Goldman Sachs’ Worst Nightmare: Adoption of a Fiduciary Standard

by Jacob Zamansky on May 17th, 2010 at 9:56 am : Comments 000

Though Goldman Sachs claims it merely acted as a market-maker for the ABACUS deal, they really acted much more like “issuer” with an obligation to disclose all pertinent facts and risks, including the fact that the architect who helped choose the underlying securities was betting they would fail.  Goldman claims that there was no absolute certainty the ABACUS deals would implode and has repeatedly said that they lost more than $90 million by owning some of the securities themselves (the result of the firm failing to find enough suckers to sample it’s toxic cooking).

For a firm with no moral qualms about betting against its own clients, it comes as no surprise that Goldman Sachs is lobbying hard against Congress passing a so-called fiduciary standard that would require the firm to always act in the best interests of its clients.   Kicking off what is sure to be a full-court press on Capital Hill, Goldman’s President and COO Gary Cohn has warned that if market makers were forced to adhere to a fiduciary standard, the markets would stop functioning.

I wholeheartedly agree.  Imposing a fiduciary standard on market makers would not be wise legislation.  However, better defining the roles of “issuer” and “market-maker” and imposing a fiduciary standard on “issuers” would serve the best interest of all investors. Had this been done years ago, it’s highly unlikely Goldman would have dared to unload the ABACUS transactions.

On regulatory reform, Wall Street is pitching a shut out against investors.  Congress needs to step up to the plate.

Filed under SEC, Wall Street
and goldman sachs

Ethical Showdown: Goldman vs. Bear

by Jacob Zamansky on April 22nd, 2010 at 8:26 am : Comments 000

Goldman Sachs has long reigned supreme on Wall Street because of the widespread perception and belief that they employed the smartest guys in the business.  But the SEC’s fraud charges against the firm have exposed another possible reason for the firm’s stratospheric success: The firm is more ethically challenged than some of its rivals.

We will let the courts decide the legal merits of the fraud charges the SEC filed against Goldman last week, but let’s consider the moral propriety of the firm selling its clients mortgage securities that hedge fund powerhouse John Paulson had determined were most likely to fail.  Goldman steadfastly maintains that it had no legal obligation to disclose that Paulson was the designer of the CDOs, but at least one competitor reportedly couldn’t stomach concocting such an arrangement.

In his book, “The Greatest Trade Ever,” Wall Street Journal reporter Greg Zuckerman discloses that Paulson first approached Bear Stearns trader Scott Eichel to structure  a package of highly toxic securities with a high likelihood of failure, but Eichel and his colleagues apparently wouldn’t do the deal.  According to Zuckerman:

Mr. Eichel said he felt it would look improper for his firm. “On the one hand, we’d be selling the deals to investors, without telling them that a bearish hedge fund was the impetus for the transaction, Mr. Eichel told a colleague; on the other hand, Bear Stearns would be helping Mr. Paulson wager against the deals.”

Zuckerman says that Deutsche Bank and other unnamed banks also worked with Paulson to structure CDOs that he could short, which, if true, raises the question as to why the SEC has singled out only Goldman for fraud.  Bears Stearns was hardly the paragon of ethical propriety (it marketed hedge funds filled with dubious subprime mortgage securities to unsuspecting retail investors), but its impressive that they chose to turn down a lucrative fee arrangement rather than engage in a transaction they perceived as morally wrong. Goldman and Deutsche Bank apparently had no such ethical compunctions.

Ironically, Eichel now reportedly works for Royal Bank of Scotland, which acquired a business unit of ABN AMRO that was on the losing side of the Paulson designed instruments.  Goldman maintains that it also lost $90 million on the deal, but I’m skeptical about the validity of the claim; the firm has long bragged about its risk management and its ability to hedge its trades. So while perhaps Goldman did indeed lose $90 million on one side of the transaction, it’s more than likely that they made it up on another.

