September 22, 2018

Systematic SEC Coverup Alleged

Matt Taibbi, venerable financial reporter for the Rolling Stone, is out with a scathing expose on an alleged systematic coverup by the SEC of Wall Street financial crimes. All the major newspapers have extensive coverage of the subject, and the entire financial blogosphere is weighing in on it.

Read Matt Taibbi’s Article Here:  Is the SEC Covering Up Wall Street Crimes?

Legislative Inquiry

Lawmakers are seeking answers from the Securities and Exchange Commission, after revelations that it is routine policy to destroy documents pertaining to MUIs, or “Matters Under Inquiry”.

9,000 Files Destroyed

Darcy Flynn, who has worked for the SEC for 13 years, claims that the agency destroyed documents and files from any preliminary inquiries that were not deemed serious enough to warrant a formal investigation. This practice has been common-place since 1993. From the SEC’s internal website:

“After you have closed a MUI that has not become an investigation you should dispose of any documents obtained in connection with the MUI.”

That directive seemingly goes against federal law, which requires the National Archives and Records Administration be responsible for the destruction of any records. In addition, 10 years prior, the SEC and NARA reached an agreement that all investigative records would be kept for 25 years, after which the NARA would be responsible for destroying them.

Among the more than 9,000 files destroyed, were inquiries regarding financial fraud and insider trading at Lehman Brothers, Deutsche Bank AG and SAC Capital Advisors LP, possible financial fraud at Bank of America and Wells Fargo in 2007 and 2008, Goldman Sachs’ trades of AIG credit-default swaps in 2009 and Bernard Madoff Investment Securities LLC.

MNY-08415 – Insider Trading at AIG Alleged

One such file was case MNY-08145: allegations of insider trading at AIG at the height of its financial woes in September 2008. When trading irregularities were reported by an employee of AIG to her superiors, she was fired. The SEC, rather than investigate the allegations itself, left it to AIG or outside counsel to conduct an internal investigation. On October 1st, 2009, the SEC closed the case. Talking to Matt Taibbi of Rolling Stone, certified fraud examiner Harry Markopolos summed up the SEC’s practice of allowing companies to handle their own investigations: “The last person you want to trust is the person being accused or their lawyer.”

“Lawyers Behaving Badly”

Strangely enough, Flynn’s involvement in what is now shaping up to be a long and drawn out investigation into the SEC’s practices, started with a seemingly routine e-mail. Sent to all SEC staff by SEC enforcement director Robert Khuzumi, the e-mail asked for any reports of experiences regarding “the behavior of counsel representing clients in…investigations has been questionable.” With a subject line reading “Lawyers Behaving Badly”, this message was referring to counsel outside of the SEC, but Flynn mistook it for the behavior of lawyers anywhere – ‘within’ the SEC included.

Flynn responded to Khuzumi’s email, recounting a story about an investigation into Deutsche Bank. Following comments by CEO Rolf Brewer, denying that the German bank was about to take over rival US firm Bankers Trust, stock prices in the US company dropped significantly. This in turn lowered the potential price for Deutsche Bank to merge with Bankers Trust. Flynn and other SEC investigators opened an MUI, and with increasing evidence of wrongdoing, began the move towards a full blown investigation. Needing only the seal of approval from the SEC director of enforcement, Richard Walker, the investigation was expected to continue. Things suddenly ground to a halt when Walker removed himself from the case, and two weeks later the investigation was terminated, with no explanation. The following October, Richard Walker was hired as general counsel of Deutsche Bank. (Interestingly enough, Khuzami had joined the SEC from Deutsche, where he had worked for Walker.)

Flynn stayed with the SEC for four more years after the Deutsche Bank investigation, before leaving briefly, and then returning, taking a job that involved managing the disposition of records. It was here that he discovered the SEC’s policy regarding MUIs, and started to think that he was in fact overseeing illegal activity.

Becoming increasingly concerned, Flynn contacted the NARA, who in turn contacted Barry Walters, in charge of document requests for the SEC, and Adam Storch, managing executive of the SEC’s enforcement division. In a letter, Paul Wester, director of modern records at the NARA, wrote: “If you confirm that federal records have been destroyed improperly, please ensure that no further such disposals take place and provide us with a written report with 30 days.”

