Journalism in the Public Interest

Why the SEC Won’t Hunt Big Dogs

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Back when the Financial Crisis Inquiry Commission was doing its work, I would check in periodically with someone who worked there to find out how it was going.

"Good news!" my source would joke. "We got the guy who caused it."

That is the way I felt last week when the Securities and Exchange Commission announced that it had, well, agreed to a measly $285 million settlement with Citigroup over the bank having misled its own customers in selling an investment it created out of mortgage securities as the housing market was beginning its collapse.

In addition, the S.E.C. accused one person -- a low-level banker. Hooray, we finally got the guy who caused the financial crisis! The Occupy Wall Street protestors can now go home.

After years of lengthy investigations into collateralized debt obligations, the mortgage securities at the heart of the financial crisis, the only individuals the S.E.C. has brought civil actions against for involvement in those transactions are half a dozen small-timers. But compared with the Justice Department, the S.E.C. is the second coming of Eliot Ness. No major investment banker has been brought up on criminal charges stemming from the financial crisis.

To understand why that is so pathetic and -- worse -- corrupting, we need to briefly review what went on in C.D.O.'s in the years before the crisis. By 2006, legions of Wall Street bankers had turned C.D.O.'s into vehicles for their own personal enrichment, at the expense of their customers.

These bankers brought in savvy (and cynical) investors to buy pieces of the deals that they could not sell. These investors bet against the deals. Worse, they skewed the deals by exercising influence over what securities went into the C.D.O.'s, and they pushed for the worst possible stuff to be included.

The investment banks did not disclose any of this to the investors on the other side of the deals, or if they did, they slipped a vague, legalistic disclosure sentence into the middle of hundreds of pages of dense documentation. In the case brought last week, Citigroup was selling the deal, called Class V Funding III, while its own traders were filling it up with garbage and betting against it.

By the S.E.C.'s own investigations of and settlements with Goldman Sachs, JPMorgan Chase and Citigroup, and by reporting like my ProPublica work with Jake Bernstein and early stories by The Wall Street Journal, we know that these breaches were anything but isolated. This was the Wall Street business model. (Goldman, JPMorgan and Citigroup were all able to settle without admitting or denying anything, which, of course, is part of the problem.)

Neither the Citigroup settlement nor any of the others come close to matching the profits and bonuses that these banks generated in making these deals. And low-level bankers did not, and could not, act alone. They were not rogues, hiding things from their bosses.

Last week's S.E.C. complaint makes clear that the low-level Citigroup banker that it sued, Brian H. Stoker, had multiple conversations with his superiors about the details of Class V. At one point, Mr. Stoker's boss pressed him to make sure that their group got "credit" for the profits on the short that was made by another group at the bank.

Pause, and think about that. The boss was looking for credit, but as far as the S.E.C. was concerned, he got no blame.

The S.E.C. did not respond to a request for comment, so we are left to wonder what explains its failure to reckon adequately with the pervasive problems. Contrary to expectations, the embattled and oft-assailed agency has done almost everything right with structured finance investigations, taking aim at abuses related to C.D.O.'s and other complex deals.

The S.E.C. has also devoted adequate resources to the issue. It put together a special task force on structured finance, sending the proper signal of the agency's priorities both internally and externally. The task force is staffed by bright people, an invigorating mix of young go-getters and experienced hands. Those people have understood for years what was wrong with the C.D.O. business on Wall Street.

O.K., so what is it? Risk aversion.

Based on the major cases the S.E.C. has brought, a pattern has emerged. It is making one settlement per firm and concentrating on only the safest, most airtight cases. The agency's yardstick seems to be, who wrote the stupidest e-mail? Mr. Stoker of Citigroup wrote an incriminating e-mail that recommended keeping one crucial participant in the dark. Goldman's Fabrice Tourre, the other functionary the agency has sued, wrote dumb things to his girlfriend.

But the S.E.C is not the G-mail G-man. It is the securities police. Imprudent e-mailing is not the only way to commit securities fraud.

Maybe the agency hopes that private litigation will take up the slack. It cannot investigate and wring a prosecution or settlement out of every corrupt deal. Instead, it has long aimed to plant a flag and let private litigants take care of the rest.

