Post by jannikki on Apr 6, 2007 20:22:47 GMT -4
STOCKGATE TODAY
An online newspaper reporting the issues of Securities Fraud
Remedies Act Revisited - April 5, 2007
David Patch
In 1990 Congress passed the Securities Enforcement Remedies and Penny Stock Reform Act (the "Remedies Act"). This Law provided the Commission with the authority to impose monetary penalties on corporations who have engaged in the act of securities fraud.
Since the passage of the "Remedies Act", and with the recent Congressional passage of the Sarbanes-Oxley Act of 2002, the Securities and Exchange Commission has suddenly found a new tool in their arsenal of securities enforcement; fines. The SEC has determined that by fining corporations and holding corporations accountable the ability to make restitution to the injured parties is far greater than ever before.
When imposing a fine on a corporation the SEC will consider certain factors in determining the size of the fine, most notably:
* The need to deter a particular type of offense. Corporate penalties are more likely to be imposed where the penalty could serve as a strong deterrent to similar violations and a lack of unique circumstances is present.
* The extent of innocent party injury. Pertinent inquiries under this factor consider the seriousness of the offense, the number of investors injured, and the extent of harm to society if the wrongdoing goes unpunished.
* The pervasiveness of the violation within the corporation. Under this factor, the more widespread the participation in the offense within the corporation, the more appropriate the case for imposing a corporate penalty.
* The level of intent of the perpetrators. Where culpability and fraudulent intent are manifest, the imposition of a corporate penalty is more appropriate.
* The degree of difficulty in detecting the offense. Offenses which are particularly difficult to detect support the imposition of a corporate penalty as a means of encouraging self-monitoring to provide a greater level of deterrence.
* Remedial steps taken by the corporation. The failure of management to take remedial steps to prevent future harm, as well as the punishment of past offenses, are actions that may be weighed into the decision of whether to impose a corporate penalty.
* The extent of law enforcement and SEC cooperation. The degree to which a corporation self-reports violations or otherwise cooperates with the investigation and remediation of offenses is a factor to be considered by the SEC in the decision of whether to impose a corporate penalty.
While the Commission has exercised their authority with greater frequently since 1990, and taken steps that have resulted in certain areas of fraudulent acts to decrease over time, the Commission has failed to take the appropriate steps in deterring fraud where the most critical financial conflicts of interest exist.
Consider for a moment that the most dangerous act of financial fraud in our markets today is the act of fraud whereby the entire investing public is at risk at the hands of the "preferred few". Acts of fraud where corporations aid and abet securities fraud for the sole purpose of increasing the bottom line of the company, thus benefiting the small nucleus of shareholders and executives in that corporation. Yet in the process of creating a higher bottom line for one, the act destroys a massive base of shareholders and other public corporations across our capital markets.
The business operation I speak of is Wall Street and the conflicts of interest the industry has with the "preferred clients" of excessive wealth and power that control these markets.
Today our financial institutions are repeatedly caught committing acts of regulatory violations where the client has become the direct beneficiary of the violation itself. Once caught in the act of a securities violation the Wall Street firm is provided the opportunity to pay a nominal fine without admitting or denying guilt and commit to updating their regulatory compliance procedures to "catch" future violations of this nature.
Never, in the effort to understand why such a violation existed in the first place, did the Commission evaluate the benefit the violation had on the corporate operations during that period in time. The profits are never limited to simply the profits from the fraud alone but from the business relationship that develops in being willing to commit an act of fraud for the client.
In a recent SEC action against Goldman Sachs, the SEC had determined that Goldman carelessly allowed customers to incorrectly mark their sales "long" through the company's REDI system, an automated, direct access trading system. In doing so, clients were being allowed to short securities through their systems without ever having to meet the trading restrictions associated with a short sale.
Because the customers in such a trade did not own the shares despite indicating they did, the sales were executed into the market with affirmative determination and without meeting the up tick requirements of a short sale. According to the SEC, such a trading strategy can be used to artificially depress the price of a security manipulating innocent investors out of their profits.
