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Why a Federal Judge Trashed the SEC’s Settlement With Citigroup

A federal judge ruled that the SEC’s proposed $285 million deal with Citigroup for allegedly misleading investors was “neither fair, nor reasonable, nor adequate, nor in the public interest.”

Getty Images file photo by Chris Hondros

When the Securities and Exchange Commission struck a deal with Citigroup over a failed security that the bank sold to investors, we asked whether regulators had handed Citigroup too sweet a deal.

Today in Manhattan, U.S. District Judge Jed Rakoff appeared to reach that very conclusion: “If the allegations of the Complaint are true, this is a very good deal for Citigroup,” Rakoff wrote as he refused to sign off on the $285 million proposed settlement agreement.

While the full opinion is worth reading, here’s a summary of the judge’s objections:

The SEC's allegations don’t match the charges.

The SEC, in its complaint, alleged that Citigroup knowingly misrepresented or failed to disclose to investors key information about the collateralized debt obligation, or CDO, known as Class V Funding III. We first reported on Class V last year in our story on CDO self-dealing, noting that the CDO contained risky pieces of other Citigroup CDOs.

Specifically, the SEC charged that Citi put risky assets into the deal, bet against it and didn’t disclose that to investors. According to the SEC, “Citigroup knew it would be difficult” to sell the CDOs if it disclosed all that to investors.

Judge Rakoff concluded, “This would appear to be tantamount to an allegation of knowing and fraudulent intent.”

But in the end, the SEC only charged Citigroup — and one low-level exec — with negligence, for which there's a lower standard of proof than for intentional fraud. Charges were not filed against more senior Citi execs who, according to the SEC, also knew details of the deal.

The settlement's boilerplate language forbidding future violations by Citigroup is essentially meaningless.

“By the S.E.C.’s own account, Citigroup is a recidivist,” wrote Rakoff, who noted that the SEC had not sought to enforce that prohibition for at least a decade.

The context here is more than adequately explained by a recent New York Times article that found that Citigroup had agreed on at least four other occasions not to violate that same anti-fraud statute, only to continually break that promise.

The fine is too modest to have a deterrent effect.

According to Rakoff, the fine in this case is “pocket change to any entity as large as Citigroup” and amounts to just a cost of doing business.

Rakoff loathes the longstanding practice of reaching settlements without admissions of wrongdoing.

Sure, it’s standard in deals like this, and judges have routinely signed off on such language, but Rakoff has signaled that he has serious qualms about non-admission, non-denial settlements.

For one, he said the Citi deal shortchanges investors, who lost more than $700 million, according to the SEC: With no mea culpa from Citi, private investors will have a much harder time bringing their own lawsuits against the company — which, for Citigroup, is precisely the point.

Rakoff also argued that this practice cheapens judicial power, which must be used in conjunction with “cold, hard, solid facts.” A non-admission of guilt but agreement to pay, while in keeping with conventional procedure, denies the court of established facts on which to decide whether the settlement is reasonable, he said.

The truth should come out.

Finally, Rakoff argued that, especially regarding the financial sector – and especially now, the public deserves to know the truth: “In any case like this that touches on the transparency of financial markets whose gyrations have so depressed our economy and debilitated our lives, there is an overriding public interest in knowing the truth.”

One thing Rakoff didn’t touch on? A discrepancy we raised last month: Citigroup seems to believe this deal would have settled all of its potential liability over CDOs — something the SEC has denied.

The SEC’s response

The SEC issued a statement today defending its settlement: “We believe that the proposed $285 million settlement was fair, adequate, reasonable, in the public interest, and reasonably reflects the scope of relief that would be obtained after a successful trial,” said Robert Khuzami, the SEC’s head of enforcement.

Khuzami pointed out that Rakoff’s objection to the lack of an admission of guilt “ignores decades of established practice throughout federal agencies and decisions of the federal courts.”

That response is in line with what Khuzami has said in the past — that securing confessions from companies like Citi, while ideal, would slow down the agency’s investigations.

“No one disagrees with the sort of abstract notion that you’d like to have admissions in your cases,” Khuzami said earlier this month. “One has to make choices between competing demands.”

The SEC also has argued that taking banks to costly trials would divert scarce resources from its other efforts to fight securities fraud, and prove counterproductive.

What’s next?

The case has been scheduled for trial next year — something Citigroup would presumably like to avoid, given the mountains of evidence in the SEC’s possession that would become public in a trial.

But a trial is still not a sure thing. Rakoff initially rejected a proposed SEC settlement with Bank of America but eventually approved a deal last year after the agency came back with a bigger fine. It remains to be seen whether the SEC will try to do the same this time around.

