Saturday, September 20, 2008
The SEC announced a sweeping expansion of its ongoing investigation into possible market manipulation in the securities of certain financial institutions. Hedge fund managers, broker-dealers, and institutional investors with significant trading activity in financial issuers or positions in credit default swaps will be required, under oath, to disclose those positions to the Commission and provide certain other information. The Commission also approved a formal order of investigation that will allow SEC enforcement staff to obtain additional documents and testimony by subpoena. Investigators from NYSE Regulation and FINRA will be conducting a separate, parallel inquiry in coordination with the SEC by making on-site visits to various broker-dealers to address concerns about recent short selling activity.
The Commission's actions follow recent reports of trading irregularities and allegations of false rumor mongering, abusive short selling and possible manipulation of financial stocks.
Friday, September 19, 2008
FINRAis filing with the SEC a proposed rule change to amend NASD Rule 12401 of the Code of Arbitration Procedure for Customer Disputes (“Customer Code”) and NASD Rule 13401 of the Code of Arbitration Procedure for Industry Disputes (“Industry Code”) to raise the amount in controversy that will be heard by a single chair-qualified arbitrator to $100,000.
The Securities and Exchange Commission's Division of Trading and Markets today issued the following statement:
"The Commission staff is recommending to the Commission a modification to its order prohibiting short selling in securities of specified financial firms. This modification would extend, for the life of the order, the exemption for hedging activities by exchange and over-the-counter market makers in derivatives on the securities covered by the order."
Treasury Secretary Paulson made a statement today on Comprehensive Approach to Market Developments, in which he stated:
The federal government must implement a program to remove these illiquid assets that are weighing down our financial institutions and threatening our economy. This troubled asset relief program must be properly designed and sufficiently large to have maximum impact, while including features that protect the taxpayer to the maximum extent possible. The ultimate taxpayer protection will be the stability this troubled asset relief program provides to our financial system, even as it will involve a significant investment of taxpayer dollars. I am convinced that this bold approach will cost American families far less than the alternative – a continuing series of financial institution failures and frozen credit markets unable to fund economic expansion.
I believe many Members of Congress share my conviction. I will spend the weekend working with members of Congress of both parties to examine approaches to alleviate the pressure of these bad loans on our system, so credit can flow once again to American consumers and companies. Our economic health requires that we work together for prompt, bipartisan action.
As we work with the Congress to pass this legislation over the next week, other immediate actions will provide relief.
First, to provide critical additional funding to our mortgage markets, the GSEs Fannie Mae and Freddie Mac will increase their purchases of mortgage-backed securities (MBS). These two enterprises must carry out their mission to support the mortgage market.
Second, to increase the availability of capital for new home loans, Treasury will expand the MBS purchase program we announced earlier this month. This will complement the capital provided by the GSEs and will help facilitate mortgage availability and affordability.
These two steps will provide some initial support to mortgage assets, but they are not enough. Many of the illiquid assets clogging our system today do not meet the regulatory requirements to be eligible for purchase by the GSEs or by the Treasury program.
I look forward to working with Congress to pass necessary legislation to remove these troubled assets from our financial system. When we get through this difficult period, which we will, our next task must be to improve the financial regulatory structure so that these past excesses do not recur. This crisis demonstrates in vivid terms that our financial regulatory structure is sub-optimal, duplicative and outdated. I have put forward my ideas for a modernized financial oversight structure that matches our modern economy, and more closely links the regulatory structure to the reasons why we regulate. That is a critical debate for another day.
The SEC, acting in concert with the U.K. Financial Services Authority, today took temporary emergency action to prohibit short selling in financial companies to protect the integrity and quality of the securities market and strengthen investor confidence. The U.K. FSA took similar action yesterday. The Commission’s action will apply to the securities of 799 financial companies. The action is immediately effective.
According to the SEC press release:
Under normal market conditions, short selling contributes to price efficiency and adds liquidity to the markets. At present, it appears that unbridled short selling is contributing to the recent, sudden price declines in the securities of financial institutions unrelated to true price valuation. Financial institutions are particularly vulnerable to this crisis of confidence and panic selling because they depend on the confidence of their trading counterparties in the conduct of their core business.
Given the importance of confidence in financial markets, today’s action halts short selling in 799 financial institutions. The SEC’s emergency order, pursuant to its authority in Section 12(k)(2) of the Securities Exchange Act of 1934, will be immediately effective and will terminate at 11:59 p.m. ET on Oct. 2, 2008. The Commission may extend the order beyond 10 business days if it deems an extension necessary in the public interest and for the protection of investors, but will not extend the order for more than 30 calendar days in total duration.