Storch, accompanied by two SEC lawyers, met with Flynn to discuss his concerns. During the meeting, Flynn alleges that they discussed criminal liability, wondering if admitting the truth to the NARA would be a mistake. According to Flynn’s notes at the time, SEC assistant counsel Ken Hall said: “We could say that we do not believe there has been disposal inconsistent with the schedule.” When discussing the number of files destroyed, Storch allegedly said: “18,000 MUIs destroyed, including Madoff.”

Initially, Flynn and his lawyer Gary J. Aguirre didn’t intend to take the MUI accusations outside the Agency, assuring SEC chairman Mary Schapiro that this could be resolved internally if Flynn was protected against reprisal. After receiving no such assurance, Flynn contacted the SEC’s inspector general and wrote to three congressional agencies, one of them being the Senate Judiciary Committee, detailing his concerns.

In a July 15th letter to Sen. Grassley, ranking Republican on the Senate Judiciary Committee, Aguirre laid out the allegations against the SEC: “The SEC has been destroying MUI files containing federal records since at least 1993, if not earlier, through July 2010.” The letter stated that Mr. Flynn was “concerned that the SEC was in the process of engaging in a reprisal against him.” Aguirre is no stranger to the SEC’s handling of ‘whistle-blowers’, as he himself once worked for the Agency. In 2005, while investigating possible insider trading at Pequot Capital involving John Mack (current Chairman of Morgan Stanley), he was suddenly dismissed. A senate committee referred to his improper firing as part of a “process of reprisal.” In that particular case, Pequot founder Arthur Samberg paid out nearly $28 million in civil charges related to insider trading, bit never admitted or denied any wrongdoing.

This came at a time when Grassley was already investigating the SEC with respect their polices regarding following up on complaints. In a letter to securities regulator FINRA, Grassley specifically wanted to know how many complaints they had forwarded to the SEC regarding hedge fund SAC Capital. SAC has a history of accusations against it, including insider trading. FINRA had forwarded 19 complaints about SAC Capital to the SEC. Armed with this information, Grassley wrote to the SEC, inquiring as to how many of these referrals had been investigated, and asking for evidence to support this. Khuzami responded, saying that the SEC didn’t comment on investigations, and would not provide any further information. SAC Capital has previously commented on Grassley’s findings, saying the referrals “are neither findings nor allegations of insider trading.”

After being contacted by Flynn, Grassley sent a further letter to the SEC, wanting to know if the allegations that they routinely destroyed MUI records were true – and if so, was this the reason for their failure to provide him with information about SAC Capital.

Grassley commented: “From what I’ve seen, it looks as if the SEC might have sanctioned some level of case-related document destruction. It doesn’t make sense that an agency responsible for investigations would want to get rid of potential evidence. If these charges are true, the agency needs to explain why it destroyed documents, how many documents it destroyed over what time frame and to what extent its actions were consistent with the law.”

In a letter to Mary Schapiro, Grassley questioned the Agency’s policies, asking if Flynn’s allegations were true, and if so, was there any way the destroyed documents could be retrieved. An SEC spokesman said that the agency has a computerized record of every MUI process, and if necessary, certain items such as brokerage trading records, emails and newspaper clippings can be retrieved.

Spokespeople for Goldman Sachs, Bank of America, Wells Fargo and Citigroup declined to comment, and there has been no response from Lehman. As for Deutsche Bank, a spokesman said: “as a matter of bank policy we cannot comment on regulatory matters, particularly those that have been closed for nearly a decade.

A number of inquires are currently under way: the Senate Judiciary Committee, the National Archives and Records Administration, and the inspector general of the SEC.

Read More:

Matt Taibbi’s Article in Rolling Stone

Sen. Grassley letter to SEC Chairman Mary Schapiro (PDF)

Bloomberg Article

NY Times Article

Financial Blogosphere Reacts:


Zero Hedge

Felix Salmon

Yves Smith at Naked Capitalism