards and Web sites by surfing the 
Internet searching for words associated with fraudulent offers. 
on-line complaint centers make it easier than ever for 
investors to alert enforcers to problems.
    The international reach of the Internet, however, does 
create enforcement hurdles and continued strengthening of 
international enforcement cooperation will remain critical.
    While prosecution is important, prevention is even more 
critical. In examining what additional preventive efforts are 
needed, we must remember that risk inheres in our securities 
markets. Innovation requires risk. Our securities laws, 
however, are designed to assure that investors understand the 
risks they are assuming.
    To summarize, I would suggest three approaches that may 
help prevent future victimization of investors. First, 
securities professionals, broker-dealers and investment 
advisors, are gate keepers at the entrance to the securities 
markets. They should have heightened duties to screen out on-
line investors who are pursuing investment strategies that are 
clearly too risky for their financial situations and investment 
goals.
    Second, inexpensive software can make a fly-by-night 
financial Web site indistinguishable from those of well-
established firms. Some type of third-party verification is 
needed to vouch for the legitimacy of particular sites. An 
accounting industry program for commercial Web sites issues a 
special seal to home pages that have passed an audit. A similar 
program might be instituted for financial Web sites. When we 
move from Web sites to E-mail and bulletin board postings, 
anonymous messages may be a source of fraud. Securities 
regulators and industry groups should encourage the use of 
digital signature technology to permit accurate identification 
of those posting financial information.
    Finally, we need to ask why investors are willing to 
believe on-line promises of quick wealth and on-line rumors 
posted by unknown informants. Publicity campaigns have alerted 
consumers to all sorts of physical health risks. Similar 
techniques should be used to alert investors to risks to their 
financial health posed by unsafe investment practices. A start 
has been made in this direction with programs designed to 
increase personal finance instruction in American high schools. 
Educational materials are widely available on-line, including 
through the SEC's Web site. However, more significant 
investments in educational campaigns through the media will be 
required for the message to be disseminated effectively.
    Thank you.
    Senator Collins. Thank you very much, Professor. Mr. 
Hillman.

    TESTIMONY OF RICHARD J. HILLMAN,\1\ ASSOCIATE DIRECTOR, 
 FINANCIAL INSTITUTIONS AND MARKETS ISSUES, GENERAL GOVERNMENT 
    DIVISION, U.S. GENERAL ACCOUNTING OFFICE, WASHINGTON, DC