Thursday, September 18, 2008
FINRA announced that it has reached agreements in principle with SunTrust Investment Services, Inc. and SunTrust Robinson Humphrey, Inc., both of Atlanta, GA, Comerica Securities, Inc. of Detroit, MI, First Southwest Company of Dallas, TX, and WaMu Investments, Inc., of Irvine, CA, to settle charges relating to the sale of Auction Rate Securities (ARS). Each firm has agreed to offer to repurchase at par ARS that were purchased by individual investors and some institutions between May 31, 2006, and Feb. 28, 2008. A total of more than $1.8 billion of ARS are eligible for repurchase. The firms have also agreed to make whole individual investors who sold ARS below par after Feb. 28, 2008. The firms will pay a total of $3.25 million in fines, with individual fines ranging from $250,000 to $1.65 million.
Each firm has also agreed to have an independent, non-industry arbitrator resolve investor claims for any consequential damages - that is, damages they may have suffered from their inability to access funds invested in ARS.
On September 12, 2008, the federal district court for the Southern District of New York entered final judgments against seven defendants — Robert D. Babcock, Mark E. Lenowitz, David A. Glass, Jasper Capital LLC, Randi E. Collotta, Christopher K. Collotta and Marc R. Jurman — in SEC v. Guttenberg, et al., C.A. No. 07 CV 1774 (S.D.N.Y.), an insider trading case the Commission filed on March 1, 2007. The Commission's complaint alleged illegal insider trading charges in connection with two related schemes in which Wall Street professionals serially traded on material, nonpublic information tipped, in exchange for cash kickbacks, by insiders at UBS Securities LLC and Morgan Stanley & Co., Inc.
The Commission's complaint alleged that from 2001 through 2006, Mitchel S. Guttenberg, an executive director in the equity research department of UBS, illegally tipped material, nonpublic information concerning upcoming UBS analyst upgrades and downgrades to two Wall Street traders, Erik R. Franklin and David M. Tavdy, in exchange for sharing in the illicit profits from their trading on that information. Both Franklin and Tavdy had downstream tippees who traded on the information including Babcock, Lenowitz, Glass and Jasper Capital. The complaint also alleged that from 2005 to 2006, Randi Collotta, an attorney who worked in the global compliance department of Morgan Stanley, together with her husband, Christopher Collotta, an attorney in private practice, tipped material, nonpublic information concerning upcoming corporate acquisitions involving Morgan Stanley's investment banking clients, to Marc Jurman, a registered representative in Florida, in exchange for sharing in his illicit trading profits. Jurman had several downstream tippees, including Babcock, who also traded on the information.
It's hard to believe that they had time for it, what with the financial markets in chaos, but two SEC Directors testified today before separate Congressional committee hearings:
Testimony Concerning Transparency in Accounting, Proposed Changes to Accounting for Off-Balance Sheet Entities, by John W. White, Director, Division of Corporation Finance, and James L. Kroeker, Deputy Chief Accountant, before the Subcommittee on Securities, Insurance, and Investment Committee on Banking, Housing, and Urban Affairs, United States Senate (September 18, 2008)
Testimony Concerning The SEC’s Recent Actions With Respect to Auction Rate Securities, by Linda Chatman Thomsen, Director, Division of Enforcement, before the Committee on Financial Services, U.S. House of Representatives (September 18, 2008)
The SEC's Division of Markets and Trading, along with FINRA and NYSER, issued “Tips” for Broker-Dealers on Avoiding Failures to Deliver Securities and reminded them of their responsibilities to maintain adequate surveillances and written supervisory procedures to detect manipulative short selling activity. It also advised them that "Regulators will also monitor for compliance with the SEC’s new rules to protect investors against naked short selling abuses, effective Thursday September 18, 2008.
Everyone's blaming the short sellers. Yesterday the SEC announced emergency rules to curb short-selling abuses, and today the Wall St. Journal reports that New York Attorney General Andrew Cuomo has undertaken an investigation into short selling of the stock of the financial services companies. WSJ, Cuomo Plans Short-Selling Probe.
In addition, John McCain has called for SEC Chair Cox's resignation for failure to crack down on short sales and repealing the uptick rule. Here is Chair Cox's response (which addresses reform efforts beyond short-selling):
"While I have great respect for Senator McCain, we have sometimes disagreed, and this is one such occasion. The SEC has made plain that we have zero tolerance for naked short selling. In this market crisis, the men and women of the SEC have responded valiantly as they always do—with the utmost dedication and professionalism. Addressing the extraordinary challenges facing our markets, the independent and bipartisan SEC has taken the following decisive actions:
We adopted a package of measures to strengthen investor protections against naked short selling, including rules requiring a hard T+3 close-out, eliminating the options market maker exception of Regulation SHO and expressly targeting fraud in short selling transactions.
