Canada’s first criminal conviction for illegal insider trading

Canada’s first criminal conviction for illegal insider trading occurred on November 6, 2009 when Justice Robert Bigelow of the Ontario Court of Justice accepted a guilty plea from Stan Grmovsek. Sentencing was delayed until January 7, 2010 to facilitate the conclusion of regulatory proceedings brought by the Ontario Securities Commission (OSC) and a civil action brought by the United States Securities and Exchange Commission (SEC) against Grmovsek and his co-accused, Gil Cornblum. Tragically, Cornblum committed suicide on October 27, 2009, a day before he was scheduled to plead guilty. Cornblum and Grmovsek collaborated in a deliberate and prolonged illegal insider trading scheme.

Cornblum and Grmovsek, who were classmates at law school, started the illegal insider trading scheme after their graduation in 1994. Cornblum sought and obtained material, non-public information about pending corporate transactions that he passed on to Grmovsek who then executed trades in the securities of the corporations involved in the corporate transactions for a profit that they split between them.

Cornblum’s conduct reads a bit like a spy novel. During the time of the illegal insider trading, he worked at a number of law firms including, Sullivan and Cromwell, LLP, New York; Schulte Roth and Zabel, LLP, New York; and Dorsey, Whitney, LLP, Toronto. Cornblum received some of the material non-public information in his role as counsel to certain issuers on pending corporate transactions. In addition, he gained material non-public information through conversations with colleagues or other counsel. However, Cornblum also resorted to more clandestine-like activity to obtain material non-public information. For example, he used the night secretarial staff’s temporary passwords to search for confidential information in the computer databases at the law firms that he worked for. He also conducted early morning searches through the hallways, photocopy rooms, fax machines and files of his colleagues at the firms for documents that contained confidential information about pending transactions that he was not involved in.

The illegal insider trading scheme spanned a 14 year period from 1994 to 2008, but the trading was generally conducted in two time periods: September 1996 to August 2000 and May 2004 to April 2008.

In total, Cornblum tipped Grmovsek and Grmovsek traded while in possession of material, non-public information about 46 corporate transactions involving securities that were publicly listed in Canada and the United States.

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SEC Adopts New Restrictions on Short Selling

Short selling is a convenient scape goat for market volatility and downward spiraling of stock prices, so it was to be expected that the SEC would adopt new restrictions on the practice, which it did at today’s open meeting.  The SEC’s new rule will place certain restrictions on short selling when a stock is experiencing significant downward price pressure and is intended to promote market stability and preserve investor confidence.  According to SEC Chair Mary Schapiro, “the rule is designed to preserve investor confidence and promote market efficiency, recognizing short selling can potentially have both a beneficial and a harmful impact on the market.  It is important for the Commission and the markets to have in place a measure that creates certainty about how trading restrictions will operate during periods of stress and volatility.”

This alternative uptick rule (Rule 201) is designed to restrict short selling from further driving down the price of a stock that has dropped more than 10 percent in one day. It will enable long sellers to stand in the front of the line and sell their shares before any short sellers once the circuit breaker is triggered.  Rule 201 imposes restrictions on short selling only when a stock has triggered a circuit breaker by experiencing a price decline of at least 10 percent in one day. At that point, short selling would be permitted if the price of the security is above the current national best bid.

Commissioner Paredes dissented with a thoughtful statement:

My comments center around two related themes. First, the essential rationale behind the rule is that the short sale restriction, if implemented, will bolster investor confidence. This claim is rooted in conjecture and is too speculative to form a properly cognizable basis for adopting the alternative uptick rule. Indeed, a more thorough analysis indicates that the rule amendments are just as likely, if not more so, to erode investor confidence instead of boosting it. Second, there is an insubstantial empirical basis to support the Commission in adopting the rule, especially in light of the rigorous economic analysis that led the SEC to repeal the “original” uptick rule in 2007 after years of study. The Commission bears the burden to justify its rules. It has not done so in this instance.