But private litigation has failed. One problem is that the defrauded institutions often committed their own sins. In a monstrous daisy chain, C.D.O.'s bought pieces of other C.D.O.'s. These investments were run by management companies. They might have been the victim in one C.D.O., but complicit in the predations of another.

Other victims, like large financial institutions and money managers, do not want to sue because it could reveal their own compromised behavior. Or they would be revealing to customers that they had simply been taken by other, smarter bankers. You cannot very well convince people that you are a good steward of their money if you are simultaneously complaining that the Wall Street sharpies fleeced you.

And private litigation has changed in the last decade and a half. The Private Securities Litigation Reform Act of 1995, which was meant to make class-action lawsuits harder to bring, has had a spillover effect beyond those cases, according to plaintiffs' lawyers. Courts have raised the bar for securities fraud cases, even where the act does not apply. The rules color how judges look at financial disputes.

So the S.E.C. has the wrong approach.

This is a matter of will and leadership. Its chairwoman, Mary L. Schapiro, while deserving credit for pushing investigations of structured investments, is sending the signal that she does not want to lose. Her agency is meekly willing to get token settlements when the situation calls for Old Testament justice.

Someday, the S.E.C. will have to go up against a top executive who has resources to fight, and who was too sophisticated to put anything rash in writing. This seems to be our fate: our bankers took reckless risks, but our regulators take none.

Clarification (11/09): A sentence in this story referred incompletely to actions taken against individuals. It has been updated to show that the agency has sued four other people in addition to the two bankers originally referred to in that sentence.

Barry Schmittou

Oct. 26, 2011, 12:29 p.m.

I’m certain the Government is protecting corporate organized crime.

Obama and Bush’s SEC, DOJ and DOL are equally involved. Please get this evidence before a Grand Jury !!!!

Wachovia Bank Laundered $378 Billion Dollars for Murderous Mexican Drug Cartels !! No One at Wachovia Was Prosecuted !! Wachovia Paid $110 Million in Fines Which is only 1/3 of one percent of the $378 Billion of Murder Related Money They Laundered !! (More financial and drug murder evidence linked below)

ProPublica wrote this about the DOL’s failure to enforce the laws for DBA War Zone insurance :

Labor officials can recommend cases for prosecution to the Justice Department–but have only done so once in the past two decades, according to Labor officials.”

“CNA withheld portions of the investigators’ findings when it submitted the claims to the Labor Department, court records show.”

Here’s proof insurance companies are removing medical records in two more types of insurance :

The following quotes were written by the Honorable Judges from the 6th Circuit in the case of Wanda Glenn verses Metlife :

“This inappropriately selective consideration of Glenn’s medical record was compounded by the fact that the occupational skills analyst and the independent medical consultant were apparently not provided with full information from Dr. Patel on which to base their conclusions.”

WFAA-TV won a Peabody Award for a story that included this quote about Workers Comp claims :

“a remarkable number of Texans committed suicide because they could no longer endure the pain caused by their injuries and they had been repeatedly turned down for worker’s comp care. Some insurance companies send peer review doctors medical files “stripped” of records important to the possible approval of workers’ comp claims.”

So ... you have records removed from injured War Zone Contractors claims, disability claims, and workers comp claims !!

The DOL website writes that DOL Secretary Solis “is responsible” for protecting the disability claimants and the injured contractors !!

DOL and DOJ have done nothing after reviewing volumes of evidence I’ve submitted.

The evidence includes quotes from numerous Federal Court Judges that prove insurance company Doctors’ ignore life threatening medical conditions including Brain lesions and Multiple Sclerosis, cardiac conditions of many patients, and a foot that a new mother broke in 5 places.

Multiple Judges prove MetLife is also very fond of endangering Psychological claimants lives !!

Obama’s DOL and DOJ Directors have seen this evidence but will do nothing to stop these crimes even though the patients may die before their case is heard by the Courts !!!!

The quotes can be seen by pasting the following website :

You can see how Obama and Bush protected these crimes in five different types of insurance by pasting :

The U.S. Government is also protecting huge money laundering crimes !!

As mentioned Wachovia Bank laundered $378 billion for Mexican drug cartels who are responsible for 35,000 murders. No one was prosecuted by Obama !!