We issued an emergency order to enhance protections against naked short selling in the securities of primary dealers, Fannie Mae, and Freddie Mac.
We announced emergency plans for a rule to ensure public disclosure of short selling positions of hedge funds and other institutional money managers.
We have undertaken sweeping enforcement measures against market manipulation.
We provided guidance to banks about how to account for credit support of money market funds.
We've written rules to strengthen the regulation of credit rating agencies, and performed examinations that have led to new rules to reduce rating agency conflicts-of-interest.
We brought a landmark enforcement action against a trader who spread false rumors designed to drive down the price of stock.
We have initiated exams of the effectiveness of broker-dealers' controls to prevent the spread of false information intended to manipulate securities prices.
Our Enforcement Division announced what will be the largest settlements in the history of the SEC for investors in auction rate securities who bought auction rate securities from Merrill Lynch, Wachovia, UBS and Citigroup.
We entered into a Memorandum of Understanding with the Federal Reserve, to make sure key federal financial regulators share information and coordinate regulatory activities in important areas of common interest.
"There is much more work to be done, and the current crisis is presenting new challenges on an hourly basis. What America and the world needs now is steadiness and reduction of uncertainty. History will judge the quality of our response to this economic crisis, but now is not the time for those of us in the trenches to be distracted by the ebb and flow of the current election campaign. And it is precisely the wrong moment for a change in leadership that inevitably would disrupt the work of the SEC at just the wrong time. I have long made clear my intention to leave the SEC after the end of this Administration. The next President will have an opportunity to look at the major structural questions so important to the regulation and oversight of our financial markets.
"I very much appreciate the strong and immediate support of the President. As someone who has been in public life for over 20 years, I know as well as anyone that occasionally this sort of thing can come with the territory. The best response to political jabs like this is simply to put your head down and not lose a step doing the best job you can possibly do on behalf of those you serve. For my part, I plan to do just that. I leave the political campaigns to pursue their own course."
FINRA has posted at its website FAQs about its voluntary, two-year pilot program that will allow investors who have filed arbitration claims against certain brokerage firms to select three public arbitrators instead of the otherwise mandated inclusion of one industry arbitrator. Ten firms have agreed to participate. Cases filed on or after Oct. 6, 2008 are eligible to participate in the pilot program.
Wednesday, September 17, 2008
A federal district court in Massachusetts entered a Final Judgment by consent on September 16, 2008 against defendant Evan K. Andersen in connection with a civil injunctive action filed in April 2007 by the SEC against Andersen, his business partner, and Lydia Capital, LLC, a registered investment adviser. The SEC's complaint alleged that from June 2006 through April 2007, Andersen and his business partner, Glenn Manterfield, acting through Lydia, engaged in a scheme to defraud more than 60 investors who invested approximately $34 million in Lydia Capital Alternative Investment Fund LP, a hedge fund managed by Lydia.The Final Judgment enjoined Andersen, a principal of Lydia, from engaging in future violations of the antifraud provisions of the federal securities laws and holds him liable for $2,350,000 in disgorgement of profits from the conduct alleged in the Commission’s complaint, plus prejudgment interest of $177,089, but waived all except $1.8 million of the disgorgement and prejudgment interest, and did not impose a civil penalty, based on Andersen’s financial condition.
The SEC filed a Complaint in the United States District Court for the Northern District of Illinois against James D. Zeglis (“Zeglis”) and Gautum Gupta (“Gupta”), Lance D. McKee (“McKee”) and Jim W. Dixon (“Dixon”) alleging insider trading in the securities of Georgia-Pacific Corporation. According to the Complaint, Zeglis misappropriated material nonpublic information from his brother, a member of Georgia-Pacific’s board of directors, and on November 10, 2005, three days before a public announcement that Georgia-Pacific had agreed to be acquired by Koch Industries, Inc., Zeglis tipped Gupta and Dixon, both of whom purchased Georgia-Pacific securities. Gupta, in turn, tipped McKee, who also purchased Georgia-Pacific securities. Moreover, according to the complaint, after Zeglis tipped Dixon, Dixon purchased Georgia-Pacific options on Zeglis’s recommendation and paid Zeglis a kickback from his ill-gotten gains. On November 13, 2005, Koch Industries, Inc. (“Koch”) publicly announced a definitive agreement for a cash tender offer for all shares of Georgia-Pacific. The following day, Georgia-Pacific’s stock price increased 36% in response to the announcement. Gupta and McKee then sold their Georgia-Pacific securities, realizing profits of $689,401 and $7,157.60, respectively. Dixon also realized a profit of $116,000 from the sale of Georgia-Pacific options. Thereafter, over the course of several months, Dixon paid Zeglis approximately $25,000 of his profits.