This system in place by Goldman is not a system used by the regular retail client but by preferred clients of significant stature. Clients Goldman wishes to maintain and thus clients Goldman created an environment where stock manipulation was easy.
In the SEC complaint, Goldman had allowed such trades to take place for a minimum of 2 years (2000 - 2002). For their lack of regulatory controls a fine of $2 Million was imposed on Goldman Sachs.
The real question is, how much revenue did Goldman generate from the clients they created this lax regulatory environment for? The REDI system was created to create client ease in the execution of trades and in doing so Goldman drew in new and profitable business. A business that included bringing in those clients who wanted a means of skirting federal securities laws.
Certainly this is not the first time Goldman or another large prime broker created an environment where preferred clients could skirt securities laws and profit from those actions. In 2004 Putnam settled the first of what would become many late-trading market-timing cases for $110 Million. By the time the dust settled the fines exceeded several billion. The majority of clients who directly benefited from the securities fraud, mostly hedge funds, were left to keep their ill-gotten profits leaving all firms fined with a loyal client forever.
So here is the solution.
Wall Street firms will be fined 100% of all revenues generated from clients during any period in which that client was using the firm in aiding and abetting fraud.
Putnam did not hand the keys to the trading desk over to a hedge fund for no reason; they did so for the revenues such an action provided the firm in legal and illegal trading activities. In looking the other way during acts of fraud, Putnam did not lose a client and that brought in additional legal revenues that would possibly have gone elsewhere.
Likewise, when Goldman Sachs allowed clients to illegally short through the REIT system they did so in order to maintain that customer and thus the revenues that customer brought towards the bottom line corporate profits of Goldman.
The risk Goldman, Putnam, and the Industry takes, as a whole is trivial based on the rewards customer satisfaction brings to the business as a whole. A $2 Million fine is a parking ticket when compared to the revenues those clients rang in as a whole and thus the $2 Million fine was worth it.
But if the risk were not the typical "slap on the wrist" handed down by the SEC but instead the SEC took the whole wrist, the lack of commitment to regulatory compliance would be far different.
Consider, in just throwing out numbers for the sake of illustrating the argument, that Goldman received as much as $200 Million in revenues from those specific clients that illegally shorted stocks through the REIT system between 2000 and 2002. The revenues from the illegal trades themselves only added up to $1.5 Million however. In today's environment, the SEC would fine Goldman the $1.5 Million in disgorgement plus some trivial level of penalties. With disgorgement and penalties the total fine to Goldman would now equal $2 Million.
The risk v. reward to Goldman in spending revenues to set up appropriate compliance was $2M vs. $200M. Certainly for the high paying executives at Goldman the risk would be worth it as your annual bonus is based on the $200M in revenues and revenues that are not diluted down by the cost of compliance procedures.
But would Goldman have taken a similar risk if the risk were to be the entire $200M? Probably not.
Bottom Line: The best way to protect the overall investing public is to introduce upon Wall Street the same level of risk v. reward penalties other federal agencies introduce upon the criminal elements. Go after the whole enchilada, the $200 Million under the Remedies Act citing the need to deter future violations of this nature.
When the Federal Authorities raid drug houses, organized crime families, and other criminal enterprises the feds seize all the belongings held by the suspected criminals. Theory behind such seizures is that the personal belongings of the criminals were purchased with illegally generated revenues and thus fruit from a rotten tree.
When a Wall Street Institution risks a securities violation for a client they do so as the theoretical "bribe" for future business and thus all future business is tainted as illegal. Yes the shareholders of these Institutions would pay the price should such fines be imposed but these shareholders were also the beneficiaries during the periods of fraud.
Shareholders of these Institutions, with a risk of their own, may then finally hold such management more accountable for their actions instead of simply watching these executives reaping the rewards of $40 Million and $50 Million annual compensation packages without reprisal.
Brought to you through a process we call "Thinking outside the Box". Something I strongly urge the Chairman and his staff at the Securities and Exchange Commission to try every now and then.