Three weeks ago these murderers disemboweled and hung a woman from a bridge and dumped 35 bodies on a busy road in front of a mall while horrified drivers sped by !!

Please paste to see more evidence I filed in Court.

You’ll also see how multiple corporations including AIG committed crimes repeatedly but no one ever gets prosecuted !!!!!

I keep posting this evidence because I hope and pray an average citizen sitting on a local or Federal Grand jury will seek indictments of the corporate criminals and the government officials who protect them !! I pray God will help us stop the U.S. Government leaders protection of deadly organized crimes !!

I worked at the SEC HQ. I will tell you why this is all going on, because the SEC is the biggest revolving door for Government Attorneys. They work in Enforcement or Litigation for a few years and then rotate into a Securities firm doing Defense. They sit across the table from someone they worked with (sometimes went to law school with) and make negotiations. Hey don’t put my guy in jail, just take 50% of the illegal profits we made and later I will get you a $350,000 job here when you leave the SEC… I was always disgusted with the way white businessmen just owned that system.

I think your readers will be interested in “SEC: always playing catch-up,” published in Remapping Debate earlier this month as Part 3 of Remapping Debate’s series on chronic under-regulation:

The “readable research” piece examines the decades-long failure to make the SEC an enforcer equal to the task of policing an ever-more-powerful financial sector.

Stephanie Palmer

Oct. 26, 2011, 3:07 p.m.

The government had better do something that will put these execs in prison.  That is unless part of the fines was part of a deal. I think this country is about to explode.  Not only are these people not in prison, they have the nerve to continue the big bonuses and they have Congress in their pockets.  Something has to give, and I’m very much concerned about who’s going to give.  I have a feeling that it wont be the protesters.

Occupy the SEC.

There was fraud when the banks put people in overpriced houses they couldn’t afford - even the banks called these ‘liars loans.’ There was fraud when the banks packaged these junk mortgages into investment vehicles. There was fraud when the banks resold these vehicles to unsuspecting clients and then bet against their clients. There was - and still is - fraud when the banks forge documents in order to foreclose on mortgages - in some cases throwing people who are up to date out on the street.

And yet Obama claimed with a straight face in a news conference a couple of weeks ago that there was no fraud.

His DOJ has gone out of its way to 1. not prosecute fraud whenever possible and 2. when they have to prosecute they help the banks work a ‘deal’ to pay tenths of pennies on the dollar for the losses they have caused and the profits they have taken.

Obama has collected more from Wall Street for his re-election than all Republicans combined. Don’t listen to their words. Watch their actions. Follow the money.

This is a totally corrupt system starting with the president and both major parties. The rich have been waging class war on the poor and middle class for 40 years now. We need to start fighting back.

Kudos to ProPublica for bringing these issues to the fore!

Bring back William Black, prosecutor in the S&L scandals.  That was the last time they put a whole bunch in jail for long periods of time.  The rot set in during Clinton and exploded under Bushit.  But Obama did nothing at all to attempt to restore the rule of law for everyone—oh,  yeah, he hiked hell out of immigrant deportation, in the interest of following the law-yeah right.

Bring back William Black, prosecutor in the S&L scandals.  That was the last time they put a whole bunch in jail for long periods of time.  The rot set in during Clinton and exploded under Bush.  But Obama did nothing at all to attempt to restore the rule of law for everyone—oh,  yeah, he hiked immigrant deportation, in the interest of following the law-yeah right.

Mickey L Smith

Oct. 26, 2011, 3:46 p.m.

This man knows what goes on behind the curtain, look up and read his 10/22/2011 article and if you see any names that ring a bell then your on the right tract of how justise is served in the USA.

Henry S. Cole, Ph.D. , Ekos-squared

Oct. 26, 2011, 4:03 p.m.

Bust corrupt bankers not protesters.

Mickey L Smith

Oct. 26, 2011, 4:54 p.m.

