ARE CHINESE WALLS THE BEST SOLUTION TO THE PROBLEMS OF INSIDER TRADING AND CONFLICTS OF INTEREST IN BROKER-DEALERS?

This segregation would also prevent a firm from offering research and analyst advice at the same time it offers investment banking. This will also help solve the conflicts of interest problem. This separation will prevent underwriters in the firm from asserting pressure on analysts to issue favorable reports for the firm's corporate clients. Under this proposal, there is a higher probability that analysts' reports will be more objective and reliable for investors.

However, there are several significant drawbacks to this approach. One is that segregation would prevent broker-dealers from recognizing economies of scale that could be achieved by combining various financial services. The benefits of segregation may outweigh this loss, but it still must be considered in conjunction with the other drawbacks. Another problem is that segregation may be a naive solution. Just as Chinese Walls have not completely eliminated all conflicts of interest and instances of insider trading, segregation will not completely eliminate these problems. An investment banker at one firm can just as easily call a friend who is a retail broker for another firm and share inside information. Similarly, an investment banker can call a friend who is an analyst and ask for a favorable report. Given these drawbacks and the realities of the marketplace, it is likely that any segregation would eventually give way to the integration of services we have today. This is precisely what has happened today in the banking industry as the segregation of various banking and other financial services has disappeared with the passage of the Gramm-Leach-Bliley Act.

D. Full and Immediate Disclosure of all Information

Another feasible and realistic solution to the problem of insider trading is to encourage full and prompt disclosure of all corporate information.139 This rule will eliminate the existence of inside information. If all information is immediately disclosed to the public, all parties to the transaction will have access to the same information. Nicholas Wolfson has suggested that if an investment banking client of a broker-dealer does not make timely disclosure of inside information, the investment banker should have an obligation to make the disclosure on behalf of his client.140 However, corporations may no longer use investment banking services as frequently because of the possible loss of confidentiality. This disadvantage must be balanced with the benefits of such a rule. Even a more lenient disclosure requirement will eliminate inside information, and Chinese Walls will no longer be necessary if there is no longer inside information in broker-dealers.

There also needs to be better and more disclosure about the relationships in broker-dealers that might create conflicts of interest.141 This will allow clients to make their own informed decisions about the reliability and objectivity of analysts' reports. Rather than requiring firms to erect Chinese Walls, disclosure would be a better solution to analysts' conflicts. Many naïve investors assume that Chinese Walls are sufficient to keep investment bankers from asserting pressure on analysts. These investors rely on analysts' reports and discover the hard way that the analyst was not as objective as they thought. Stricter disclosure rules would cause investors to think about analysts' recommendations before they naively accept them as unbiased. This rule will clearly benefit investors more than the current focus on Chinese Walls, which have proved ineffective in reducing analysts' conflicts. Similar to the use of discount brokers, this approach leaves the ultimate decision regarding analysts' objectivity up to the investor rather than mandating the use of ineffective and inefficient Chinese Walls.