Rule 201 includes the following features:

Short Sale-Related Circuit Breaker: The circuit breaker would be triggered for a security any day in which the price declines by 10 percent or more from the prior day’s closing price.

Duration of Price Test Restriction: Once the circuit breaker has been triggered, the alternative uptick rule would apply to short sale orders in that security for the remainder of the day as well as the following day.

Securities Covered by Price Test Restriction: The rule generally applies to all equity securities that are listed on a national securities exchange, whether traded on an exchange or in the over-the-counter market.

Implementation: The rule requires trading centers to establish, maintain, and enforce written policies and procedures that are reasonably designed to prevent the execution or display of a prohibited short sale.

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Former UBS Banker Settles Insider Trading Claims

A former senior executive at the Swiss banking giant UBS has agreed to pay a $2.75 million settlement to resolve claims of insider trading in auction-rate securities, the New York attorney general’s office saidThursday.

The executive, David Shulman, was formerly the global head of the municipal securities group and the head of fixed income for the Americas unit of UBS Securities.

The New York attorney general, Andrew M. Cuomo, and regulators in other states are conducting civil and criminal investigations to determine whether Wall Street firms that sold auction-rate securities did so improperly by portraying them as safe when they were not. The securities, which are typically sold to corporations, wealthy individual investors and municipalities, are debt instruments issued by nonprofit groups, cities and loan companies.

Mr. Shulman is the second former UBS executive to be identified in Mr. Cuomo’s investigation. In October 2008, David Aufhauser reached a $6.5 million settlement with Mr. Cuomo’s office to resolve claims of insider trading in auction-rate securities. Mr. Aufhauser was general counsel of UBS’s investment bank, and before that was the top in-house lawyer at the Treasury Department and served on the Justice Department’s corporate fraud task force.

The attorney general’s office said that its investigation into UBS included an examination of Mr. Shulman’s personal trading of auction-rate securities. It said that from August 2006 to August 2008, Mr. Shulman was UBS’s highest-ranking executive with daily responsibility for the Wall Street firm’s auction-rate securities program. Mr. Shulman left UBS in August 2008, after being placed on administrative leave a month earlier.

Mr. Cuomo’s office said that in early December 2007, Mr. Shulman discovered that the value of auction-rate securities, in particular for those tied to student loans, was tottering, even as the bank continued to sell them to investors. It said that Mr. Shulman instructed his broker to sell, ahead of auction for the securities, $1.45 million in student-loan auction-rate securities that he held. The securities were sold to UBS’s short-term trading desk, which Mr. Shulman oversaw. Two months later, in February 2008, the $300 billion market for auction-rate securities came to a standstill.

Mr. Cuomo’s office has barred Mr. Shulman from working in the securities industry until January 2011.

Mr. Cuomo sued UBS in July 2008, accusing Mr. Aufhauser and six other executives of personal insider trading with $21 million in auction-rate securities, based on their knowledge that the market was collapsing.

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Elder Financial Abuse Rampant During Economic Downturn

Mention the phrase “elder abuse” and most lawmakers conjure up images of the fleecing of Brook Aster’s estate or an elderly relative kept in squalid conditions.  Cases like these usually make for excellent tabloid fodder.  In fact, recently the New York Post prominently featured a story about Cher Thompson, a young woman who allegedly bilked a near deaf 90-year-old man with dementia of his life savings.

But what gets lost is perhaps the most prevalent form of elder abuse-financial elder abuse by stockbrokers.  FINRA, Wall Street’s governing and enforcement body, defines financial elder abuse as the “misuse of an older adult’s money or belongings by a relative or person in a position of trust.”

A clear cut example recently made headlines in a number of financial trade publications.  Two stockbrokers named Thomas B. Cooper and Peter L. Boorn at Beverly Hills-based StockCross Financial Services Inc. allegedly bilked a 95-year-old investor named David Wolfson of nearly all his assets and put his house at risk after recommending unsuitable and risky investments.  The brokers dropped Mr. Wolfson as a client once they drained him of his cash.  An arbitration panel awarded Mr. Wolfson triple damages in the amount of $1.6 million, an unprecedented amount, underscoring the severity of the abuse.