I did a little reading & this article should open the eyes of the NYC Mayor and all in congress who always say they are for freemarkets and a strong Banking system. Read this, . I am sick of the MSM protecting these people, they are at the heart of decades of tearing this nation apart at the seams. It’s time for it to be adressed in the MSM or the people will show not all OWS’ers are just tired of being broke because a bank has ripped you off in one way or another & the fed agencies that are supposed to protect you are working with the banks. With Obama wanting to change the FOIA Act for the worst, it time to look at all the problems that dug in deep in all of gov & coroporate america!

As an editor of a small-town weekly, I seldom delve into Wall Street issues and am thus embarrassed to admit my inability to fathom just how the original swindle provided these huge profits.
This paragraph eludes me. “These bankers brought in savvy (and cynical) investors to buy pieces of the deals that they could not sell. These investors bet against the deals. Worse, they skewed the deals by exercising influence over what securities went into the C.D.O.‘s, and they pushed for the worst possible stuff to be included.”
How did they bet against the deals?

The F.B.I. will go after bank robbers with a vengance. When it comes to going after robber bankers, they sit on their fat _sses. Occupy America! Hell, America has been occupied for decades by the corporatists. All the while, their lackeys, the corporate media, lulled us all to sleep on Survivor Island and American Idol Street.

Well for the most part I think your reporting has too much liberal bias but this peice is spot on and really funny. Glad the SEC has charged about 3 of the hedge fund managers I reported first were commiting fraud though so it’s not like they are totally spineless.

Those investors could bet against the CDO using a CDS (Credit Default Swap).  A CDS is basically insurance against an investment going bust.  For an analogy, what they did is alter the design of a skyscraper making it structurally unsound and then taking out an insurance policy against the building which would pay off when it (inevitably) collapsed.

There is more to the story of inactivity than the revolving door between SEC staff and the securities industry. I worked for one of the major regulatory organizations and know first hand that they don’t take risks when it comes to prosecution. I’ve been told to stand down on cases. If they don’t have a slam dunk they will not risk being overturned on appeal. It’s a reputation thing.

John Matthews

Oct. 26, 2011, 6:42 p.m.

It’s amazing to see republicans trying to make Marx come true.

Joseph Zernik, Human Rights Alert (NGO)

Oct. 26, 2011, 6:49 p.m.

The evidence of criminality by top bankers is readily available.  No need for any lengthy investigations…
Moreover, it has been provided to all banking and corporate regulators even before the onset of the crisis.
The failure to prosecute lies in the corruption in the US courts.  There simply is no way to prosecute a banker in the US today.

[1] 11-08-01 Zernik, J: Fraud and corruption in the US courts is tightly linked to failing banking regulation and the financial crisis, 16th World Criminology Congress presentation
[2] 10-05-05 Countrywide, Bank of America [NYSE;BAC], and its President Brian Moynihan Compilation of Records Evidence of Racketeering

When will everyone get it? Gentlemen don’t put gentlemen in jail. Ever. Just who do you think serves AUSDA’s: the childern of the stealing class. Hello.

Peter Broderson

Oct. 26, 2011, 8:19 p.m.

If a Corporation can steal a billion dollars and only pay a fine of $250 million, and when the decision makers of the corporation do not have to go to jail, then big crime pays and the 1% is $750 millions richer.
In the game Monopoly it would be time for them to draw the: Go To Jail card!

No loans. No mortgages.  No FUNDING.  Cash out and receivables were securitized…MBS NOT “mortgage-backed”.  MASSIVE PONZI SCHEME.  Fannie/Fredie involved—-this is why government is not investigating or putting anyone in jail…they have blood on their hands. Only collection rights sold over and over—-NOT real mortgages. FRAUD AT ORIGINATION with ALL subprime…this is the cover-up.  Homeowners ignorant of the fraud in the paperwork they signed.  Kicked out of their homes unknowing.

Government decided that the low end of totem pole—-homeowners—-should be victims…no bail out for them.

This is what crashed economy.

Wall Street and TBTF are going DOWN…because the truth is coming out.

Eric Hunsader

Oct. 26, 2011, 9:28 p.m.

The SEC is completely, and totally owned by Wall Street.

That may sound like something from a conspiracy nut. But it’s actually a distillation of everything I’ve learned first hand dealing with the SEC over the last 14 months.

Peter Hockley

Oct. 27, 2011, 3:06 a.m.

