The SEC Needs a Win Against Mozilo

by Jacob Zamansky on August 26th, 2010 at 4:15 pm : Comments 000

As a New York Times story suggested earlier this week, Federal Judges are no longer rubber stamping the SEC’s settlements with Wall Street. This has put the SEC in an almost impossible situation: drive harder bargains and risk facing off in court against Wall Street’s limitless legal resources or bow to their wishes and risk more rejected settlements.

It all started with Judge Jed S. Rakoff’s denouncement of the SEC’s settlement with Bank of America for allegedly misleading shareholders about losses pending at Merrill Lynch, which at the time was in the process of being acquired. Judge Ellen Segal Huvelle then refused to accept a settlement with Citigroup, which also was accused of misleading shareholders about tens of billions of dollars in potential losses.

Judges are frustrated that the SEC’s settlement patterns harm shareholders who actually bear the brunt of the fines. They also want the SEC to negotiate stiffer penalties holding executives personally liable for fraudulent acts.

There are many reasons why large Wall Street firms are able to negotiate such generous terms with the SEC. One reason is the so-called “revolving door,” where former SEC officials representing Wall Street sit across from their past colleagues who themselves might be eying lucrative Wall Street jobs. But another is that Wall Street knows that the SEC is at a disadvantage if push comes to shove and a trial is scheduled.

The SEC rarely argues cases in a courtroom and even more rarely prevails against large Wall Street banks. With a track record like that, Wall Street’s legal representatives have the leverage they need to protect senior management and continue practices that exploit investors.

But that could all change in October when the trial against former Countrywide Financial CEO Angelo Mozilo is scheduled to begin.

A settlement agreement has yet to be struck between the SEC and senior executives of mortgage giant Countrywide Financial, including Mr. Mozilo. The SEC has accused them of misleading investors about their lending standards. It’s conceivable that an agreement may prevent a trial or that a judge could dismiss the charges, but considering the judicial scrutiny of late, the terms of a settlement would not be favorable to Mr. Mozilo and his former colleagues. Thus, it certainly looks like a civil fraud trial will get started this October.

The symbolic importance of the trial has been noted by several experts including former SEC chairman Harvey Pitt, who said that the case is “significant because it is a reflection of the SEC’s commitment to go after people who have been involved in the financial meltdown.”

I agree with Chairman Pitt, and I’d take it a step further: a win for the SEC would provide its enforcement team with the leverage they need to negotiate stiffer terms for settlements. Future settlements could and should include admissions of liability, as well as personal financial liability of the wrongdoer and his or her manager if applicable.

For the SEC, this is a “bet the farm” lawsuit and one that could lay the groundwork for the future of enforcement on Wall Street.

Filed under Uncategorized
and Angelo Mozilo, Bank of America, Citigroup, Countrywide Financial, SEC, Wall Street

Morgan Stanley, Complex Structured Products… and Nuns

by Jacob Zamansky on August 16th, 2010 at 9:09 am : Comments 000

Wall Street never ceases to amaze me. Financial News reported last week that two Catholic nunneries and more than 80 other investors, have filed a lawsuit in London against Morgan Stanley alleging the firm inappropriately managed a complex structured bond it sold them called a “constant maturity swap,” causing an estimated $6.5 million loss.

Specifically, the suit alleges that Morgan Stanley, in cooperation with Saturns, an Irish bank, neglected to redeem the bonds when a mandatory redemption was triggered after they were downgraded in late 2008 as the financial markets imploded. The suit further alleges that Morgan Stanley and Saturns may have deliberately waited to redeem the bonds several months later so that their firms could earn a fee that they otherwise would have lost if the bonds had been redeemed earlier.

In what could be a public relations nightmare, Morgan Stanley is apparently contesting the suit, claiming it sold the the product to Bloxham, an Irish brokerage firm that represented the nuns. However, the suit alleges that the delay Morgan Stanley ostensibly caused prevented Bloxham from hedging losses from the depreciated bonds and thus caused further losses.

While this case is especially shocking given the victims, it’s unfortunately, very common: Wall Street continues to put their own interests ahead of their clients by peddling structured products to retail investors at an alarming rate.

The structured product market is ballooning out of control and is poised to pop.  According to StructuredRetailProducts.com, Wall Street has sold an estimated $30 billion in structured products to retail investors so far this year. Chris Whalen, a risk expert and co-founder of Institutional Risk Analytics, calls structured products the “next investment bubble.”

