Little-known law threatens investments in financial crash scenario

Recessions and stock market crashes are inevitable in a market-based economy, but few Americans realize that their investments face much greater risks than a decline in stock prices.

Due to largely unknown regulatory changes, millions of Americans could temporarily or even permanently lose their retirement and other investment savings in the next great financial crash, while too-big-to-fail Wall Street firms and banks are protected.

This may seem like a crazy conspiracy theory, but the danger is real and well documented.

How did Wall Street centralize ownership of your investments?

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Beginning in the 1970s, at the request of powerful Wall Street and banking institutions, state lawmakers quietly passed a series of amendments to the Uniform Commercial Code, a body of legislation enacted in all 50 states. These changes effectively allowed financial institutions to shift direct ownership of most securities away from individual investors, including retirement accounts and traditional brokerage accounts.

Under the revised legal framework, direct ownership of securities such as stocks and bonds was centralized in a single financial institution controlled by Wall Street’s largest firms and banks: the Deposit Trust Corporation, or DTC.

Today, DTC “provides custody and asset services for 1.44 million security issues from more than 170 countries and regions, worth more than $100 trillion by 2025.” To put that number in perspective, the entire federal budget is roughly $7 trillion.

I published a new book in January. “The Next Great Crash: The Conspiracy, the Collapse, and the Men Behind History’s Biggest Heist” Explain how this legal framework was created, why it poses serious risks to consumers today, and reveal the remarkable conspiracy behind the creation of the DTC. The book is the result of years of research and the evidence it presents is quite astonishing.

Why does this system exist and what did it replace?

The Depository Trust Company is at the heart of the modern model of securities ownership. Major banks and broker-dealers, with the help of a mysterious figure with a long history of working for and alongside the CIA, formed DTC in the early 1970s with the goal of alleviating Wall Street’s growing paperwork crisis.

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Back then, buying and selling securities was a slow, paperwork-intensive process. By centralizing the registered ownership of securities in a single institution, transfers can be easily effected by changing records, which today occur electronically. Jobs that used to take several days could be completed almost instantly.

MPs were told the change was a technical modernization designed to increase efficiency and reduce risk. In many ways he did exactly that. The cost and time required to do business on Wall Street decreased significantly after the creation of DTC. However, these gains came at a very high price. Centuries-old property law was effectively thrown aside. Traditional chattel ownership based on clear title and constitutional protection has been replaced.

Who benefits and who bears the risk?

Under the current DTC model, most investors no longer own their securities directly. Instead, they have what the law calls a “right to security.” This arrangement is contractual in nature. It provides certain rights and protections, but does not directly grant registered ownership rights. When you buy shares in a company, you don’t actually buy the stock. You have a number of investment rights attached to this stock.

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This system raises serious ethical concerns. It provides enormous benefits to the most powerful financial institutions while weakening the property rights of ordinary investors.

Centralized ownership allows securities transactions to occur with extraordinary speed, fueling ever-increasing activity on Wall Street. This activity generates large amounts of fee income for large institutions.

In recent years, institutions have also made huge profits from risky practices such as stock lending and derivatives trading. These activities could not occur at anywhere near their current scale under the stronger ownership framework that existed before DTC’s creation. Centralized ownership made these possible.

Worse, Wall Street and lawmakers didn’t stop there. In the 1990s, they leveraged centralized ownership to implement further changes to regulatory and legal codes designed to protect large financial institutions during systemic crises.

Under Article 8 of the Uniform Commercial Code, in the event of bankruptcy of a brokerage firm during a financial crisis, secured creditors, including banks, may seize securities used as collateral in lending agreements with brokerage firms. This may also include customer securities such as stocks and bonds if pledged as collateral for loans.

Investors may discover that their retirement is in jeopardy during the next crash. (iStock)

As a result, during the next big crash, investors could lose their entire portfolio if the broker-dealer commits client assets to obtain financing.

Current regulations generally prohibit investment companies from using most customer securities as collateral outside of margin accounts. However, Article 8 allows secured creditors to seize customer assets pledged as collateral if a firm is unable to pay its debts, even if the collateral has been improperly pledged.

Moreover, as I document in the book, existing emergency powers laws can be invoked to change or suspend rules intended to protect customers during a crisis. Lawmakers may also introduce new laws that would weaken existing consumer protection measures.

It’s still a problem that can be solved

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The good news is that this problem is not irreversible.

Because the Uniform Commercial Code is state law, state legislatures have the authority to restore investors’ primacy. A small number of lawmakers across the country have begun to recognize the danger and push back, but it will take sustained public pressure to achieve meaningful reform.

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The next financial crisis may come sooner or later, and its exact trigger is impossible to predict. What is predictable is the legal structure waiting on the other side. Unless Americans demand change now, many people may discover too late that many of the rules governing retirement savings were not designed to protect them.

Justin Haskins is a New York Times bestselling author, vice president of The Heartland Institute, and senior fellow at Our Republic.