The SEC Needs a Win Against Mozilo

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.

More Half-Baked Justice from the SEC

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.

Bank of America: “Bank of Opportunity for Convicted Fellons” Part 2

We’ve discovered that it’s no accident that Bank of America is the “Bank of Opportunity” for convicted felons. The bank’s modus operandi  is to “See No Evil, Hear No Evil, Speak No Evil.”

As outlined in the class action suit we filed last month, Bank of America (NYSE:BAC), the nation’s largest bank, substantially assisted Nicholas Cosmo’s $400 Ponzi scheme and played a major role in the loss of investor funds. The evidence is substantial that Bank of America knew, or should have known, that Cosmo was committing fraud. Cosmo was indicted earlier this week for mail and wire fraud. 

Our investigation has progressed and in the amended complaint we filed yesterday, we allege that Bank of America not only opened the proverbial barn door to Cosmo’s victims, the bank personally guided them through the barn.

Cosmo is a convicted felon who after completing a nearly two year stint in federal prison founded Agape World, Inc., a Long Island company specializing in making short-term “bridge” construction loans carrying high interest rates. Through a network of about a dozen brokers, Cosmo gathered some $400 million from investors who wanted to realize the attractive rates of returns. Unbenounced to the investors, Cosmo re-sold the same interests hundreds, if not thousands, of times. 

Although Bank of America ostensibly has “know your customer” rules and procedures, our complaint alleges that employees were routinely pressured to ignore obvious red flags such as a customer whose rap sheet includes securities fraud. 

Once upon a time BoA had a special unit based in Boston dubbed the “High Risk Group” whose mandate was to ferret out fraudsters like Nick Cosmo.  But we’ve learned that in 2006 Bank of America summarily shut the unit down because conscientious employees were resisting pressure to circumvent the bank’s purported “know your customer” rules.

Bank of America’s shuttering of its “High Risk Group” might also explain how in 2008 Florida fraudster Andy Bowdoin managed to use Bank of America as a conduit for his Ponzi scheme.   At Bank of America revenues apparently supersede all other obligations and considerations.

Our amended lawsuit also alleges that Bank of America apparently provided Cosmo access to information about the cash balances of Agape investors who had accounts with Bank of America.  Agape investors routinely received aggressive solicitations from Cosmo when their balances swelled.  So much for client confidentiality. 

Bank of America’s privacy problems are particularly alarming because back in July of 2007, the bank settled a lawsuit with the Utility Consumers Action Network, who alleged Bank of America disclosed consumers’ personal, private, confidential information to third parties without consumers’ consent. As part of the multi-million dollar settlement Bank of America made changes to its various privacy policies, it’s Web site and its procedures

Generating revenues to the detriment of customers is quite common on Wall Street. One of the best documented examples is the Commonwealth of Massachusetts’ complaint against Merrill Lynch regarding that firm’s peddling of auction rate securities.   ”Time after time, when confronted with conflicts of interest, Merrill Lynch was consistent in that it placed its own interests ahead of its investor clients,” the administrative complaint charged.

Bank of America acquired Merrill Lynch earlier this year.  When it comes to customer exploitation, it’s a marriage made in heaven.

How Bank of America and MF Global Figure Prominently into the Agape Ponzi Scheme

My office is actively investigating the Bernard Madoff and Nicholas Cosmo Ponzi schemes. Although our investigations are not yet complete, we’ve already established substantial evidence that Madoff and Cosmo didn’t act alone – some major publicly-traded companies figure prominently in their schemes. I’ll post my Madoff findings shortly, but here is what we’ve uncovered so far about Cosmo’s Ponzi scheme.

As outlined in the class action lawsuit we filed today, we allege that Bank of America (NYSE:BAC), the nation’s largest bank, and MF Global (NYSE:MF), a major commodities futures trading firm, substantially assisted Cosmo’s fraud and played a major role in the loss of investor funds. The evidence is substantial that Bank of America and MF Global knew, or should have known, that Cosmo was committing fraud.