I’ve advocated that before a structured product can be sold to a retail investor, parties must sign a simple, “plain English,” one-page agreement akin to what Wall Street uses when entering into a derivatives contract, the so-called “Master Agreement.” Obviously, this added measure alone will not solve the problem. The SEC and FINRA also need step up and enforce penalties to the fullest extent possible on those firms that inappropriately sell structured products to individual investors.

So long as the status quo remains intact, individual investors remain extremely vulnerable to Wall Street’s seemingly endless supply of structured products.

Filed under Uncategorized
and Complex Structured Products, FINRA, Morgan Stanley, SEC, Wall Street

Did Morgan Stanley Opt for Fines Rather than Compliance with Conflict Rules?

by Jacob Zamansky on August 12th, 2010 at 9:29 am : Comments 000

Earlier this week FINRA announced that it fined Morgan Stanley $800,000 for failing to adequately disclose material conflicts of interest to investors. FINRA alleged that the firm didn’t make required disclosures in research reports about the securities holdings belonging to analysts. Disclosures were deficient in more than 6,500 research reports over a four year period.

As FINRA’s enforcement chief James Shorris put it, “This case strikes at the heart of FINRA’s research disclosure requirements.”

Perhaps, yet FINRA’s penalty amounts to about $120 per infraction–mere peanuts for Morgan Stanley.

Having played a role in the bubble-era investigation into Wall Street’s conflicted tech stock research, and seeing first hand the seedier side of Wall Street’s research, I believe there may be other forces at work. A greater motivation for Morgan Stanley may be that at the end of the day, its far cheaper to pay a measly fine for failing to make disclosures than it is to conduct its business in a conflict-free manner by separating its research from investment banking.

This is nothing new for Morgan Stanley. In 2006, FINRA’s predecessor, the NASD, alleged that Morgan Stanley failed to make analyst disclosures to investors in 22,000 reports. Morgan Stanley was only fined $200,000 for that infraction.

Until penalties are severe enough to be deterrents, Wall Street will continue to push the envelop. For serial infractions on such an important, high-profile issue, that “goes to the heart of FINRA’s research disclosure requirements,” you would think more than a wrist slap is warranted.

I say, throw the analysts involved and their supervisors out of the business and make Morgan Stanley pay an enormous fine. That would certainly make Wall Street think twice about whether to invest in compliance or regulatory fines.

Filed under FINRA, Wall Street
and FINRA, Morgan Stanley, Wall Street

The SEC and FINRA Need to Level the Playing Field in Structured Products

by Jacob Zamansky on August 11th, 2010 at 9:13 am : Comments 000

Before a derivatives dealer and its counterparty agree on a trade they must enter into a written contract called a “Master Agreement”. The European Union also has an agreement for derivatives trades called a Key Information Document (KID).

Derivatives and structured products are both complex financial instruments and can sometimes, nearly look alike. So, why are contracts similar to the “Master Agreement” not compulsory when Wall Street sells structured products to retail investors? The short answer is that Wall Street’s money isn’t at stake; it’s investors’ hard earned cash that’s at risk.

According to Stacy Marie Ishmael of the Financial Times, “The ISDA Master Agreement is fundamental to, and provides a template for, the derivatives market.” The derivatives market couldn’t exist without the Master Agreement.

Yet the structured products market exists, nay thrives, without any such agreement.

Unfortunately, Wall Street has no interest in fixing something when it works perfectly well….for them. According to Bloomberg, Wall Street banks have sold a record $22 billion in structured products to retail investors so far this year and are expected to top the 2008 high of $38 billion by the end of the year.

To be sure, not all structured products are toxic and some do make sense for the right “accredited investors”. However, investors need to understand what to expect when they are on the other end of a trade. They need to understand that these products carry hidden risks and fees, and in many cases the upside is limited, while the downside isn’t. Before investors purchase a structured product they need a “plain english,” one-page document that clearly spells out the terms and risks of that particular product.

With so much money at stake, regulators desperately need to step in and require that investors truly understand what they are buying. FINRA and the SEC need to fix this issue because Wall Street most certainly will not.

Filed under FINRA, SEC, Structured Products Arbitration, Wall Street
and FINRA, SEC, structured products, Wall Street

John Montague Faces the Court of Public Opinion

by Jacob Zamansky on August 8th, 2010 at 8:00 am : Comments 000

Last June, I wrote on this blog (see below) about a double-standard when it comes to prosecuting fraudsters.  In the post entitled, “Two Americas and the Prosecution of Securities Fraud,” I detailed a case we filed against a financial advisor in Southern New Jersey named John R. Montague of Questar Capital Corporation, which is a subsidiary of the insurance behemoth, Allianz.

