Wall Street's Get Out of Jail Free Card

Written By Jimmy Mengel

Posted April 8, 2013

Let me ask you something…

How many of your coworkers are breaking the law?

Wager a quick guess.

Maybe that quiet fellow who mainly keeps to himself and sits in the back corner is up to something? What about the rambunctious temp, maybe she’s got some non-prescription tricks up her sleeve? The wily accountant sure drives a nice car. I wonder if he’s cooking the books…

In most office environments, you might chalk such feelings up to paranoia and jealously. Unless you’re employed at the local prison, I doubt you work with more than one or two legitimate criminals. 

That is, of course, unless you happen to work on Wall Street.

A new survey of hedge fund managers revealed 30% of hedge fund managers have personally witnessed criminal misconduct in their own offices.

Keep in mind those were the 30% who admitted illegal activities were happening.

According to my wife, who designs surveys, that number may be skewed further by the social desirability bias — that is, people don’t want the fact that they spend most of their waking hours with known criminals to reflect poorly on them.  

In a recent survey about surveys, an astounding 81% answered “yes” when asked if people lie when asked survey questions. 

In any case, 30% is a startling and large percentage for such a question, though I suspect the real number is even higher. And there are even more startling results from this poll…

The survey also found:

  • 46% of respondents reported their competitors likely have engaged in unethical or illegal activity in order to be successful.

  • 35% of respondents reported feeling pressured by their compensation or bonus plan to violate the law or engage in unethical conduct, while 25% of respondents reported other pressures that might lead to unethical or illegal conduct.

  • 30% of respondents reported they had personally observed or had first-hand knowledge of wrongdoing in the workplace.

  • 29% of respondents reported it was likely they would be retaliated against if they were to report wrongdoing in the workplace.

  • 28% of respondents reported that if leaders of their firm learned that a top performer had engaged in insider trading, they would be unlikely to report the misconduct to law enforcement or regulatory authorities; 13% of respondents reported leaders of their firm would likely ignore the problem.

  • 13% of respondents reported hedge fund professionals may need to engage in unethical or illegal activity in order to be successful, and an equal percentage would commit a crime (insider trading) if they could make a guaranteed $10 million and get away with it.

  • 87% of respondents would report wrongdoing, given the protections and incentives such as those offered by the SEC Whistleblower Program, while 83% of respondents were unaware this important program exists in the first place.

  • 54% of respondents reported the SEC is ineffective in detecting, investigating, and prosecuting securities violations.

Within the last week alone, we’ve seen egregious cases of this phenomenon…

Former Goldman Sachs trader Matthew Taylor just pleaded guilty to wire fraud. He defrauded his employer by conducting a $8.3 billion futures trade with no authorization whatsoever. His overall positions at Goldman Sachs exceeded internal risk guidelines “on the order of 10 times.”

This is the type of fraud that goes on supposedly behind the backs of the higher-ups. So you can imagine the type of damage done when firms are all working together…

All in all, Taylor’s risky bets cost Goldman $188 million and could land Taylor in prison for up to 41 months, a sentence that seems like child’s play for such a large fraud case. (But at least someone may finally going to jail).

Unlike Taylor, former Goldman Sachs chief and governor of New Jersey Jon Corzine is still walking around a free man, despite overseeing the epic MF Global collapse in 2011. While under his control, MF Global lost its clients close to $2.1 billion.

A new FBI report released last week sheds some light on who knew what and when: Investigators discovered an “unprecedented use of money in customer trading accounts to cover liquidity gaps as the company teetered on the brink” and these “glaring deficiencies were long known to Corzine and management, yet they failed to implement sufficient corrective measures promptly,” FBI director Louis Freeh wrote in the report.

Yet Corzine is not facing any criminal charges — and continues to blame others outside of the company for its collapse.

I wonder why the Justice Department hasn’t stepped forward?

The Washington Time‘s editorial page has a pretty good idea…

Mr. Corzine raised $500,000 for the president’s re-election campaign. He was even considered for a presidential appointment before MF Global collapsed. Peter Schweizer, president of the Government Accountability Institute, observed in an op-ed column in this newspaper that MF Global was a client of Attorney General Eric Holder’s former law firm, Covington & Burling, where many liberals go to do good and stay to do well. Lanny Breuer, the former head of the Justice Department’s criminal division, has just left the Justice Department to return to Covington & Burling, where he expects to earn $4 million annually. Covington’s list of clients is studded with the elites of Wall Street players.

Imagine that.

Jim Chanos, one of America’s most famous short sellers and professor of a history of financial fraud course at Yale, gave an interview this week about the systemic fraud plaguing our financial system, long after the 2009 collapse.

Chanos’ notes dovetail nicely with the survey results:

They asked these chief financial officers if they’ve ever been asked to falsify their financial statements by their superior. Now, the chief financial officer’s superior is the chief executive officer, or the chief operating officer — basically, the boss.

It was a stunning — of course, anonymous — survey: 55% of the CFOs indicated they’d been asked, but did not do so; 12% admitted that they’d been asked and did so; and then 33% said they’d never been pressured to do that.

In effect, only one-third of the companies in the S&P’s 500 at that time did not have a CEO or COO try to pressure their financial officer to falsify financial results.

So this is agency risk writ large. Investors need to know that. They need to know that an awful lot of games are being played with the numbers and with disclosure, and they’ve got to be on their guard.

Chanos also lamented at how flaccid our regulators and law enforcement are in actually combating fraud:

Too-big-to-fail is also too-big-to-jail. We now have admissions by the federal government that, in fact, this behavior was not extensively examined or investigated because of systemic issues.

It raises an interesting point, doesn’t it? Because if now, as the senior member of a bank, or the board of a bank, I know that there are no criminal penalties for breaking the rules, don’t I have a fiduciary responsibility to my shareholders to actually play fast and loose? Because if I get caught, that’s just the cost of doing business?

I know it’s a frightening thought, but if carried to its logical extreme — if truly people believe that because of their size, they can’t be prosecuted, it actually brings forth a new issue of moral hazard extreme: illegal behavior. That’s why equality under the law is an important concept, one that is being violated now.

Chanos ended his interview by invoking legendary TV mobster Tony Soprano. While cautioning his thugs about expanding their system of rackets, he warns them to be careful because: “We don’t got one of these Enron things going.”

And neither do you nor I.

It’s Insider examples like these that further disenfranchise individual investors like you and me.

They serve as yet another reason to maintain financial independence. 

And that’s why we prefer to live life on the Outside. Because if we got busted behaving like these Wall Streeters, the only insider trading we’d be doing is bartering for hooch in prison.


Jimmy's Sig 

Jimmy Mengel for The Outsider Club