Filed under SEC, Wall Street, fraud
and Fabrice Tourre, fraud, goldman sachs, SEC

Holding Wall Street Executives Accountable for Allegedly Deceiving Their Brokers and Clients

by Jacob Zamansky on April 20th, 2010 at 12:44 pm : Comments 000

In addition to stratospheric salaries, one of the great benefits of holding a very senior position at a Wall Street firm is never being held accountable for any wrongdoing or questionable behavior.  Sadly, regulators typically go after hapless mid-level employees who merely - and often innocently - carry out orders and directives from the top brass. One of the most egregious examples of underlings taking the fall were the “market timers”  - see Forbes story. Not one senior Wall Street executive has been charged or prosecuted for market timing wrongdoing.

So a little noticed story about the SEC and Finra filing charges alleging that Morgan Keegan fund manager James Kelsoe, along with Joseph Weller, who headed the firm’s Fund Accounting, conspired together to hide significant losses in various bond funds with heavy exposure to subprime mortgages gives me some hope.  The SEC and Finra could have opted to go after the Morgan Keegan brokers who aggressively peddled the funds, however, they acknowledged that the brokers were also misled about the true condition of the bond funds.

While I commend the SEC and Finra for going after some executives with real authority, let’s be honest here: Morgan Keegan is a second-tier Wall Street firm, and the firm likely doesn’t have the deep pockets or legal resources of a Goldman Sachs or a Morgan Stanley to engage in an extensive battle with regulators.   A more telling test of the SEC’s and Finra’s resolve will be how they handle their reported investigation of UBS’s aggressive marketing of Lehman 100% Principal Protected Notes.

UBS brokers apparently were repeatedly misled by their firm about the safety and soundness of Lehman Brothers, and they are now worried about facing regulatory action.

Absolving the Morgan Keegan brokers for selling the firm’s dubious bond funds but going after UBS brokers for selling Lehman Principal Protected Notes seems like a double standard. But after thirty years in the securities business, I’ve learned that major Wall Street firms are held to a much lower regulatory enforcement standard in matters relating to individual investors.

Filed under CEOs, FINRA, SEC, Wall Street, fraud
and brokers

Goldman Sachs and the “Fabulous Fab”

by Jacob Zamansky on April 16th, 2010 at 5:03 pm : Comments 000

Goldman Sachs’ first day of reckoning may be dawning.  Today the SEC filed charges that a hedge fund seeking to short the mortgage market helped Goldman Sachs build a product so toxic, it would collapse in the matter of months…a plan executed with precision.  The arrangement was not disclosed to investors, who are otherwise known as Goldman Sachs’ customers.

Though the victims in this case are institutional investors, the SEC’s allegation that Goldman Sachs withheld material information from its clients is as much about fraud as it is restitution for the millions of families whose nest eggs were destroyed because of Wall Street’s greed.

I’m heartened the SEC is finally taking a critical look at Goldman Sachs’ activities, but it’s noteworthy the only person named in the complaint is a pretty small fry, albeit one with an outsized ego.  His name is Fabrice Tourre, or the “fabulous Fab” as the 31 year-old banker likes to call himself.  ‘Fabulous Fab’ was a lowly vice president, and he was likely following the ethical direction and guidance of his superiors.

Nevertheless, the allegations against Goldman Sachs are devastating in that it confirms what everyone suspected: the firm has little regard for disclosure rules and thinks nothing of ripping off customers if the price is right.  So let’s hope the SEC is up to the challenge. Indeed, it’s one thing for the SEC to bring charges, but the real test will be if the agency has the talent, resources and resolve to take on the mighty and politically connected Goldman Sachs.

Regardless, a bigger worry for Goldman Sachs are the inevitable private lawsuits from investors.  Institutions that purchased Goldman Sachs’ allegedly fraudulent securities will be seeking recourse for billions in damages of investment losses.

On cue, Goldman Sachs’ much ridiculed PR apparatus responded to the SEC’s charges by saying that, “The SEC’s charges are completely unfounded in law and fact and we will vigorously contest them and defend the firm and its reputation.”

We’ll see about the charges, but as far as Goldman’s reputation, there’s not much to defend there.