Mr. Montague’s working class, retirement age clients allege that he stole millions and ran a Ponzi-like scheme to defraud them.  Unfortunately, while law enforcement agencies have concentrated their efforts on criminals like Bernard Madoff and Kenneth Starr who bilked the rich and famous, while Mr. Montague has walked around a free man.  Apparently, fraudsters who prey on working class investors are low on the priority list.

In light of today’s Philadelphia Inquirer story, it is clear that Mr. Montague needs to be brought to justice sooner rather than later.

Two Americas and the Prosecution of Securities Fraud
by Jacob Zamansky on June 14th, 2010 at 3:47 pm
Former presidential candidate  Senator John Edwards is hardly someone to be cited in a blog post about morality and fairness, but he was spot on in his rallying cry about there being two Americas.  This painful reality was driven home to me in recent weeks while pursuing a case in New Jersey’s Gloucester County, a predominantly working class area in the backyard of my hometown, Philadelphia.

The case involves a purported “financial advisor” named John Montague, who was a registered representative with Questar Capital Corporation. The FBI has been investigating Montague since at least last August and possibly longer, but there appears to be no movement in the case.  I represent some elderly investors who Montague defrauded for over $1 million. Given that there are likely many other victims of  Montague’s alleged wrongdoing, it’s quite possible that Montague’s misappropriation of funds is well in excess of what  has already been documented.

My firm has long been a source of leads and other information for prosecutors and law enforcement agents, however, the Montague case doesn’t appear to be a priority for the FBI. For example, the US Attorney’s office is handling the investigation of Kenneth Starr, a money manager whose well heeled clients reportedly included a litany of bold-faced names such as Al Pacino, Uma Thurman, and Neil Simon.  With miraculous speed, prosecutors managed to nearly double the $30 million originally thought to be allegedly swindled by Starr. “In the less than two weeks since Kenneth Starr’s arrest, this investigation has maintained its velocity,” Manhattan US Attorney Preet Bharara told reporters last week.

Furthermore, Bernie Madoff, who orchestrated the biggest Ponzi scheme of all time, was convicted and sentenced in less time that it has taken the FBI to complete its investigation of Montague. The receiver overseeing the liquidation of the fraudster’s enterprise is reportedly expected to recover more monies than originally anticipated - so much so that some vulture funds are already buying up the claims.

The Montague case isn’t the only example of the wheels of justice grinding to a near halt when working class investors are defrauded of their monies.  I represent some working class investors in Long Island who were defrauded by a convicted felon named Peter Dawson more than three years ago.  Although Dawson sits in prison, Bank of America, Washington Mutual and other financial institutions who enabled Dawson’s fraud have yet to be held accountable.

There is a disturbing lesson here: When it comes to prosecuting securities fraud and garnering restitution for investors, working-class people shouldn’t expect the same level of prosecution and recovery as their wealthy brethren.

Filed under SEC, Uncategorized
and Bernie Madoff, John Montague fraud, kenneth starr

More Half-Baked Justice from the SEC

by Jacob Zamansky on August 5th, 2010 at 12:11 pm : Comments 000

Last year, Judge Jed Rakoff of the United States Southern District of New York struck a blow on behalf of all investors when he ordered the SEC and Bank of America back to the negotiating table. He deemed the settlement agreement the SEC submitted for Bank of America’s alleged failure to disclose billions of dollars of losses at Merrill Lynch as inadequate and poorly constructed. When the SEC and Bank of America went back to the drawing board and agreed to somewhat stricter terms, still without admission of guilt, Judge Rakoff reluctantly approved. But not without a last salvo.

Judge Rakoff proclaimed that the revised settlement represented “very modest punitive, compensatory, and remedial measures that are neither directed at the specific individuals responsible for the nondisclosures nor appear likely to have more than a very modest impact on corporate practices or victim compensation…While better than nothing, this is half-baked justice at best.”

The same “half-baked justice” Judge Rakoff described last year was evident in the SEC’s recent settlement with Citigroup. The SEC alleged Citigroup executives hid $40 billion in toxic mortgage industry assets from its shareholders. Citigroup paid a $75 million fine for what might be one of the biggest accounting scandals on record and managed to avoid using the word “fraud” to describe its actions. Carefully crafted by Citigroup’s attorneys, the terms of the settlement were clearly designed to protect executives from liability and undermine shareholder’s seeking to recover their losses.