    Mr. Hillman. Thank you, Chairman Collins and Members of the 
Subcommittee. I am pleased to be here this afternoon to discuss 
Internet securities fraud and the challenges it poses to 
regulators and investors.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Hillman appears in the Appendix 
on page 102.
---------------------------------------------------------------------------
    The Internet is providing the basis for a rapid 
transformation of the securities industry. As the Chairman 
said, in her opening remarks, although there are several 
benefits that the Internet provides to investors, such as 
immediate access to price quotes on stocks or mutual funds and 
readily accessible stock market research data, the Internet 
also provides a new medium for fraudulent operators to bilk 
investors out of millions of dollars. Attractive features of 
the Internet to fraudulent operators include the ability to 
anonymously communicate with millions of potential victims at 
far lower costs than traditional means and the ability to do so 
quickly from virtually any location in the world.
    This afternoon, I would like to briefly touch on the three 
areas you requested information on in your letter announcing 
this hearing. These are, first, the incident rate and types of 
Internet securities fraud violations that the SEC and others 
have identified; second, a discussion of the steps that SEC and 
State securities regulators have initiated to combat Internet 
fraud; and third, a description of the enforcement actions 
taken to deter fraudulent conduct. I would like to close my 
oral remarks with a discussion of some of the challenges that 
regulators face in combatting this problem.
    Currently, there are no comprehensive statistics available 
on the incidents or types of securities frauds committed over 
the Internet. However, State, SEC, and other Federal agency 
officials we have contacted said that the Internet securities 
fraud is an emerging problem which is likely to grow as the use 
of the Internet continues to expand worldwide. One rough 
indicator of the growth of Internet securities fraud is the 
number of public E-mail complaints that are submitted to SEC's 
Internet Web site. According to SEC officials, the number of 
such E-mail complaints, many of which allege the potential 
Internet securities frauds, soared from about 10 to 15 daily in 
1996 to between 200 and 300 daily in early 1999.
    The types of securities frauds reported to be occurring 
over the Internet are generally not new. The Internet seems to 
be providing a new medium to perpetrate traditional investor 
frauds, such as stock price manipulation schemes. However, some 
securities frauds appear to be unique to the Internet 
environment, such as the illegal copying of broker-dealer Web 
pages.
    One illustrative incident occurred in California in May 
1997. A broker-dealer in California reported that its Web site 
had been copied and the company name, address, and telephone 
numbers slightly altered. The perpetrator used the new but 
bogus Web site to dupe foreign investors into sending funds to 
addresses listed on the new Web site. This scam went on for 
about 10 months, until perpetrators moved on and copied another 
company's Web site to repeat the same scam.
    Another frequent scheme involves perpetrators touting false 
information on small companies through Internet spam, Web 
sites, on-line newsletters, or other means in order to increase 
investors' purchases of securities, thereby raising share 
prices. The fraudulent operators already own large numbers of 
these securities and are able to make quick profits by selling 
the securities as prices increase, while others face 
significant losses when artificially inflated share prices 
drop.
    The sale of unregistered securities on the Internet is 
another type of fraud being reported among the States we 
visited. In addition, other State securities regulators have 
reported the illegal sale of securities over the Internet 
involving offshore gambling enterprises, time travel 
technology, Hollywood movie theme restaurants, and air 
conditioning and helicopter production companies.
    Financial losses suffered amongst victims of fraudulent 
schemes on the Internet have ranged from $18,000 to over $100 
million.
    SEC has responded to the growing Internet fraud problem by, 
among other things, creating the Office of Internet Enforcement 
to coordinate the agency's efforts to combat Internet fraud, 
providing training to SEC investigative staff on monitoring the 
Internet, and preparing guidance for SEC staff who are 
investigating potential Internet frauds. The Internet Office 
has three full-time staff and about 125 volunteer staff in SEC 
headquarters and regional offices who work on a part-time basis 
to identify Internet fraud-related activities.
    In addition, SEC has established programs to educate 
investors about the risks associated with Internet securities 
frauds. SEC has posted investor education information on its 
Web site, sponsored town meetings, and produced pamphlets on 
the risks associated with Internet securities investments. 
Their primary message to individual investors is that given the 
potential for fraud, investment decisions should not be based 
solely on information obtained over the Internet.
    Rather, investors should perform a number of independent 
steps to ensure the accuracy of Internet information. These 
steps include reviewing financial information about a company 
that may not be available off the Internet; determining whether 
a company is, in fact, developing a technology as advertised 
and contacting companies that are alleged to be in the process 
of signing contracts with the company in question. Unless 
investors are willing to take such steps, the SEC suggests that 
investors may want to avoid using the Internet as a basis for 
making investment decisions.
    At the State level, nearly half of the State securities 
agencies we surveyed had developed programs to deter securities 
fraud on the Internet. These programs generally consisted of 
monitoring the Internet for fraud, which varied widely from 
about a half-hour daily to one time per month. We note that the 
North American Security Administrators Association contributes 
significantly in this area. The organization provides investor 
education and serves as a clearinghouse for investor 
complaints.
    Regarding enforcement actions, SEC has initiated 66 
enforcement actions since 1995 against individuals and 
companies for securities fraud. As of February 1999, 32 of the 
66 cases had largely been concluded, with violators generally 
required to pay civil monetary penalties or refrain from 
further violations of the securities laws. The civil monetary 
penalties that SEC imposed range from $5,000 to $4.4 million. 
In two of these cases, Federal and State law enforcement 
agencies also obtained criminal convictions or prison sentences 
for seven individuals.
    According to SEC officials we contacted, the agency has 
limited staff and other investigative resources and it is not 
able to pursue every credible allegation of securities law 
violations, including Internet frauds. Thus, SEC officials said 
that the agency investigations often focus on what they call 
message cases that have a high degree of public notoriety. 
According to SEC officials, message cases are intended to 
punish wrongdoers for egregious offenses and send a broader 
message to deter would-be violators.
    Collectively, State regulatory agencies have initiated 
about 190 enforcement actions against persons and companies 
accused of violating State securities laws. Nearly all of these 
enforcement actions resulted in warning letters, informal 
agreements, or the issuance of cease and desist orders.
    State criminal enforcement agencies have pursued criminal 
cases, as well. However, State and regulatory agency officials 
report that State enforcement actions are not effective across 
other States. That is because an enforcement action brought by 
one State may deter persons or companies from committing 
fraudulent acts in that State, but it does not necessarily 
prevent persons or companies from committing the same scam 
through the Internet in other States.
    Although SEC and State agencies have initiated programs to 
combat Internet securities fraud, these programs are new and it 
is too early to predict their long-term effectiveness. On the 
basis of our work, however, we have identified several 
potential challenges that could limit the ability of these 
programs to protect investors from Internet scams. In 
particular, the potential exists that the rapid growth in 
reporting Internet securities frauds could ultimately place a 
significant burden on the regulators' limited investigative 
staff resources and thereby limit the agency's ability to 
respond effectively to credible fraud allegations.
    Another ongoing challenge is coordinating oversight amongst 
international, Federal, and State securities regulators so that 
fraudulent operators are deterred from taking advantage of the 
fact that Internet frauds can be initiated from virtually 
anywhere in the world.
    A final challenge involves reaching a broad audience to 
educate the investing public about the risks associated with 
Internet securities frauds. Since regulatory resources are 
limited, preventing investors from falling into Internet 
securities frauds in the first place may be our best way to 
contain this problem.
    Madam Chairman, I commend you for holding this hearing and 
thank you for inviting our observations on Internet securities 
fraud and regulatory efforts to combat this growing problem. 
Hearings such as this are particularly useful because they 
provide a public forum for educating large numbers of investors 
that while the Internet has much to offer, there are also 
potential risks, as well. We look forward to working with you 
and your staffs in this important area.
    Senator Collins. Thank you very much, Mr. Hillman.
    Mr. Gardner, knowing of the dangers of penny stocks, I want 
to commend you for the efforts that you have taken at The 
Motley Fool to monitor your chat rooms and your bulletin boards 
to make them inhospitable to penny stocks. I would note that 
the actions that you take are unusual, that the Subcommittee 
has done some investigation in this area and most of the major 
on-line financial forums, such as Yahoo! or Silicon Investor, 
do not police their chat rooms or their bulletin boards, or at 
least not in an aggressive way. That raises the question in my 
mind of what responsibility do on-line financial forums have to 
aggressively monitor and police their bulletin boards and chat 
rooms.
    Mr. Gardner. I am not really sure what responsibility they 
have, because I believe that in a free market system, over 
time, individuals and consumers will come to recognize where 
the value resides in different pockets. The earlier that we can 
identify that and the earlier that we can get the message out 
that monitored chat rooms and message boards are a great 
benefit because they set a context, they give people an 
understanding of what kind of community they are coming into. 
It is my great wish that all financial sites had monitors. It 
is an expense that we have to shoulder, but it is an expense 
that is worth it because, again, it sets the tone for the 
entire community. But I am not sure about placing regulations 
or responsibilities on sites automatically to do a certain 
amount of monitoring of their pages.
    Senator Collins. Professor Friedman and Mr. Hillman, what 
do you think of this idea? How much responsibility do you think 
that on-line financial forums have to monitor or police their 
bulletin boards and chat rooms? No one wants to interfere with 
the flow of free information on the Internet. No one wants to 
impose vast new Federal regulation on the Internet. And yet, we 
clearly have a problem here, as we have heard from our previous 
witnesses. Is self-policing the answer? Are steps such as The 
Motley Fool has taken the answer, Professor?
    Mr. Friedman. Well, there is always the danger of too much 
censorship when you put liability on bulletin boards and other 
providers. I should add that there is a provision in the 1996 
Communications Decency Act which, while it was directed at 
defamation and obscenity and not at fraud, probably shields 
bulletin boards from a good deal of liability, at least in 
civil actions, in this area.
    Senator Collins. Mr. Hillman.
    Mr. Hillman. I believe some form of monitoring or policing 
of chat rooms would be something worth looking into. Such 
practices already take place in certain broker-dealer firms, 
where you have the broker-dealers' disciplinary records showing 
a history of unscrupulous actions. There are audio tapes of 
calls that are being made by these brokers and some similar 
form of oversight in the Internet industry would be worth 
looking into.
    Senator Collins. Mr. Gardner, it is my understanding that 
The Motley Fool created a fictitious stock and then hyped it to 
show how easily investors can be sucked into the hype and to 
make investment decisions. You mentioned it in your written 
testimony, but because of time constraints did not in your oral 
presentation. Could you tell us a bit about that and what 
lessons you think can be gained from that experience?
    Mr. Gardner. Certainly. When we started on-line in the 
early 1990's, we walked into an environment where there was a 
lot of loud promotion of what we consider to be very low-grade 
investment opportunities, again, unlisted stocks in the United 
States, over-the-counter stocks, or Vancouver Stock Exchange 
securities. Unfortunately, Vancouver is a lovely city, but 
their stock exchange stands out in my mind as a haven of very 
low-grade businesses, or a number of them.
    We tried, as best we could, as earnestly as we could, to 
teach people about the very spike that we saw on the graph 
earlier presented, and that there were small brokerage firms 
and individuals and companies participating in the promotion of 
their stock in an attempt to get a 30-cent share stock up to $2 
over the next 2 weeks, and then they would turn and move to a 
new company. As outrageous as some of the claims of the 
companies were, there were enough inexperienced investors that 
these were successful scams.
    What we tried to do in teaching people was totally overrun 
by, again, a very creative and very critical move against 
education on-line at the time. So what we did was we created 
our own penny stock, our own foreign exchange, the Halifax 
Canadian Exchange----
    Senator Collins. Which does not exist, correct?
    Mr. Gardner. Which does not exist. We created this whole 
scenario on April 1, 1994, and walked through it over about a 
6-day period, and during that period, we probably got 1,000 E-
mails, a number of them from people saying, I cannot buy the 
stock. Where is this exchange? I have asked my broker to locate 
it. Then about 6 days later, we collapsed the entire story of 
Zeigletics, and we did so to really show step by step what 
happens when a thinly-traded micro-cap stock is promoted.
    I think Senator Levin has correctly found one, and I also 
agree that there are hundreds of examples, if not thousands of 
examples, of this over the last 5 years. And if there is one 
corner of the overall market to pinpoint to shed more light on 
for greater clarity to guide individual investors on, it is 
those companies that have the capitalization under $50 million 
that are not listed on our exchanges for which there is not a 
lot of public information.
    But we created that April fool's joke. We believe that is 
our national holiday at The Motley Fool, and we did so to 
really educate people about why these investment options really 
are options to be avoided.
    Senator Collins. And Zeigletics sold what? What was the 
product?
    Mr. Gardner. Zeigletics was selling linked sewage disposal 
systems around the world, and one can infer what we thought of 
their product based on that description.
    Senator Collins. With a concentration in Chad, as I 
understand it.
    Mr. Gardner. Exactly, and that is actually a critical 
component of so many of these scams, is that they are a 
business that is happening internationally that one could not 
verify. You could not travel down to the company headquarters 
very easily because they were doing business abroad. They were 
located abroad. They were listed on a foreign exchange. That 
kind of far-away nature and that remote, obscure business is 
something that I think untrained investors who have a belief 
that the way to make money off their savings is to gamble, and 
that has been reinforced in a number of places in our society, 
then think that they need inside information and a secret sauce 
investment approach to do well, and, therefore, those are the 
most attractive first options to them, unfortunately.
    Senator Collins. The language you used also was very 
typical of what you see with the hyping of these penny stocks, 
saying that if you have not bought the stock yet, you are no 
player at all, a lot of times implying that someone is going to 
miss out on this exciting opportunity to, as our previous 
witness said, to get in on the ground floor. It is stunning to 
me that, given what you portrayed, that you had over 1,000 E-
mails from people who were unhappy they could not find this 
fictitious stock. I think that suggests we have a long ways to 
go on consumer education in this area.
    Mr. Gardner. We certainly do.
    Senator Collins. Mr. Hillman, Professor Friedman and Mrs. 
Morris made a suggestion that there be some sort of third-party 
verification to give, say, a seal of approval to a Web site 
that it is legitimate, and the professor mentioned a program 
that I believe it is the American Association of Certified 
Public Accountants has that has that seal of verification.
    How practical do you think that is, given the vast number 
of stock offerings that we are dealing with and Web sites? I 
mean, it is millions and millions of Web sites out there now.
    Mr. Hillman. And there are hundreds more being developed 
every day. I think that one of the better ways of perhaps 
tackling this problem is through investor education, tapping 
investors' knowledge at the source so that they do not fall for 
these types of frauds to begin with.
    Senator Collins. Professor Friedman, another one of your 
suggestions was extending the suitability requirements to on-
line trades that would otherwise apply in a normal relationship 
that an investor would have with his broker. Could you expand 
more on your proposal in that regard?
    Mr. Friedman. Yes. Right now, the suitability requirements, 
the requirements that brokers limit sales to securities that 
are suitable for an investor's financial situation, apply where 
brokers are making recommendations. But in today's on-line 
environment, very often, brokers are not making recommendations 
at all. People are doing their own research, sometimes from the 
broker's Web site, sometimes from elsewhere. But, nevertheless, 
a monitoring of the customer's activity would show the broker 
that this customer is trading in ways that are very unsuitable, 
and expanding brokers' obligations to that, I think, might well 
cut off some fraud, or at least some losses, that investors are 
now suffering.
    Senator Collins. Thank you. Mr. Gardner, many of us are 
concerned, as I know that Professor Friedman is and you 
mentioned in your written testimony, about the growth of day 
trading. Do you think that the explosive growth of day trading 
presents the opportunity for more of the kinds of market 
manipulations, particularly ``pump and dump'' schemes, that we 
are seeing?
    Mr. Gardner. Certainly. I think any time you have a number 
of investors focusing on the short-term performance of stock 
prices rather than the intermediate or long-term success of a 
business, you are going to have opportunities and attempts at 
trying to manipulate the movement of those prices in the short 
term.
    The simplest solution came out of Omaha, Nebraska, a number 
of years ago when Warren Buffett said, let us just create--it 
should make the government happy, as well. Let us create the 
100 percent short-term capital gains tax. That is, if you trade 
out of your position within a year, you pay your entire profits 
to the government, and that will encourage people to look at 
the public markets as the mechanism that they were created for, 
ownership of public companies and financing for those 
businesses.
    But short of that, increased education, and I do not think 
this is a sustainable problem because the economics of day 
trading are so unattractive and the lifestyle of the day trader 
is also so unattractive that I think, over time, we are going 
to see this gleaned out.
    Senator Collins. Thank you. My time for this round has 
expired.
    Senator Levin.
    Senator Levin. Thank you, Madam Chairman.
    I want to get back to the question of responsibility, 
suitability obligation of brokers. I take it that the day 
trading firms also have that responsibility now, but your point 
is that that responsibility is limited now to the occasions 
where they are recommending the specific purchase of a stock 
and does not go to the strategy which a customer might use to 
engage in day trading. Is that generally correct?
    Mr. Friedman. That is right.
    Senator Levin. All right. So is the suitability obligation 
that we place on brokers done by law, by regulation, by self-
regulation? Where does that suitability obligation emanate?
    Mr. Friedman. It comes primarily from the rules of the NASD 
and the New York Stock Exchange, although courts have also read 
it into common law fiduciary duties. But the most direct 
obligation is from the NASD and New York Stock Exchange Rules.
    Senator Levin. So we have not through SEC regulations or 
through legislation been the source of that obligation?
    Mr. Friedman. There is a limited SEC suitability obligation 
in the penny stock area, but beyond that, it is in the self-
regulatory organization rules, although those are all rules 
that the SEC has to approve. The SEC oversees those rules and 
coordinates its own regulation with those of the NASD and the 
stock exchanges.
    Senator Levin. But this is the penny stock area, basically, 
that we are most concerned about, is it not, so-called penny 
stock?
    Mr. Friedman. Some of it is. Some of the trading, some of 
the day trading goes beyond things that are within the 
definition of penny stocks, however.
    Senator Levin. We can take this issue up tomorrow with our 
witnesses, but let me ask a few questions of our witnesses 
today. Do either of you, Mr. Gardner first, Mr. Hillman second, 
have any reaction or comment to the suggestion that the 
suitability obligation be extended, in effect, to a customer's 
investment strategy, where they are engaged in day trading, to 
make sure that that strategy is suitable to that customer's 
investment goals and financial circumstances? Do you have any 
reaction to that?
    Mr. Gardner. I have some reservations about applying 
guidelines that brokers have to follow or discount brokers have 
to follow. I believe the recommendations and strong 
recommendations and the opportunity for those discount brokers 
to promote that they are following those recommendations and 
use it in their promotional material, it is a great idea.
    Basically, when it comes down to the sort of speculative 
side of the public markets, I think the single best combatant 
to that is education because there is simply, numerically, 
there is no support of trading that way for your long-term 
benefit.
    Senator Levin. Maybe not for each individual's long-term 
benefit, but there are more new individuals coming along all 
the time.
    Mr. Gardner. That is true, and unfortunately, day trading 
also benefits a lot of brokerage firms. It was not started on 
the Internet. We all know that. Right now, the commission-
driven compensation at the firms does reward that sort of 
active trading. But again, I am a strongest advocate of making 
sure that the new investor that comes in has set materials and 
reads through stuff and then has an understanding what they are 
doing.
    Senator Levin. Thank you. Mr. Hillman, do you have any 
reaction to the proposal of Professor Friedman?
    Mr. Hillman. We have not looked into the day trading 
phenomenon itself. We have been pretty much focused on Internet 
securities fraud. However, day trading activity is something 
that deserves some additional attention. I have concerns about 
whether day traders who trade stock through these niche 
brokerage firms actually are aware of the risks associated with 
this trading activity and would therefore recommend that more 
could be accomplished in the disclosure area to determine 
whether or not day traders are being made aware of their risks.
    Senator Levin. Should anybody who uses electronic means to 
buy stock be required to be a recipient of the message as to 
what the SEC Web site address is? In other words, one of our 
earlier witnesses said she was not aware that there was a Web 
site of the SEC where stocks are registered. She could have 
checked it out. Should any electronic dissemination of a stock 
tout or suggestion that somebody buy stock be required to be 
accompanied by the Web site address of the SEC? That is my 
question. I guess, let me start with Mr. Hillman.
    Mr. Hillman. I think that is an interesting idea and 
something that probably ought to be looked into.
    Senator Levin. OK.
    Mr. Friedman. I think that many of these are offerings that 
are made under an SEC exemption from registration, so it really 
would not do all that much good. Many of these are sold under 
Rule 504 as offerings of under $1 million. Where it is a 
registered offering by the company, present law requires that 
the prospectus itself be delivered either electronically or in 
paper form before the person purchase? So when we are talking 
about the company itself offering securities, many of these 
offerings are made, or at least supposedly made, under 
exemptions.
    Senator Levin. OK.
    Mr. Gardner. I am in support of any materials that are 
released that give people more information about the shadowy 
parts of our public markets, which I think are activities off 
