Plans of federal regulators to authorize stock index speculation will create a regulatory nightmare for small investors in which virtually identical investments will be sold under almost totally different rules.
Sales of stock index options will be regulated by the Securities and Exchange Commission under the strict investor protection rules written after the stock market crashed in 1929.
But stock index futures contracts are governed by the rules of the Commodity Futures Trading Commission, which depends on self-regulation by the commodity markets and requires none of the customer protections demanded by the SEC.
The CFTC is scheduled to create the first stock index futures contract today when it acts on a staff recommendation to let the Kansas City Board of Trade sell a futures contract based on the Value Line Average of 1,700 stock prices.
The issue raised by the CFTC action is not merely a matter of less regulation versus more regulation. It is a question of whether it is good public policy for functionally equivalent investments to be sold under two different sets of rules enforced by two different agencies.
A customer who walks in the door of a brokerage house and asks about stock index speculation will impale the receptionist on a federally mandated dilemma: Should the customer be introduced to a "futures commission merchant" licensed by the CFTC or to a "registered representative" responsible to the SEC?
The result may be "a competition of laxity" in which the market with the loosest rules gets the most customers, the Treasury Department warned when it was asked to comment on stock index futures.
The disparities between SEC and CFTC regulation reflect fundamental philosophic differences between the stock and commodity markets that result in starkly contrasting standards:
* The SEC stresses extensive disclosure of the specific risks of any investment. The pitfalls of stock options trading are spelled out in a 60-page prospectus, and stock index options buyers will get a second prospectus on that topic. The CFTC requires only a two-page disclosure statement describing the general risks of commodity trading.
* The SEC requires sales personnel be specially trained to sell options and makes managers in brokerage offices responsible for mistakes and misrepresentations by their employes. The CFTC neither requires training of sales people nor holds management responsible for employes.
* To assure that widows aren't persuaded to put their life savings into risky investments, stock brokers are bound by a "suitability requirement" to recommend only investments that are suitable for a customer's financial position and investment experience. The CFTC has no suitability rule, though some brokers voluntarily screen commodity customers.
* Use of insider information is strictly forbidden in the stock and options markets, but there are no such strictures in commodity trading. An investor who would face SEC charges for buying stock index options based on inside information apparently would be free to use that same information to buy stock index futures.
"The presence of regulatory disparities is likely to produce a number of untoward results inimical to the public interest," then SEC member Irving Pollack concluded two years ago after the securities agency reviewed the Kansas City Board of Trade's proposal to create a futures contract based on the Value Line Index.
Approval of the Kansas City proposal "would raise serious questions of investor protection," Pollack warned in a scathing nine-page analysis that urged the CFTC to reject the stock index futures proposal.
Pollack's critique was written in the midst of a four-year turf fight that tied up the SEC and CFTC during the entire Carter administration. The SEC and CFTC spent so much time feuding about how to regulate stock index speculation that neither agency took any action on a backlog of more than two dozen proposed new investments.
The bureaucratic blockade was lifted a few months after President Reagan named John S.R. Shad to head the SEC and Phillip McBride Johnson to be chairman of the CFTC. Shad and Johnson agreed on a plan for each agency to permit stock index speculation under its own rules, with no effort to eliminate differences in the regulations.
No longer is the SEC trying to tell the CFTC how to run its business. "We have clearly defined criteria for customer protection under the securities act," Shad said in a recent interview. "What somebody else does is outside our jurisdiction.
"If Congress feels that similiar investments are not subject to the same criteria, that's a congresssional matter," he added.
Congress stepped into the dispute last week when Rep. John Dingell (D-Mich.) introduced a joint resultion calling for a six-month moratorium on stock index speculation. Dingell chairs the House Energy and Commerce Committee that oversees the SEC.
Two Democrats who head house subcommittees, Tim Wirth of Colorado and Benjamin Rosenthal of New York, have questioned differences in the two agencies' rules on stock index speculation. Banking committees in the House and Senate are also looking into the CFTC's regulations, though the agency falls under the jurisdiction of the agriculture committees.
Rosenthal, who accused the CFTC of failing to protect investors during the collapse of the silver market two years ago, says a soon-to-be released General Accounting Office audit will raise new questions about the agency's concern for consumers.
More criticism of the CFTC's consumer protection ability is expected from three days of hearings on commodity fraud scheduled later this month by a Senate banking subcommittee chaired by William Roth (R-Del.)
Even some CFTC staff members have suggested that new customer protection rules may be needed to deal with the particular problems of stock index speculation.
The commodity futures markets were established more than a century ago to help smooth out seasonal variations in the price of grain and to minimize the risk to bakers, millers and grain dealers of sharp swings in prices. Despite periodic scandals when someone tried to corner the grain markets, futures trading has been largely unregulated because most of the participants were sophisticated professionals.
But the chance to speculate on stock indexes instead of soybeans may draw new and naive participants into the market, CFTC staffer Barbara Lucas warned the commission in a 1980 memorandum.
"The potential entrance of a multitude of unsophisticated individuals into the futures markets for the first time would constitute a significant change in those markets and underscores the need for adequate customer protections," she said.
Lucas, a former SEC attorney, suggested a "suitability requirement" as a first step toward assuring that unsophisticated investors are not lured into stock index speculation.
CFTC member James Stone, who was chairman of that commission before Johnson, says the lack of specific protections for investors used to SEC-style regulation is one of his chief concerns about stock index futures. Stone, too has promoted the idea of a suitability requirement.
Neither SEC-style disclosure requirements nor a customer suitability rule are necessary, argue advocates of stock index speculation.
Even though they operate under different rules, "stock and commodity brokers each do a good job of explaining risks to their customers," contends Walter Vernon, president of the Kansas City Board of Trade. Accusing the SEC of "overkill," Vernon says the CFTC's two-page disclosure statement is more effective than the 60-plus pages demanded by the SEC because "noboby's going to read 60 pages."
The commodity industry is adamantly opposed to any special customer protection rules for stock index futures, fearing the regulations would open the door to federal interference in other aspects of the largely unregulated business.
Like many federal oversight agencies, the SEC and CFTC tend to protect the interests of the businesses they regulate. Both agencies are under intense industry pressure not to establish rules that would put their constituents at a competitive disadvantage.