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The other day, we were joined on Let’s Talk Markets by James Tierney—assistant professor at Chicago-Kent College of Law and a former staff attorney at the SEC’s Office of General Counsel. In an awesome and far-ranging conversation, James told us that, among other things, he is “deeply skeptical of the entire project of capital markets as we currently regulate them.”

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Yikes. Putting aside the doom-laden sentiment, I think it’s useful to describe capital markets as a project. It makes it sound like a school assignment, which explains why there are so many cheaters involved.

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Speaking of cheaters, a primary focus of our discussion with James was a case currently before the U.S. Supreme Court— SEC vs. Jarkesy. There was some disagreement during our podcast about how to pronounce the defendant’s name, so we settled on just calling him Jerk Store.

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Anyway, the thing about the Jerk Store case is that it could actually have truly far reaching implications for the ability of regulators to fulfill their enforcement duties. What began as a pretty clear-cut case of enforcement against a bad actor has spilled over into a much bigger (and frankly, dumber) question about whether or not the SEC has the right to pursue enforcement at all.

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The whole thing is now a jumbled affair with serious Constitutional implications. You can thank the courts for infusing this matter with philosophical fog.

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So let’s get into it…

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All-Time Best Seller

George Jarkesy is a Texas-based hedge fund manager, conservative radio personality and, I shit you not, a songwriter whose only known composition is the “Bad Obama Blues.” (Link not included).

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According to the Securities and Exchange Commission (SEC), Jarkesy committed securities fraud against investors. An SEC Administrative Law Judge (ALJ) determined that Jarkesy and his associate, Thomas Belesis of John Thomas Financial, used two hedge funds to inflate the value of assets, award themselves exorbitant transaction fees, and misrepresent auditing practices. The charges also say that Jarkesy pretended to be in charge, but actually wasn’t. Belesis called the shots while Jarkesy talked a big game.

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Like I said, Jerk Store.

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Anyway, the SEC ALJ fined Jarkesy and his associates $300,000, and further called for the disgorgement of $685,000 in ill-gotten gains. The SEC has also called for Jarkesy to be barred from participating in the securities industry.

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That last point is particularly noteworthy. Why? Because it suggests that the consequences of Jarkesy’s crimes are greater than the “cost of doing business.” Losing the right to do business altogether—that’s a consequence with teeth.

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Or at least it would be…if only the SEC had the Constitutional right to impose it.

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Questioning the Regulatory Authority of a Regulatory Authority

Jarkesy isn’t necessarily claiming that he didn’t do all the bad things the SEC says did. He’s just saying they don’t have the authority to hold him accountable. His central argument before the courts is that the SEC is violating his Constitutional rights by imposing fines on him without due process or a trial by jury, which is guaranteed by the 7th Amendment.

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Jarkesy’s claim invokes something called the “nondelegation doctrine,” claiming that Congress does not have the right to delegate its powers to administrative agencies.

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Here’s why that’s stupid.

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In a 1928 Decision—J.W. Hampton v. United States, 276 U.S. 394—The Supreme Court clarified that Congress may give an agency regulatory powers as long as it has provided said agency with “intelligible principle.” 

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Before you get all glib about whether or not government agencies have the ability to be intelligible, note that this standard is intentionally vague and far-reaching, mostly to protect the ability of regulatory agencies to do the work assigned to them. And for a full century of judiciary ruling, it has been sufficient to prevent the “nondelegation doctrine” from presenting any real legal threat to the regulatory authority of an agency like the SEC.

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This precedent also gives the 2000 independent administrative law judges working for the executive branch across the U.S. the authority to adjudicate in cases pitting agencies against impacted parties. The objective is to provide neutral administration of disputes involving large bureaucracies.

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To be clear, these ALJs perform functions that go far beyond validating the SEC’s enforcement actions. ALJs may work to settle disputes between the Social Security Administration and a class of Social Security recipients; to mediate conflicts over equal pay between the National Labor Relations Board and worker unions; to address conflicts over worker safety involving the Occupational Safety and Health Administration (OSHA).

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So it isn’t just the SEC whose enforcement mandate is in danger right now. The work of countless agencies may be threatened. 