the major exchanges. We require so much of our public companies 
in terms of their disclosure, if they are to be listed on the 
NASDAQ, the NYSE, or the AMEX, and I think a lot of those 
disclosure requirements should extend to any company that is 
selling stock to investors.
    Senator Levin. Let me ask each of you about the practice of 
day trading firms aggressively recruiting inexperienced people 
that take courses and become day traders. We have seen 
examples. They are very expensive, some of these courses, too. 
It could be many hundreds of dollars to take a course as to how 
to become a gambler, or a day trader. I am just wondering if 
you think there is anything that can or should be done about 
those aggressive marketing tactics to try to train you to--and 
the more inexperienced, the better, by the way, some of these 
ads run. The less you know about the firms, the better off you 
are in terms of becoming a day trader. It is ultimately touted 
that way.
    But at any rate, any suggestions from any of you as to 
whether there ought to be any control, regulation over those 
kinds of aggressive recruiting practices? Mr. Hillman.
    Mr. Hillman. Again, I think disclosure is something worth 
looking into. For example, to what extent have these firms 
disclosed to these new day trading investors the number of day 
traders that have made money and the number that have lost 
money? If they provided information over a 3-month period of 
time of the number of investors who had lost money during such 
activities, perhaps that would give them some information to 
think about.
    Senator Levin. Are you contemplating such a requirement by 
Federal regulation?
    Mr. Hillman. The General Accounting Office has done no work 
in the day trading area. I am speaking from personal knowledge 
and considering best practices.
    Senator Levin. I would be particularly interested as to 
whether or not any of you think that there is a role for 
Federal regulation or Federal law in this or any other area, 
for that matter. Professor Friedman.
    Mr. Friedman. I think that kind of disclosure obligation 
under Federal law might make sense. I think probably some of 
those ads already violate anti-fraud provisions, depending on 
what they say. I think, unfortunately, this attraction of day 
trading is part of a broader notion in our society. People 
think that if they invest in good, old-fashioned, safe, low-
return kinds of investments, that somehow they are fools for 
doing it, excuse the pun.
    Mr. Gardner. With a small ``f ''. It was a small ``f '', 
Mr. Friedman, I am sure. [Laughter.]
    Senator Levin. That was a commercial, as a matter of fact.
    Mr. Friedman. It is.
    Mr. Gardner. Spell the name right. That is all that counts.
    Mr. Friedman. Day trading is just another example of the 
prevalent idea that ``I have to get rich quick.''
    Mr. Gardner. I think to the extent that we can start by 
applying the existing guidelines for advertising, that we could 
probably clean up a lot of the stuff that is going on out there 
today. I do know that one individual, who, for legal purposes I 
will not put his name in the record, but I believe that his 
radio advertisement was suggesting that individuals using his 
stock option strategy could expect 20 to 40 percent growth per 
month.
    So what do we do at our on-line site? Rather than read 
through all the materials and figure it out, we simply took 
$1,000 and said, if it grew at 20 percent a month, how much 
would you have after 15 years, and the answer is, you would 
have more than $100 trillion. So either this individual is 
going to be master of the universe or we are going to begin to 
educate people more about what is happening out there, and I 
think there are some advertising guidelines that could be 
applied and there could be ones that are introduced anew to 
make sure that the message of what the real service is, if 
there is any, is out there.
    Senator Levin. A final question. Mr. Hillman, I think it 
was your testimony which indicated that the SEC's Office of 
Internet Enforcement in 1996, I believe you said, got 10 to 15 
E-mail complaints a day and that now that is 200 to 300?
    Mr. Hillman. That is correct.
    Senator Levin. That means that the SEC's Office of Internet 
Enforcement is now receiving complaints about fraud or 
misstatements to the tune of 50,000 a year, roughly, the way I 
multiply. I do not know if that fits your----
    Mr. Hillman. An awesome number.
    Senator Levin. The Chairman corrects me, because it is 7 
days a week, so you are right. I was just multiplying 5 days a 
week. I am old fashioned. But it is more like 70,000 a year. 
How many people do they have in their office to handle that?
    Mr. Hillman. The Office of Internet Enforcement has three 
full-time staff and 125 volunteer staff within SEC's 
Enforcement Division and regional offices.
    Senator Levin. Well, we can ask the SEC this tomorrow, but 
there is no way that is anything other than overwhelming. They 
cannot possibly come close, even with all the volunteers, to 
handling that kind of a crush of complaints. So I think we are 
going to need to do a lot of education, but we are also going 
to need to do an awful lot of shoring up our enforcement 
mechanisms and maybe look at the penalties, as well, in order 
to get at the frauds and the scams which are swamping the 
Internet these days, so thank you.
    Senator Collins. Thank you, Senator Levin.
    To follow up on a point that Senator Levin made, we asked 
the SEC how many of those E-mail complaints relate to Internet 
fraud schemes as opposed to other kinds that are just being 
conveyed, and the estimate was that it was about 70 percent 
did. So it is a substantial and growing number.
    Senator Edwards.
    Senator Edwards. Thank you, Madam Chairman.
    I have just made a list of the broad categories that I have 
heard the three of you talk about. I am going to go back and 
ask you a couple of questions about these, but what I have got 
are fraud, day trading, penny stocks, micro-cap stocks, ``pump 
and dump'', and I guess to some extent, anonymity contributing 
to those things. Have I left out some broad category of 
problems that you all are seeing? What have I left out? Is that 
it?
    Mr. Gardner. When we can nail those, we are on the road.
    Senator Edwards. All right. And I think I have heard at 
least Mr. Gardner and Mr. Hillman say, particularly when you 
were pressed about some specifics about potential regulations 
and so forth, that investor education, you think, is critical, 
and Mr. Gardner, I know you said that in your opening comments. 
Professor Friedman, do you agree with the two of them about 
that?
    Mr. Friedman. I agree that investor education is critically 
important. I am not sure that it alone is enough.
    Senator Edwards. OK. I want to come back to that in just a 
minute. Mr. Hillman, since you are one of the people who talked 
about that, can you give me some notion in your mind what the 
components of investor education need to be, and also, second, 
the practical way of getting that information to people, to 
potential investors, to make sure that they have got it?
    Mr. Hillman. I think to avoid scams, education needs to be 
put forth that tells individual investors to think twice before 
investing on information learned solely over the Internet and 
to get the facts. Get financial statements and analyze them. 
Verify claims about new product developments. Call suppliers or 
customers of the company.
    There are a number of ways that this information could get 
out. The SEC has a Web page containing investor education 
information, including warnings on investment recommendations 
over the Internet. They also produce pamphlets and they host 
town meetings.
    Senator Edwards. Can I interrupt you there just a moment? 
Do not lose your place, but I want to ask you about that. Do 
you have any notion of how many investors who participate in 
purchasing the kinds of things that we have been talking about 
over the Internet actually go to those places to get 
information now?
    Mr. Hillman. I do not have the numbers of the hits that 
have been made on their Web page, and I am sure the SEC could 
provide that to you.
    Senator Edwards. Do you have any sense of it?
    Mr. Hillman. I am sorry, I do not.
    Senator Edwards. You do not know? OK. Again, back to that 
list of things that you talked about as being critical, in the 
ideal world, where would you put that information to make it 
most obvious and most accessible to the investor? Instead of 
making him go somewhere else, I mean, you are talking about 
going to some SEC Web site, instead of going somewhere else, 
where would you put it to make it most obvious and most 
accessible?
    Mr. Hillman. In my opinion, I would put that information 
right in the investor's face while that individual is 
attempting to make investment decisions, and that is why I 
think Senator Levin's comment about providing information on 
the Web sites as to where to go in the SEC to get information 
on prospective investments is something that we ought to 
consider.
    Senator Edwards. Do you have any idea, Mr. Gardner, how 
many Web sites, or does anybody do that now, what Mr. Hillman 
just talked about?
    Mr. Gardner. We are doing our darndest at The Motley Fool.
    Senator Edwards. Besides you.
    Mr. Gardner. I generally think that if you can place it in 
the application for a brokerage account. Obviously, placing it 
at the high school level as a core requirement to graduate 
would almost guarantee that things like, if I may list a few 
educational items that would be wonderful if everyone knew. 
Today, $6,000 in credit card debt is the average for an average 
American household, $6,000 in credit card debt at 18 percent 
interest rates, which is just terribly unfortunate. Ninety 
percent of mutual funds charging eight times more than an index 
fund, 90 percent of them do worse than the market's average in 
the 1990's. And brokers today are still paid on commission, 
many of them entirely on commission, and that is something a 
lot of individuals do not do going into the game of planning 
for their retirement.
    So to the extent that we can get these items out, as well 
as information about how to use the on-line medium to their 
maximal benefit, I do concur that we have to make sure to 
explain the Internet, a new medium and the most powerful medium 
in our world's history. However, so much of this has existed in 
some form or another before the Internet. So we have to 
recognize we have been unable to address it in advancing the 
Internet. To the extent we can with this--but let us also make 
sure to focus on the schools.
    Senator Edwards. Mr. Hillman, I interrupted you. Could I go 
back and let you finish, or did we cover what you intended to 
say?
    Mr. Hillman. No, I pretty much covered everything that I 
intended to cover. The SEC has provided a number of pamphlets. 
They have hosted town meetings. They have their own internal 
Web site which provides information on how individual investors 
are being scammed and how to avoid such scams. To the extent 
that that information can be made more readily available to the 
investing public, the better off we will be.
    Senator Edwards. Professor Friedman, I did not miss it in 
your testimony. You believe that this investor education is 
important, but also apparently believe that there may be other 
steps that are necessary.
    Mr. Friedman. That is right. I mentioned there is a high 
school program that the Investor Protection Trust and the NASD 
and NASAA have begun. I think getting students at high school 
age is certainly a good starting point.
    Senator Edwards. Did I not also hear you talk about some 
sort of heightened broker-dealer responsibilities?
    Mr. Friedman. Yes.
    Senator Edwards. Talk to me a little bit more about that, 
because I want to get these other gentlemen's comments about 
whether they think that is realistic or not.
    Mr. Friedman. To some extent, that goes to the day trading 
issue, of making certain that customers who are engaging in day 
trading are only doing it if it is suitable to their financial 
needs and their investment goals. But also more broadly, 
broker-dealers and investment advisors should have to monitor 
customers' trading to make sure that it is consistent with the 
customers' goals and objectives. This would extend suitability 
obligations beyond just the situation where brokers make 
recommendations, which is now the case.
    Senator Edwards. Which you talked about with Senator 
Collins.
    Mr. Friedman. Yes.
    Senator Edwards. Mr. Hillman, is that practical from your 
perspective?
    Mr. Hillman. In my opinion, intermittent monitoring is 
something that ought to be looked into. As I indicated before, 
broker-dealers who have a track record of providing improper 
information to investors are now required to have their 
telephone conversations with investors taped to better 
understand the extent to which proper information is being 
provided.
    Senator Edwards. Mr. Gardner, how about your comment on 
that?
    Mr. Gardner. I am hesitant, again, to try and place 
guidelines on investment strategies, what works and what does 
not and to cookie-cut the way people can invest. I think at 
some point you might have a broker saying to Bill Gates, you 
can no longer hold 99.9 percent of your wealth in a single 
stock. So I am not sure----
    Senator Edwards. Can I interrupt you for just a minute? You 
see, my concern is, as much as I--and I very much want to 
protect investors, particularly elderly investors and people 
who are being taken advantage of--Professor and Mr. Gardner, I 
just worry about the practicality of it. These guidelines sound 
very subjective and very amorphous to me, and trying to enforce 
them with broker-dealers seems like an awfully hard thing to do 
to me.
    Mr. Gardner. I think it would be extremely difficult, but I 
have sympathy with the intent. But I think the execution of 
that idea would be very difficult. I do think that you have to 
try and shed as much light on this industry as possible, and to 
the extent that the SEC is doing that, we are going to see a 
greatly improved marketplace in the years ahead. But we are on 
the cusp here of a new medium that has been created and there 
may be a need for more requirements in terms of disclosure and, 
again, making sure that these sites shed light on what their 
activities are.
    Senator Edwards. Professor Friedman, I want to give you a 
chance to respond to the concern I just expressed.
    Mr. Friedman. There is one distinction we have to keep in 
mind that I think maybe we are running together. One problem is 
the pure fraud situation, where someone is just misrepresenting 
information.
    Senator Edwards. Right.
    Mr. Friedman. A second issue is trading opportunities, 
trading strategies, investments which are legitimate but high 
risk, and----
    Senator Edwards. Day trading, for example.
    Mr. Friedman. Yes, day trading or start-up companies, and 
those may be perfectly legitimate investments for some 
investors but not for others. I think we have to deal 
separately with those two kinds of issues, the legitimate 
investment that is too risky for some people versus the 
fraudulent investment that nobody ought to be getting into.
    I think the enforcement is always a problem, but that is a 
problem now with suitability obligations. That enforcement 
problem is limited to some extent by being handled largely 
through arbitration when there is a violation so that it does 
not give rise to some of the proliferation of lawsuits that we 
might otherwise have.
    Senator Edwards. One thing I have not heard any of you 
mention, and I may have just missed it in your testimony, have 
there been any problems with computer hacking in this area?
    Mr. Gardner. We have not encountered any, but certainly 
security is always an issue. So we have not run across that.
    Senator Edwards. You have not seen it, but there is always 
the potential for that, obviously.
    Mr. Gardner. Sure.
    Senator Edwards. How about you, Mr. Hillman?
    Mr. Hillman. We have asked some of the on-line firms that 
we interviewed during the course of our study whether or not 
they have been penetrated and the answer so far has been no.
    Senator Edwards. OK. Professor Friedman.
    Mr. Friedman. I do not know of any situations.
    Senator Edwards. Thank you all very much. It has been very 
helpful.
    Senator Collins. Thank you.
    Senator Edwards. Thank you, Madam Chairman.
    Senator Collins. Thank you. Mr. Gardner, this morning when 
I accessed your Web site, I read your very lengthy and complete 
disclaimer where you make very clear to people that you are not 
acting as investment advisors and you tell people that, 
essentially, they are acting on any tips that they hear at 
their own risk and they should do further research and you 
really go to great pains to make sure that people are not 
confused by the role that your on-line financial forum is 
playing.
    Some have suggested that perhaps chat rooms, the sponsors 
of chat rooms, should be registered as investment advisors. 
That strikes me as being regulatory overkill and not a very 
practical solution. But what about requiring on-line financial 
forums to have the kind of disclaimer that you have where they 
make very clear that they are not acting in that capacity? 
Would you support that kind of move?
    Mr. Gardner. Do we get a licensing fee? [Laughter.]
    No. I certainly would support requirements of disclosure 
about the service, the responsibilities of those people 
providing the service, and I hope we have set a good example. I 
mean, in all of this, I always feel that there may be a need 
for regulation up front, but I would only position that 
regulation as something that gets peeled away over time, in 
other words, not denying ourselves the responsibility that we 
have to educate people to do this as much as possible 
themselves.
    So any sort of requirements that are placed, I would hope 
that they would only be placed because we had already applied 
the existing law that we had as best we could, that we had 
enforced it, that we had seriously penalized those who had 
violated it, and then if there was a need for additional 
regulation, I would hope that education could supplant it over 
time.
    Senator Collins. Professor Friedman, you mentioned in your 
written testimony a new kind of spam that I had not been 
familiar with which I want to get on our hearing record so that 
others can beware of it, and that is the so-called misdirected 
E-mail spam. This struck me as much more sophisticated than the 
normal spam. Could you explain how this works?
    Mr. Friedman. It is. It leads the person who receives an E-
mail message to think that he or she has been the lucky 
recipient of inside information that was intended for someone 
else that got misdirected to that person. It is, of course, 
sent out to millions of people, but it looks like an internal 
memo from a brokerage firm or some message that has inside 
information in it.
    Senator Collins. So rather than being a direct pitch to buy 
or to invest, in fact, this gives the impression that, somehow, 
the E-mail recipient is the lucky recipient of inside 
information that will give them an advantage if they act now.
    Mr. Friedman. That is right, and it plays on this idea 
that, gee, that is how people make money, by using inside 
information.
    Senator Collins. Which is an interesting point, because I 
think there is a common perception about that among investors, 
and that, somehow, if only they had the inside information, 
they, too, would make a lot of money.
    Mr. Friedman. That is right.
    Senator Collins. Is this a growing kind of spam?
    Mr. Friedman. I do not know. I think this has been fairly 
limited so far. I only have heard of a few instances of it. So 
I think it is a little more sophisticated than the schemes 
carried out by most of these fraudsters have done. In fact, a 
lot of these schemes are pretty simple, straightforward frauds 
and not nearly that sophisticated.
    Senator Collins. Mr. Hillman, I want to turn back to the 
issue that Senator Levin touched on as far as the adequacy of 
the SEC resources and efforts in this area. I have been 
impressed by the proactive response of the SEC to crack down on 
Internet fraud. It is, however, a growing problem and the 
question is whether the resources, no matter how well 
intentioned the SEC may be, are keeping pace with the problem. 
What is your assessment of that? Are the resources adequate? 
You mentioned there are only three full-time SEC staff people 
who are dedicated full-time to Internet fraud, though they are 
supplemented by 125 volunteers.
    Mr. Hillman. It is clear to me, as well, that the SEC is 
trying hard to combat Internet securities fraud, but you have 
to wonder, while they are fighting a good battle, are they 
winning the war? At this early stage, it seems that the 
potential for Internet securities fraud is unlimited, while we 
know the SEC's resources are not. With the rapid growth of the 
Internet, it is constraining the agency's ability to respond, 
and as a result, they are having to focus on what they call 
message cases as opposed to looking into every investigation, 
as they probably should.
    Senator Collins. One step that the SEC has taken, and it 
goes along with Mr. Gardner's theme about consumer education, 
is sponsoring town meetings. I was pleased to host one in 
Maine. The overriding message that was conveyed by the SEC 
Chairman was to not give money to people you do not know. I am 
wondering if one of the lessons that we should take from these 
hearings is that that basic rule has not changed and that even 
if it is an investment opportunity over the Internet, if it is 
a company you have never heard of and someone you do not know, 
that you ought to really think twice. Mr. Gardner, what do you 
think of that advice?
    Mr. Gardner. I entirely agree, although I would have to add 
somewhat foolishly that we have had a lot of people come into 
our forum and contribute to our ``my dumbest investment'' 
discussion, which is a single folder that we have that is very 
popular and rich with education for anyone who wants to sit 
down and read through it, that there are a lot of people who 
work with people that they do know, that are their college 
friends. Ed McMahon came on our radio show about a month and a 
half ago and said that he lost $1.4 million investing in a 
psychedelic paper design company run by a college buddy of his.
    Senator Collins. Maybe he will enter one of those 
sweepstakes that he is always promoting and win it all back.
    Mr. Gardner. I will not go into any detail there. 
[Laughter.]
    But one thing that did strike me about the testimony of the 
two individuals that had been victims of scams is that to the 
extent that we can show the different sorts of investments and 
teach people how to read financial statements, even though it 
can appear to be somewhat boring, that would have tipped them 
off right away that the promise of owning the world by a tiny 
little company is so unlikely relative to everything else that 
goes on in the business world, that I think that would have 
helped them avoid that.
    Senator Collins. Professor Friedman.
    Mr. Friedman. I am sorry. You were asking me----
    Senator Collins. What advice do you have as far as is it a 
mistake for people to invest in a product they have never heard 
of with a company they cannot verify and with someone they do 
not know? I mean, does it really come down to that being the 
bottom line?
    Mr. Friedman. Well, that is certainly a lot of it. That has 
been the case even before Internet fraud, that fraud carried 
out through the telephone, carried out in other ways, often 
involves exactly that same thing. That is a very basic 
proposition. You are right. Much of that is what we have here. 
Much of it is, again, just convincing people that there is no 
such thing as getting rich quick without huge downside risk.
    Senator Collins. Mr. Hillman.
    Mr. Hillman. I think the bottom line is, get the facts.
    Senator Collins. Thank you. I want to thank the three of 
you for participating in our hearing today. You have greatly 
added to our understanding of this problem. Tomorrow, we are 
going to hear from State and Federal regulators.
    As we approach this issue, we are mindful of the many 
benefits of the Internet. In many ways, I think it is helping 
to democratize our markets and make them more accessible to the 
average person, to the person who did not previously have 
access to the kinds of information that only securities 
professionals would have. And so in many ways, that is a very 
positive development that has been brought about through the 
Internet.
    On the other hand, we have also seen the dark side, as Mr. 
O'Kane so aptly called it, of people investing through the 
Internet in a venture that they never would have invested in 
had it been through a cold call from an aggressive broker or 
even through a solicitation in the mail.
    We have heard examples of how the perpetrators of 
securities scams in some ways seem to have simply packed up 
their operations and moved to the Internet frontier, and 
indeed, the Internet offers many advantages over the 
traditional means of communication. It is much cheaper. You can 
reach many more people than you could through calling from a 
boiler room, for example. So instead of cold calling families 
one at a time as they are sitting down to dinner, now these 
fraudsters can with the click of a mouse instantly communicate 
with hundreds of thousands of people via the Internet.
    As we address this issue, I am convinced that, as Mr. 
Gardner has said, that consumer education is front and center, 
but I also think we need to look at questions such as whether 
the SEC has adequate resources, whether penalties need to be 
increased, whether suitability requirements need to be 
toughened, as Professor Friedman suggests, and we need to look 
at the whole panoply of possible solutions.
    I very much appreciate your joining us today as we explore 
this very interesting issue, and with that, the hearing will 
now be in recess until 9:30 tomorrow morning.
    [Whereupon, at 3:41 p.m., the Subcommittee was adjourned, 
to reconvene at 9:30 a.m. on Tuesday, March 23, 1999.]