Exploiting the elderly is actually quite common on Wall Street.  There isn’t a lot of money to be made managing the accounts of risk-averse investors who are looking to clip coupons and live off the interest income from their investments. Some Wall Street firms just can’t help themselves and see the elderly as ripe for the picking.

Another recent example was the case of Sergio M. Del Toro.  Mr. Del Toro is now banned from the securities industry for defrauding a 90-year-old Minnesota man who lived in a nursing home of $511,000.  Mr. Del Toro recommended that the elderly man put his entire net worth into the company stock of a firm called 3rd Dimension, for which there was no market or publicly quotable pricing.  Mr. Del Toro’s alleged motiviation was a classic one: he received a 15 percent commission, or about $76,650.

More: Elder Financial Abuse Rampant During Economic Downturn

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Judge Rakoff Approves Settlement, Calling it “Half-Baked Justice at Best”

“While shaking its head,” the Court (i.e., Judge Rakoff) approved the proposed consent judgment between the SEC and Bank of America settling the two enforcement actions, one of which was scheduled to begin trial on March 1.  Finding that the settlement was “half-baked justice at best,” nevertheless the judge felt constrained by the law’s requiring the court to give substantial deference to the SEC as the regulatory agency having principal responsibility for policing the securities markets.  Even more weighty in his view were considerations of judicial restraint:

We can balk when a bank tries to escape the implications of hiding material information from its shareholders, and we can protest when the regulatory agency in charge of deterring such misconduct seems content with modest and misdirected sanctions; be, in the words of a great former Justice of the Supreme Court, Harlan Fiske Stone, “the only check upon our own exercise of power is our own sense of self-restraint.”

The opinion (Download SEC V BOA) is well worth reading in its entirety, but here are some specifics:

It is clear to the court that the BofA proxy statement failed adequately to disclose the Bank’s agreement to let Merrill pay $5.8 billion in bonuses and also failed adequately to disclose the Bank’s ever-increasing knowledge that Merrill was suffering historically great losses during the fourth quarter.

It is also obvious to the court that these failures to disclose were material.

What is not obvious is whether these material nondisclosures resulted from negligence or from more culpable conduct.  Because the New York AG’s complaint alleges the latter, the court was obliged to review deposition testimony provided by the AG  to determine if the SEC’s conclusions were unreasonable.  Specifically, the court reviewed the testimony concerning the termination of BofA GC Mayopoulos’ employment.  While the SEC and the Bank assert his firing was done to move current CEO Brian Moynihan into the position, the New York AG alleges Mayopoulos was fired because he was pressing for more disclosure.  The court, after its review, concludes that “none of the evidence directly contradicts the Bank’s assertion that Mayopoulos’ termination was unrelated to the nondisclosures or to his increasing knowlege of Merrill’s losses.”  The judge, however, makes it clear that he is not making any determination as to which of the two competing versions of the events is the correct one.

As to the prophylactic measures designed to prevent nondisclosures in the future, the court finds that the remedial steps “should help foster a healthier attitude of ‘when in doubt, disclose.”

As to the $150 million penalty, the court continues to find it problematic.  The amount is very modest, indeed “paltry.”  A bigger problem, and one that the judge emphasized in his disapproval of the first proposed settlement, is that payment of the penalty by the corporation means that innocent shareholders bear the loss caused by the managers, rather than those managers themselves.  Because the distribution will be structured so that former Merrill shareholders who are now BofA shareholders will not receive a distribution, the effect serves as a renegotiation of the price paid to Merrill shareholders by the BofA shareholders.  But the effect is “very modest.”

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SEC Announces Agenda for Feb. 24 Open Meeting

The subject matter of the Open Meeting will be:

Item 1: The Commission will consider whether to adopt amendments to Rules 201 and 200(g) of Regulation SHO relating to short sale restrictions.