Filed under SEC, Wall Street, fraud
and goldman sachs

Wall Street Says “Jump!” and the SEC Says “How High?”

by Jacob Zamansky on March 23rd, 2010 at 10:43 am : Comments 000

The Wall Street Journal last Thursday published three prominently featured articles that, at first blush, seemed unrelated but together underscored why the SEC has pretty much abdicated any moral authority to represent and protect the interests of individual investors.

The first and most alarming article was the lead story about how the SEC is supporting Wall Street’s efforts to dismantle the provisions of the 2003  global settlement designed to ensure the integrity of Wall Street’s research.  The provisions, which prevent research analysts from talking to their firm’s investment bankers without a compliance officer being present, are of considerable importance to me as it was my case against Merrill Lynch alleging fraudulent research that sparked former New York Attorney General Eliot Spitzer to bring his action.  Eliminating the protection definitely isn’t in the interests of individual investors, and it is an abomination that the SEC is squandering its limited resources by getting involved in the matter.

In a letter to U.S. District Judge William H. Pauley III the attorney representing Wall Street’s firms argued that regulations enforced by Finra moot the need for a Chinese Wall.  “These rules adequately address the concern intended to be addressed” in the Spitzer settlement, he said.

Regulations enforced by Finra? This brings us to the Journal’s  C1 story about the resignation of Finra’s head of enforcement.  The Journal’s story notes that Finra’s disciplinary actions have declined markedly these past few years and most of the actions have involved small players who simply don’t have the resources to fight back.  By comparison, investor arbitration claims have risen sharply, underscoring that Wall Street’s clients definitely perceive widespread wrongdoing.

And finally there is the Journal’s B1 story about how New Jersey’s Division of Gaming Enforcement nearly yanked the license  of MGM Mirage because it knowingly partnered with persons of questionable character in Macau.  Although MGM managed to negotiate a settlement that will allow it to keep its license, the company must still unload its half percent interest in Atlantic City’s Borgata Hotel Casino and Spa.  Now that’s what you call no nonsense regulation!  You can rest assured that MGM will be a lot more diligent in the future about the company it chooses to keep. If MGM’s casino business was regulated by the SEC, the company invariably would have managed to settle the matter with a paltry fine and would not have had to admit any wrongdoing.

The SEC repeatedly has promised to get serious about enforcement and protecting the interests of investors, but the agency’s support of dismantling one of the few investor protection reforms in recent years shows that its interests are ultimately more aligned with Wall Street than individual investors.  At the end of the day, Las Vegas and Atlantic City casinos are regulated with considerably more diligence and aggressiveness than Wall Street brokerage firms.  The only meaningful actions against Wall Street firms have been initiated by the attorney generals of Massachusetts, New York, and New Hampshire.

And that’s why individual investors must make certain that unlike the SEC, officials elected to these influential positions not be in the back pocket of Wall Street.

Filed under SEC, Wall Street, fraud

Double Dealing: How UBS Profited From Lehman’s Accounting Duplicity

by Jacob Zamansky on March 17th, 2010 at 5:17 pm : Comments 000

One of the recurring themes of my blog posts is that it’s nearly impossible to orchestrate financial wrongdoing of significant magnitude without the complicity of major financial institutions. Banks and brokerage firms almost invariably put their financial interests ahead of their clients, and any investor who believes otherwise should take the time to read this complaint by Massachusetts Secretary William Galvin alleging fraud in connection with Merrill Lynch’s sale of auction rate securities.  While Galvin’s complaint relates to Merrill, the countless allegations about how that firm failed its customers are pretty typical of how Wall Street treats its clients.

The Lehman bankruptcy examiner’s report made public last week further documents how Wall Street firms are quick to aid and abet wrongdoing.  To dress up its balance sheet, Lehman engaged in a myriad of “Repo 105″ transactions, a financial legerdemain that allowed the company to raise cash by parking assets at rival overseas firms and booking the sham swaps as “sales.”   This accounting hocus pocus, while not permissible under U.S. rules, was deemed kosher in the UK providing that Lehman orchestrated repo transactions through its London-based subsidiary and with non-U.S. banks. The examiner’s report makes clear that the foreign banks that facilitated Lehman’s sham sales were very much aware of the firm’s “desperation” to create the illusion that it had significantly shed assets and reduced its leverage.  For those not well versed in accounting, allow me to explain in simpler but cruder terms about what transpired: About a half dozen foreign banks played an active role in helping Lehman put some heavy duty lipstick on a pig.