                    SECURITIES FRAUD ON THE INTERNET

                              ----------                              


                        TUESDAY, MARCH 23, 1999

                                       U.S. Senate,
                Permanent Subcommittee on Investigations,  
                  of the Committee on Governmental Affairs,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 9:31 a.m., in 
room SD-342, Dirksen Senate Office Building, Hon. Susan M. 
Collins, Chairman of the Subcommittee, presiding.
    Present: Senator Collins.
    Staff Present: Timothy J. Shea, Chief Counsel/Staff 
Director; Mary D. Robertson, Chief Clerk; Lee Blalack, Deputy 
Chief Counsel; Elliot Berke, Counsel; Kirk E. Walder, 
Investigator; Smokey Everett, Detailee/Secret Service; Wesley 
Phillips, Detailee/GAO; Bob Roach, Counsel to the Minority; 
Butch Burke (Senator Stevens); Seema Singh (Senator Specter); 
and Peter Ludgin (Senator Lieberman).

              OPENING STATEMENT OF SENATOR COLLINS

    Senator Collins. Good morning. The Subcommittee will please 
come to order. This morning, we continue our investigation into 
securities fraud on the Internet.
    Yesterday, we heard troubling testimony from two 
unfortunate investors who have firsthand knowledge of Internet 
securities fraud. We learned that even computer-literate, 
experienced investors can be bilked out of thousands of dollars 
through investment scams perpetrated over the Internet.
    We also received testimony yesterday from the General 
Accounting Office, the law professor who wrote Securities 
Regulation in Cyberspace, and the founder of an on-line 
financial form.
    Today, we will turn our attention to the efforts undertaken 
by both Federal and State securities regulators in response to 
escalating Internet securities fraud. Both the SEC and many 
State regulators have been inundated with consumer complaints 
alleging securities fraud. The SEC's Office of Internet 
Enforcement receives between 200 and 300 complaints via E-mail 
every day, of which an estimated 70 percent allege Internet 
securities fraud.
    One question the Subcommittee will explore this morning is 
whether the SEC has sufficient resources to combat this 
burgeoning problem.
    For 5 years, I served as Maine's Commissioner of 
Professional and Financial Regulation, with jurisdiction over 
the State Securities Division.
    I well remember how hard our staff worked to obtain 
restitution for elderly consumers who had invested in penny 
stocks and other unsuitable investments. The Internet greatly 
extends the reach of con artists creating many more potential 
victims.
    Given my experience at the State level, I am particularly 
interested in learning what State regulators are doing to fight 
Internet fraud. I look forward to hearing from our witnesses 
this morning as they offer the Subcommittee their perspectives 
on how the regulators are approaching securities fraud on the 
Internet and how investors can best protect themselves from 
falling prey to on-line securities schemes.
    I do want to explain the absence of other Subcommittee 
Members this morning. Many of the Subcommittee Members who have 
a particular interest in this issue, such as Senator Levin, 
Senator Specter, and Senator Lieberman, are at the White House 
for a briefing on Kosovo that the President scheduled last 
night, and we did not have the opportunity to move the hearing. 
I hope that some of them will be able to join us later in the 
hearing, but I know all of them will look forward to reviewing 
the hearing record with great interest.
    Today, we are pleased to have a panel of distinguished 
witnesses who will discuss Federal and State regulatory efforts 
to combat Internet securities fraud and to educate consumers 
about the risks associated with investing over the Internet.
    Our first witness this morning is Richard H. Walker, who is 
the Director of the Division of Enforcement with the Securities 
and Exchange Commission.
    It is my understanding that John Stark, who is the Chief of 
the SEC's recently created Office of Internet Enforcement, is 
also available to respond to questions.
    Our next witness will provide a perspective on State 
regulatory efforts to combat Internet securities fraud. Peter 
C. Hildreth is the President of the North American Securities 
Administrators Association, or NASAA as I have always known it 
as, and he is also the Director of Securities Regulation for 
the State of New Hampshire--a fine New England State.
    Mr. Hildreth is accompanied by Philip Rutledge, who is the 
Deputy General Counsel of the Pennsylvania Securities 
Commission, and I do want to thank Mr. Rutledge also for being 
here. He has 20 years of experience in the field of securities 
regulation, and I know that Senator Specter will be reviewing 
your testimony with great interest.
    Pursuant to Rule 6, all witnesses who testify before the 
Subcommittee are required to be sworn in. So, at this time, I 
would ask that you stand and please raise your right hand.
    Do you swear that the testimony you are about to give the 
Subcommittee will be the truth, the whole truth, and nothing 
but the truth, so help you, God?
    Mr. Walker. I do.
    Mr. Hildreth. I do.
    Mr. Rutledge. I do.
    Senator Collins. Thank you.
    We will make your complete written testimony, which in some 
cases is quite extensive, part of the complete hearing record. 
I am going to ask that you limit your oral presentations to no 
more than 10 minutes each. However, if you do need a little 
extra time, feel free to take it, and as I mentioned, your 
prepared testimony will be printed in its entirety in the 
hearing record.
    Mr. Walker, thank you for being here today, and I will ask 
that we start with you.

