Bear Stearns And The Criminalization of Failure

Posted by John Carney, Jun 16, 2008, 3:45pm

Federal prosecutors are preparing to file criminal charges against managers of two Bear Stearns hedge funds that collapsed at the dawn of the credit crisis last year. Although it's being described as the conclusion of a year long investigation, it seems very likely that Ralph Cioffi and Matthew Tannin there wouldn't be facing criminal charges if Bear Stearns hadn't collapsed.

"Of course what's really happening here is that the hedge fund managers are taking the fall for the collapse of Bear, and the even broader reverberations from that, including the controversial merger, the bailout and the credit markets' woe," law professor Larry Ribstein writes. "As with Enron, the public is screaming for action. When in doubt, throw somebody in jail. The public will eventually calm down, by which time the now impoverished defendants will be in jail or being exonerated on appeal."

We wonder if the urge to prosecute doesn't arise from an unrealistic confidence in markets. Regulators and prosecutors believe that preserving investor confidence is their mandate. Massive losses due to innocent if colossal errors about market directions undermine market confidence but there's little a government official can do about that. If your goal is restoring investor confidence, you're extra-motivated to find criminal wrong-doing and fraud because you can reassure investors that their losses are do to bad apples rather than risk inherent in the markets.

The Enronization of Bear [Ideoblog]

0Recommend this! 14Comments
Posted in: Bear Stearns, Regulators
Tags: Matthew Tannin, Ralph Cioffi

Comments

Posted by guest, Jun 16, 2008 4:10PM

Enron was "an entire criminal enterprise" according to one Houston-based US Attorney. How did market's inherent risk cause the Raptors? How did the market's inherent risk cause Enron Broadband? The market doesn't criminalize anything. People do. If you fail to win the World Series because you honestly lost the games you haven't broken any laws. If you fail to win the World Series because you conspired to lose it for filthy lucre, not only have you failed but you have become a criminal doing it. Enron was the latter. We'll have to wait and see about BS.

Posted by guest, Jun 16, 2008 4:15PM

@4:10

I'll see you and raise you: observe the way to bludgeon risk-taking out of an economy (and everybody knows what that means).

PSD's - OUT! Beaurocrats Making Failure Illegal - IN!

Posted by guest, Jun 16, 2008 4:17PM

cute type. I meant, "bureaucrats."

Posted by guest, Jun 16, 2008 4:23PM

I don't see any risk being taken out of any market these days. Actually it has grown bigger. If Enron's troubles and subsequent government reactions were designed to fix things, why are we going to write down a trillion bucks of CDO positions ...?

I am beginning to get the feeling that no one truly has their hands and or brains and or heads wrapped around the nature of risk these days. If risk is water in a rain barrel and you stick your little MBA quanted hands deep into the barrel, o shit yeah, you have your hands on that risk but at the same time is not all in your hands...its ALL OVER YOU including that little part your hands surround. You can drown in a few inches of water, you know.

Posted by american bandersnatch, Jun 16, 2008 4:29PM

@4:10

"How did the market's inherent risk cause Enron Broadband?"

I have to assume you were still in high school during the internet bubble and don't remember the vast amount of money spent by seeminly intelligent people to fund company after company that died with their only eulogy being the laughter of fuckedcompany.com.

Posted by guest, Jun 16, 2008 4:51PM

Cioffi and Tannin were under investigation long before Bear Stearns tanked. It seemed to me at the time that they were being pursued because of the ire of investors who lost money in the two hedge funds. As I'm sure everyone can remember, Bear was not a master of investor relations at the time.

Cioffi's sin was to talk up the funds to investors in April and May of 2007 when the funds were extremely volatile but to move his own money out. He maintains he was going to start a third fund, and the Bear conflicts board had signed off on the withdrawal of his own funds for this purpose. People who think there was foul play think Cioffi's story, though it is backed up by the record, was just a subterfuge.

When the funds fatally plunged in June 2007, a lot of investors were surprised, dismayed, and economically hurt. However, even after the events of June 2007, who foresaw the enormity -- and volatility -- of the subprime mortgage crisis? I would think a year later, even the angriest of investors could see that the subprime mortgage crisis was a bigger problem than venal management of two hedge funds.

Cioffi cooperated with the federal investigation from day one. If the federal evidence is weak, which I think it is, I can only hope for a quick acquittal.

Posted by guest, Jun 16, 2008 4:55PM

Utterly ridiculous if these guys are charged. Unless those emails CLEARLY show that the defendants believed that the market was failing as they promoted the health of the funds to investors I can't see how the prosecution can prove that they WILLFULLY misled/defrauded their investors. This is a case where the EDNY prosecutors are caving to public/media demands to hold someone "accountable" despite the lack of evidence in the case. In the end, there will be a bench trial (no way any defense attorney would allow a jury of common folk to decide the issue) and the defendants will be found not guilty. Additionally, the subsription agreement of the fund probably had a provision stating that the fund would pay for any legal costs of the managers. Obviously this would only be possible if some money was set aside (or if the parent fund guaranteed the fund's obligations), but it'll be humorous to see the reaction of the NYTimes-reading public when the managers walk out of court free men, with their legal costs paid for by investors. - legal guy

Posted by guest, Jun 16, 2008 4:56PM

Most of the dot coms were honest about their burn rate. Enron pulled out its profit numbers using tricks that make the current fad of booking a profit off of your lowered debt rating look honest.

Posted by guest, Jun 16, 2008 6:34PM

bandhersnatch, do you even understand what happened at Enron Broadband? Please google or wiki it and get back to us.

Posted by guest, Jun 16, 2008 6:42PM

Look at wiki to find out what happened at Enron? Shows the depth of those who are so quick to use Enron as an example of everything.

Posted by guest, Jun 16, 2008 8:05PM

I used to work at BSAM and people should have no doubts about the high degree of both fraud and incompetence. There were widespread doubts internally about the veracity of the returns of the Cioffi funds YEARS before they blew up. I personally heard marketers say they thought the returns of the Cioffi funds were complete BS but they still pitched them as low risk, low volatility investments to clients. There is an EM fund, that people highlight as the one great success of BSAM, whose modus operandi was to flat out lie about the existence of hedges to make investors believe that the fund was much less risky than it was. The PM massively misrepresented how much money she had invested in the fund, which was very little. I could go on and on but the point is that this is not a case of overzealous prosecutors.

Posted by guest, Jun 16, 2008 9:41PM

"innocent if colossal errors about market directions"

Oh come on! No innocent errors were made. It was a gigantic gamble where the short-term payoff warranted the risk, and people were being handed sack loads of compensation to do what they did.

What's likely is that more SOX flavour oversight will be forced upon banks, opening up yet more opportunities for risky gambles to be hidden in the beurocratic complexity. Just look at UBS, a bank that prided itself on its risk aversion and its complex, all-pervasive processes and procedures. The bigger the buerocracy, the more opportunities exist to fool yourself that you understand risk, or for big market gambles to take place while people accountable for oversight drown in the paperwork

Posted by guest, Jun 16, 2008 9:41PM

Hi Guest 8:05PM

Any truth in the rumour that the trading desk asked Cioffi and co to park large quantities of sub-prime over quarter end and then dk'd the trade when the values tanked ????

Posted by guest, Jun 17, 2008 6:09AM

"Something must be done. This is something. Therefore we must do this."

Where would we be without politician's logic?

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