“It’s amazing to see republicans trying to make Marx come true.”
John Matthews

That’s it, The Repugs are the reds under the bed, and they’ve infiltrated The John Birch Society. Think about it The Koch family fortune is based on work done for The Soviets, the whole family are sleepers!
Have we slipped into an alternative universe?

“Sometimes the law defends plunder and participates in it. Thus the beneficiaries are spared the shame and danger that their acts would otherwise involve. But how is this legal plunder to be identified? Quite simply. See if the law takes from some persons what belongs to them and gives it to the other persons to whom it doesn’t belong. See if the law benefits one citizen at the expense of another by doing what the citizen himself cannot do without committing a crime.”—Frederic Bastiat

Never bite the hand that feeds you!

Once PAC’s were invented and the scum sitting on the US Supreme Court made money the end all evil in “Citizens United” what could we expect.

Corporations and Banks own the congress and the courts!

Blood in the streets is the only thing that will change it. AND, that’s coming i.e Oakland 10/25/11.

The six most important things in the last 30 years that have brought this country to its knees are:

1. Ronald Reagan’s election 1980
2. Reagan-Rostenkowski 1986
3. NAFTA, 1993
4. End to Glass Steagall 1999
5. Howard Dean’s eleimination for president, 1984
6. Sam Alieto’s appt to Supreme Court

Great observation - “This was the Wall Street business model. (Goldman, JPMorgan and Citigroup were all able to settle without admitting or denying anything, which, of course, is part of the problem.)”

Should banks that settle without admitting or denying guilt be required to independently verify, on an ongoing basis, that their performance is legal, ethical and sustainable? Should they be required to maintain a public record system that discloses ethical breaches and conflicts of interest, which includes, at a minimum, a) Ethics Code Certifications for all senior level executives; b) Ethics Reporting; and, c) Culture Assessments on an ongoing basis?

Peter, that’s exactly it.  Crime at this level is profitable, because the government just wants a small “piece of the action.”  The SEC gets some cash.  The prosecutor declares victory.  The bank gets the signal that this is permissible behavior.  Everybody pats themselves on the back for a job well-done.

And it’s not going to change any time soon, because you don’t bite the hand that feeds you.  Go against the banks and your paycheck somehow never arrives.  Go against the energy companies and the lights don’t turn on.  Go against big media and your campaign commercials don’t air.  Go against the American people…?

Carie:  Who do I write to in order to find out who actually owns my mortgage?  I pay my payments through a servicing company, America’s Servicing Company, but when I was working on a loan modification (ended up getting refinanced at a lower interest rate), I dealt oftimes with Wells Fargo?  I’m confused as to WHO actually owns my house?????  I would love to write a letter to either the servicer OR the bank to get a copy of the actual documents that show who got the money (or who GETS the money) when I pay my monthly payment.  If, as you say, NO one owns my house because NO one can prove they own it…..then why am I continuing to pay my mortgage?  Would appreciate your help with this as I’m confused as to who I need to contact to find out this information.  Thank you.

Barry Schmittou

Oct. 27, 2011, 1:04 p.m.

You or someone you know will be on a Federal or local Grand Jury soon. Please save this !!

Someday there must be prosecutions for the $378 billion dollars that Wachovia Bank laundered for the murderous Mexican drug cartels, and all the other corporate crimes that Obama and Bush have protected as evidenced in Propublica (and other news sources) and combined in the websites and Court filings I’ve linked below.

The Justice For All Act of 2004 is another option. Any citizen can file them in Federal Court.I will be filing some of those in the future regarding all the evidence seen at my links posted in comments on ProPublica.

Additionally, citizens can request an appearance before Grand Juries in some states including Tennessee. I appeared before the Davidson County Grand Jury in 2004.

( It takes repeated efforts !! )

Within one minute I knew the Grand Jury foreman would not seek justice. They refused to investigate.

One year later I added evidence from the Memphis Commercial Appeal, and with the help of a perfect media storm I filed an ethics complaint that caused State Wide headlines and TV coverage and led to the indictment and conviction of Ford.

Here’s a quote from WSMV TV in 2006 :

“Schmittou’s ethics complaint is what led the state to turn the case over to the attorney general’s office and ultimately to a federal grand jury ending in today’s indictment.”