For more on this issue please visit the Host site at www.investigatethesec.com (posted with permission)
Copyright 2007
An online newspaper reporting the issues of Securities Fraud
Remedies Act Revisited - April 5, 2007
David Patch
In 1990 Congress passed the Securities Enforcement Remedies and Penny Stock Reform Act (the "Remedies Act"). This Law provided the Commission with the authority to impose monetary penalties on corporations who have engaged in the act of securities fraud.
Since the passage of the "Remedies Act", and with the recent Congressional passage of the Sarbanes-Oxley Act of 2002, the Securities and Exchange Commission has suddenly found a new tool in their arsenal of securities enforcement; fines. The SEC has determined that by fining corporations and holding corporations accountable the ability to make restitution to the injured parties is far greater than ever before.
When imposing a fine on a corporation the SEC will consider certain factors in determining the size of the fine, most notably:
* The need to deter a particular type of offense. Corporate penalties are more likely to be imposed where the penalty could serve as a strong deterrent to similar violations and a lack of unique circumstances is present.
* The extent of innocent party injury. Pertinent inquiries under this factor consider the seriousness of the offense, the number of investors injured, and the extent of harm to society if the wrongdoing goes unpunished.
* The pervasiveness of the violation within the corporation. Under this factor, the more widespread the participation in the offense within the corporation, the more appropriate the case for imposing a corporate penalty.
* The level of intent of the perpetrators. Where culpability and fraudulent intent are manifest, the imposition of a corporate penalty is more appropriate.
* The degree of difficulty in detecting the offense. Offenses which are particularly difficult to detect support the imposition of a corporate penalty as a means of encouraging self-monitoring to provide a greater level of deterrence.
* Remedial steps taken by the corporation. The failure of management to take remedial steps to prevent future harm, as well as the punishment of past offenses, are actions that may be weighed into the decision of whether to impose a corporate penalty.
* The extent of law enforcement and SEC cooperation. The degree to which a corporation self-reports violations or otherwise cooperates with the investigation and remediation of offenses is a factor to be considered by the SEC in the decision of whether to impose a corporate penalty.
While the Commission has exercised their authority with greater frequently since 1990, and taken steps that have resulted in certain areas of fraudulent acts to decrease over time, the Commission has failed to take the appropriate steps in deterring fraud where the most critical financial conflicts of interest exist.
Consider for a moment that the most dangerous act of financial fraud in our markets today is the act of fraud whereby the entire investing public is at risk at the hands of the "preferred few". Acts of fraud where corporations aid and abet securities fraud for the sole purpose of increasing the bottom line of the company, thus benefiting the small nucleus of shareholders and executives in that corporation. Yet in the process of creating a higher bottom line for one, the act destroys a massive base of shareholders and other public corporations across our capital markets.
The business operation I speak of is Wall Street and the conflicts of interest the industry has with the "preferred clients" of excessive wealth and power that control these markets.
Today our financial institutions are repeatedly caught committing acts of regulatory violations where the client has become the direct beneficiary of the violation itself. Once caught in the act of a securities violation the Wall Street firm is provided the opportunity to pay a nominal fine without admitting or denying guilt and commit to updating their regulatory compliance procedures to "catch" future violations of this nature.
Never, in the effort to understand why such a violation existed in the first place, did the Commission evaluate the benefit the violation had on the corporate operations during that period in time. The profits are never limited to simply the profits from the fraud alone but from the business relationship that develops in being willing to commit an act of fraud for the client.
In a recent SEC action against Goldman Sachs, the SEC had determined that Goldman carelessly allowed customers to incorrectly mark their sales "long" through the company's REDI system, an automated, direct access trading system. In doing so, clients were being allowed to short securities through their systems without ever having to meet the trading restrictions associated with a short sale.
Because the customers in such a trade did not own the shares despite indicating they did, the sales were executed into the market with affirmative determination and without meeting the up tick requirements of a short sale. According to the SEC, such a trading strategy can be used to artificially depress the price of a security manipulating innocent investors out of their profits.