One of Lehman’s most active beauticians was UBS.  UBS reportedly transacted approximately $10 billion in Repo 105 deals with Lehman, likely garnering the firm tens of millions of dollars in interest payments relating to the sham sales.  But UBS had another reason to help Lehman deceive investors about its flailing financial health. During the period Lehman was orchestrating its “Repo 105″ transactions, UBS’s retail brokers were aggressively peddling to their customers a product deceptively known as Lehman Brothers “100 Percent Principal Protected Notes.”  Although UBS marketed these notes to investors as being “risk free,” they were in fact extremely risky unsecured IOUs whose repayment was entirely dependent on Lehman’s financial solvency.  UBS paid its brokers high commissions to sell the risky Lehman notes to unsuspecting investors, which explains why the sales force successfully unloaded more than $1 billion of the paper. When Lehman collapsed, its notes instantly became nearly worthless.

UBS’s sale of the Lehman notes was questionable even before the bankruptcy examiner’s disclosure.  New Hampshire’s securities regulator charged in a filing last June that UBS engaged in “dishonest and unethical” practices selling the Lehman notes, causing New Hampshire investors to lose $2.5 million. The North American Securities Administrators Association (NAASA) has said it was considering convening a task force on the Lehman notes, and it’s my understanding the SEC is also looking into the matter.  I recently won a significant arbitration award on behalf of a client in South Carolina who bought Lehman notes from a UBS broker; it was the first arbitration decision relating to UBS’s sale of Lehman notes, and my office has more than a dozen pending.

Rest assured, UBS is going to have to account for why it continued to aggressively market Lehman notes to retail customers as highly conservative investments while on the institutional side facilitating transactions that were designed to mask Lehman’s troubled financial condition.  Ernst & Young, Lehman’s auditor, also has some “accounting” to do; that firm, as it happens, also is UBS’s auditor.  It will be interesting to learn how UBS booked the assets that Lehman “sold” the firm.

Individual investors owe Lehman bankruptcy examiner Anton Valukas a tremendous debt of gratitude. His report lays out in painstaking detail Wall Street’s fundamentally dishonest ways and makes clear the industry cannot be trusted to regulate itself.  Individual investors also should note that in early 2007, the year Lehman began its financial shenanigans, Charles Schumer and Michael Bloomberg, respectively New York’s senior senator and Mayor, issued this report by McKinsey & Company saying that the U.S. markets were fast losing ground to the UK because they were overly regulated.  As Lehman’s “Repo 105″ transactions were only permissible in the UK and not the US, we obviously shouldn’t be looking to that country for a regulatory model worth emulating.

Ironically, a significant number of investors who bought Lehman notes from UBS reside in the UK.  Fortunately for them, they can file arbitration claims in the US to seek redress.

Filed under Agape World, Bank of America, agape
and accounting games, fraud, investors, Lehman Brothers, principal protected notes

Lehman’s Accounting Deception

by Jacob Zamansky on March 12th, 2010 at 3:39 pm : Comments 000

The blistering report by the bankruptcy-court examiner investigating the collapse of Lehman Brothers should make investors blood boil.  The report outlines in painstaking detail how Lehman managed risk by essentially cooking its books with off-balance-sheet accounting shenanigans reminiscent of Enron. That Lehman’s deception took place years after the collapse of Enron makes the dishonesty especially outrageous. Former CEO Dick Fuld reportedly claims that he didn’t know about the deception but ignorance isn’t a defense.  He and the three CFOs named in the report should be held accountable civilly and possibly criminally. Lehman’s auditor Ernst & Young could also be held accountable.