Cosmo is a convicted felon who after completing a nearly two year stint in federal prison founded Agape World, Inc., a Long Island company specializing in making short-term “bridge” construction loans carrying high interest rates. Through a network of about a dozen brokers, Cosmo gathered some $400 million from investors who wanted to realize the hefty rates of returns. Unknown to the investors, Cosmo re-sold the same interests hundreds, if not thousands, of times. Most of Cosmo’s investors were blue-collar workers with limited investment understanding or experience.  One of the plaintiffs we represent is seriously ill with stomach cancer and his wife just gave birth to a child.

As I’ve noted earlier, Agape’s marketing materials listed Bank of America as the company’s “banking agent,” but the “Bank of Opportunity” provided more than routine banking services on behalf of Agape.  We’ve learned that a Bank of America employee maintained an office at Agape’s headquarters which was some thirty miles from the West Hempstead branch where she was based.  The employee regularly cut checks at Cosmo’s behest and performed other functions normally associated with those of a personal assistant. The Bank of America employee had a bird’s eye view of Cosmo’s financial transactions and knew first hand that the substantial inflow of funds was coming from investors and that most of the outflows were used to subsidize Cosmo’s lavish lifestyle or pay off his brokers.

Cosmo also speculated heavily in commodities futures trading that resulted in more than $80 million in losses. Despite being a convicted felon and having been permanently banned by FINRA from the securities industry, Cosmo managed to open accounts at MF Global, where he did most of his trading, and other commodities firms.

MF Global isn’t known for its risk management and compliance. The firm last year suffered more than $140 million in losses because a trader made some ill-timed wheat-price bets that “substantially exceeded his authorized trading limits.” The company this week admitted at a UK trial to defrauding a former client after previously issuing repeated denials. It’s been reported that at least one MF Global rival refused to do business with Cosmo because he didn’t pass muster with the compliance department.

It will be interesting to see how Bank of America and MF Global publicly respond to our lawsuit.  On its website Bank of America proudly declares that “It is the policy of Bank of America to take all reasonable and appropriate steps to prevent persons engaged in money laundering, fraud or other financial crimes…” Given that Bank of America also figures prominently into another Ponzi scheme run by convicted felon Andy Bowdoin, I look forward to learning more about Bank of America’s supposed preventive measures.

As for MF Global, the company was quoted this week in connection with another fraud as saying that “MF Global’s corporate values require that all employees maintain the highest standards of ethics and integrity.  We have zero tolerance for anything but.” Apparently, opening an account for a felon convicted of securities fraud who was permanently banned from the securities industry doesn’t violate MF Global’s esteemed values.

Sadly, the SEC again has been found to be sleeping. The Agape wrongdoing was exposed by the U.S. Postal Inspection Service.  Underscoring the SEC’s chronic somnambulism, Agape’s website remains live where an application form is still prominently displayed.

Pleasant dreams, SEC.

Don Quixote and ARS Investors

Recent articles in The Boston Globe and Bloomberg underscore how Wall Street firms woefully favor their own interests at the expense of individual investors.

According to a report in today’s Globe, UBS Financial Services warned some of its big investment banking clients of looming problems in the auction rate securities (ARS) market three months before the market for these securities collapsed. Nevertheless, the firm continued marketing the securities as cash equivalents to unsuspecting individual investors.

Adding insult to injury, the Globe and Bloomberg report that UBS, Bank of America, and Wachovia along with others are preventing their clients from unloading auction rate securities at a loss saying – are you ready for this? – it isn’t in their clients’ best interests!

In an ideal world, it would be nice to believe that Wall Street firms are actually trying to do right by unsuspecting investors whose brokers assured them that auction rate securities were cash equivalents. But Bryan Lantagne, the securities division director for Massachusetts, offers Bloomberg a more compelling explanation:

“By allowing customers to sell at a discount, the banks allow customers to establish damages.”

Richard Stahl, a retired New Hampshire car dealer, is one of the auction rate securities victims caught in limbo. The 73-year-old UBS client wants to sell some $650,000 worth of auction rate securities, but UBS won’t let him.

“I feel like Don Quixote fighting windmills,” Mr. Stahl told the Globe.

Sadly, Mr. Stahl, compared to taking on Wall Street, Don Quixote had it easy.