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Securities Fraud on the Internet Hearings 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±616 cc WASHINGTON : 1999 For sale by the Superintendent of Documents, Congressional Sales Office U.S. Government Printing Office, Washington, DC 20402 VerDate 11-SEP-98 12:27 Sep 13, 1999 Jkt 000000 PO 00000 Frm 00001 Fmt 5011 Sfmt 5011 57616.TXT SAFF2 PsN: SAFF2 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 (II) VerDate 11-SEP-98 12:27 Sep 13, 1999 Jkt 000000 PO 00000 Frm 00002 Fmt 5904 Sfmt 5904 57616.TXT SAFF2 PsN: SAFF2 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 Asso- ciation, Inc., Washington, DC ............................................................................. 49 G. Philip Ruthledge, Deputy Chief Counsel, Pennsylvania Securities Commis- sion, 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 (III) VerDate 11-SEP-98 12:27 Sep 13, 1999 Jkt 000000 PO 00000 Frm 00003 Fmt 5904 Sfmt 5904 57616.TXT SAFF2 PsN: SAFF2 IV Page EXHIBITS 1. Memoranda prepared by Elliot S. Berke, Counsel, Smokey Everett and Wesley Phillips, Investigators, Permanent Subcommittee on Investiga- tions, dated March 16, 1999, to Permanent Subcommittee on Investiga- tions' Membership Liaisons regarding ``Securities Fraud On The Inter- net'' ..................................................................................................................... 265 2. PowerPoint presentation by Richard H. Walker, Director, Division of En- forcement, 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 Cer- tified Public Accountants ................................................................................. 343 8. Cyberspace Fraud And The Small Investor, pamphlet prepared by the North American Securities Administrators Association, Inc. ....................... 347 VerDate 11-SEP-98 12:27 Sep 13, 1999 Jkt 000000 PO 00000 Frm 00004 Fmt 5904 Sfmt 5904 57616.TXT SAFF2 PsN: SAFF2 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 Coun- sel; 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 Spec- ter); 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 investiga- tion 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 in- vestors 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 consum- ers 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 connec- tion, if any, between securities
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