Goldman Sachs executives similarly managed to escape blame stemming from the SEC’s accusation that the firm inappropriately constructed the ABACUS CDO transaction. To recall, Goldman created ABACUS so that its clients would unknowingly invest in securities design to fail. To avoid admitting fraud and spare the reputations of senior-level executives, Goldman paid a fine of over $500 million. The settlement was so favorable to Goldman Sachs that its stock price rose 5% percent.

The SEC’s lackluster enforcement record during the financial crisis stands in stark contrast to the country’s state regulators. Attorneys General and securities regulators from many states have done all the heavy lifting, and have extracted meaningful settlements along the way. Most notable is Massachusetts Secretary of State William Galvin. Among Mr. Galvin’s accomplishments is ordering Bear Stearns to pay back 100 percent of any losses suffered by Massachusetts residents who invested in the firm’s infamous, sub-prime laden, hedge funds that spectacularly collapsed in 2007. He also was among the earliest regulators to take action against Wall Street for misleading investors about auction rate securities and he has ordered the Madoff feeder-fund Fairfield Greenwich to pay its investors every penny they lost.

Another active state enforcement official is Mark Connolly, Director of Securities Regulation for New Hampshire, who has accused UBS of fraud for its sales practices related to Principal Protected Notes issued by Lehman Brothers. His case is especially notable because unlike the SEC, he isn’t afraid to use the word “fraud” to describe “misleading investors.”

I could write for hours about all of the significant cases filed by state regulators, but there is a common theme: state securities regulators help investors recover losses from fraudulent schemes and seek to deter it from happening again within their borders.

Unfortunately the same cannot be said of the SEC.

Filed under Bank of America, Investment Fraud, SEC, Wall Street, fraud
and Bank of America, Citigroup, fraud, goldman sachs, Judge Rakoff, Mark Connolly, Merrill Lynch, SEC, UBS, Wall Street

SEC Settlements Lack Personal Accountability

by Jacob Zamansky on August 5th, 2010 at 12:03 pm : Comments 000

When a corporation commits fraud, should the S.E.C. just go after the corporation, or should corporate executives also be held personally accountable? That is a question the SEC is apparently struggling with.

After the SEC announced its $75 million settlement with Citigroup for failing to disclose $40 billion worth of toxic subprime mortgage investments to shareholders, SEC enforcement director Robert Khuzami touted that his settlement “sends a message within the company,” and “it sends a message to the industry.”

I disagree that company fines alone deter wrongdoing. I believe the SEC needs to hold high-ranking individuals liable.

Just a few days before the Citigroup settlement was announced, the SEC announced it had reached a $100 million settlement with Dell for overstating its earnings. Michael Dell and Kevin Rollins, the current and former CEO, were each fined $4 million, and James Schneider, Dell’s CFO, was fined $3 million. In announcing the settlement, Mr. Khuzami’s stated that, “Accuracy and completeness are the touchstones of public company disclosure under the federal securities laws. Michael Dell and other senior Dell executives fell short of that standard repeatedly over many years, and today they are held accountable.”

Though Mr. Dell and his cronies probably got off easy, at least they were asked to pony up more than a few thousand bucks. The only Citigroup executives that were fined were the CFO and the IR executive, who paid a paltry $180,000 collectively.

A great example of how personal liability can send shockwaves throughout an industry is the WorldCom class action case, which was led by former plaintiff’s attorney and current candidate for New York Attorney General Sean Coffey. He recovered $6 billion for shareholders and forced WorldCom’s directors and officers to contribute $24.75 million, which was 20 percent of their net worths.

Commenting about Mr. Coffey’s settlement, the CEO of Glass Lewis said, “This may be one of the most important steps toward reinforcing the importance of performing the directorship duties with fidelity toward shareholders. It’s going to be very sobering to board members around the country.”

Corporate executives, especially on Wall Street, could use a similarly sobering moment after operating with impunity for years.