It takes tremendous repeated efforts to get any sign of justice. You will get on the nerves of many. You can’t let that stop you when so many lives are being destroyed.

There are so many crimes being openly committed the evidence will quickly overwhelm the huge majority of people.

Many are not interested until the crimes endanger them, but they do not understand that every average citizen and every living being in the world are in great danger because of the heartless greed that possesses the leaders of the world.

Most people including Christians falsely believe there is nothing they can do to stop huge injustices. I think we are probably all trained to believe that.

The Bible confirms the need to stop injustices including Jeremiah 22:3 :

“Thus says the Lord: Do justice and righteousness, and deliver from the hand of the oppressor him who has been robbed. And do no wrong or violence to the resident alien, the fatherless, and the widow, nor shed innocent blood in this place.”

Some (who may be connected to the criminals) will discourage you and/or attack you, especially if you mention God.

They don’t understand that when you lose everything to corporate crimes you see that God is all we really have, and if we are blessed through him we also have the love of family and friends.

I repeatedly post evidence here because I pray individual citizens on Grand Juries will seek indictments since the Feds are protecting the crimes.

As mentioned you or someone you know will be on a Federal or local Grand Jury soon. If you want much more evidence please see contact me at the email address seen at the very end of

I know more citizens who will also come forward with case evidence if a Grand Jury requests it.

A Grand Jury can also reach me by contacting the U.S. Attorney Jerry Martin in Nashville. He and Obama received certified copies of my Court filing that is seen at :

Obama’s DOL and DOJ Directors also have my contact information.

They read my communications and sometimes respond, but never take action, even though they are very aware that doctors’ paid by MetLife ignored :

(a) Ms. Jacquelyn Addis’s Multiple Sclerosis,

(b) A foot that new mother Joanne Vick broke in five places,

(c) Cardiac conditions of many patients,

(d) And repeatedly endangered psychological patients to the point that U.S. District Judge Richard Enslen wrote :

“Metlife and its henchmen should appreciate that such conduct may itself precipitate the suicide death of a person who has placed implicit trust in their organization. This record is an open indictment of MetLife’s practices and treatment of the mentally-ill and long-term disability benefits.”

** Quotes from numerous Judges that Obama"s DOL and DOJ Directors have ignored are seen by pasting :

Even though my complaint in 2005 led to State Senator Ford’s conviction, I believe it’s likely the U.S. Attorney and Local D.A.s will try to block prosecution of Government officials that is submitted by Grand Jury members, but I pray someday a real Grand Jury full of honest citizens will achieve prosecution of the officials who protect corporate crimes that are destroying the lives of hundreds of millions of people in the world !!

You or someone you know will be on a Grand Jury soon !!

Why would anyone expect SEC to aggressively pursue the creators of “AAA” securities, when the SEC itself was criminally (???) negligent in anointing the three rating agencies as the arbiters of instrument quality for all those pension and insurance investors?

Unbridled power is the problem!  Whether a politician’s name is preceeded with a (D) or (R) you can bet that they are just a part of a “ruling class” syndicate.  Why else would anyone spend millions of dollars to get a job that pays $175,000 a year?

The American free enterprise system, with the Constitution and Bill of Rights laid the foundation for the greatest civilization the earth has ever known.  Unfortunately a systematic polluting of the System with people that sold their souls for power, greed and the ability to “legally steal” and you have the current US Government.

People of lesser education, or lofty arrogance, are persuaded with “I’ll fight for you” promises and cast votes for people who are self serving pigs feeding on the taxpayers.  For almost 50 years of promises, despite having had times of ultimate control, the Democrats have made things only worse for poor people.  Think the “rich” are the problem?  See how many Domocrat and Republicans in Congress (and their families) are “rich”.

The “ruling class” has sides that act like they are fighting for “their side”, when all they are doing is using class warfare to justify confiscation of private income, which they funnel to themselves . . . and continue to promise to deliver things to the poor.

Don’t be fooled by Socialism, Marxism or Communism . . . it may sound good to many but the reality is that these forms of government continually bring out the most evil, wicked, and horrific side of those in power.  Conservative values promote honesty, stability and true equal protection under the law.  Vote for an honest person like Herman Cain.

