The Securities and Exchange Commission was established in 1934 in the aftermath of the great crash. Its purpose was to stabilize markets chiefly through the mechanism of disclosure.
The two-fold idea was to protect investors against fraud and duplicitous stock promoters and, more subtly, that fulsome and accurate information on securities would lead to better pricing and encourage people to invest.
Gary Gensler, President Biden’s SEC chair, has proposed a considerable broadening of this agenda, and it ought to give investors concern.
The agency is proposing vast new climate-related disclosures from all public securities issuers.
The proposal would require not just, say, coal mines and oil drillers but also retailers and software firms to compile and disclose reams of data on its carbon production and emissions and on the emissions of their networks of supply chains and distributors.
The request is unprecedented in scale, and the useful part of the information is already collected by the Environmental Protection Agency. The EPA, under the authority Congress vested in it, measures and discloses the sources of 85-90% of U.S.-based greenhouse gas emissions.
The SEC has a very important but distinct mission. The agency was conceived in the spirit of Louis Brandeis’s memorable dictum: “Sunlight is said to be the best of disinfectants; electric light the most efficient policeman.”
The Depression-era Securities Acts directed the agency to prescribe disclosure “necessary or appropriate in the public interest or for the protection of investors.”
The “public interest” was certainly mentioned, but it was interpreted to mean the public interest consistent with the agency’s mission of investor protection. The SEC did not seek data on the spread of infectious diseases, or on all sorts of other public concerns.
The SEC was not even an omnibus corporate policeman. It left antitrust concerns to the FTC and Department of Justice; labor issues were left to the NLRB.
The SEC’s charter was to compel disclosure of corporate information relevant to an investor, and bring enforcement against violators. This was a full-time job. Greed may not be good, but it is enduring. Markets need the policeman’s flashlight.
The SEC debated whether to broaden the circle of compulsory disclosures in the 1970s but observed that experience had “not led it to question the basic decision of the Congress that … the primary interest of investors is economic.” It added a seemingly obvious truth: “After all, the principal, if not the only, reason why people invest their money in securities is to obtain a return.”
Gensler’s 508-page tome, which is now open for public comments, argues that climate disclosure is very much relevant to investor risk, but it blurs over a crucial distinction. Corporations are already required to disclose specific material risks to their businesses, including risks related to climate change. Those would include the risk to a developer building on an eroding seashore, or the risk to an oil driller of heightened regulation. Thus, under the heading of “risk factors,” the 2021 ExxonMobil Annual Report discloses climate risks under such subheadings as “Government and Political Factors,” “Access limitations,” “Lack of legal certainty,” “Regulatory and litigation risks,” “Net-zero scenarios” and so forth.
Of course, even most companies not involved in oil drilling consume some carbon, but their emissions do not pose a specific risk to themselves or their securities. They contribute to atmospheric warming—but that is the province of the EPA.
To bolster the case for investment relevance, the SEC asserts that greenhouse gas emitters could suffer legal risks or reputational harm, impugning their valuations. But there are scores of other potential sources of consumer disaffection, none of which result in burdening issuers with 500-page rulebooks.
The SEC also makes much of the “growing investor demand” for climate disclosure. The draft repeatedly refers to BlackRock and State Street, which sponsor index funds. Each of these Wall Street giants favors enhanced climate disclosure and, more generally, socially responsible investing (Laurence Fink, CEO of BlackRock, has made it his personal crusade). But as index fund providers, neither of these firms has a financial stake in the performance of individual securities. The index funds have a marketing interest in demonstrating alignment with social causes but not, in any traditional sense, an investment stake.
The SEC also cites groups such as the Glasgow Financial Alliance for Net Zero, which represents financial institutions favoring climate disclosure, as well as letters from socially motivated investors such as Trillium Asset Management, state pension officials with a political stake in climate issues, and nonprofit organizations. The extent to which such signatories are motivated by political or reputational, rather than financial, considerations is unclear, but the potential is certainly there.
According to a comment letter signed by 22 law and finance professors urging the proposal’s withdrawal (and drafted by George Washington University’s Lawrence Cunningham), such investors are “overwhelmingly institutional asset managers … managing other people’s money, not their own.”
Unless I missed it, the SEC appears not to have cited a single individual investor—someone staking their personal capital—asking for this disclosure. It refers to retail investors (whom the SEC was created to protect) once, asserting that they will be passive beneficiaries of the added disclosure. This would be true if the disclosures related to individual—i.e., investment—concerns. But in their great preponderance they do not.
Moreover, there is no coherent reason to compel added disclosure from the subset of polluters who happen to be public and file with the SEC. Toxins are equally dangerous whether of public or private provenance. EPA rules naturally apply across the board. If the drafted rule goes through, it will accelerate the trend of polluters going private, removing present disclosures from public view. This will hurt the process of capital formation that the SEC says it intends to bolster.
Corporations who wish to attract investment by publicizing climate data of course may do so. About 90% of S&P 500 companies voluntarily disclose statistics such as carbon emissions and use of alternative fuels. If the SEC proposal merely strengthened and standardized existing practice it would be one thing. But it goes well beyond statistical compilation, requiring companies to report on how their boards think about climate change and how such considerations are integrated into corporate governance, business plans, strategies and so forth. It compels boards to prioritize an area that Congress has never remotely authorized.
Though the costs would be considerable, including likely litigation, the greater concern is the potential distortion of the SEC’s mission. When Congress amended the securities laws in the late 1990s, it directed the agency to focus on whether proposed regulations promote economic efficiency, competition, and capital formation. This proposal goes afield. Prof. Cunningham, a longtime advocate of disclosure, calls the plan an overzealous reach to serve a “political purpose.”
Joseph Grundfest, a former SEC commissioner, says the rule, if adopted in its present form, will likely be challenged and very possibly disallowed. He wrote in the Washington Post, “The goal shouldn’t be for administrative agencies to appease political constituencies by adopting rules that are later overturned by the courts.”
Grundfest says the proposal represents the Biden Administration’s “whole of government” approach to fighting climate change. If this characterization is accurate, it risks transforming administrative policy into dogma.
With the stock market tanking and interest rates rising, it’s a precarious moment for investors. If the funk on Wall Street persists, frustrated investors may prove vulnerable, as they have in the past, to proliferating sharpies and schemers. The SEC should mind the store.