What is especially galling given Lehman’s blatant deception is the public statement the company issued in June 2008 in response to short-seller David Einhorn publicly questioning Lehman’s earnings:

“We will not continue to refute Mr. Einhorn’s allegations and accusations. Mr. Einhorn cherry-picks certain specific items from our quarterly filing and takes them out of context and distorts them to relay a false impression of the firm’s financial condition which suits him because of his short position in our stock. He also makes allegations that have no basis in fact with the same hope of achieving personal gain.”

No basis in fact? Einhorn based his conclusions after meeting with former CFO Erin Callan and determined that she didn’t have a good handle on the company’s numbers.  As best I can tell, Lehman’s deception was far greater than even Einhorn figured out.  Regulators should investigate the chain of command involved with the issuance of this statement and charge all of them. There has to be serious consequences for issuing such a patently false statement.

The examiner’s findings will have a ripple effect and could potentially help bolster securities arbitration cases of retail investors who were sold Lehman “100 Percent Principal Protected Notes.”  As noted earlier, in December I won a significant arbitration award on behalf of a client in South Carolina relating to these securities.

What concerns me is how Lehman’s rivals would fare if Lehman’s bankruptcy court examiner spent a year combing the books of the other major Wall Street firms, particularly those that received TARP money.  It’s painfully obvious that investors can’t rely on the Big Four accounting firms to provide effective oversight.

Filed under Uncategorized
and accounting games, David Einhorn, dick fuld, erin callan, Lehman Brothers

Regulatory “Reform” Bill Shafts Individual Investors

by Jacob Zamansky on March 11th, 2010 at 6:31 pm : Comments 000

I should have known it was too good to be true.  A few months ago I was enthusiastically optimistic that the regulatory reform bill Congress was looking to pass would include an important investor protection measure known as the “fiduciary duty” standard, which would require brokers to put their clients’ financial interests ahead of their own.  Senator Christopher Dodd (D-CT) said he supported the measure, as did SIFMA, Wall Street’s lobbying arm. Indeed, John Taft, head of the SIFMA committee on regulatory reform, even acknowledged, “It’s a big deal for our industry to do this.”  The SEC and FINRA also indicated support for adopting the standard.

Despite all the declared “public” support, it’s near certain that the regulatory reform bill Congress is expected to pass next week won’t require holding brokers to a fiduciary standard.  The provision has been quietly dropped from the proposed legislation currently being circulated.  The omission should be of major concern to investors who buy stocks, bonds, and other financial products from Wall Street brokers.

Wall Street brokers currently must adhere to what’s known as the “suitability” standard, which Wall Street maintains means that they are only required to sell financial products suitable for clients at the time of sale and they don’t have to disclose commissions.  On a practical level, for example, if a broker puts a client into a certain stock, Wall Street maintains that the broker isn’t responsible for monitoring the performance of that stock after the sale is completed.  The stock only has to be “suitable” at the time of sale.  Under the “fiduciary duty” standard, the broker could be required to monitor a client’s entire portfolio and ensure that it remains consistent with the stated investment objectives.  The broker also could be required to sell financial products at the lowest available cost.

Put simply, the fiduciary duty standard would dramatically raise the standard of client conduct brokers would be legally required to maintain.

There is a compelling argument for requiring brokers to adhere to a fiduciary standard.  They typically market themselves as financial “advisers” and a $875,000 study the SEC commissioned in 2008 found that’s how most investors regard them.  As the saying goes, “It it quacks like a duck…”

It’s not yet clear to me how the fiduciary standard provision from the latest draft bill proposal disappeared, but there is evidence that Wall Street was possibly head-faking support while quietly moving to kill the measure.   A Morgan Stanley memo recently uncovered by Bloomberg advocated that the SEC “should be given the responsibility to thoughtfully review brokerage services and regulations, and promulgate new, specifically tailored rules for the brokerage business.”  Translation: Let’s refer the matter to the SEC and let their staffers study and bury the matter.  Morgan Stanley, the firm with the biggest broker network, has good reason to fear the adoption of a fiduciary standard: the standard could ultimately cost the firm up to seven percent of its earnings, according to an analyst.