Also, a main point of the Judge was that the SEC being a statutory agency, and engaging in such whimsical settlement makes the judiciary complicit in nefarious activities of Citigroup.

An important principal of separation is at stake here.

How many times do I see the same sentence? “Just a cost of doing business.” And as long as people are fined $285 million for a corrupt deal that earned them over a billion, there will be no deterrent to future crimes.
We need full disgorgement of any gains, plus penalties, and a fine.

It’s patently obvious here that the S.E.C. is a partner and accomplice of Citigroup. The S.E.C. was asking the judge to legitimize their racket. I find it sad that I was shocked that the court took such a principled and correct stand. Too often I see courts handing down decisions in very important cases that are as corrupt as the actions they were tasked with examining. We need more judges like Judge Rakoff.

I like this judge.

Maybe if they consistently went for an admission of guilt, the SEC wouldn’t have quite so many cases to bring….

This is great news but I have doubts that this is the start of a new trend.
In my mind, there should never be settlements without admission of guilt. The settlements make the SEC look like somebody who looks the other way when people do something wrong in exchange for a a share of the loot.

We need better people at the SEC….and more of them.

“The settlements make the SEC look like somebody who looks the other way when people do something wrong in exchange for a a share of the loot. “


I couldn’t have said it better.

I like what the judge did in this case.  The “public interest” is a lost concept in these ridiculous SEC decisions.  Citi is saying basically, “Look, take pennies on the dollar, sign the papers where we admit no wrongdoing, and don’t follow us back into the casino”.  The SEC is what political scientists call a “captive agency,” albeit an extreme example where high level SEC staff act as foxes guarding the public henhouse between lucrative Wall Street gigs.  Clean house and fund them properly (good luck with the second part of that with this useless Congress).

At last we find some justice in our system of justice.  High accolades for Judge Rakoff! and his principles!  We need more like him—many, nay more.

Stephanie Palmer

Nov. 29, 2011, 11:55 a.m.

I think Citigroup should have to pay back any and all losses suffered by the investors.  Then they can pay whatever the federal penalty is. Then the senior execs need to go to prison.  No one is interested in any scapegoat - we want the greedy executives who have no qualms selling fraudulent securities to unsuspecting individuals, pension funds, whatever. They need to be in prison.  Maybe OWS will be somewhat mollified if the government finally holds these creeps responsible.

George Ross

Nov. 29, 2011, Noon

Screw the public out with $700 million in losses, pay a $285 million fine sanctioned by the SEC and go on with your business without admitting or denying guilt.  Sounds like the Russian economic system.  Fortunately there are learned, honorable and courageous Judges like Judge Rakoff that sees through all this fluff and folly that the SEC is so eager to avoid. My candidate for MAN OF THE YEAR…JUDGE RAKOFF.

Citibank should go to trial.  If the SEC has scarce resources, then Congress should appropriate money so that the unemployed lawyers, acccountants, and finance majors can obtain employment with the SEC.  We have a lot of unemployed brilliance in this country who can assist the SEC in the prosecution of Citibank.

Bravo,  Judge Rakoff.  Now finish the job.  Only the threat of great financial loss and prison will reign in these thieves.

Let’s not forget, European investors [and Asian ones if they have any sense] are threatening to boycott the US financial industry if the criminals involved in that industry remain essentially unpunished. They can’t trust the people they would be dealing with otherwise. So the banksters shoot themselves in the gut. How dumb is that?

Gerardo De Sola

Nov. 29, 2011, 1:53 p.m.

Congratulations to the Judge, we need more people like him to preserve the faith in the system. Its sad to see how the SEC is part of these bandits looking to legalize their crime againts we the people

Maxxxxx: “This is great news but I have doubts that this is the start of a new trend.”  I hope you’re wrong,  I hope this is just the start.

Maxxxxx: “In my mind, there should never be settlements without admission of guilt.”  Either that, or they should be tried in court and be bound by the verdict.
——-
Max:  “ The “public interest” is a lost concept in these ridiculous SEC decisions.”  The “public interest” is a concept that is lost throughout our entire executive and legislative branches of government, as well many members of the Supreme Court.

Stephanie Palmer:  “I think Citigroup should have to pay back any and all losses suffered by the investors. Then they can pay whatever the federal penalty is. Then the senior execs need to go to prison.”
Yes to the payback.  Yes to the penalty.  And yes to sending the responsible rxecs to prison.

George Ross:  “My candidate for MAN OF THE YEAR…JUDGE RAKOFF.“  He would certainly get my vote.  He’s head and shoulders above all the nominees that Time Magazine has posted on the Internet.