   TESTIMONY OF RICHARD H. WALKER,\1\ DIRECTOR, DIVISION OF 
     ENFORCEMENT, U.S. SECURITIES AND EXCHANGE COMMISSION, 
WASHINGTON, DC, ACCOMPANIED BY JOHN R. STARK, CHIEF, OFFICE OF 
 INTERNET ENFORCEMENT, DIVISION OF ENFORCEMENT, SECURITIES AND 
              EXCHANGE COMMISSION, WASHINGTON, DC

    Mr. Walker. Thank you, and good morning, Chairman Collins.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Walker appears in the Appendix on 
page 139.
---------------------------------------------------------------------------
    I am Richard Walker, the Securities and Exchange 
Commission's Director of Enforcement. We commend you, Chairman 
Collins, and this Subcommittee for holding today's hearing. The 
hearing focuses on one of the greatest challenges that we 
regulators face today, and that is policing the Internet.
    It is a problem that has grown in magnitude and promises to 
command ever more of our time, resources, and ingenuity in the 
years ahead, and we are pleased to share with you what we have 
been doing in this area. We are very proud of the 
accomplishments that we have made so far, and we would be happy 
to respond to your questions.
    I understand that today's hearing will be broadcast 
worldwide on the Web, and with that spirit in mind, we have 
prepared a computerized PowerPoint presentation for the 
Subcommittee.\1\
---------------------------------------------------------------------------
    \1\ See Exhibit No. 2 in the Appendix on page 318.
---------------------------------------------------------------------------
    I would like to begin with a brief overview of my 
testimony. I am going to first talk about the types of 
securities frauds that we have been seeing on the Internet. 
Then I will discuss briefly the SEC's response to combatting 
fraud on the Internet, and finally, I will talk about some of 
the current and future regulatory and enforcement challenges 
that we are grappling with.
    To put things in the proper perspective, I think it is 
appropriate to say a few words about the phenomenal growth of 
the Internet. There are currently about 150 million Internet 
users worldwide. That number is expected to double this year 
alone; by the end of the year, there will be about 300 million 
users.
    Thirty-seven percent of all retail trades are currently 
done on-line. That number is up from about 17 percent in 1997.
    The Internet has unquestionably provided valuable benefits 
to investors. It has enabled Internet users to directly 
communicate with all reaches of market participants, 
shareholders, officers and directors of public companies, and 
other investors.
    It has also provided direct and instant access to market 
information 24 hours a day, 7 days a week, which is another 
terrific benefit for investors.
    The Commission itself has made vast amounts of information 
available over the Internet through its Edgar database, which 
is available on our Web site at www.sec.gov. Unfortunately, 
with the rapid growth of the Internet, we have also seen an 
increase in fraud on the Internet. This has emerged as a 
considerable challenge for our division.
    We have brought so far 66 cases since we first began 
surveilling the Internet in 1995. Thirty-eight of those cases 
were brought last year in 1998. All of the cases allege fraud. 
They are serious cases.
    Now, what is Internet fraud? There is nothing new on the 
Internet. We are seeing the same scams, just a new medium. As a 
result, we have seen phony offerings of securities, pyramid and 
Ponzi schemes, market manipulations which we call ``pump-and-
dump'' schemes, and unlawful touting.
    Now, Internet schemes can often be quite exotic, as 
witnessed in some of the first cases that we brought. For 
instance, we saw a scheme involving a partnership to sell eel 
farms. Another one involved coconut plantations which 
manufactured Coco Loco Chips.
    I think as both Chairman Collins and Senator Levin 
indicated yesterday in their opening remarks, the Internet 
provides an aura of legitimacy and credibility which allows 
these schemes to take place.
    One of the more recent schemes that we saw was the 
exploration of near-earth asteroids in a case called SEC v. 
Spacedev. Now, not only can Internet schemes be exotic, they 
are also quite complex.
    One recent case involves a foreign currency trading scheme 
which raised $3.7 million from over 40 investors. Another 
involved the sale of prime bank securities, which raised $4 
million from another small group of investors.
    One of the favorite tools for those now engaged in market 
manipulation is the Internet. We have seen at least 18 market 
manipulation cases on the Internet raising billions of dollars.
    The SEC has adopted a five-pronged approach to combatting 
fraud over the Internet. The first prong is aggressive 
surveillance, principally through our cyber force of volunteers 
throughout the country. We also engage in vigorous prosecution. 
Investor education is another key prong of our program. Liaison 
with other law enforcement officials at both the Federal and 
the State level is the fourth prong. We have worked closely 
with the FBI, the Secret Service, the States, and increasingly 
criminal prosecutors. And finally, self-policing, principally 
through our Enforcement Complaint Center. We have operated our 
Enforcement Complaint Center since 1996, and it is available on 
our Web site.
    We currently receive, as Chairman Collins noted, between 
200 and 300 messages a day. About half of the messages that we 
receive relate to existing investigations, and those are 
quickly transmitted to the staff that is handling those 
investigations. Overall, about 70 percent relate to fraudulent 
conduct on the Internet.
    Now, the Enforcement Complaint Center provides a user-
friendly complaint form for people to fill out or people can 
make their own messages and E-mail them to us. This is an 
example of our enforcement complaint form.
    Our Web site also contains valuable investor education 
materials, such as this cyber alert which contains tips for on-
line investing.
    Another investor education posting offers valuable advice 
regarding investing in micro-cap stocks, which is, I know, 
another concern and interest of this Subcommittee.
    At the SEC, we have been patrolling the Internet since 
1995. Recently, we created an Office of Internet Enforcement to 
focus, coordinate, and expand our internal enforcement efforts.
    The office was formed in July 1998. I believe that there 
has been some misconceptions about exactly what this office 
does.
    The office is currently staffed by three individuals who 
are all Internet experts, and we intend to grow that staff over 
the years ahead. But the three people that staff this office 
are not the sum and the total of the SEC's commitment of 
resources to fighting fraud on the Internet.
    We have an enforcement staff of approximately 850 
nationwide who bring all kinds and manner of cases, including 
cases involving Internet fraud. It is the duties of the Office 
of Internet Enforcement to coordinate the activities and to 
provide assistance to our larger staff throughout the Nation.
    In addition, the Office of Internet Enforcement oversees 
our 125-person cyber force, also located throughout the 
country, that conduct surveillance. And finally, it manages our 
Enforcement Complaint Center, where it receives, attends to, 
and promptly dispatches the complaints that we receive.
    Now, one of the first dividends of establishing this office 
occurred this past October when we brought a coordinated sweep 
of cases on October 28, 1998. The sweep was the first 
systematic operation by the SEC to combat Internet fraud. It 
was coordinated by the Office of Internet Enforcement, but 
involves a nationwide attack with cases brought by our 
headquarters office and all of our regional offices throughout 
the country.
    The focus of the sweep was on illegal touting. Now, what 
makes touting a security illegal? The law provides that it is 
unlawful to publicize a security if you are being paid to do 
so, unless you disclose three things. The first thing is the 
nature of the compensation you are receiving, whether it is 
cash or whether it is stock. The second thing is the amount of 
compensation, and the third is the source of the compensation, 
presumably from the company that you are touting.
    Our sweep was highly productive. We filed 23 cases on the 
same day against 44 different respondents and defendants. The 
respondents and defendants included all major participants in 
the Internet--authors of spam or junk E-mail, on-line 
newsletters, message board postings, and Web sites.
    The totals were quite eye-opening. The touters received 
from micro-cap companies more than $6.2 million in cash alone, 
plus more than 1.8 million shares of stock and options which 
had potentially unlimited value. Touters also touted more than 
235 micro-cap companies.
    The sweep achieved the intended results. It sent a powerful 
message which was heard loud and clear and which has resulted 
in substantially improved disclosures. We have checked the 
disclosures very carefully subsequent to the sweep, and we 
found that people have heard the message that we have sent and 
they have improved substantially the disclosures. The 
disclosure is not at the point that we would like to see it, 
but it is better. We continue to be vigilant.
    We also received a record number of visits to our Web site 
when we announced the sweep, particularly to our consumer and 
investor alert on on-line investing.
    We also got a surge in messages to our Enforcement 
Complaint Center. Before the sweep, we were receiving about 120 
a day. In the few days following the sweep, the number went to 
800 to 900, and it has now settled back to 200 to 300.
    The sweep also created a very positive buzz among Internet 
users. They were aware of what we did, and I think that they 
learned from the message we were sending. That is evident from 
the following message, which is an example of one of the 
messages we received after the sweep.
    Notwithstanding improved disclosure in this area, our work 
is not done, and we are going to continue to be vigilant. The 
best proof of that is a follow-up sweep which we announced just 
recently on February 25. We brought four more cases involving 
unlawful touting against 13 defendants and respondents who had 
touted 56 different companies without making proper 
disclosures. The kinds of frauds I have discussed so far are 
not new. They have been around for many, many years.
    In addition, we are looking at existing and currently 
evolving types of conduct to which we call the new frontiers. 
Those include things which have been widely discussed in the 
press--on-line trading and day trading.
    We have identified approximately 100-plus firms that are 
engaged in on-line trading, and we define on-line trading as a 
situation where the Internet simply substitutes for a 
telephone. Rather than telephoning in an order, an investor 
uses the Internet to transmit the order to a broker, who 
executes the order.
    We have several concerns in this area. The first concern is 
operational capacity. Are the firms capable of handling the 
orders that they receive? The second is the quality of 
disclosure that the firms are providing. Are investors alerted 
not only to the benefits, but also to some of the limitations 
of on-line trading? And third is investor education. Do 
investors know what they are doing? Are they at risk of losing 
their money simply because they do not understand how on-line 
trading works?
    Distinct from on-line trading is a phenomenon called day 
trading. By day trading, we refer to firms that do one of three 
things. Either they provide direct access to markets, they 
train people, or they make recommendations to individuals who 
are engaged in what we call day trading. Day trading is a 
strategy of rapid buying and selling to take advantage of small 
price movements during the course of a particular day. Most day 
traders buy and sell during the day and do not carry overnight 
positions.
    We have a number of concerns which we have identified with 
respect to day trading. They include: Are the margin 
requirements of the law being satisfied? Are borrowing limits 
being exceeded? Second is disclosure and suitability. Are 
recommendations complete and consistent with an investor's 
ability to bear risk? And third, finally, are registrations to 
provisions requirements being met? Should any of these entities 
that are engaged in this kind of activity be required to 
register with our agency and be subject to the protections of 
the Federal securities laws?
    I see that I have exceeded my time, but at this point, I 
will----
    Senator Collins. You are free to finish.
    Mr. Walker [continuing]. Conclude, and I appreciate the 
opportunity to respond to any questions that the Subcommittee 
has.
    Thank you very much.
    Senator Collins. Thank you, Mr. Walker.
    If you did have some additional points you wanted to make 
right now, please feel free to do so.
    Mr. Walker. That concludes my opening remarks. Thank you.
    Senator Collins. Thank you. Mr. Hildreth, welcome.

 TESTIMONY OF PETER C. HILDRETH,\1\ PRESIDENT, NORTH AMERICAN 
  SECURITIES ADMINISTRATORS ASSOCIATION, INC., WASHINGTON, DC

    Mr. Hildreth. Thank you, Chairman Collins.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Hildreth appears in the Appendix 
on page 179.
---------------------------------------------------------------------------
    I am Peter Hildreth, Director of Securities Regulation for 
the State of New Hampshire and President of the North American 
Securities Administrators Association.
    I am pleased to have the opportunity to present the States' 
perspective as you examine the issues related to securities 
fraud on the Internet, as well as on-line trading issues, and I 
am especially happy that you also have a representative from 
one of our more active States in that area. I am sure Phil 
Rutledge will do a good job for us.
    As you pointed out yesterday, the legitimate business 
opportunities for financial services on the Internet are 
unlimited. At the same time, however, the risks for fraud are 
great. With a click of a mouse, con artists can reach tens of 
thousands of people via E-mail literally for pennies. They can 
hide their identities and locations through fictitious names, 
multiple aliases and remailers. Because the Internet is so 
cheap and reaches so many people, truly any con artists not on 
the Internet should be sued for malpractice.
    Given the size and growth of the Internet, regulators 
cannot police it alone. It is like expecting one precinct house 
to patrol all of New York City. State and local governments 
have limited resources and defined jurisdictional boundaries. 
That is why we have asked investors to become partners with us 
in the fight against securities fraud on the Internet.
    When I became NASAA President last fall, I announced NASAA 
would create a new E-mail address for investors to report 
suspected Internet securities fraud. The address is cyberfraud 
at nasaa.org.
    In just 4 months, we had received over 4,700 unsolicited E-
mail messages, or spams. The two messages that you have before 
you today are typical, and they contain uncanny similarities.
    An informed investor would be very skeptical about such 
hyperbole. Both messages contain claims that are not supported 
with data. Who is recommending the stocks? Who is rating the 
stocks? There is no disclosure of such information, but these 
messages are on the Internet with a link to Yahoo!, the leading 
search engine, which lends them an air of credibility.
    State securities regulators have been policing Internet-
based investment scams for years. One great advantage of State 
securities regulators is their authority to use an undercover 
operation to detect fraud on the Internet.
    My written testimony elaborates on various actions brought 
by a number of States since 1994, but last fall, NASAA and 30 
State and provincial jurisdictions participated in the Internet 
Investment Opportunities Surf Day looking for suspicious or 
fraudulent investment opportunities. Also taking part in the 
Surf Day were regulators from the FTC, the CFTC, and the NASD.
    Just 2 weeks ago, NASAA joined with other Federal, State, 
and local law enforcers to announce 33 law enforcement actions 
against 67 defendants promoting Internet pyramid schemes.
    My advice to investors going on-line is ask yourself, if it 
is such a great money-making idea, why is someone telling 
100,000 of their closest friends about it on the Internet. 
Never make a decision to buy or sell an investment product 
based solely on information you read on the Internet.
    There will never be enough regulators to keep the on-line 
world free of fraud and abuse. Investor education is the key to 
protecting investors on the Internet.
    Here are some tips that we offer. Do not expect to get rich 
quick. Do not buy thinly traded, little known stocks on the 
basis of on-line hype. Do not get suckered by claims about 
inside information, and certainly, call your State or 
provincial securities agency.
    Turning briefly to on-line investing, an estimated 5 
million investors have on-line brokerage accounts, and that is 
expected to top 10 million by the year 2000.
    Not surprisingly, the on-line brokerage industry is 
experiencing growing pains. Regulators have been bombarded with 
complaints from investors stemming from outages and computer 
glitches at major on-line brokerage firms.
    On February 7, the State of New York announced an inquiry 
into on-line trading firms to find out about their computer and 
network capacity, contingency plans, customer complains, and 
how orders are processed and executed.
    State regulators have also issued the following tips for 
investors venturing on-line, and they are included in a 
brochure that we have distributed. I think there are copies in 
the back.
    First, call your State securities regulator to see if the 
firm is properly registered or has a disciplinary history. 
Carefully read the customer account agreement. Know your 
rights. Learn how the software works before you make your first 
trade. Know where to go if you make a mistake or have a 
problem. Remember that technology can fail. In volatile 
markets, your order could be delayed, and you may not get the 
price you want. Consider using limit orders instead of market 
orders.
    In conclusion, State securities regulators are committed to 
protecting investors and preserving the integrity of the U.S. 
capital markets. NASAA appreciates the interest you have 
demonstrated in exploring all of these issues, and we are 
committed to working with you as your fact-finding continues.
    I, of course, will be willing to answer any questions.
    Senator Collins. Thank you, Mr. Hildreth.
    Mr. Rutledge, welcome.

   TESTIMONY OF G. PHILIP RUTLEDGE,\1\ DEPUTY CHIEF COUNSEL, 
  PENNSYLVANIA SECURITIES COMMISSION, HARRISBURG, PENNSYLVANIA