Given that Wall Street brought the nation to near ruin, one might have expected that Congress would finally have had the will to stand up to the industry’s powerful lobbyists.  But once again Wall Street has trumped the system.  And the SEC and FINRA, which unilaterally could implement the fiduciary standard, have opted to remain on the sidelines.

Individual investors should take note how there is no one in Washington moving to protect their interests.

Filed under FINRA, SEC, Wall Street
and brokers, fiduciary standard, financial advisers, suitability standard

The Enlightment of SEC Commissioner Luis Aguilar

by Jacob Zamansky on March 10th, 2010 at 11:23 am : Comments 000

The SEC reportedly is considering getting tougher calculating fines in matters involving corporate fraud, the Wall Street Journal has reported. The initiative is apparently driven by Commissioner Luis Aguilar, who believes that fines for fraud should in themselves deter fraud; under the guidelines the agency set up in 2006, the severity of fines is currently determined by whether a company benefited or was harmed by a fraud and whether the penalty would help or hurt shareholders harmed by the fraud.

I’ve long maintained that SEC fines too often are mere love taps and do little to discourage wrongdoing, so I naturally applaud Aguilar’s leadership.

The SEC’s five-member commission must still vote on revising the 2006 guidelines.  Let’s hope that Aguilar can prevail on his colleagues.

Filed under SEC, fraud

Annuities and the Avoidance of the Fiduciary Standard

by Jacob Zamansky on February 24th, 2010 at 4:02 pm : Comments 000

There’s a saying on Wall Street: “Structured products are never bought, only sold”. The same could be said of annuities.

Selling annuities is an extremely lucrative and virtually risk-free business, which is one of the reasons why insurance companies and some Wall Street firms are aggressively lobbying Congress not to require brokers and other purveyors of financial products to adhere to a so-called “fiduciary standard.” Under the proposed standard, brokers and insurance salesmen would be required to put their clients’ interests ahead of their own, likely forgoing high-commission annuities for other, more appropriate investments.

Not surprisingly, Morgan Stanley has voiced concerns that the fiduciary standard would cut into its business. Morgan Stanley has good reason to worry: The firm earned $37 million from selling annuities in the first quarter of 2009 alone, or 1.22 percent of its noninterest income, according to a report by the American Bankers Insurance Association (ABIA). A Morgan Stanley spokesman recently told Bloomberg that expanding the fiduciary standard to include brokers would impinge upon the firm’s ability “to provide clients with products and services they want.” Or, perhaps more accurately, don’t want.

Some annuities are suitable products for investors, however, more times than not, they come with hidden costs and penalties (commissions can be as high as 7-10%) that vastly diminish their value.  Even FINRA has acknowledged the problem.  Richard G. Ketchum, the head of FINRA, recently acknowledged in the New York Times that there “had long been problems with how brokers disclosed their conflicts and how they pushed products.” Last year FINRA fined Fifth Third Securities $1.75 million for what they declared to be 250 unsuitable variable annuity transactions and five other broker-dealers were fined a total of $1.65 million for unsuitable sales of annuities, mostly to elderly investors with conservative investment objectives.

The securities industry likes to say it supports a broad fiduciary standard, but that’s far from the truth.  SIFMA, Wall Street’s lobbyist, has publicly supported a proposal by the House of Representatives which would create a new, “limited” fiduciary standard for brokers only when they are giving “personalized investment advice” to their retail clients.  In other words, brokers would have the discretion to decide when they are providing financial advice and when they are selling snake-oil. FINRA also supports the House bill.

Senator Chris Dodd has issued a much needed proposal that removes the distinction between brokers, insurance agents and an investment advisers.  This, combined with a comprehensive fiduciary standard would go a long way to protecting investors.

However, it’s increasingly unlikely that the fiduciary standard, under pressure from the insurance lobby and Wall Street, will ever see the light of day. Once again the interests of individual investors will be ignored.

Filed under Uncategorized
and annuities, fiduciary standard, insurance industry, Wall Street