Barbara:  “Citibank should go to trial.”  And, if convicted, those responsible should go to jail.

Dan Shellist:  “Only the threat of great financial loss and prison will reign in these thieves.”  You’ve got that right.  And someone needs to set an example that will serve as a warning to the rest.

Judge Rakoff represents the brightest ray of hope I have seen all year!

Bring Back Maximum John!

Larry Braxton

Nov. 30, 2011, 7:39 p.m.

For years I have noticed large companies, corporations and banks that steal millions and hundreds of millions of dollars from the public get caught and tried for their “offense”.  They make a deal with some prosecutor and some judge, pay some insignificant fine and move on.  I’ve never understood it.  Look at the “fines” levied against ENRON and ENRON executives.  They (not necessarily ENRON) steal 700 million dollars, plead nolo contendere, pay a 50 million dollar fine and keep the rest of the stolen money.  I’ve never understood how this becomes “justice”.  I applaud the judge.

As long as SEC members are “selected” by the sitting president who must then have a corrupt, bought off, gridlocked congress approve the selection, we’ll continue to have a toothless bureaucracy whose member’s actions contradict its actual purpose.

In my dreams I have Matt Taibbi replacing SEC “lifer” Mary Schapiro as head of the SEC.

Joseph Fleischman

Dec. 1, 2011, 11:23 a.m.

Although it may be true that it is not provided with enough to do its business in the right way, the SEC’s primary defense of its decision to avoid trial, that to go to trial here would require cutbacks elsewhere, i.e. staff is too small due to lack of funds, is flimsy at best.  If it can’t go after Citigroup, which cost so much taxpayer bailout moneys, then it can’t go after anyone, no matter the violation of law.

What about the customers who were wronged in these things?  Do they ever get any money back or does the government and the SEC just get fines that are substantially smaller than what the customers lost.  That doesn’t make any sense to me.

I am completely a layperson so if any of what I say is factually or logically wrong, please feel free to lay the smack down on my buttocks and teach me.

‘Khuzami pointed out that Rakoff’s objection to the lack of an admission of guilt “ignores decades of established practice throughout federal agencies and decisions of the federal courts.”’

Doesn’t it make sense to change the system that got you into trouble?  If his argument is “well this is how its always been done” and its because of how things have always been done that we’re in this mess, it seems silly not to want to break from tradition.  Change is a good thing.

‘Khuzami has said in the past — that securing confessions from companies like Citi, while ideal, would slow down the agency’s investigations.’

How?  Why?  I hate that people in power explain nothing as if they were parents to the rest of us children.  Frankly a lot of regular people I know are easily intellectually on par with even the most scholarly of public servants.  Why not explain something out.  Trust us, we’d understand.

‘“No one disagrees with the sort of abstract notion that you’d like to have admissions in your cases,” Khuzami said earlier this month [6]. “One has to make choices between competing demands.”

What competing demands?  As a public servant you should serve at the behest of your constituencies.  If by competing demands you mean the demands of the people vs the demands of corporate interests, one corporate interest vs millions of people, this argument feels wrong.

‘The SEC also has argued that taking banks to costly trials would divert scarce resources from its other efforts to fight securities fraud, and prove counterproductive.’

Right now it feels like banks think they are king and can do just about anything they feel.  This needs to stop.  If we’re too afraid of litigating wrong doings, we will never get out of the clutches of major monied organizations.

Hi,
I Have a question About How Citi mortgage Had Taken My Loan From Another Lender & Because I Lose My Job In 2009 And that I Wanted Citi To Help Me Stay In My Home That They Would Not Help Me Instead
They Foreclosed On My Home & Sold It With In 2 Weeks Of Vacateding
My Home I Am So Fustrated With This Lender That I Through That There Is Some thing That Can Me Done Please Help Me & Let Me Know If There Is any Thing i Can Do

Right, we need better funding of SEC and their investigators.  But who has been cutting that, claiming deregulation and downsizing government.  Some government services are needed to protect us from the GB’s (greedy bastards).

There should be a federal mandate that the SEC never accept ANY settlement EVER. All actions go to trial.

Tom Riddering

Dec. 6, 2011, 4:34 p.m.

I agree, Monty.  But the funding needs to be there to do the job too.  We can count on Republicans to oppose such funding of the prosecution of their campaign contributors.

Of course, the conservatives want a smaller government.  With insufficient staff, the government cannot fully investigate corporate practices, enforce laws and regulations, or prosecute violators.  And the corporations will grandly reward the legislators who keep things this way.

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