    Mr. Rutledge. Thank you. Madam Chairperson and Members of 
the Subcommittee, my name is Philip Rutledge, and I serve as 
Deputy Chief Counsel to the Pennsylvania Securities Commission.
---------------------------------------------------------------------------
    \1\ The prepared statement of Mr. Rutledge appears in the Appendix 
on page 219.
---------------------------------------------------------------------------
    The Subcommittee is to be commended on the timeliness of 
these hearings on securities frauds on the Internet, and I am 
grateful for the opportunity to comment on Pennsylvania's 
experience.
    Nineteen-hundred-ninety-five also was a watershed year for 
the PSC because we became involved in our first three 
securities fraud cases where Internet was used to solicit 
investors. Those cases dealt with fraudulent and misleading 
statements posted on Internet to solicit investors in purported 
coconut groves in Costa Rica, nonexistent offshore hard-
currency bonds, and allegedly patented therapy to treat AIDS.
    These early cases, investigated jointly by PSC and SEC, 
also serve to highlight the cooperation necessary between State 
securities regulators and SEC to combat securities frauds on 
Internet.
    Actions related to securities frauds on the Internet now 
account for approximately 20 percent of our enforcement 
caseload. I expect this percentage to continue to increase as 
more persons obtain personal computers and Internet access.
    More recent PSC Internet-related cases have involved pure 
contract trusts paying 70 percent annual interest, purported 
investments in electric utility licenses, and secured notes 
paying 30 percent annual interest.
    We also have secured State court injunctions against 
entities using Internet to solicit investments in an offshore 
virtual casino and in an organization promising investors a 
100-percent return of their money through offshore transactions 
and investments in diamond fields, gold mines, and oil wells.
    To combat securities fraud on Internet, I believe 
regulators need to focus on several areas; first, regulatory 
and statutory changes. A new Pennsylvania law now automatically 
treats violations of PSC enforcement orders as civil contempt 
with penalties of up to $10,000 per violation, and we have used 
this new law in an Internet-related case. This same law also 
provides special punitive administrative assessments for people 
who use telemarketing which we believe includes Internet, and 
we also have the ability to bar individuals from the securities 
business, including being promoters of new issuers. These bars 
may be temporary or they may be permanent.
    Second, dedication of resources. PSC has dedicated full-
time legal, investigative, and importantly, information 
technology staff to Internet cases, and have substantially 
upgraded its computer capabilities, including high-speed 
Internet access.
    States have the right to conduct undercover surveillance in 
the securities areas, as they do in other areas, and we adhere 
to guidelines established by the courts to conduct these 
operations.
    Third, investor education. On the PSC Web site, we 
disseminate investor alerts, and there is a handout which shows 
some of these, but I will just briefly scroll through them. The 
first is an investor alert concerning warning seniors about on-
line investing. That was issued in July 15, 1998. These are all 
available on our Web site at www.psc.state.us.
    We also publicize recent enforcement actions. So, when we 
take an enforcement action, we immediately put it up on our Web 
site. Here is our recent enforcement actions, and there is a 
cease-and-desist order which we issued against Reliable 
Electric and Power, which was using the Internet to solicit 
investors in Pennsylvania.\1\
---------------------------------------------------------------------------
    \1\ See Exhibit No. 3 in the Appendix on page 323.
---------------------------------------------------------------------------
    We also provide links from our Web site to other investor 
protection Web sites such as the National Fraud Information 
Center, the National White Collar Crime Center, the SEC, NASAA, 
and the Investor Protection Trust, which provides investor 
protection information. So, from our site, you can link to 
other sites.
    Importantly, we also have a mailing list where you can sign 
up to register with us, and we will send you an automatic E-
mail when we have updated our Web site. So, if you are looking 
for new enforcement activities, or whether you are looking for 
investor protection information, you will be automatically 
notified.
    Fourth, regulatory cooperation. PSC participates in 
regularized Internet sweeps with SEC and other State securities 
regulators, as well as the Federal Trade Commission. This 
cooperation must be broadened to include industry and foreign 
regulatory authorities.
    One of the most important actions, however, which can be 
taken now to help protect investors from securities fraud on 
the Internet is making the information maintained in the 
central registration depository accessible to public investors 
via a Web site. Investor protection would be well served if 
investors had this information available to them at a click of 
a mouse while they are surfing the Internet. The best way to 
counteract a fraudulent investment scam on Internet is to 
provide a quick and easy way for an investor to perform a 
baseline check with CRD of the company or individual promoting 
the stock or investment.
    Unfortunately, public access to CRD information via the Web 
appears in jeopardy because the National Association of 
Securities Dealers, which operates CRD, believes that current 
Federal law relating to civil liability for public release of 
CRD information does not apply to dissemination of the same 
information via a Web site. I would urge Congress to enact as 
quickly as possible whatever statutory amendments NASD believes 
necessary to give investors access to CRD information via the 
Web as soon as possible.
    Internet is coming into the homes and businesses of 
millions of Americans at a time of a booming stock market and 
economy fueled by consumer spending and a shifting of 
responsibility for retirement saving from employer to employee.
    Internet is changing the way Americans approach investing. 
We need to be alert to these changes and the ramifications they 
have on investor protection.
    Thank you very much for the opportunity to testify before 
the Subcommittee.
    Senator Collins. Thank you very much, Mr. Rutledge.
    First, I want to start by commending both the SEC and NASAA 
for the actions that you have taken to try to get a handle on 
this burgeoning problem. It is evident from the testimony we 
had yesterday and from your descriptions of some of the scams 
that you have taken action against that there is no end to the 
ingenuity of the con artists who are preying on people via the 
Internet.
    My concern is that their reach is so much further and it is 
so much less expensive than it used to be in the old-style 
scams of filling up a boiler room with telephone operators who 
are calling families one on one at dinner time; that now we 
have a situation where, with the click of a mouse, a scam 
artist can reach literally millions of potential victims.
    Mr. Walker, in the hearings that the Subcommittee held on 
micro-cap fraud in 1997, in the fall of 1997, the SEC's 
chairman testified that the SEC's enforcement staff was 
severely strained in its effort to detect and prosecute micro-
cap securities fraud. Since that time, we have seen an 
explosion of Internet fraud that seems to be taxing the SEC's 
resources still more.
    Another issue that the GAO testified about yesterday is the 
problem of attrition among the experienced enforcement staff. I 
believe, for example, in the SEC's New York office that half of 
the attorneys who are experienced attorneys have left for more 
lucrative private-sector employment.
    The combination of the chairman's testimony back in 1997 
and the GAO's testimony to us yesterday raises the concern in 
my mind about whether the SEC's resources are adequate to deal 
with this new medium for perpetrating fraud and also the 
related question of whether they can ever be adequate, no 
matter how many more resources we give you.
    Could you commend on that issue and whether there are steps 
other than additional resources that the SEC could take to try 
to keep up with this problem?
    Mr. Walker. Certainly, Chairman Collins.
    We are certainly challenged, if not strained, by the 
increase in fraud on the Internet. I believe that we have been 
highly effective through the use of leverage. We try to use the 
resources that we have to the greatest possible advantage. We 
have done that by trying to bring ``sweep'' type of cases where 
we have been able to have a large impact and really send a 
strong message at one time, but, unquestionably, as Internet 
use continues to grow, I expect that fraud will also continue 
to grow on the Internet as well. We are certainly going to have 
to assign, and we intend to assign, more resources to fighting 
fraud over the Internet.
    What this means is that we have to rob Peter to pay Paul 
and take resources away from other areas, unless, of course, we 
do have staff increases, which I am hopeful that we will be 
able to do through the appropriations process with Congress. 
But, certainly, we do have to use our staff very effectively. 
We have to leverage every single resource that we have to the 
maximum extent possible.
    We have also found very great success in working with our 
fellow regulators, both at the State level and the Federal 
level. Through sharing information, oftentimes with criminal 
prosecutors who really have the biggest clubs of all of us, we 
have been able to, I think, achieve some real deterrence. 
Certainly, it has been my experience in the micro-cap area that 
the greatest deterrence that we have achieved has been through 
the threat of criminal sanctions to people who oftentimes are 
undeterred by the prospect of an injunction or a cease-and-
desist order.
    Unquestionably, going forward, we are going to have to see 
what we can do to enhance our staff in this area because I 
expect the problem will continue to grow.
    Certainly, there are some legislative possibilities that 
could be of great assistance to us and could help us in terms 
of the remedies that we have available to us. Too often, we see 
some of the same people coming back into the industry who we 
have sanctioned in other capacities. One of the things that we 
have no jurisdiction over is people who act as promoters. The 
promoter population has been growing rapidly. It is also 
probably a pretty bad gene pool. Many people in this area have 
been previously sanctioned. Some have even been thrown out of 
the industry in terms of being associated with the broker-
dealers and other entities.
    To the extent that we could get and obtain remedies that 
would bar them from acting as promoters in micro-cap type of 
offerings, that would be a very effective remedy.
    Another thought--forgive me for going on, but since you 
asked for a Christmas list, it is a good occasion to do so. We 
do not currently have the authority to use State law 
enforcement decrees and remedies at the Federal level. We can 
access the State's files, and that is very effective and very 
useful, but then we have to do our own investigations and bring 
our own cases. If we have the authority to use findings by a 
State securities administrator as a basis for a disciplinary 
proceeding, that would really help us be able to bring cases 
much faster and cut out a lot of the intermediate levels.
    I might say that it has been very successful when it has 
worked the other way. Oftentimes, State securities 
administrators can take temporary restraining orders or 
preliminary injunctions that we obtain and immediately suspend 
someone from doing business in the State. That is a highly 
effective remedy. I think if we had greater authority to use 
State court and State securities regulator decrees, that would 
be very helpful as well.
    So those are some of the things I think that would really 
enable us with the resources that we have to enhance our 
ability to deter fraud in this area.
    Senator Collins. That was a very helpful summary of some of 
the issues that I would like to get into and in more depth.
    I do invite you, and it is rare for a Member of the Senate 
to invite you to give us a wish list on your appropriation 
needs, but I am doing that as well, and also whether there is 
an issue of the pay and classification of the attorneys 
because, if you cannot keep your experienced staff, that to me 
is equally as serious a problem. So I would welcome your 
suggestions in that area as well, as we seek to put together a 
legislative package to deal with some of the issues in this 
area.
    I want to go back to the issue you raised of what I call 
rogue brokers who go from one firm to another. I saw this when 
I was working at the State level and the frustration that it 
caused my securities regulators, and also the regulators in the 
other financial areas in my department, insurance, for example, 
where we would have someone who would be barred from selling 
securities, switch over and sell life insurance. So I think 
there is an issue there as well.
    Just for the record, I want to flesh out this issue. Am I 
correct that under current securities law, the SEC can bar a 
registered securities professional from serving in that 
capacity and from participating in any future penny stock 
offering, even as a promoter, or is there a gap on the promoter 
part?
    Mr. Walker. We have the authority to bar someone under our 
penny stock rules and statutes only from participating as a 
promoter in connection with penny stock activities. We do not 
have the authority to bar someone, for instance, who is 
associated with a broker-dealer from also participating as a 
promoter for a penny stock entity. So it is only with respect 
to penny stock-related cases that we can bar someone from being 
a promoter.
    Senator Collins. In the previous hearing held by the 
Subcommittee focussing on micro-cap stocks, we found that 
people who had been barred from dealing with penny stocks were 
shifting over and acting as promoters for micro-cap stocks. Is 
that correct? Is that a loophole in the current law?
    Mr. Walker. Well, that is certainly correct. There has been 
a migration. The penny stock rules typically apply to stocks 
that sell for $5 or less. So it is very easy for someone that 
wants to evade the scope of a penny stock bar to simply promote 
a stock for $5.50. So there has been creep in terms of the type 
of dollar level in which fraudulent activity has occurred. 
Enlarging the scope of the penny stock rules would be another, 
I think, very useful possibility for Congress to address.
    Senator Collins. Indeed, at least one of the cases in your 
February sweep, involved a repeat offender of micro-cap fraud. 
Is that correct?
    Mr. Walker. That is correct.
    Senator Collins. It seems to me that we need to crack down 
in this whole area. I suggested to Chairman Levitt that we have 
perhaps a zero tolerance rule; that instead of giving people 
chance after chance or letting them migrate from one kind of 
stock to another or one financial field to another that we have 
a one-strike-and-you-are-out rule.
    I had asked at that time, and it has been quite a bit of 
time since that hearing, whether the SEC would consider 
supporting that kind of enforcement action, where we would bar 
someone forever for dealing in the securities field. What is 
your reaction to that proposal?
    Mr. Walker. Well, I would not want to speak on behalf of 
the agency with respect to that, but I must say that the agency 
has been very tough. I think that the level of sanctions in 
this area has been increasing.
    The Commission takes this message very much to heart, and I 
think has been imposing and expects the staff to seek very, 
very harsh and appropriate sanctions to the worst of the 
violators. This is so because we recognize that so many people 
who are barred and serve their time or who are barred in some 
capacities end up coming back into the industry in other 
capacities. So it is certainly something that I think we should 
give very serious consideration to.
    Senator Collins. Mr. Hildreth, do you have a comment on 
that proposal?
    Mr. Hildreth. Well, I was going to comment that one of the 
things that we do in New Hampshire--and we do not have a large 
staff, but we have one very capable woman who goes through the 
licensing--we keep people out of selling in New Hampshire who 
have those kind of disciplinary histories when we check the 
CRD.
    Occasionally, we let them come in with special supervision, 
but usually if there is the rouge broker story in The Wall 
Street Journal or the New York Times, Mary will come into my 
office with a printout and say, ``Kept him out, kept him out, 
kept him out, was not quite enough to keep this guy out, but I 
had a bad feeling about him.'' So it goes back. I think, also, 
we use that.
    Another State took action against him. The SEC took action 
against him. It goes back to the comment that Dick Walker made 
about using State actions. It is a very effective tool for the 
States to use, and I think that the SEC and NASAA would 
certainly support it being extended to them, not just in the 
Internet area.
    Senator Collins. Mr. Rutledge, do you have any comment on 
that issue? Has that been a problem in your State where people 
pop up from one firm to another?
    Mr. Rutledge. Indeed, and we took action with the new law, 
effective in January of this year, where the Commission as an 
administrative agency has the authority to ban for temporarily 
or permanently any person from acting in the Commonwealth as an 
issuer; acting as a promoter, officer, or director, or a person 
trying to offer to sell securities; from being registered as a 
broker-dealer, investment advisor, investment advisor 
representative or a registered representative, or as an 
affiliate of such person; or relying on any exemption from 
registration under State law. This is our response to your zero 
tolerance idea.
    It is not a statutory mandate that everybody who has an 
infraction is out of the industry, but it places the burden on 
the regulator because they know best as to how bad this person 
was.
    We also borrowed a provision from the Federal Penny Stock 
Reform Act and put liability on individuals who knowingly 
employ barred individuals to act in that capacity.
    So, if you are a legitimate person, but then you hire a 
person who is banned from being a promoter to promote your next 
stock, you also are liable under our statute.
    Senator Collins. It seems to me that if we can prevent the 
people from being in this field, that that is a lot easier than 
trying to chase after the fraud after it has been committed.
    I know that in Maine, as well as in New Hampshire, that we 
placed a lot of emphasis on the registration and licensing, the 
provisions to try to keep people out who did have a history. We 
would check the CRD and see if there were other State actions.
    Mr. Hildreth. One of the things that the new Web CRD--it is 
supposed to come on-line in August--is to allow us to track 
people from those bad firms so that we know where they went. 
You have seen the charts where they track them, but that is a 
lot of manpower. If we can do it with a ``click of the mouse,'' 
as is the phrase, it is going to help us find those people, 
where they went, and if not take action, at least have a flag 
there to keep an eye on them.
    Senator Collins. Mr. Hildreth, let me follow up on an issue 
that Mr. Walker raised, which I think is a very good idea and 
something that Congress should give the SEC the authority to 
do, and that is, as I understand current law, as Mr. Walker 
explained, the SEC cannot make use of State findings when 
bringing its own enforcement actions.
    If the SEC had the authority to follow up on State actions, 
presumably, the SEC could bring quick-hit actions with greater 
remedies against violators of securities laws, and it seems to 
me that that authority would be very valuable, especially since 
in New Hampshire or Pennsylvania, you cannot bar someone from 
going to another State. Only the SEC can take the kinds of 
national action that is needed.
    So I would like to hear from Mr. Hildreth and Mr. Rutledge. 
Would NASAA and the State regulators support giving the SEC the 
authority to act based on State actions?
    Do you see any problem with our changing the law to allow 
that, Mr. Hildreth?
    Mr. Hildreth. I do not see any problem at all.
    As I have mentioned, the States use it very effectively. I 
think you may hear from some people that, well, how do we know 
that these are going to be real hearings on the State level.
    I can tell you from my perspective that when I run a 
hearing, I am very careful to watch out for due process rights, 
give the people we bring in, the respondents, all of their 
rights, but these actions when we revoked--New Hampshire 
happened to be the first State that revoked a company called 
Investors Associates, I think, as part of the micro-cap sweep.
    When we did, we held a full hearing. We revoked them. It 
allowed other States to take action with them, who may have had 
pending actions or pending complaints, but had not had enough 
evidence to do anything, for them to take action and stop them 
from selling in their State.
    I think and NASAA, I am sure, would be willing to testify 
in favor of any legislation necessary to give the SEC that 
authority because, as you said, it is very quick and effective.
    In this world, there is nothing better than acting quickly. 
When they can, as you said, hit that mouse and it goes to 
everyone, every day, every hour that goes by, there is another 
potential victim there who is going to lose money.
    Senator Collins. Mr. Rutledge, do you see any problem with 
giving the SEC the authority to act based on State actions?
    Mr. Rutledge. I think it is a very common-sense approach to 
the use of our admittedly limited resources to have SEC have to 
duplicate an investigation when they can rely on a State court 
injunction or an administrative adjudication. I just think it 
makes plain regulatory sense.
    Senator Collins. I also think this issue is of growing 
importance, given the use of the Internet, because the Internet 
expands the reach of these con artists so much that for one 
State to try to tackle the issue, it protects only the 
residents of that particular State. So it seems to me that 
giving that authority--I will say that when I look at the 
enforcement actions taken by the State and the SEC, it only 
reinforces my belief of the importance of having both 
regulatory systems. I know that has been an issue in the past. 
When we are looking at the goal of protecting consumers, it is 
very clear to me that we need aggressive actions on both the 
State and the Federal level and a lot of cooperation between 
the Federal and State level as well.
    I would now like to turn to some of the issues that were 
raised at our hearing yesterday to get your reaction to some of 
the suggestions that were made by our witnesses.
    We heard yesterday from the founder of the on-line 
financial forum, The Motley Fool, about the extensive efforts 
that The Motley Fool undertakes to monitor its on-line chat 
rooms and bulletin boards.
    In particular, The Motley Fool very aggressively 
discourages speculation or talk of--I guess the word is 
``chat''--about penny stocks. The Subcommittee's investigation 
has found that the efforts taken by The Motley Fool are not 
common; that Yahoo!, for example, undertakes virtually no 
monitoring or policing of its financial chat rooms or bulletin 
boards.
    I would like to get all three of you to comment on the 
issue of whether or not on-line financial forums should be 
responsible for policing or monitoring their chat rooms and 
bulletin boards.
    Mr. Walker, I will start with you.
    Mr. Walker. Thank you, Chairman Collins.
    I do think that it is reasonable to have some 
responsibility and authority placed at that level. Certainly, 
the most effective law enforcement is law enforcement that 
occurs at various different levels. I am not suggesting that 
they would act as law enforcement, but they are the first 
layer, where the rubber meets the road, if you will. It is the 
first level of defense for these people to see what comes in 
their own chat rooms. So I applaud The Motley Fool for their 
efforts to do that, and I think that is certainly very helpful 
in terms of providing a sense to others as to what kinds of 
things are going on. The earlier that we can find out about 
situations like that, the better equipped and better prepared 
we are to address those kinds of situations. Time and speed are 
sometimes of the essence before investors are injured and 
before fraudulent messages and fraudulent information gets 
disseminated. So I think that is an excellent idea.
    Senator Collins. Has the SEC had any discussions with on-
line financial forums to encourage this kind of monitoring or 
policing of the bulletin boards and chat rooms?
    Mr. Walker. I am probably not the right person to ask that 
question because I guess, when they hear from me, they do not 
appreciate it. But I think that those activities are probably 
more likely through our Division of Market Regulation, but I 
honestly do not know the answer. We would be pleased to provide 
you with that information.
    Senator Collins. If you would get back to us.
    Mr. Walker. Certainly.
    Senator Collins. Mr. Hildreth, what do you think the 
obligation is of the sponsors of these forums?
    Mr. Hildreth. I think there will be a hesitancy on some of 
those sponsors. Given the sort of gray legal areas that are out 
there, they are going to probably be asking you for some sort 
of coverage for liability.
    I know there has been some cases. There is a securities 
case, and I apologize I do not have it in front of me, that 
dealt with someone supposedly defaming one of these micro-cap 
companies, and I think it was settled before hearing.
    I think that they do have a role to play. I read The Motley 
Fool's testimony last night, and he talked about how there is a 
role when it is brought up that the Internet citizens, I guess, 
will come out and say, ``Oh, do not do that. Make sure you go 
do this.'' So there is some self-policing there, also.
    My concern would be whether you can--what has faced 
Congress before. How do you regulate the Internet? If you have 
all of the U.S. providers and you force them to regulate this, 
someone sets up who knows where and just connects in and we are 
not going to have any jurisdiction over them.
    So I think that while it may be something to look at, if 
there is a way to get them and maybe just PR forcing them to do 
it, it is just so wide open. It is the wild, wild west. If they 
cannot get it from Yahoo!, they will go somewhere else, I 
guess. That is my gut feeling.
    Senator Collins. On the issue of liability, we did receive 
testimony yesterday from Professor Friedman, who is a 
securities expert from the University of Toledo, who said that 
current law makes it clear that there is not liability. I know 
that is an issue that has been raised, but perhaps a variation 
of this is to have the on-line financial forum disclose if they 
are not monitoring or policing the chat rooms. In other words, 
that at least there is disclosure one way or another, and so 
much of our securities laws are based on disclosure.
    I, too, share a reluctance for Congress to be heavy-handed 
in regulating the Internet. On the other hand, I am also 
disturbed by the fact that people tap into access these chat 
rooms, get this hyped information, and think that somehow it is 
valid. So it is a difficult balance, and maybe the answer is 
that if there is no monitoring or policing of the chat room, 
that there be a disclosure up front that that is the case.
    Mr. Hildreth. What is interesting to me is that it is not 
even, though, the chat rooms. It is sort of like they use other 
areas of the Internet to get access to an investor.
    The one that was my own experience, I have my own AOL 
account. I signed on 1 day, and it said something about spring 
and seeds. My wife likes gardening. So I went to their free 
shop.
    Well, I never got to find out what that offer was because 
the first thing that caught my eye was: ``Alaska gold . . . 
Texas oil.'' And sure enough, it was unregistered, and I 
finally got the person at AOL, their legal department, said who 
I was, and to their credit, it immediately came off. I mean 
within 30 minutes of when I had called them, it was gone, but 
as a result of that, they sold the list to someone else, and I 
am sitting at my desk in my office. The secretary says Mr. So-
and-So is on the phone. So I said, ``Oh, OK. Well, put him 
through.'' This guy got the list and is trying to sell me 
securities, unregistered securities, when they answer the 
phone, ``Good afternoon. Bureau of Securities.'' I mean, they 
do not care, but they use those lists. They use list serves. 
They use bulletin boards, whatever, to get names to send you 
mail and contact you. So it is a wild, wild west out there.
    Senator Collins. Mr. Rutledge, do you have any comments on 
whether you think there is some obligation for the on-line 
financial forums to either disclose that they are not 
monitoring the chat rooms or bulletin boards or to in fact 
affirmatively monitor them?
    Mr. Rutledge. I found it interesting from Mr. Gardner's 
testimony yesterday, he kind of portrayed it as a public 
service as on-line facilities where common folk can come and 
discuss things. I think if you are taking that type of public 
service approach, maybe as a public service, which The Motley 
Fool is doing, where you know of problems or you are or are not 
monitoring your chat rooms, that you should disclose that.
    Because of the liability issues, it may evolve perhaps into 
something of a code of best practices for on-line forum. That 
could be developed, and you could link to it or you can say we 
subscribe to the best practices which include monitoring, or we 
do not subscribe to best practices, you are on your own, it is 
a free-for-all.
    I would like to ask for some free on-line advertising 
banners to expose the regulators' Web sites to people who are 
logging on for financial information. I think that would be a 
great public service.
    Senator Collins. Actually, there was one of the next issues 
I was going to ask you about. Two ideas that surfaced at our 
hearings yesterday were, one, to require there to be a link to 
the SEC or NASAA or State Web pages, which, by the way, I 
accessed yesterday and they are excellent. I think if a lot of 
on-line investors would read the tips for investing that are on 
the SEC or the NASAA Web page, they would save themselves a lot 
of heartache and financial ruin.
    One proposal is to encourage or require that to be that 
link. Another proposal, which I suspect has some practical 
problems, was suggested by both Professor Friedman and one of 
our victim witnesses, and that was that there be some kind of 
third-party verification that a Web page is legitimate.
    Professor Friedman referred to an AICPA seal of approval, 
if you will, that some Web pages are about to use if in fact 
they have been audited and verified.
    Are either of those suggestions practical, the link to the 
SEC or NASAA Web pages, or having some sort of third-party 
verification? The sheer volume is the issue to me.
    Mr. Walker.
    Mr. Walker. Certainly, first, with respect to third-party 
verification, I read Professor Friedman's testimony and found 
his idea to be an interesting and very potentially valuable 
idea if it could be achieved.
    I do not think that it can be achieved by the regulatory 
community for the following reasons. First of all, the 
authority for overseeing sales of securities is dispersed 
between the Federal Government and the States, and no one 
authority would be able to oversee all of the different kinds 
of securities offerings. Some are registered with the SEC, 
others with State, and some exempt from registration.
    Also, I think the AICPA model that Professor Friedman 
talked about was a situation in which someone actually 
conducted some form of audit of the various Web sites before 
they gave the seal of approval. That is not currently the way 
securities registration at the Federal level occurs. We do not 
audit the merits of the registration. We just simply provide 
that the statutory requirements have been met. We take no 
position on the bona fides of the particular securities being 
sold.
    It may be the type of service that could be done by the 
private sector. It could be, if not a ``Good Housekeeping'' 
type of thing, somebody from the private sector that would have 
the funds and the ability and be able to have the stature and 
the reputation to do something like that, which would be a 
terrific service for investors. If there was one central 
person, even if you paid perhaps a modest fee or maybe the fee 
could be achieved through some other sources, it would be a 
great benefit for investors.
    I am just skeptical as to whether it could happen at the 
government level, either Federal or State.
    Senator Collins. Mr. Hildreth.
    Mr. Hildreth. I think that somehow either requiring or 
promoting a link to an investor protection site is a great 
idea, and it would seem to me that legitimate chat room 
locations, any of those folks, should be more than willing to 
do that because that is what they are really in the business 
of. It is getting people educated to make educated decisions, 
to keep the markets where they are today.
    The third-party verification, I guess sometimes I think 
like a scam artist. Wouldn't I be able to find someone who is a 
good enough computer geek to take--I am not sure I should use 
that term. I had better be careful, but to take that 
certification and move it to my page, and then wouldn't I be 
saying--someone would log on and say this is an OK site, they 
