it sure looks like the SEC didn't want the public to know about the red flags

Discussion in 'Wall St. News' started by nutmeg, Oct 7, 2008.

  1. Oct. 7 (Bloomberg) -- U.S. Securities and Exchange Commission Chairman Christopher Cox's regulators stood by as shrinking capital ratios and growing subprime holdings led to the collapse of Bear Stearns Cos., according to an unedited version of a study by the agency's inspector general.

    The report by Inspector General H. David Kotz was requested by Senator Charles Grassley to examine the role of regulators prior to the firm's collapse in March. Before it was released to the public on Sept. 26, Kotz deleted 136 references, many detailing SEC memos, meetings or comments, at the request of the agency's Division of Trading and Markets that oversees investment banks.

    ``People can judge for themselves, but it sure looks like the SEC didn't want the public to know about the red flags it apparently ignored in allowing Bear Stearns and other investment banks to engage in excessively risky behavior,'' Grassley said in an e-mailed statement.

    An unedited version of the 137-page study posted to the Iowa Republican's Web site Sept. 26 showed that Bear Stearns traders used pricing models for mortgage securities that ``rarely mentioned'' default risk.

    The firm lost one of its top modelers ``precisely when the subprime crisis was beginning to hit'' and writedowns were being taken, the full report said. ``As a result, mortgage modeling by risk managers floundered for many months,'' according to the unedited document, quoting internal SEC memos from April and December 2007. The comments were removed from the edited version publicly released by the SEC.

    Trading and Markets had oversight of holding companies for the five biggest U.S. investment banks via the Consolidated Supervised Entity Program. The division failed to follow up on ``red flags'' raised by New York-based Bear Stearns's increasingly ``significant concentration of market risk'' from mortgage securities, according to the full document.

    `Failed' Mission

    The SEC, which governed the firm along with the Financial Industry Regulatory Authority, ``failed to carry out its mission in the oversight of Bear Stearns,'' the agency said in both versions of the report. The Federal Reserve will provide $29 billion in financing for JPMorgan Chase & Co.'s March 14 takeover of the investment bank after the government said it stepped in to prevent panic.

    The agency censored the report because ``the requests from the Division of Trading and Markets covered non-public information,'' said SEC spokesman John Nester. The information ``was contained in non-public memoranda and documents.''

    JPMorgan spokesman Brian Marchiony declined to comment.

    A footnote in the uncensored version of the report quotes Bear Stearns Chief Executive Alan Schwartz as saying he hadn't held ``terribly current discussions'' to raise capital for his firm even after the SEC asked in March, two weeks before it failed, about obtaining funds.

    No Help

    While Bear had retained Lazard Ltd. as an adviser, the report quoted Schwartz saying, ```The time it would take to get that done, it wouldn't help.''' The CEO said rumors would cause more damage in the meantime, according to the SEC.

    Schwartz didn't return a phone call for comment.

    The SEC took no action even as Bear Stearns provided more collateral to lenders as they lost trust in the 85-year-old firm, the unedited report said.

    Ratio Drop

    The agency removed a section of the publicly distributed report showing that the Division of Trading and Markets knew Bear Stearns's capital ratio had dropped to 11.5 percent in March from as high as 21.4 percent in April 2006. The ratio measures assets, adjusted for risk, relative to a firm's equity. Ten percent is the minimum standard under international banking regulations.

    Regulators from the unit ``inquired whether Bear Stearns was contemplating capital infusions,'' even though they didn't formally or informally pressure the firm to do so, according to the unedited version.

    Under the voluntary Consolidated Supervised Entity Program, the SEC couldn't force the firm to raise capital.

    The CSE ``was fundamentally flawed from the beginning, because investment banks could opt in or out of supervision voluntarily,'' Cox said on Sept. 26 in announcing the program's shutdown.

    ``This chain of events raises very significant questions about the supervision of all types of financial institutions, not just investment banks,'' said a written response to the inspector general's report from the Trading and Markets unit, headed by former agency chief economist Erik Sirri.

    ``With respect to Bear Stearns, the staff applied the relevant international standards for holding-company capital adequacy in a conservative manner,'' the unit said.

    `Run on the Bank'

    The staff ``added a holding-company liquidity requirement; and yet, they couldn't withstand a `run on the bank,''' the response said.

    Kotz, the inspector general, declined to comment, as did Cox.

    Bear Stearns was able to ``create capital'' by inflating the value of assets including mortgages, according to the unedited study. Two days before it was rescued, the firm paid out $1.1 billion to ``numerous counterparties to squelch rumors'' it couldn't meet its margin calls, the full report said. The finding didn't appear in the censored version.

    `Generous Marks'

    The firm ``tended to use the traders' more generous marks for profit and loss purposes,'' it said.

    Trading and Markets unit members saw that Bear Stearns traders dominated less-experienced risk managers, the inspector general reported in sections that were excised from the public report.

    ``As trading performance remained strong for years in a row, it clearly wasn't career-enhancing to stand in the way of increasingly powerful trading units demanding more balance sheet and touting their state of the art risk-management models,'' said Brad Hintz, an analyst at Sanford C. Bernstein & Co. in New York, and a former chief financial officer at Lehman Brothers Holdings Inc.