With its complaint, the Commission also filed stipulated consents to final judgments by defendants McKee and Dixon. The judgments to which McKee and Dixon have consented would, when entered by the Court, compel each of them to pay full disgorgement of their respective ill gotten gains with prejudgment interest thereon. In addition to his disgorgement, McKee has consented to pay a civil penalty in the amount of his ill-gotten gain, and Dixon has consented to pay a civil penalty in the amount of $50,000.
The SEC filed civil charges against Angel Alvarez-Perez and Annie Astor-Carbonell, former officers and directors of First BanCorp, a NYSE-listed bank holding company based in Puerto Rico, charging them with aiding and abetting violations of the federal securities laws by Doral Financial Corporation, another NYSE-listed bank holding company based in Puerto Rico. Alvarez was First BanCorp's Chief Executive Officer, and Astor was the company's Chief Financial Officer, during the relevant period.
According to the Commission's complaint, First BanCorp senior management, including Alvarez and Astor, concealed the true nature of more than $4 billion worth of mortgage-related transactions from the company's independent auditor and the investing public between 2000 and 2005. First BanCorp, which purportedly purchased the mortgages, is alleged to have profited from the transactions by earning over $100 million in net interest income with minimal risk. The contra-party to the transactions, Doral Financial, which purportedly sold the mortgages to First CanCorp, is alleged to have improperly recognized income from the transactions. The Commission further alleges that First BanCorp senior management, including Alvarez and Astor, created and backdated certain documents and affirmatively misrepresented the terms of certain mortgage-related transactions to the company's independent auditor to avoid a restatement in November 2004.
Without admitting or denying the Commission's allegations, Alvarez and Astor consented to being permanently enjoined from violating the federal securities laws. In addition, Alvarez consented to a five (5) year officer and director bar and $100,000 civil penalty, and Astor consented to a five (5) year officer and director bar, $75,000 civil penalty and to an administrative order suspending her privilege to appear and practice before the Commission as an accountant for five (5) years.
On September 15, 2008, Justin F. Ficken, a former Prudential Securities registered representative, pled guilty to one count of conspiracy, three counts of wire fraud, and two counts of securities fraud in a case being prosecuted by the United States Attorney’s Office in Boston, Massachusetts. These charges resulted from Ficken's role in a scheme to place deceptive market timing trades in mutual funds while working at the Boston branch office of Prudential Securities, Inc. Ficken was indicted on December 19, 2007. The indictment charged that Ficken and others at Prudential Securities disguised their own and their hedge fund customers' identities in order to execute market timing trades that mutual funds were trying to prohibit. He is currently scheduled to be sentenced before U.S. District Judge Patti B. Saris on December 10, 2008.
The Commission previously filed a civil injunctive action against Ficken and others based on similar conduct. On September 13, 2007, the U.S. District Court for the District of Massachusetts entered a final judgment against Ficken after having previously granted the Commission's motion for summary judgment against him. The final judgment enjoined Ficken from future violations of the federal securities laws and ordered him to pay $589,854 in disgorgement and pre-judgment interest. Ficken has appealed that judgment, and that appeal is pending.
Three former outside directors of Mercury Interactive, LLC settled SEC charges related to backdating stock options. The SEC alleged that Igal Kohavi, Yair Shamir, and Giora Yaron recklessly approved backdated stock option grants and reviewed and signed public filings that contained materially false and misleading disclosures about the company’s stock option grants and company expenses. Without admitting or denying the allegations in the SEC’s complaint, Kohavi, Shamir and Yaron agreed to permanent injunctions, and each will pay a $100,000 financial penalty to settle the charges.
Kohavi, Shamir and Yaron served on the board of directors of the company from 1997 through 2005 and served on its compensation and audit committees from at least 1997 to 2002. According to the SEC's complaint: senior management engaged in a fraudulent scheme that involved the backdating of 45 stock option grants to employees and executives from as early as 1997 to April 2002. Kohavi, Shamir and Yaron approved 21 of those grants at the recommendation or with the direct participation of senior Mercury management, even though the directors were aware that under Mercury’s stock option plan, options were required to be priced at the closing price of the company’s stock on the day that they approved the grant of options and knew that options with an exercise price lower than the price on the date the options were actually approved created a compensation expense. Nevertheless, the directors repeatedly signed unanimous written consents and approved board meeting minutes despite being presented with numerous facts and circumstances indicating that management was backdating option grants.
