Sunday, July 23, 2006
John Mack, CEO of investment bank and broker Morgan Stanley, agreed to an SEC request that he testify in its probe of possible insider trading by hedge fund manager Pequot Capital Management, where he served briefly as chairman before becoming CEO of the investment bank a second time in 2005. The Commission investigation became a bit of a cause célèbre when Gary Aguirre, a former SEC staff attorney in the Enforcement Division, alleged that higher-ups in the Division blocked his effort to have Mack testify as part of the insider trading investigation.
Aguirre's allegations surfaced as part of a Senate Judiciary Committee hearing into hedge fund regulation, or perhaps better the lack thereof, in which his written statement (here) described, without naming names, the scope of the investigation: "By May 2005, one of the insider trading matters dwarfed all others: the hedge fund’s trading in two companies just before the announcement of a cash tender offer by one for the other at a 50% premium over the last trading price. The hedge fund profited by $18 million in 30 days. The evidence suggested that the hedge fund’s CEO acted on an unlawful tip in directing the hedge fund’s trades. But the question remained: who tipped him?" Aguirre believed it was the CEO of a major investment bank, i.e. Mack, and sought to issue a subpoena for his testimony. According to Aguirre's statement: "A high-powered attorney, Mary Jo White, bypassed the normal protocol of discussing the investigation with the assigned staff attorney. Instead, she went directly to Enforcement Director Linda Thomsen, despite the fact Director Thomsen had no prior involvement in the case. For the first time, senior staff left me out of meetings when they discussed the case." Lo and behold, the subpoena was not issued and, although Aguirre received a two-step pay increase as part of his annual review, he was terminated a little over a week later. SEC Chairman Cox has ordered the Commission's Inspector General to review Aguirre's termination, and now Mack will come in to testify.
Will Mack's testimony change the course of the investigation? I think it's highly unlikely his statement will make a difference now, or would have earlier in the case. Mack has maintained consistently that he never tipped Pequot, and SEC cases are rarely made by witness admissions unless there is powerful circumstantial evidence showing abnormal contacts and sudden, aggressive trading. Pequot is a hedge funds that makes large stock bets, and Mack is a long-time investor in the firm with close ties to its management, so any contacts with them are unlikely to be unusual. There are few "Perry Mason" moments in SEC depositions (or anywhere else for that matter), and a person of Mack's stature starts out with a high degree of credibility, so assertions that "we don't believe his denials" are unlikely to carry the day in seeking authorization to file an insider trading action against Mack and Pequot. Absent someone on the inside of Pequot who could testify about tipping -- and it's unlikely the Commission has heard from such a person -- then Mack's testimony probably will be the end of the investigation. A Bloomberg story (here) notes that he will be accompanied by Morgan Stanley's general counsel, Gary Lynch, former head of the Enforcement Division, so this will not be an unprepared witness who may be surprised by the staff's questions. I suspect the case will end quietly and the transactions will leap back into lucrative obscurity. (ph -- in the interest of full disclosure, I worked at the SEC when Lynch was head of Enforcement, but not all mistakes in hiring were his fault, especially of lowly staff attorneys)