Peter Hockley

Oct. 30, 2011, 5:54 a.m.

Herman Cain, honest!! He has been lying through his teeth about his connection to the Koch Bros.
You had me until that remark!

Everyone has missed the point.

When invented, Fannie Mae seemed to legitimize the process of mortgage securitization.  Later, Wall Street walked off with that process, and in doing so it also walked off with Fannie’s exemption from the securities laws—colorably in order to “compete” with Fannie on a level playing field.

Fannie was a national mortgage insurance program, a government-run monopoly intended by FDR to prop up small banks and homeowners after the Depression by massively loosening the credit available to homeowners at that time. Fannie had been “privatized” in 1968 by LBJ in a cynical effort to get it off the government’s books. It became apparent in 2006 when Fannie was found to have manipulated its earnings, that Fannie had never really bothered to comply with the US securities laws, even after privatization. The implications of Wall St’s walking off with Fannie’s process went unnoticed.

But it is the duty of government under the securities laws to ensure the markets’ integrity by “regulating” them. It is not Wall St’s duty to advise government what it is failing to see. Mortgage packaging was enterprise formation and to sell them, after packaging them, was a classic securities process—one that lacked the arms’ length transaction between firm (packager) and investment banker that is presumed to exist in the ordinary stock and bond situation.  If Fannie, a fully insured government program, was packaging MBSs and CDOs, who needed securities law regulatory scrutiny? Fannie WAS the government, and taxpayers were 100% on the hook. If Wall St. packaged, there certainly was such a need for scrutiny.

What’s more, when Wall St started copycatting Fannie’s business model, it also copycatted Fannie’s pricing. The market mispriced the risk as just a little bit less than Fannie’s MBSs, because no one realized that to copy Fannie in this context could only be legitimate if all the steps the market robotically assumes are in place with respect to Wall St, actually are in place. Ironically, the government’s successful regulation of Wall St. led everyone to assume that government’s same level of competent scrutiny was present here, too, and thus to bid these prices too high. Out of the gate, MBSs and CDOs seemed to have the same government Good Housekeeping Seal of approval that the rest of the market had.

The securities laws are an imperfect mechanistic substitute for the elements of common law antifraud. Drafted in the 30s, they can be read as applying only to stocks and bonds as understood and traded in the 30s, given the precisionism of its legal language. Laws generally must have some precisionism, for overly broad language can also have untoward consequences. This left the door open to the implication, or the appearance, that whatever Congress had not prohibited in the Securities Acts, was permitted. The intent of the securities laws of course is broader than just stocks and bonds circa 1933. The securities regulators ought to have understood this, given that their legal mandate is to “regulate” the markets, which implies taking full responsibility for their integrity. Particularly as they expanded and changed through time.  But regulators and bureaucrats, by and large, are not big thinkers, and often their power is limited. They focus on doing office procedures set up for them to work on, long ago. The mindset is about little legalisms and small details. They might not see the forest for the trees. If they do spot something, they might often be unable to express it clearly, or to marshall the power, being mere cogs in a cumbersomely large governmental machine, to do anything about it. Look at Brooksley Born.

I have knowledge in this area because I once wrote a long memo for the CFTC as a very young law associate, on Wall St, that took me all of a summer in the very early 80s, on the subject of whether the new derivatives Wall St was in the process of dreaming up (futures on options and vice versa), were securities. I said they were, given the broad antifraud intent of the post-Depression securities laws. I was told later by a junior partner of the firm that my interpretation had caused a heated discussion between the older WWII generation and the more go-go young turks, who were eager to run off to the races and the big bucks on Wall St. Naturally, the memo had plenty of lawyerly wiggle room, given the obvious go-go period then erupting on Wall St and the political trend toward deregulation.

Fred Magovern

Feb. 13, 2012, 1:48 p.m.

Where I take issue with this is that it seems to assume the system is operating poorly. In fact, it is failing by design.

Jesse Eisinger

About The Trade

In this column, co-published with New York Times' DealBook, I monitor the financial markets to hold companies, executives and government officials accountable for their actions. Tips? Praise? Contact me at .(JavaScript must be enabled to view this email address)