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But for now, just note that Jarkesy’s argument rests on the oft-rejected premise that Congress does not have the right to delegate its responsibilities to federal agencies and administrative law judges.

Again, stupid, right?

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It's a pretty well established fact that Congress does have this right, that the courts have long and consistently upheld that right, and that undermining this right would undermine the very ability of regulators to regulate.

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Yeah well…welcome to the new age.

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Calvinball

In 2022, the New Orleans-based 5th U.S. Circuit Court of Appeals ruled that the SEC does not have the right to impose fines on Jarkesy, that the SEC’s in-house proceedings are unconstitutional, and that the rendering of decisions using an administrative law judge is a violation of Jarkesy’s 7th Amendment Rights.

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It is a finding that flies entirely in the face of a full century of legal precedent. But the rules are changing.

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During one of our off-the-record conversations with James Tierney, he referred to the changing judicial landscape as one big game of Calvinball.

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A reference to Bill Watterson’s ingenious “Calvin and Hobbes” comics, Calvinball is a game in which the rules are unknowable and constantly changing. This, of course, can make it pretty much impossible to win…unless you know how to manipulate the system.

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A brilliant analogy. 

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I asked James if I could reference it and credit him with the idea. He insisted that I credit Bill Watterson instead.

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I’ve decided to do neither. Between us, let’s just pretend it was my clever idea. If anybody asks, just go with it.

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Anyway, the point is that the complexion of the courts has changed tremendously over the last eight years. Whatever Trump’s failures as a president, his success at ramming conservatives into the judiciary was nothing short of Mitch McConnell fever dream.

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With their newfound power, conservative judges have taken an increasingly confrontational stance against what radio personalities like Jarkesy would refer to as “The Administrative State”--those evil Matrix-like agencies charged with things like enforcement against securities fraud and investor protection.

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The Biased Court in the Land

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The changing face of the courts means that the rules are not just changing, but that they are in a constant state of flux. And that goes all the way up to the highest levels of the judiciary. On November 29th, 2023, the Supreme Court–and its 6 to 3 conservative majority–heard oral arguments on the Jerk Store case.

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More than a few justices seemed alarmingly receptive to the 5th Circuit Court’s conclusion–a conclusion that would have been regarded as extreme in its deviation from precedent just a decade ago.

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According to an article from Reuters, Supreme Court Justice and noted beer enthusiast Brett Kavanaugh asked "What sense does it make to say the full constitutional protections apply when a private party is suing you, but we're going to discard those core constitutional, historic protections when government comes at you for the same money?”

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Refer back to J.W. Hampton v. United States (1928) and the “intelligible principle” clause of the “nondelegation doctrine.” In other words, we’ve actually known the answer to the question above for one hundred years.

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Hit the books, Kavanaugh.

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Besides, there are actually some two-dozen federal agencies with the power to impose fines by way of ALJ adjudication. They form a critical layer of the regulatory and enforcement apparatus in the U.S. justice system. And quite often, it is this layer that is tasked with taking on the biggest and the baddest actors, the kind whose high-priced lawyers you can’t afford to face in court.

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That’s exactly why so many of these authorities are delegated to ALJs. Without their authority, we have one less layer of protection. But again, the courts have changed. And they are, in turn, changing the rules of the game as we go along.

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We await the final decision here, but it doesn’t look great for the forces of regulatory authority. If you’re not thrilled by the behavior of this Supreme Court, don’t sweat it. It’s just a lifetime appointment. 

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This is a terrible environment for an agency with an enforcement mandate. 

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Because here’s the thing—when the courts decide that the SEC, or FINRA, or any other regulatory organization does not have the authority to enforce its own rules, this is not a victory for civil liberties. This is not an instance of the Constitution striking a blow against overzealous enforcement.

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If you’re in the pro-anarchy camp, don’t misinterpret the moment.

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This type of deregulation doesn’t lead to the fun type of anarchy. This isn’t the type of anarchy where we all get face piercings, don spiky leather, and traverse the Australian desert in weaponized all terrain vehicles. This is the type of anarchy where corporate abusers can use the courts to get what they want.

This is an attack on the forces meant to protect you from corporate abusers, fraudsters, and security scammers like Jarkesy. 

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Clearly, the Jerk Store is open for business.