Sunday, May 29, 2011

Dodd-Frank Rollback Underway: A Snapshot of an Irresponsible Governing Elite

As previously argued on this blog, the Dodd-Frank Act stands as a monument to the recklessness and ineptitude of our governing political and economic elite. Recent events demonstrate the depths of the dementia. As predicted, the Dodd-Frank Act (which was never much of a reform) is in the process of being diluted, rolled-back, and stalled by intense lobbying efforts of industry interests. Over-matched regulators suffer budget cutbacks and Congressional obstruction while the megabanks use their government guaranteed capital to foil any real reform.

The SEC, for example, is mired in litigation (against Antonin Scalia’s son no less) over its efforts to implement power given it under Dodd-Frank to grant shareholder access to management’s proxy to nominate directors. The SEC, in an unprecedented move, stayed its own rule pending the outcome of Business Roundtable v. SEC. That case now has been fully briefed but probably will not be decided until the Supreme Court weighs in. That could be sometime in 2012 or 2013. Given the Supreme Court’s manifest inclination towards corporatocracy, it seems unlikely that it would allow the SEC’s rulemaking to stand. Shareholder nominations to the board simply upset the current economic power structure too much for the Court to rule otherwise.

On another front, a bill moves through Congress that would delay the implementation of derivatives regulation. Dodd-Frank originally set July 21, 2011 for the SEC and CFTC to promulgate rules to mandate clearing of derivatives. Such rules will now probably take effect no earlier than September 30, 2012. There is pressure to delay implementation of Dodd-Frank to match the European regulation of derivatives. And, the GOP controlled House appears poised to cut the CFTC’s budget by 15%. Despite the expanded regulatory powers granted by Dodd-Frank the agency has suffered from miserly funding since the GOP takeover of the House. The SEC faces similar challenges and cash shortfalls.

These budget constraints at key regulatory agencies have real negative impact on the stability of our financial system. Regulatory agencies have already missed dozens of deadlines for rulemaking set in Dodd-Frank and many more deadlines are about to be missed. What good are the new SEC whistle blower rules if the SEC lacks enforcement resources?

In any event, the head of the Financial Services Roundtable, an industry lobbying group, promises that a bill rolling back some parts of Dodd-Frank will become law in 2012 or 2013. Elizabeth Warren appears to lack any chance of being appointed to head up the new Consumer Financial Protection Bureau created by Dodd-Frank. And, the Obama Administration has also dragged its feet in making key appointments.

Dodd-Frank is in limbo, to say the least. On the other hand, bank CEO compensation increases apace (last year set new records) and the system continues to encourage excessive risk at taxpayer expense.

Saturday, May 14, 2011

Wiretaps Play Pivotal Role in Conviction of Hedge Fund Titan Raj Rajaratnam on Insider Trading Charges

On May 11th Raj Rajaratnam, the embattled head of the Galleon Group, a major hedge fund, was found guilty on 14 counts of securities fraud and conspiracy. At his sentencing in July, Rajaratnam faces many, many, many years in jail. The New York jury that convicted Rajaratnam found that he made nearly $64 million from insider tips he obtained from his vast network of corporate executives and other insiders. Trades Mr. Rajaratnam engaged in effected top companies like Goldman Sachs, Google, IBM, and Intel. Rajaratnam paid handsomely for inside tips and confidential information. During his trial, prosecutors were able to show that Rajaratnam paid Anil Kumar, then an executive at the large consulting firm McKinsey & Co., $500,000 a year for tips about a number of the firm’s clients.

Rajaratnam’s trial lasted several weeks and was one of the highest profile insider trading trials in recent memory. On another point, the Rajaratnam trial was noteworthy. Apparently, this was the first insider-trading case in which governmental prosecutors used wiretaps to obtain information on patterns of insider trading. The wiretaps were pivotal in Rajaratnam’s conviction. On one tape-recording, in a conversation about getting an additional McKinsey executive to leak information, Rajaratnam can be heard telling his brother, Rengan, “[e]verybody is a scumbag.”

Rajaratnam has promised to appeal his conviction. This conviction empowers the SEC. The SEC’s is continuing to crackdown on “expert networks,” which I posted about recently. Several other large hedge fund managers are facing damning charges of insider trading on their own. “In the past 18 months, the US Attorney’s Office has charged 47 people with insider trading. Mr. Rajaratnam is the 35th to be convicted.” The action is picking up. The SEC is currently pursuing criminal and administrative proceedings against other individuals linked to Rajaratnam.

Robert Khuzami, the director of enforcement at the SEC, has indicated that the SEC plans to target hedge funds with “aberrational” performance, which in his estimation means hedge funds that are outperforming the market consistently by 3% or more. The SEC’s top watchdog has exposed his deck of cards. Hedge fund managers better watch out. Only time will tell who gets ensnared in the SEC’s web next. What are your thoughts?