Item 2: The Commission will consider whether to publish a statement regarding its continued support for a single-set of high-quality globally accepted accounting standards and its ongoing consideration of incorporating International Financial Reporting Standards into the financial reporting system for U.S. issuers.

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SEC Charges 5 With Insider Trading

The Securities and Exchange Commission has charged five Florida residents with insider trading that allegedly turned a $1 million profit, court papers show.

The SEC charged former chief financial officer of World Fuel Services Robert Tocci and two current company executives, Richard White and Steven Scoppetuolo, with trading stock just prior to a World Fuel Service earnings announcement in 2007, The Miami Herald reported Wednesday.

Stockbroker Sarang Ahuja and American Airlines pilot Eric Gordon were also charged with violating trading laws. Gordon and White are members of the same country club, court papers say.

The charged allege Scoppetuolo informed his “best friend” Tocci the firm would announce disappointing financial reports. Using a short-sell strategy, White, Scoppetuolo and Tocci unloaded shares before the reports were made public and bought them back at a profit when prices dropped, the SEC said.

Instead of losing $34,000, Tocci made a profit of $262,000, court paper say.

The World Fuel attorney Alexander Lake said the company is cooperating with the SEC, while the attorneys for all five defendants denied the charges.

“There was no tip, there was no material information — the bad news in this case was widely known and public for months,” Ahuja attorney Chris Bruno said.

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SEC’s Investor Advisory Committee Announces Agenda for Feb. 22 Meeting

The Securities and Exchange Commission Investor Advisory Committee will hold an Open Meeting on Monday, February 22.

The agenda for the meeting includes a report from the Education Subcommittee, including a presentation on the National Financial Capability Survey, a report from the Investor as Purchaser Subcommittee, including a discussion of fiduciary duty and mandatory arbitration, a report from the Investor as Owner Subcommittee, including recommendations for the Committee on Regulation FD and proxy voting transparency, as well as reports on a work plan for environmental, social, and governance disclosure and on financial reform legislation, and discussion of next steps and closing comments.

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Securities America and Medical Capital Holdings Investigation

Zamansky & Associates is investigating potential investor claims against Securities America, an independent brokerage firm, as well as its parent company, Ameriprise Financial, for the sale of private placement notes in Medical Capital Holdings, a medical receivables company that is facing charges of fraud from the Securities and Exchange Commission.  We are also looking into claims against other broker-dealers who sold notes issued by Medical Capital Holdings.

According to reports, the SEC has accused Medical Capital Holdings of fraud for the sale of $700 million of private securities in the form of notes. Since that time, a court-appointed receiver has evaluated Medical Capital’s assets and has questioned the structure of the six deals Medical Capital sold from 2003 to 2008. In total, Medical Capital raised $2.2 billion from investors.

Apparently, brokers continued to sell Medical Capital notes even after an executive at Securities America sent an email to an official at Medical Capital, in which he expressed grave concerns about a possible “run on the bank” at Medical Capital.

Source:Securities America and Medical Capital Holdings Investigation

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Prosecutors Set Sights on Madoff Kin

Federal prosecutors in Manhattan are pursuing criminal tax-fraud cases against Bernard Madoff’s brother and sons, according to people familiar with the matter.

His brother, Peter Madoff, was the chief compliance officer of Bernard L. Madoff Investment Securities LLC. Sons Mark and Andrew Madoff helped run the firm’s market-making division, which was separate from the investment arm where Bernard Madoff perpetrated his multibillion-dollar Ponzi scheme. Through representatives, they all have denied knowledge of the fraud.

Lawyers for Peter Madoff, who is in his 60s, didn’t respond to requests for comment about the tax-fraud probe. Martin Flumenbaum, a lawyer for Mark Madoff, 45 years old, and Andrew Madoff, 43, said in a statement that they had no prior knowledge of Bernard Madoff’s crimes and contacted authorities immediately after their father told them of his fraud. The sons “continue to cooperate fully with the authorities in their ongoing investigations,” he said.

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