have been verified? I do not know if that is technically 
possible, but I will bet you somebody could figure out how to 
do it. That is my real concern about that.
    Once you give a mark that it means something, how do you 
protect it?
    Senator Collins. Mr. Rutledge.
    Mr. Rutledge. Which is exactly our conclusion. We evaluated 
using medallions at the Pennsylvania Securities Commission, 
where we would issue a medallion to a Web site, because we have 
a lot of legitimate small businesses who want to post their 
prospectus on a Web site. We rejected it for those reasons.
    If you issued it and then the Web page changed, it might 
change legitimately, to change the address, or it might be 
changed illegitimately to make alterations. It might be copied. 
All of those concerns have led us to the conclusion that the 
direction we are going is to put on our Web site a link to our 
registration system, so that if you are looking at, for 
instance, the lady from IPS, if she had been a Pennsylvania 
resident, she could have clinked on our Web site, gone to our 
registration list, and these companies have been registered 
with the Pennsylvania Securities Commission. Depending on what 
kind of offering it was in that particular instance, I believe 
it was purported to be an exempt offering from registration 
with the SEC. It would have to have been registered under 
Pennsylvania law. So there would have been affirmative 
registration.
    Like SEC, we do not pass on the merits, but there is a lot 
more substantive criteria that must be met for registration in 
Pennsylvania.
    So I think in the area of the Regulation A offerings, which 
is $5 million or less, or the Rule 504 offerings, which are a 
million dollars or less, both of which are exempt from Section 
5 registration with the SEC and are registered at the State 
level, that that would be a more bona fide check, was it 
registered, and that way, the responsibility of the issuer for 
keeping their Web page current and not misleading remains on 
the issuer. So, if they changed it, we could take action 
against them, but at least they know there was at least a first 
cut, and they can always call us and say what about this 
particular offering, did you register it, what were your 
problems with it, or, more importantly, we never heard of these 
people.
    Senator Collins. It was told to me that both of our victim 
investors yesterday were experienced investors, but they had no 
idea that they could have called their State securities bureau 
for assistance.
    Mr. Rutledge. That is why we need banner advertising on 
those Yahoo! sites.
    Senator Collins. That is why I raised the issue because 
both of them--one had been investing for 10 years, one for 5 
years, and I remember when I was involved in this area in 
Maine, we kept trying to do constant outreach so that people 
would know, but it is very difficult to reach every investor.
    In the case of Ms. Morris, yesterday, she tried to do some 
due diligence steps. Had she called the California Securities 
Division, which is where this offering was from, she would have 
found that it was an unregistered offering, and would have 
saved herself a thousand dollars.
    We somehow need to do more, and I think the Internet is an 
untapped resource in many ways, to make sure that investors 
understand that there is information available, that there is 
help available both at the State and Federal levels. In many 
ways, I think the Internet, which is being used by these scam 
artists, needs to be used more effectively by regulators to 
educate investors.
    One of the strengths of the Internet, which we keep talking 
about, is it can reach so many people, and I would suggest that 
is a strength for the regulators to use in educating consumers.
    Mr. Hildreth, in your written testimony, you mentioned that 
States are making more use of the Internet to try to get 
consumer information out to investors. Could you tell us a bit 
about the programs? I think that you mentioned that Ohio, in 
particular, has a program that is very helpful.
    Mr. Hildreth. I think that government has been slower than 
the scam artists to use the Internet, and I guess part of that 
is just the way governments work and how long it sometimes 
takes us to get the technology that we need.
    I think the one that you are talking about in Ohio is that 
they are listing the bad boys, the ones that are selling in 
their State who are not registered there, sort of an 
affirmative step instead of having to call California, for 
example, and ask, is this a legitimate offering. There is a 
list that you can at least cross off. You might not get them 
all because the State does not know until they get a complaint 
sometimes who is selling in their State, but when they try to 
do it, they get a complaint. They say, OK, it is very simple. 
It is not registered. It is not exempt. It goes on the list.
    I think there are several facets. NASAA, as you know, 
probably from your days in the State of Maine, does a lot of 
outreach, giving information to State securities regulators as 
far as fill-in-the-blank press releases. We have done a lot of 
those recently, and a lot of States have used them and local 
people have picked them up and run stories on them. So there is 
the press side of it, and those States, like Pennsylvania and 
Ohio, as the two that come to mind, that very early got 
involved in the Internet, probably have progressed further than 
a State like New Hampshire who just recently got their Internet 
access for their office. I am not sure what Maine is doing.
    I do think that we should make more use of the Internet. I 
think one idea is the banners. I think the States probably 
need--and perhaps the SEC--they may be more restricted, but at 
NASAA, we have sort of a nongovernmental site here, might be 
able to do some negotiating with sites along those lines, to 
cooperate with them.
    I think we need to talk to groups like Yahoo!, like AOL, 
some of the big-service providers, and work along those lines.
    Senator Collins. I think that would be very positive.
    What I like about the Ohio example is it names names. It is 
very specific.
    One example that I have is about an offering called 
travelzoo.com, and it says, ``The Ohio Division encourages 
investors who are considering obtaining shares in travelzoo.com 
to exercise caution. Please consider the following. There may 
be no dividend payments. There may be no current value to the 
shares, nor may the shares ever be traded publicly or acquire 
any future value. This company should not be compared to any 
other technology or Internet company. Projected growth in the 
use of the Internet will not necessarily result in future value 
to the company,'' etc.
    Any consumer who read that would be very unlikely to make 
an investment in travelzoo.com, or if they did, they would know 
what they were getting into, which is fine. The problem is when 
investors do not understand the risks that they are 
undertaking.
    This strikes me as a very valuable proposal, and one that 
also is very useful, because the consumer can do it right on 
the computer. They do not even have to do the long distance 
phone call.
    Are other States moving in that area? Do you know, Mr. 
Hildreth or Mr. Rutledge?
    Mr. Hildreth. I would have to say that I do not know of 
other States who have taken that step.
    I will say they would probably get, at least in New 
Hampshire if they called--they might get the same kind of 
information, but as you said, if you are on the Internet doing 
your trading, it is more comfortable for you to click that 
button and go check it out. It is more my daughters and the 
little older generation. They are better Internet citizens 
probably than I am, but that is second nature to them, much 
more than it is to me. When the investors get on there and do 
those things, probably to sign off and call the agency is 
almost an anathema. So I think it is a good idea and something 
that we ought to talk about to other States, and I am trying to 
think if I can get my Web master to work on that myself.
    Mr. Rutledge. And they are doing it at 11 o'clock at night.
    Senator Collins. Right.
    Mr. Rutledge. The children are in bed. Our offices are 
closed, but our Web site is open 24 hours a day.
    Senator Collins. Exactly.
    Mr. Rutledge. I believe there is an obligation on the part 
of the regulators, us at this table and our fellow regulators, 
to put as much information as possible on our Web site so the 
public can access it.
    As an example, we took an action against a company whose 
executive officer had been banned permanently by the SEC with 
any association with any securities dealer, or any securities 
association and was subject to a permanent injunction of a 
Federal court in New York. It was obviously not disclosed, and 
spams sent to a Pennsylvania investor who did call the 
Pennsylvania Securities Commission, but had that CRD 
information--which is where we got that information--been 
available on the Web. That person when he got the spam could 
have clicked on the Web site, put in the person's name, and 
found that this person was a bad person he should not do 
business with.
    Senator Collins. Mr. Walker, what is the SEC doing to use 
the Internet beyond the investor tips, but as far as specific 
people that the investor should be leery of?
    Mr. Walker. What we have done in addition to the investor 
alerts that I have described previously is, of course, to 
publish every single enforcement action that we bring. That 
information is available on our Web site--the names, the 
companies, and the individuals that are involved in those 
actions.
    In addition, we have found from time to time that it is 
very effective to post those releases in other locations where 
the frauds have occurred. So, if there are areas on the 
Internet where people have been solicited to buy particular 
securities, rather than having them have to find a way to our 
Web site, we have gone and posted temporary restraining orders 
or preliminary injunctions on other Web sites where some of the 
fraudulent activity has occurred. We found that to be 
effective, too, because it gets right to the people who have 
been victimized. But in all instances in which we bring cases, 
the names of the individuals and entities are set forth, and 
anyone that visits our Web site can find them going back.
    Senator Collins. I think that is a step in the right 
direction.
    What appeals to me, however, about what appears to be the 
Ohio example, which NASAA brought to our attention, is it seems 
to be up front before there is an enforcement action. It seems 
to be alerting people that if you invest, you are investing in 
a very high-risk venture, and be sure you know what you are 
getting into. Maybe that is a responsibility that is more at 
the State level, but does the SEC do anything that is 
proactive?
    Mr. Walker. We do require those kinds of disclosures from 
time to time with respect to offerings of securities that are 
highly speculative and at risk, and those filings are available 
also on our Web site through our Edgar database. So it is not 
uncommon to see those kind of hair-raising disclosures, 
particularly in some of the lower end of the kinds of offerings 
where we see perhaps people have been disciplined in the past. 
Those kinds of disclosures are made, and I think, are very 
effective to let investors know the full risks of what they are 
buying.
    Unfortunately, we have found that notwithstanding that, 
there are people that are still purchasing these kinds of 
investments.
    I think one other thing I would add is that one of the most 
effective remedies we have is trading suspensions and where 
there is inaccurate or incomplete information in the 
marketplace. We are able to suspend trading in a particular 
security for a period of up to 10 days. We do post notices of 
trading suspensions in forums so that that information and 
knowledge gets out, dispersed widely to some of the people who 
have purchased or owned these kinds of securities.
    Senator Collins. I would like to turn to another difference 
between State and Federal enforcement efforts.
    Mr. Hildreth, in your written testimony, you noted that the 
great advantage of State securities regulators is their 
authority to use an undercover operation to detect fraud on the 
Internet. A State agency can establish an E-mail address to go 
shopping for fraudulent Internet solicitations to obtain 
information to pursue enforcement cases.
    Are these kinds of undercover operations a large part of 
State regulators' efforts to detect Internet fraud?
    Mr. Hildreth. What I like about that is it seems to use the 
Internet capabilities the same way the scam artists do. They do 
not tell you who they are. They do not tell you where they are. 
They use these remailers. They use aliases.
    We can do the same thing, and it is simple on the Internet. 
It is not like you have to get a phone line and work with the 
phone company to get it listed to somebody else, although a lot 
of States also do that and it is very lucrative.
    Once you get on these lists, it does not take much. You 
create a screen name or whatever they want to call it, and you 
go to a couple sites, and suddenly, you are getting mail from 
everybody and not just the securities scam artists. I guess 
they all look for the same pigeons. I do not know if it is 
securities or business opportunities or pornographic sites. 
They all say, ``Well, we will jump in.'' So it is something 
that is very useful to identify before people get taken.
    I am sure you saw in Maine the sad cases where people come 
in, and if they had just called us or if we had shut this 
company down just a week or two sooner--I mean, we had one 
woman, and one of the good stories, a half hour before she sent 
her certified check off with Federal Express, decided to call 
us and ask us about them. If we can get those scam artists and 
close them down before they take that woman's total liquid 
worth, that is what we need to do.
    Senator Collins. We used these operations in Maine as well. 
I remember my securities administrator always gave his home 
phone number out so that the phone would not be answered, 
``Securities Division.'' It seems to the Internet greatly 
expands the possibilities. As one of our witnesses said 
yesterday, ``No one knows you are a dog on the Internet.'' 
Well, no one knows you are a securities regulator either.
    It is my understanding, Mr. Walker, that the Federal 
Government does not use those kinds of undercover operations. 
Why not?
    Mr. Walker. We are bound by the Privacy Act, which is a 
Federal law, which prohibits us from engaging in effect in 
undercover operations. We have to identify ourselves and who we 
are and what we are doing when we approach people in connection 
with investigations. So that is the limitation that we have 
confronted.
    Outside the Internet, we have provided technical advice and 
assistance to others who are engaged in undercover operations, 
which has been very effective. Frankly, we are not particularly 
well trained, because we have never done it, to engage in these 
kinds of operations, though certainly the Internet, if you are 
simply just sort of hiding your identity, that raises concerns 
of a very different kind than if you are establishing an 
undercover broker-dealer, for instance, but currently Federal 
law does prohibit us from using aliases when we are on the 
Internet and we have to identify ourselves, but I will say that 
does not seem to have a limited--or disabled us from finding 
ample incidents of suspicious or fraudulent conduct. Location 
of illegal conduct, we have not been inhibited by the fact that 
we have to approach people, and we actually go onto the 
Internet and use our own names and addresses.
    Senator Collins. Would it be helpful for you to have that 
authority?
    Mr. Walker. I think it could be, yes, certainly on the 
Internet.
    I would be very cautious in seeking to expand it in other 
areas because, as I indicated, we are simply not equipped to 
engage in other kinds of undercover operations. But certainly 
to the extent that it would allow us to participate or engage 
in conversations with people over the Internet, where there are 
no real questions about physical security or things of that 
sort, it could be very useful.
    Senator Collins. Mr. Rutledge, does Pennsylvania use those 
kinds of undercover techniques or establishing a phoney E-mail 
address?
    Mr. Rutledge. It is a very integral part of our enforcement 
effort, totally with particularity to the Internet, and as 
Peter said, our goal is to get the con artists out of the 
Commonwealth before he takes the money, and we use it 
extensively. We issue our cease-and-desist orders. As soon as 
those C&D's are issued, they go up on our Web site, and our Web 
site actually has--we have people coming in to tell us, ``I saw 
your enforcement Web site. I am glad I did not invest because I 
have been called by this person or I had received a spam from 
this person.'' Other stories are not so good in that, ``I have 
been spammed or I have been the victim, but here is some 
evidence you can use against this person,'' when we go to 
administrative proceedings. So we use it extensively.
    However, the fraudsters are getting a little smarter, and 
there are now some sites that are off limits if they detect 
that you are coming from a government network. So you have to 
be a little more crafty in how you set up your surveillance 
operations.
    Senator Collins. I would now like to turn to some 
concluding issues on day trading and on-line trading.
    Yesterday, at least one of our witnesses expressed the 
concern that the explosive growth of day trading could make it 
much easier for ``pump-and-dump'' schemes, other manipulations 
to occur. What steps are being taken at both the State and the 
Federal level to deal with day trading and the problems that it 
poses for securities regulators?
    Mr. Walker.
    Mr. Walker. Certainly, we have identified approximately 
100-plus firms that are engaged in what we have identified and 
defined as day trading activity. Those are firms that either 
make recommendations to day traders, provide actual facilities 
that give you direct access to markets or promise to train you 
in that strategy and that technique.
    We are coordinating examinations of those firms with the 
NASD, so that we have a presence in the firms. We are trying to 
observe the conduct and the activities of the firms firsthand.
    We are looking at some of the advertising that the firms 
provide. We are looking at regulatory types of issues that are 
raised by the operation of those firms, and looking at these 
things very carefully.
    We have not necessarily seen a nexus or relationship to 
``pump-and-dump'' type of manipulations because, for the most 
part, these are very short types of positions that day traders 
take. They are in and out very, very quickly within the course 
of a day. They do not carry positions overnight. They take 
advantage of rapid buying and selling in small increments in 
terms of price changes. So those are the activities that we are 
undertaking right at the present time.
    Senator Collins. The problem is if you chart the changes in 
some of these penny stocks, for example, that have been hyped 
by on-line newsletters, and if you add in the phenomenon of day 
trading, it seems to me, you create a very potentially 
explosive and exploitive situation, and that is the basis for 
my concern.
    Mr. Hildreth.
    Mr. Hildreth. The States really do not have the resources 
to deal with the market manipulations. I mean, we see them. It 
is really an SEC need to regulate, although I think, for 
example, we in our State statute, have the ability, I guess, 
the authority, but it really is beyond us.
    I think that the problem--day trading, it depends on how 
you define it. I guess there are a lot of day traders who are 
just on-line traders, and they send their deals through the 
computer Internet, just as if they had called their broker, and 
I think that they probably do impact the way the market is 
acting.
    The day traders, where they go into a location and are 
trained to use the computers and place the trades themselves, 
the States have been very active in this, and some of you may 
have seen ``60 Minutes II,'' the other night, on day trading. 
Massachusetts, Texas, and Missouri are the ones that come 
rapidly to mind who have taken action. Indiana recently did.
    I think those are the States that have done it because that 
is where these day traders are located.
    Senator Collins. What action did they take?
    Mr. Hildreth. They would have been cease-and-desist orders, 
but it has been mostly on unregistered activity, unlicensed 
activity, being a broker-dealer without getting the license to 
do it in the State of whatever, using unregistered agents.
    It is really a small--I have heard maybe 8,000 people 
nationwide who do that kind of trading. Our concerns on day 
trading are more along that, that people are not being given 
the proper disclosures. In some cases, they are being told they 
are not clients or customers of the firm. They are actually 
independent contractors, and they trade on the firm's account.
    There is a lot of those kinds of regulatory issues for the 
State. I mean, I certainly would not suggest that anyone become 
a day trader, but I guess there is a group of people who want 
to do that.
    I had a friend of mine that I went to law school with ask 
me, ``Gee, what about day trading?,'' and I said, ``This is not 
what you want to do. You are doing other things. You are not 
going to go in and sit at this thing and risk your family's 
financial health on these things.'' It was interesting to me 
that that was an interest to him.
    He read these articles and said, ``Gee, I could do that. I 
could make thousands overnight.''
    Senator Collins. Well, it is the get-rich-quick appeal, 
once again.
    Mr. Hildreth. Right, exactly.
    Mr. Walker. If I might just add to my prior answer, 
Chairman Collins?
    Senator Collins. Yes.
    Mr. Walker. We have received actually, remarkably, few 
complaints from people in connection with day trading. I think 
our biggest concern is that people are engaging in this 
activity that do not know what they are doing. So, once again, 
investor education here is so critical because losses can 
happen so quickly and so easily. You can place trades directly 
without any intermediary giving you advice or telling you 
whether something is good or not good. I think the ``60 Minutes 
II'' presentation really made that vividly clear.
    There was one individual who had lost money and simply did 
not have the knowledge and appreciation of the risks that were 
involved. Chairman Levitt has issued a cautionary statement 
with respect to both on-line trading and day trading, just 
trying to warn people to not overlook the fundamentals of 
investing for trading purposes, for the purpose of getting a 
quick profit.
    You have got to do your homework. You have got to get the 
facts, and you have got to know what you are doing, or you can 
run every much of a risk of losing money as making money. So it 
is a very important thing to get the message out that people 
should not be doing this. They should assess and understand 
their risk levels. They should not get in over their heads, 
which is possible, and, of course, we have to make sure that 
they are not induced to do that through fraudulent 
misrepresentations of get-rich-quick or false strategies that 
simply do not work for these people.
    Senator Collins. Mr. Rutledge, do you have concerns from 
your perspective as a State regulator about the growth in day 
trading?
    Mr. Rutledge. Yes, and we have several investigations 
underway.
    I think there are primarily two. One is licensure, that 
these people are licensed as a broker-dealer. They are in 
compliance with all the regulatory requirements for 
registration, such as margin, etc., and where they are 
promising get-rich-quick, anybody can do this--I have even 
seen, ``Well, not knowing anything about investing is actually 
good. You can even be better at it if you do not know this.''
    Senator Collins. Ignorance is an advantage?
    Mr. Rutledge. Yes. They are selling: Ignorance is good.
    We are concerned about those firms who are basically 
touting nirvana to people who maybe have never invested before. 
We view them more as customers, rather than agents of the 
broker. They are giving them investment advice because they are 
making recommendations as to investment strategies when the 
people do not know the difference between a market order and a 
limit order, and they end up losing a lot of money.
    One said, ``Oh, all you need is $25,000 to start.'' Well, 
$25,000 taken out of your 401(k) plan does not make you a 
sophisticated trader or investor. So we have concerns.
    With respect to on-line trading, something we have begun to 
discover in our compliance audits of some on-line brokerage 
firms is third-party authorizations, where a customer opens up 
an account, but also gives authorization to a third party. 
Sometimes it is their financial advisor, and the financial 
advisor, we are finding out, is actually acting as an 
investment advisor that is not registered either with the 
Federal Government or with the State government as is required 
under Federal law. So that is another area of concern that 
people are trading on behalf of customers, using their on-line 
brokerage account. We are concerned about that, that there 
should be some obligation on the part of the on-line broker 
that if they know there is a third party authorized to trade in 
an account of one of their customers that they check out to 
make sure that the individual is registered either with the 
State government or the Federal Government to provide that 
investment advice.
    Senator Collins. Yesterday, Professor Friedman testified 
about possibly expanding the suitability requirements to take 
into account the new on-line environment, which follows up with 
the point that you just made.
    He pointed out that unsophisticated traders can easily 
invest in securities that are unsuited for their financial 
goals and their risk profiles, and that but for the broker-
dealer's firm's trading facilities, the customer would be 
unable to invest in these inappropriate investments.
    Do we need to take another look at the suitability 
requirements to make sure that they apply in an on-line 
environment? Presumably a broker would not recommend--or would 
recommend against some of the investments that the customer is 
able to do on-line, using the broker-dealer's facilities.
    Mr. Walker, what is your reaction to that proposal?
    Mr. Walker. I think historically, the suitability rules 
have applied where recommendations are being made, and 
oftentimes with respect to on-line brokerages, people are not 
looking for recommendations. They are simply plugging in orders 
which would raise questions as to whether the traditional 
suitability rules would apply in those circumstances.
    However, in the day trading area, oftentimes 
recommendations are being made. Day trading firms recommending 
a strategy might be covered by suitability rules, and the NASD 
is taking a look at that. We have been having discussions with 
them about that.
    Oftentimes, they are also recommending actual high-risk, 
very speculative securities, and certainly, I think the 
suitability rules would attach in those circumstances. So there 
is a review underway, and it is important that that take place 
because certainly that does provide very important protections 
to investors. That is a rule that I think the regulators all 
believe is a very important rule.
    Senator Collins. Mr. Hildreth.
    Mr. Hildreth. It is sort of interesting. Last week, I was 
on a panel, a continuing legal education panel of securities 
lawyers, and interesting to me that they being the lawyers who 
are representing firms who are on-line, rather than wanting to 
somehow expand suitability, want to narrow it and say, ``Look, 
if people are trading on-line, they are sending it themselves. 
They are putting it into our computer system. They are not 
talking to a broker. We should not have any responsibility to 
them.'' I tend to disagree with that and said so at the panel.
    I do think that in some cases, we have to look at our 
current rules and say, ``OK, maybe they need to be tweaked a 
little for the Internet.'' Pennsylvania took the lead, and I do 
not remember what year, on the issue of securities offering. If 
you put up a Web site and someone from New Hampshire goes into 
it, is that an offer to sell in New Hampshire? That was 
something specific to the Internet that it made sense that you 
had to tweak things, that you had to change things because of 
it.
    I am not convinced certainly that we need to narrow the 
suitability rule or the know-your-customer rule, but I think 
that you are going to hear--or some people will hear from 
industry that they want relief, rather than expansion.
    I think that there certainly still is a responsibility. 
Whether that person is making that sale, trade, through the 
computer, you need to know your customer and know whether that 
is a good trade. They may want to do it, anyway, but you bear a 
responsibility towards your customer.
    Senator Collins. Mr. Rutledge.
    Mr. Rutledge. I could not agree more. I do not think there 
is any difference from walking into the door of a brokerage 
firm on Main Street in Maine than opening the virtual door to 
an on-line brokerage on the Internet, and if I went in with an 
order off of Main Street, I think I would get a different kind 
of reception. I would hope I would get a different kind of 
reception than I do if I just plug in and order on-line.
    You have people who are investing on-line, who do not know 
the difference between market orders and limit orders. They are 
acting perhaps on tips that they saw in an on-line financial 
forum.
    I commend the NASD for putting out a recent notice on 
volatility. I thought it was well done where examples were 
given of these volatile Internet stocks, and these were not 
penny stocks. These were bona fide Nasdaq NMS stocks that were 
very volatile, and people lost--I should not say lost, but they 
put in a market order. They thought the IPO was coming out at 
$10 to $12, which is normal, but the time they got their order 
executed, it was $90 a share. They did not want it for $90 a 
share, but they did not know any better to put in a limit 
order.
    They can track. They know where the trading is. One company 
halted all on-line trading on that particular stock and said, 
``No, you have to call the registered representative on the 
phone. They could walk you through.'' ``Well, do you really 
want this? Do you want to put in a limit order rather than a 
market? If it is market, it might take time to execute. It 
could be vastly different than what the quote is right now.''
    Just, again, educate the consumer. Educate the investor as 
to what the alternatives and possibilities are.
    Another firm may use pop-ups, ``Are you sure you want to do 
this? Right now it is a very volatile stock. It is going up. 
You are going to be responsible for what you put in. The 
difference between a market order and a limit order is''--``If 
you need help, click here or call our customer service line,'' 
or whatever. I think those are very doable things. I do not 
believe that just because you offer an on-line facility, you 
can put your head in the sand as to your obligations to your 
customers.
    A common theme throughout this hearing is the need for more 
consumer investor education, and I think that is something we 
can all agree on.
    For my final question to you today, if you had one piece of 
advice to give investors who are going to use the Internet to 
make trades, what would your advice be?
    Mr. Hildreth.
    Mr. Hildreth. I am not sure that it is any different from 
the Internet or somewhere else. If it sounds too good to be 
true, it probably is.
    Senator Collins. Mr. Walker.
    Mr. Walker. I would agree with Mr. Hildreth. I would say 
the advice that I would give would be the same to people who 
are investing, and that is to get the facts and do your 
homework before you spend your hard-earned money.
    Senator Collins. Mr. Rutledge.
    Mr. Rutledge. Investigate before you invest.
    Senator Collins. I think that says it very well.
    I am reminded of the investors town meeting that I hosted 
in Bangor, Maine, and Chairman Levitt's advice was that you do 
not give your money to someone you do not know, and I think 
that applies whether it is in person or on the Internet.
    The Subcommittee looks forward to continuing to work with 
you. You have identified today some areas where we need some 
legislative changes to tighten, for example, the area of micro-
cap stocks, regardless of whether they are sold over the 
Internet or whether they are sold in other ways, to tighten the 
regulation and the authority that the SEC has.
    We look forward and invite your further participation in 
this effort as we go forward. I very much appreciate the good 
work that you are doing and the cooperative effort that the 
States have established with the SEC.
    In particular, what I do believe is the fundamental answer 
to this problem, which is to use the Internet just as the 
fraudsters are using the Internet, to reach more consumers, but 
with information on how they can better protect themselves.
    So I thank you very much for your participation in this 
investigation and our hearings.
    I also want to thank the Subcommittee staff, including Tim 
Shea, Lee Blalack, Elliot Berke, Smokey Everett, and Wes 
Phillips, as well as our support staff, Mary Robertson and 
Lindsey Ledwin. Their hard work in conducting this 
investigation and preparing these hearings helped us alert a 
lot of consumers, I believe, to the dangers or at least the 
perils of Internet investing.
    I would also like to thank the minority staff and Senator 
Levin for their contributions to this effort.
    The Subcommittee's hearing is now adjourned.
    [Whereupon, at 11:05 a.m., the Subcommittee was adjourned.]