This system in place by Goldman is not a system used by the regular retail client but by preferred clients of significant stature. Clients Goldman wishes to maintain and thus clients Goldman created an environment where stock manipulation was easy.
In the SEC complaint, Goldman had allowed such trades to take place for a minimum of 2 years (2000 - 2002). For their lack of regulatory controls a fine of $2 Million was imposed on Goldman Sachs.
The real question is, how much revenue did Goldman generate from the clients they created this lax regulatory environment for? The REDI system was created to create client ease in the execution of trades and in doing so Goldman drew in new and profitable business. A business that included bringing in those clients who wanted a means of skirting federal securities laws.
Certainly this is not the first time Goldman or another large prime broker created an environment where preferred clients could skirt securities laws and profit from those actions. In 2004 Putnam settled the first of what would become many late-trading market-timing cases for $110 Million. By the time the dust settled the fines exceeded several billion. The majority of clients who directly benefited from the securities fraud, mostly hedge funds, were left to keep their ill-gotten profits leaving all firms fined with a loyal client forever.
So here is the solution.
Wall Street firms will be fined 100% of all revenues generated from clients during any period in which that client was using the firm in aiding and abetting fraud.
Putnam did not hand the keys to the trading desk over to a hedge fund for no reason; they did so for the revenues such an action provided the firm in legal and illegal trading activities. In looking the other way during acts of fraud, Putnam did not lose a client and that brought in additional legal revenues that would possibly have gone elsewhere.
Likewise, when Goldman Sachs allowed clients to illegally short through the REIT system they did so in order to maintain that customer and thus the revenues that customer brought towards the bottom line corporate profits of Goldman.
The risk Goldman, Putnam, and the Industry takes, as a whole is trivial based on the rewards customer satisfaction brings to the business as a whole. A $2 Million fine is a parking ticket when compared to the revenues those clients rang in as a whole and thus the $2 Million fine was worth it.
But if the risk were not the typical "slap on the wrist" handed down by the SEC but instead the SEC took the whole wrist, the lack of commitment to regulatory compliance would be far different.
Consider, in just throwing out numbers for the sake of illustrating the argument, that Goldman received as much as $200 Million in revenues from those specific clients that illegally shorted stocks through the REIT system between 2000 and 2002. The revenues from the illegal trades themselves only added up to $1.5 Million however. In today's environment, the SEC would fine Goldman the $1.5 Million in disgorgement plus some trivial level of penalties. With disgorgement and penalties the total fine to Goldman would now equal $2 Million.
The risk v. reward to Goldman in spending revenues to set up appropriate compliance was $2M vs. $200M. Certainly for the high paying executives at Goldman the risk would be worth it as your annual bonus is based on the $200M in revenues and revenues that are not diluted down by the cost of compliance procedures.
But would Goldman have taken a similar risk if the risk were to be the entire $200M? Probably not.
Bottom Line: The best way to protect the overall investing public is to introduce upon Wall Street the same level of risk v. reward penalties other federal agencies introduce upon the criminal elements. Go after the whole enchilada, the $200 Million under the Remedies Act citing the need to deter future violations of this nature.
When the Federal Authorities raid drug houses, organized crime families, and other criminal enterprises the feds seize all the belongings held by the suspected criminals. Theory behind such seizures is that the personal belongings of the criminals were purchased with illegally generated revenues and thus fruit from a rotten tree.
When a Wall Street Institution risks a securities violation for a client they do so as the theoretical "bribe" for future business and thus all future business is tainted as illegal. Yes the shareholders of these Institutions would pay the price should such fines be imposed but these shareholders were also the beneficiaries during the periods of fraud.
Shareholders of these Institutions, with a risk of their own, may then finally hold such management more accountable for their actions instead of simply watching these executives reaping the rewards of $40 Million and $50 Million annual compensation packages without reprisal.
Brought to you through a process we call "Thinking outside the Box". Something I strongly urge the Chairman and his staff at the Securities and Exchange Commission to try every now and then.
For more on this issue please visit the Host site at www.investigatethesec.com (posted with permission)
Copyright 2007