    The Basel Committee on Supervision published revised guidelines in 2004 that allowed global financial institutions to ``rely on their own internal estimates of risk components'' to help determine the amount of capital they needed.

    By censoring the report, ``the SEC didn't do well by the public and the inspector general didn't do well by the public,'' said Tom Cardamone, managing director of the Washington-based Global Financial Integrity Program. ``The buck has to stop someplace. Joe Main Street has to rely on the professionalism of the people doing the job.''

    For Related News:

    To contact the reporter on this story: Mark Pittman in New York at or; Elliot Blair Smith in New York at or; Jesse Westbrook in Washington at

    Last Updated: October 7, 2008 00:00 EDT
  2. Simple answer to it all.

    The SEC exists within the Executive Branch of the United States Government. Cox is appointed by Bush. Bush is for BIG business. If Cox would have done anything questionable to Bear Stearns, his job and political standing would have come into question.

    Same goes for Hank Dickhead Paulson. Appointed by Bush and all for Wall Street and BIG business at the expense of us sheep.
  3. Until Instant Death is a possibility, the people in power will rake you over the coals.

    "But decisions made at a brief meeting on April 28, 2004, explain why the problems could spin out of control."

    "On that bright spring afternoon, the five members of the Securities and Exchange Commission met in a basement hearing room to consider an urgent plea by the big investment banks.

    They wanted an exemption for their brokerage units from an old regulation that limited the amount of debt they could take on. The exemption would unshackle billions of dollars held in reserve as a cushion against losses on their investments. Those funds could then flow up to the parent company, enabling it to invest in the fast-growing but opaque world of mortgage-backed securities; credit derivatives, a form of insurance for bond holders; and other exotic instruments."

    "A lone dissenter — a software consultant and expert on risk management — weighed in from Indiana with a two-page letter to warn the commission that the move was a grave mistake. He never heard back from Washington."

    "The proceeding was sparsely attended. None of the major media outlets, including The New York Times, covered it.

    After 55 minutes of discussion, which can now be heard on the Web sites of the agency and The Times, the chairman, William H. Donaldson, a veteran Wall Street executive, called for a vote. It was unanimous. The decision, changing what was known as the net capital rule, was completed and published in The Federal Register a few months later.

    With that, the five big independent investment firms were unleashed.

    In loosening the capital rules, which are supposed to provide a buffer in turbulent times, the agency also decided to rely on the firms’ own computer models for determining the riskiness of investments, essentially outsourcing the job of monitoring risk to the banks themselves.

    Over the following months and years, each of the firms would take advantage of the looser rules. At Bear Stearns, the leverage ratio — a measurement of how much the firm was borrowing compared to its total assets — rose sharply, to 33 to 1. In other words, for every dollar in equity, it had $33 of debt. The ratios at the other firms also rose significantly."
  5. What I don't understand is, Chris could make 10X his salary out in the private sector, anyday he chooses.
    Why hang around and put up with this BS?
  6. Interesting question. It will be interesting to see where these appointed guys end up after their "service" is over and how much they end up making.
  7. Read this report which leaked from within the SEC. Public getting ripped off on options trades. Problem has existed for years. SEC's strategy? Act like nothing has happened!

    In the media, the SEC promises to deal harshly with violations in the securities markets, but I can guarantee you nothing will happen here. It's too embarrassing for the SEC - and has been for years.

    Spam this to all your securities friends.
  8. I'm not saying this is true in all cases, but I have read of examples (bio's) of people who have made their wealth in the private sector and then feel comfortable moving over to the public sector because the wealth aspect is not all that important as before.

    This is the opposite of people who begin working for the gov't and leaving to work in the private sector for the money.

    One does it for the money the other does it to give back.

    Someone like Paulson is able to bring a sincere private business point of view to career bureaucrats. People often find motives where there none.
  9. sho-tim


    The article says bsc was above it's capital requirement. Do you want the sec to go public every time an entity gets close to it's capital requirement? That's what Chucky Shumer did. Is he a hero to you? Do you understand that doing so will almost guarantee a run and failure?

    The traders used more generous marks on says the article. Well, if the writer of the article knows what the "real" marks were for the inventory, why doesn't he say so? Without more proof, this is a BS accusation.

    How long is it going to take to get the idea out there that this is all, I mean 100% attributable to fnm and fre? Every model out there had to assume that fnm and fre were AAA and other types of debt would be spread off of it. When the sht hit the fan with the gse's, you had a black swan, baby. The gse's were implicitly gov't debt, no matter what their charters said, and the gov't admitted as much in the bailout plan. When the prices of them cratered, so did everything spread off of it, including cdswaps.

    Tell ya what. If the exchanges shut down for some reason, and your investments are unreachable, that's a black swan. And if there is any justice in this world, all the people that are now complaining about the i-banks should have someone stair them in the face and tell them that "you took too much risk, you should have known better, you should have planned for just such an eventuality, and you should starve for being such an idiot".
  10. Had all this shit not blown up in our faces, those guys would have made billions for doing nothing after public office. Now they (and we) are screwed.

    If justice prevailed they would all die in prison making little rocks out of big rocks, but that will never happen in our corrupt society.

    Who knows what graft was sent their way while they worked on it.
    #10     Oct 16, 2008