                            A P P E N D I X

                              ----------                              


      
    [GRAPHIC] [TIFF OMITTED] T7616.001
    
    [GRAPHIC] [TIFF OMITTED] T7616.002
    
    [GRAPHIC] [TIFF OMITTED] T7616.003
    
    [GRAPHIC] [TIFF OMITTED] T7616.004
    
    [GRAPHIC] [TIFF OMITTED] T7616.005
    
    [GRAPHIC] [TIFF OMITTED] T7616.006
    
    [GRAPHIC] [TIFF OMITTED] T7616.007
    
    [GRAPHIC] [TIFF OMITTED] T7616.008
    
    [GRAPHIC] [TIFF OMITTED] T7616.009
    
    [GRAPHIC] [TIFF OMITTED] T7616.010
    
    [GRAPHIC] [TIFF OMITTED] T7616.011
    
    [GRAPHIC] [TIFF OMITTED] T7616.012
    
    [GRAPHIC] [TIFF OMITTED] T7616.013
    
    [GRAPHIC] [TIFF OMITTED] T7616.014
    
    [GRAPHIC] [TIFF OMITTED] T7616.015
    
    [GRAPHIC] [TIFF OMITTED] T7616.016
    
    [GRAPHIC] [TIFF OMITTED] T7616.017
    
    [GRAPHIC] [TIFF OMITTED] T7616.018
    
    [GRAPHIC] [TIFF OMITTED] T7616.019
    
    [GRAPHIC] [TIFF OMITTED] T7616.020
    
    [GRAPHIC] [TIFF OMITTED] T7616.021
    
    [GRAPHIC] [TIFF OMITTED] T7616.022
    
    [GRAPHIC] [TIFF OMITTED] T7616.023
    
    [GRAPHIC] [TIFF OMITTED] T7616.024
    
    [GRAPHIC] [TIFF OMITTED] T7616.025
    
    [GRAPHIC] [TIFF OMITTED] T7616.026
    
    [GRAPHIC] [TIFF OMITTED] T7616.027
    
    [GRAPHIC] [TIFF OMITTED] T7616.028
    
    [GRAPHIC] [TIFF OMITTED] T7616.029
    
    [GRAPHIC] [TIFF OMITTED] T7616.030
    
    [GRAPHIC] [TIFF OMITTED] T7616.031
    
    [GRAPHIC] [TIFF OMITTED] T7616.032
    
    [GRAPHIC] [TIFF OMITTED] T7616.033
    
    [GRAPHIC] [TIFF OMITTED] T7616.034
    
    [GRAPHIC] [TIFF OMITTED] T7616.035
    
    [GRAPHIC] [TIFF OMITTED] T7616.036
    
    [GRAPHIC] [TIFF OMITTED] T7616.037
    
    [GRAPHIC] [TIFF OMITTED] T7616.038
    
    [GRAPHIC] [TIFF OMITTED] T7616.039
    
    [GRAPHIC] [TIFF OMITTED] T7616.040
    
    [GRAPHIC] [TIFF OMITTED] T7616.041
    
    [GRAPHIC] [TIFF OMITTED] T7616.042
    
    [GRAPHIC] [TIFF OMITTED] T7616.043
    
    [GRAPHIC] [TIFF OMITTED] T7616.044
    
    [GRAPHIC] [TIFF OMITTED] T7616.045
    
    [GRAPHIC] [TIFF OMITTED] T7616.046
    
    [GRAPHIC] [TIFF OMITTED] T7616.047
    
    [GRAPHIC] [TIFF OMITTED] T7616.048
    
    [GRAPHIC] [TIFF OMITTED] T7616.049
    
    [GRAPHIC] [TIFF OMITTED] T7616.050
    
    [GRAPHIC] [TIFF OMITTED] T7616.051
    
    [GRAPHIC] [TIFF OMITTED] T7616.052
    
    [GRAPHIC] [TIFF OMITTED] T7616.053
    
    [GRAPHIC] [TIFF OMITTED] T7616.054
    
    [GRAPHIC] [TIFF OMITTED] T7616.055
    
    [GRAPHIC] [TIFF OMITTED] T7616.056
    
    [GRAPHIC] [TIFF OMITTED] T7616.057
    
    [GRAPHIC] [TIFF OMITTED] T7616.058
    
    [GRAPHIC] [TIFF OMITTED] T7616.059
    
    [GRAPHIC] [TIFF OMITTED] T7616.060
    
    [GRAPHIC] [TIFF OMITTED] T7616.061
    
    [GRAPHIC] [TIFF OMITTED] T7616.062
    
    [GRAPHIC] [TIFF OMITTED] T7616.063
    
    [GRAPHIC] [TIFF OMITTED] T7616.064
    
    [GRAPHIC] [TIFF OMITTED] T7616.065
    
    [GRAPHIC] [TIFF OMITTED] T7616.066
    
    [GRAPHIC] [TIFF OMITTED] T7616.067
    
    [GRAPHIC] [TIFF OMITTED] T7616.068
    
    [GRAPHIC] [TIFF OMITTED] T7616.069
    
    [GRAPHIC] [TIFF OMITTED] T7616.070
    
    [GRAPHIC] [TIFF OMITTED] T7616.071
    
    [GRAPHIC] [TIFF OMITTED] T7616.072
    
    [GRAPHIC] [TIFF OMITTED] T7616.073
    
    [GRAPHIC] [TIFF OMITTED] T7616.074
    
    [GRAPHIC] [TIFF OMITTED] T7616.075
    
    [GRAPHIC] [TIFF OMITTED] T7616.076
    
    [GRAPHIC] [TIFF OMITTED] T7616.077
    
    [GRAPHIC] [TIFF OMITTED] T7616.078
    
    [GRAPHIC] [TIFF OMITTED] T7616.079
    
    [GRAPHIC] [TIFF OMITTED] T7616.080
    
    [GRAPHIC] [TIFF OMITTED] T7616.081
    
    [GRAPHIC] [TIFF OMITTED] T7616.082
    
    [GRAPHIC] [TIFF OMITTED] T7616.083
    
    [GRAPHIC] [TIFF OMITTED] T7616.084
    
    [GRAPHIC] [TIFF OMITTED] T7616.085
    
    [GRAPHIC] [TIFF OMITTED] T7616.086
    
    [GRAPHIC] [TIFF OMITTED] T7616.087
    
    [GRAPHIC] [TIFF OMITTED] T7616.088
    
    [GRAPHIC] [TIFF OMITTED] T7616.089
    
    [GRAPHIC] [TIFF OMITTED] T7616.090
    
    [GRAPHIC] [TIFF OMITTED] T7616.091
    
    [GRAPHIC] [TIFF OMITTED] T7616.092
    
    [GRAPHIC] [TIFF OMITTED] T7616.093
    
    [GRAPHIC] [TIFF OMITTED] T7616.094
    
    [GRAPHIC] [TIFF OMITTED] T7616.095
    
    [GRAPHIC] [TIFF OMITTED] T7616.096
    
    [GRAPHIC] [TIFF OMITTED] T7616.097
    
    [GRAPHIC] [TIFF OMITTED] T7616.098
    
    [GRAPHIC] [TIFF OMITTED] T7616.099
    
    [GRAPHIC] [TIFF OMITTED] T7616.100
    
    [GRAPHIC] [TIFF OMITTED] T7616.101
    
    [GRAPHIC] [TIFF OMITTED] T7616.102
    
    [GRAPHIC] [TIFF OMITTED] T7616.103
    
    [GRAPHIC] [TIFF OMITTED] T7616.104
    
    [GRAPHIC] [TIFF OMITTED] T7616.105
    
    [GRAPHIC] [TIFF OMITTED] T7616.106
    
    [GRAPHIC] [TIFF OMITTED] T7616.107
    
    [GRAPHIC] [TIFF OMITTED] T7616.108
    
    [GRAPHIC] [TIFF OMITTED] T7616.109
    
    [GRAPHIC] [TIFF OMITTED] T7616.110
    
    [GRAPHIC] [TIFF OMITTED] T7616.111
    
    [GRAPHIC] [TIFF OMITTED] T7616.112
    
    [GRAPHIC] [TIFF OMITTED] T7616.113
    
    [GRAPHIC] [TIFF OMITTED] T7616.114
    
    [GRAPHIC] [TIFF OMITTED] T7616.115
    
    [GRAPHIC] [TIFF OMITTED] T7616.116
    
    [GRAPHIC] [TIFF OMITTED] T7616.117
    
    [GRAPHIC] [TIFF OMITTED] T7616.118
    
    [GRAPHIC] [TIFF OMITTED] T7616.119
    
    [GRAPHIC] [TIFF OMITTED] T7616.120
    
    [GRAPHIC] [TIFF OMITTED] T7616.121
    
    [GRAPHIC] [TIFF OMITTED] T7616.122
    
    [GRAPHIC] [TIFF OMITTED] T7616.123
    
    [GRAPHIC] [TIFF OMITTED] T7616.124
    
    [GRAPHIC] [TIFF OMITTED] T7616.125
    
    [GRAPHIC] [TIFF OMITTED] T7616.126
    
    [GRAPHIC] [TIFF OMITTED] T7616.127
    
    [GRAPHIC] [TIFF OMITTED] T7616.128
    
    [GRAPHIC] [TIFF OMITTED] T7616.129
    
    [GRAPHIC] [TIFF OMITTED] T7616.130
    
    [GRAPHIC] [TIFF OMITTED] T7616.131
    
    [GRAPHIC] [TIFF OMITTED] T7616.132
    
    [GRAPHIC] [TIFF OMITTED] T7616.133
    
    [GRAPHIC] [TIFF OMITTED] T7616.134
    
    [GRAPHIC] [TIFF OMITTED] T7616.135
    
    [GRAPHIC] [TIFF OMITTED] T7616.136
    
    [GRAPHIC] [TIFF OMITTED] T7616.137
    
    [GRAPHIC] [TIFF OMITTED] T7616.138
    
    [GRAPHIC] [TIFF OMITTED] T7616.139
    
    [GRAPHIC] [TIFF OMITTED] T7616.140
    
    [GRAPHIC] [TIFF OMITTED] T7616.141
    
    [GRAPHIC] [TIFF OMITTED] T7616.142
    
    [GRAPHIC] [TIFF OMITTED] T7616.143
    
    [GRAPHIC] [TIFF OMITTED] T7616.144
    
    [GRAPHIC] [TIFF OMITTED] T7616.145
    
    [GRAPHIC] [TIFF OMITTED] T7616.146
    
    [GRAPHIC] [TIFF OMITTED] T7616.147
    
    [GRAPHIC] [TIFF OMITTED] T7616.148
    
    [GRAPHIC] [TIFF OMITTED] T7616.149
    
    [GRAPHIC] [TIFF OMITTED] T7616.150
    
    [GRAPHIC] [TIFF OMITTED] T7616.151
    
    [GRAPHIC] [TIFF OMITTED] T7616.152
    
    [GRAPHIC] [TIFF OMITTED] T7616.153
    
    [GRAPHIC] [TIFF OMITTED] T7616.154
    
    [GRAPHIC] [TIFF OMITTED] T7616.155
    
    [GRAPHIC] [TIFF OMITTED] T7616.156
    
    [GRAPHIC] [TIFF OMITTED] T7616.157
    
    [GRAPHIC] [TIFF OMITTED] T7616.158
    
    [GRAPHIC] [TIFF OMITTED] T7616.159
    
    [GRAPHIC] [TIFF OMITTED] T7616.160
    
    [GRAPHIC] [TIFF OMITTED] T7616.161
    
    [GRAPHIC] [TIFF OMITTED] T7616.162
    
    [GRAPHIC] [TIFF OMITTED] T7616.163
    
    [GRAPHIC] [TIFF OMITTED] T7616.164
    
    [GRAPHIC] [TIFF OMITTED] T7616.165
    
    [GRAPHIC] [TIFF OMITTED] T7616.166
    
    [GRAPHIC] [TIFF OMITTED] T7616.167
    
    [GRAPHIC] [TIFF OMITTED] T7616.168
    
    [GRAPHIC] [TIFF OMITTED] T7616.169
    
    [GRAPHIC] [TIFF OMITTED] T7616.170
    
    [GRAPHIC] [TIFF OMITTED] T7616.171
    
    [GRAPHIC] [TIFF OMITTED] T7616.172
    
    [GRAPHIC] [TIFF OMITTED] T7616.173
    
    [GRAPHIC] [TIFF OMITTED] T7616.174
    
    [GRAPHIC] [TIFF OMITTED] T7616.175
    
    [GRAPHIC] [TIFF OMITTED] T7616.176
    
    [GRAPHIC] [TIFF OMITTED] T7616.177
    
    [GRAPHIC] [TIFF OMITTED] T7616.178
    
    [GRAPHIC] [TIFF OMITTED] T7616.179
    
    [GRAPHIC] [TIFF OMITTED] T7616.180
    
    [GRAPHIC] [TIFF OMITTED] T7616.181
    
    [GRAPHIC] [TIFF OMITTED] T7616.182
    
    [GRAPHIC] [TIFF OMITTED] T7616.183
    
    [GRAPHIC] [TIFF OMITTED] T7616.184
    
    [GRAPHIC] [TIFF OMITTED] T7616.185
    
    [GRAPHIC] [TIFF OMITTED] T7616.186
    
    [GRAPHIC] [TIFF OMITTED] T7616.187
    
    [GRAPHIC] [TIFF OMITTED] T7616.188
    
    [GRAPHIC] [TIFF OMITTED] T7616.189
    
    [GRAPHIC] [TIFF OMITTED] T7616.190
    
    [GRAPHIC] [TIFF OMITTED] T7616.191
    
    [GRAPHIC] [TIFF OMITTED] T7616.192
    
    [GRAPHIC] [TIFF OMITTED] T7616.193
    
    [GRAPHIC] [TIFF OMITTED] T7616.194
    
    [GRAPHIC] [TIFF OMITTED] T7616.195
    
    [GRAPHIC] [TIFF OMITTED] T7616.196
    
    [GRAPHIC] [TIFF OMITTED] T7616.197
    
    [GRAPHIC] [TIFF OMITTED] T7616.198
    
    [GRAPHIC] [TIFF OMITTED] T7616.199
    
    [GRAPHIC] [TIFF OMITTED] T7616.200
    
    [GRAPHIC] [TIFF OMITTED] T7616.201
    
    [GRAPHIC] [TIFF OMITTED] T7616.202
    
    [GRAPHIC] [TIFF OMITTED] T7616.203
    
    [GRAPHIC] [TIFF OMITTED] T7616.204
    
    [GRAPHIC] [TIFF OMITTED] T7616.205
    
    [GRAPHIC] [TIFF OMITTED] T7616.206
    
    [GRAPHIC] [TIFF OMITTED] T7616.207
    
    [GRAPHIC] [TIFF OMITTED] T7616.208
    
    [GRAPHIC] [TIFF OMITTED] T7616.209
    
    [GRAPHIC] [TIFF OMITTED] T7616.210
    
    [GRAPHIC] [TIFF OMITTED] T7616.211
    
    [GRAPHIC] [TIFF OMITTED] T7616.212
    
    [GRAPHIC] [TIFF OMITTED] T7616.213
    
    [GRAPHIC] [TIFF OMITTED] T7616.214
    
    [GRAPHIC] [TIFF OMITTED] T7616.215
    
    [GRAPHIC] [TIFF OMITTED] T7616.216
    
    [GRAPHIC] [TIFF OMITTED] T7616.217
    
    [GRAPHIC] [TIFF OMITTED] T7616.218
    
    [GRAPHIC] [TIFF OMITTED] T7616.219
    
    [GRAPHIC] [TIFF OMITTED] T7616.220
    
    [GRAPHIC] [TIFF OMITTED] T7616.221
    
    [GRAPHIC] [TIFF OMITTED] T7616.222
    
    [GRAPHIC] [TIFF OMITTED] T7616.223
    
    [GRAPHIC] [TIFF OMITTED] T7616.224
    
    [GRAPHIC] [TIFF OMITTED] T7616.225
    
    [GRAPHIC] [TIFF OMITTED] T7616.226
    
    [GRAPHIC] [TIFF OMITTED] T7616.227
    
    [GRAPHIC] [TIFF OMITTED] T7616.228
    
    [GRAPHIC] [TIFF OMITTED] T7616.229
    
    [GRAPHIC] [TIFF OMITTED] T7616.230
    
    [GRAPHIC] [TIFF OMITTED] T7616.231
    
    [GRAPHIC] [TIFF OMITTED] T7616.232
    
    [GRAPHIC] [TIFF OMITTED] T7616.233
    
    [GRAPHIC] [TIFF OMITTED] T7616.234
    
    [GRAPHIC] [TIFF OMITTED] T7616.235
    
    [GRAPHIC] [TIFF OMITTED] T7616.236
    
    [GRAPHIC] [TIFF OMITTED] T7616.237
    
    [GRAPHIC] [TIFF OMITTED] T7616.238
    
    [GRAPHIC] [TIFF OMITTED] T7616.239
    
    [GRAPHIC] [TIFF OMITTED] T7616.240
    
    [GRAPHIC] [TIFF OMITTED] T7616.241
    
    [GRAPHIC] [TIFF OMITTED] T7616.242
    
    [GRAPHIC] [TIFF OMITTED] T7616.243
    
    [GRAPHIC] [TIFF OMITTED] T7616.244
    
    [GRAPHIC] [TIFF OMITTED] T7616.245
    
    [GRAPHIC] [TIFF OMITTED] T7616.246
    
    [GRAPHIC] [TIFF OMITTED] T7616.247
    
    [GRAPHIC] [TIFF OMITTED] T7616.248
    
    [GRAPHIC] [TIFF OMITTED] T7616.249
    
    [GRAPHIC] [TIFF OMITTED] T7616.250
    
    [GRAPHIC] [TIFF OMITTED] T7616.251
    
    [GRAPHIC] [TIFF OMITTED] T7616.252
    
    [GRAPHIC] [TIFF OMITTED] T7616.253
    
    [GRAPHIC] [TIFF OMITTED] T7616.254
    
    [GRAPHIC] [TIFF OMITTED] T7616.255
    
    [GRAPHIC] [TIFF OMITTED] T7616.256
    
    [GRAPHIC] [TIFF OMITTED] T7616.257
    
    [GRAPHIC] [TIFF OMITTED] T7616.258
    
    [GRAPHIC] [TIFF OMITTED] T7616.259
    
    [GRAPHIC] [TIFF OMITTED] T7616.260
    
    [GRAPHIC] [TIFF OMITTED] T7616.261
    
    [GRAPHIC] [TIFF OMITTED] T7616.262
    
    [GRAPHIC] [TIFF OMITTED] T7616.263
    
    [GRAPHIC] [TIFF OMITTED] T7616.264
    
    [GRAPHIC] [TIFF OMITTED] T7616.265
    
    [GRAPHIC] [TIFF OMITTED] T7616.266
    
    [GRAPHIC] [TIFF OMITTED] T7616.267
    
    [GRAPHIC] [TIFF OMITTED] T7616.268
    
    [GRAPHIC] [TIFF OMITTED] T7616.269
    
    [GRAPHIC] [TIFF OMITTED] T7616.270
    
    [GRAPHIC] [TIFF OMITTED] T7616.271
    
    [GRAPHIC] [TIFF OMITTED] T7616.272
    
    [GRAPHIC] [TIFF OMITTED] T7616.273
    
    [GRAPHIC] [TIFF OMITTED] T7616.274
    
    [GRAPHIC] [TIFF OMITTED] T7616.275
    
    [GRAPHIC] [TIFF OMITTED] T7616.276
    
    [GRAPHIC] [TIFF OMITTED] T7616.277
    
    [GRAPHIC] [TIFF OMITTED] T7616.278