The SEC previously filed civil fraud charges in federal district court against Mercury and four of its former senior officers – former Chairman and Chief Executive Officer Amnon Landan, former Chief Financial Officers Sharlene Abrams and Douglas Smith, and former General Counsel Susan Skaer – based on the officers’ stock option backdating scheme. Mercury settled the matter by agreeing to pay a $28 million penalty and to be permanently enjoined. Litigation against the four individuals is ongoing.
The SEC issued a statement on the proposed acquisition by Barclays of Lehman Brothers, the U.S. brokerage arm of the investment bank. SEC Chairman Christopher Cox said, "This is welcome news for every one of Lehman's customers. If approved by the court, customers will be able to look forward to an immediate transition of their accounts. Even before the transaction is completed, they will benefit because the broker-dealer and 10,000 Lehman employees will be able to continue their work with clarity about their future, and with greater funding resources for the broker-dealer's operations."
Under the terms of the transaction as proposed, in addition to Barclays acquiring the U.S. business and operating assets of Lehman Brothers, Inc., the transaction includes the Lehman Brothers headquarters building in New York City. The transaction is subject to approval by the bankruptcy court.
The SEC took several actions against "naked" short selling that will apply to the securities of all public companies, effective at 12:01 a.m. ET on Thursday, Sept. 18, 2008. The agency's actions go beyond its previously issued emergency order, which was limited to the securities of financial firms with access to the Federal Reserve's Primary Dealer Credit Facility and which expired on Aug. 12, 2008.
The Commission's actions were as follows:
Hard T+3 Close-Out Requirement; Penalties for Violation Include Prohibition of Further Short Sales, Mandatory Pre-Borrow
The Commission adopted, on an interim final basis, a new rule requiring that short sellers and their broker-dealers deliver securities by the close of business on the settlement date (three days after the sale transaction date, or T+3) and imposing penalties for failure to do so.
If a short sale violates this close-out requirement, then any broker-dealer acting on the short seller's behalf will be prohibited from further short sales in the same security unless the shares are not only located but also pre-borrowed. The prohibition on the broker-dealer's activity applies not only to short sales for the particular naked short seller, but to all short sales for any customer.
Although the rule will be effective immediately, the Commission is seeking comment during a period of 30 days on all aspects of the rule. The Commission expects to follow further rulemaking procedures at the expiration of the comment period.
Exception for Options Market Makers from Short Selling Close-Out Provisions in Reg SHO Repealed
The Commission approved a final rule to eliminate the options market maker exception from the close-out requirement of Rule 203(b)(3) in Regulation SHO. As a result, options market makers will be treated in the same way as all other market participants, and required to abide by the hard T+3 closeout requirements that effectively ban naked short selling.
Rule 10b-21 Short Selling Anti-Fraud Rule
The Commission adopted Rule 10b-21, which expressly targets fraudulent short selling transactions. The new rule covers short sellers who deceive broker-dealers or any other market participants. Specifically, the new rule makes clear that those who lie about their intention or ability to deliver securities in time for settlement are violating the law when they fail to deliver.
Tuesday, September 16, 2008
NASAA announced that a settlement in principle has been reached between Credit Suisse Securities (USA) LLC and state securities regulators, which will provide relief for the firm’s clients who have had their funds frozen in the auction rate securities (ARS) market. The settlement is the result of an investigation of the firm led by the Securities Division of the North Carolina Department of the Secretary of State into allegations that the firm misled clients by falsely assuring them that ARS securities were as safe and liquid as cash. The ARS markets froze in February this year, triggering complaints from investors who could not withdraw money from their accounts.
Under the terms of the settlement, Credit Suisse agreed to buy back at par value by December 11, 2008 all auction rate securities purchased through the firm by individual investors since February 14, 2008 that have not been auctioned. Under terms of the settlement, “individual investors” include all individuals, legal entities forming an investment vehicle for family members, charities and non-profits, and small- to medium-sized businesses with up to $10 million in accounts with Credit Suisse.
The settlement agreement also calls for Credit Suisse to:
Fully reimburse all individual investors who sold their auction rate securities at a discount after the market failed;
Consent to a special, public arbitration procedure to resolve claims of consequential damages suffered by individual investors as a result of not being able to access their funds;
Undertake to expeditiously provide liquidity solutions to all institutional investors; and
Pay to the states civil penalties of $15 million.
In consideration of the settlement, the states will agree to terminate their investigation of Credit Suisse’s marketing and sale of auction rate securities to individual investors.