Filed under CEOs, Investment Fraud, Jake Zamansky, SEC, Wall Street
and Citigroup, Dell, liability, Sean Coffey, SEC, Wall Street, WorldCom

UBS Gets Hit Again

by Jacob Zamansky on August 5th, 2010 at 11:49 am : Comments 000

An arbitration panel ordered UBS to pay a small business in Maryland ten times the amount it lost as a result of its auction rate securities (ARS) holdings. The assets were frozen when Wall Street stopped supporting the ARS market and overnight investors who were told ARS’s were “cash equivalent,” found themselves without liquidity, or “oxygen” as the owner of the Maryland business described it.

As I stated in today’s Wall Street Journal, “This case sends a shot across the bow for Wall Street firms that if they violate securities laws, they can be held liable for consequential damages.”

The Maryland business asserted that because of UBS’ dubious sales practices, their business suffered significant damages. The business went from having 60 employees to 15 because of a lack of cash. Attempting to add insult to injury, UBS tried to argue that the business failed because of its management and not a lack of cash, but an arbitration panel didn’t buy it.

You may remember that David Aufhauser, UBS’s general counsel, was banned from the industry last year and ordered to pay a penalty to settle insider trading charges after he dumped his ARS holdings. He was the recipient of an internal company email warning of risk in the ARS market. Obviously, the Maryland business in this case and hundreds of other UBS customers weren’t afforded that same alert.

This is yet another example of UBS putting its own interest ahead of its customers. Fortunately, an arbitration panel made UBS pay dearly.

Filed under Auction Rate Securities, Jake Zamansky
and arbitration, Auction Rate Securities, Maryland, UBS

Making a Mockery of Financial Reform

by Jacob Zamansky on August 4th, 2010 at 1:19 pm : Comments 000

According to a recent New York Times report, the very same people that allowed investors to be exploited over the past decade at the SEC are being rehired by Wall Street to carve out loopholes in the Dodd-Frank financial industry reform bill. It’s what’s known as the “revolving door.”

Their objective is to water down the approximately 243 financial rules and 150 “studies” the bill calls for. Of course, this comes after the devastating influence Wall Street lobbyists have had on shaping the bill from its inception. It’s a one-two, knockout punch for investors.

A “fiduciary duty” standard for brokers probably doesn’t stand a chance even though its the one Dodd-Frank provision that affects nearly every investor. Dodd-Frank calls for the SEC to “study” what effect a broad application of the fiduciary standard for brokers would have. You can bet Wall Street lobbyists will work their former colleagues behind the scenes so that the new standard will only be applied in special circumstances, making it effectively meaningless.

The battle between financial regulators and Wall Street over Dodd-Frank will be a David versus Goliath story. Unfortunately, because of the revolving door, Goliath is getting bigger every day.

Filed under FINRA, Jake Zamansky, SEC
and Dodd-Frank, fiduciary standards, investors, SEC, Wall Street

UBS Clients Flee: The Rest of the Story

by Jacob Zamansky on July 26th, 2010 at 9:14 am : Comments 000

Since 2008, UBS has shed $220 billion in client assets and has suffered from a mass broker exodus from its Wealth Management unit.  In an attempt to halt investor outflows and calm its battered and bruised clients, UBS’ CEO has taken to the road and is headlining events for the bank’s high net worth clients hoping his charm can stem the tide of resentment.

According to a recent Wall Street Journal report, UBS’ illegal tax shelters are largely to blame for client defections.  But that’s only part of the reason for UBS’ problems: UBS also widely peddled dubious investments that blew up its clients’ portfolios and destroyed its brokers’ reputations.

The firm was one of the largest marketers of auction rate securities (ARS).  And after the ARS market collapsed, regulators forced UBS to re-purchase $22 billion worth of the stuff back from clients due to misleading sales practices.

Then there’s the firm’s regrettable involvement with Lehman Brothers its “principal protected notes” (PPN).  UBS was the chief seller of PPN’s issued by Lehman, having sold as much as $1 billion worth.  UBS’ sales practices are currently under investigation by regulators and scores of investors have filed arbitration cases after finding out, much to their surprise, that their “principal investments” weren’t so protected after all.

UBS’ brokers were also caught off guard.  They knew little about principal protected notes and their exposure to Lehman.  Feeling misled, many brokers have joined competitors or have exited the business entirely.

UBS has lost every PPN case that has gone to arbitration.  Full disclosure: I took the first case to trial and have dozens more.

Recently, UBS’ CEO Oswald Grubel summed it up pretty well when he told reporters, “We shouldn’t underestimate the reputational damage we engineered for ourselves.”

I couldn’t have said it better myself.

Filed under Uncategorized
and UBS tax shelters; brokers; clients; wealth management