(The news featured below is a selection from the news covered in SEC Today, which is distributed to subscribers of SEC Today.)

Cox Testifies on JPMorgan/Bear Stearns Merger

SEC Chairman Christopher Cox was among the witnesses testifying at yesterday's Senate Banking Committee's hearing on the merger agreement between JPMorgan Chase & Co. and Bear Stearns Companies, Inc. Cox said the actions by the Federal Reserve Board to open the discount window to all of the major investment banks was unprecedented and significant. Most of the senators' questions centered on the actions of the Fed, Treasury and the New York Fed, but some questioned the SEC's actions leading up to the crisis.

Ranking member Richard Shelby (R-AL) noted that the SEC was the primary regulator of Bear Stearns under the consolidated supervised entities program. Some have said the SEC missed the boat, Shelby noted. He asked Cox when the SEC discovered Bear Stearns' severe liquidity problem and what steps it took in response.

Cox advised that Bear Stearns was on the SEC's watch list going back to the summer of 2007 because of the failures of its two hedge funds. The hedge funds were separate entities, however, and posed no risk to the holding company until Bear Stearns decided to support one of the funds. At that point, the SEC began to monitor Bear Stearns' capital on a daily basis, according to Cox.

At the beginning of the year, Bear Stearns continued to exceed the regulatory threshold for a well capitalized firm. Cox said the SEC was in regular contact with the New York Fed and its contacts increased since February. The SEC spoke with the New York Fed numerous times on March 10 when Bear Stearns was denied not only unsecured financing, but also short-term securities financing. Counterparties would not provide securities lending services and clearing services. By the weekend of March 15-16, Cox said Bear Stearns faced a choice of filing bankruptcy on Monday or agreeing to merge with a larger partner. The speed with which it happened was unprecedented, he said.

Cox responded to an inquiry from Senator Tim Johnson (D-SD) about the consolidated entity program. Cox explained that the liquidity measures under the program were thought to be adequate. The existing models are designed to withstand the complete loss, for an entire year, of all sources of unsecured funding, he explained. The models anticipate that secured funding will continue to be available, although on less favorable terms. The SEC is currently working with firms to ensure that they have sufficient liquidity in the Bear Stearns stress scenario. Cox also wrote to the Basel Committee to offer his support for its consideration of whether to extend the capital adequacy standards to address liquidity risk.

Senator Jack Reed (D-RI) questioned whether the run on Bear Stearns was partially due to efforts to manipulate the market. Cox said that he could not comment on any potential SEC investigations into market manipulation.

Senator Robert Menendez (D-NJ) said he hated to think that the rumor mill could bring down such a large investment bank. He asked what the SEC is doing to address the dynamics of new complex instruments. Cox advised that the SEC is not waiting for new regulations or legislation, but is working with the firms now with respect to liquidity, risk practices and models

At the opening of the hearing, Committee Chairman Christopher Dodd (D-CT) said he believes the Fed did the right thing by intervening in the Bear Stearns matter, but wanted to investigate whether other alternatives were available. Shelby observed that it was the first time since the Great Depression that the Fed has bailed out a financial institution. He warned against the moral hazard that may encourage other institutions to take undue risks with the expectation of a government bailout if they run into trouble.

Senator Jim Bunning (R-KY) criticized the bailout of Bear Stearns. He questioned why the "invisible hand of the market" was not permitted to provide the discipline. Regulators failed to do their job, in his view, since they let the financial system become so fragile that a single firm could endanger the entire system.

Fed Chairman Ben Bernanke responded that the issue extended well beyond one company. The sudden failure of Bear Stearns would have led to a chaotic unwinding of its financial positions, he said, and the resulting damage would have been severe and difficult to contain. It would have been felt broadly throughout the economy, he said.

Robert Steel, Treasury's Under Secretary for Domestic Finance, agreed. The focus was not on a particular institution but its impact on the markets, he said. He believes the agreements that were reached were both necessary and appropriate. Timothy Geithner, the president of the Federal Reserve Bank of New York, noted that Bear Stearns reached the brink of insolvency at a difficult time. The failure to act would have posed a risk to the entire economy. The Fed acted as lenders of last resort as authorized by Congress, he said.

Dodd raised concerns about the price that was agreed upon in the merger of JP Morgan and Bear Stearns. He suggested that it would be improper for a government official to say what the appropriate price should be. Bernanke said that multiple firms had the opportunity to talk to Bear Stearns. The price was secondary, he said. Steel said that, since federal funds were involved, there was a view that the price should not be very high. It should at the low end, he explained. Geithner said the goal was to avert the risk of default and not add to the moral hazard risk in this type of intervention. Both the original deal and the later price increase were consistent with that outcome, he said.

Dodd asked how wise it was to open the discount window to broker-dealers, noting that everyone rejected that idea at a hearing 10 days prior to that action. Bernanke said the conditions that evolved during the week of March 10 led to the Fed's decision. The Fed is working with the SEC and the firms. Bernanke said the lending has been done safely and soundly. The window was opened under emergency authority and will have to be closed eventually.