I like taking cheap shots at the SEC as much as the next guy, maybe more, so when I see a headline like “The SEC is investigating Michael Milken” it’s tempting to say “oh, yeah, he supposedly did some insider trading in the mid ’80s, so it makes sense that the SEC would be getting to it now.”1 But no, turns out they got that one already; this is new (newish) news:

Milken’s settlement with the SEC for his role in the 1980s Wall Street scandals allows him to manage his own money. But he is banned from acting as an investment advisor or broker. The SEC is looking at whether Milken is violating that ban by effectively acting as a manager of Guggenheim [Partners] investments beyond his own, according to sources familiar with the investigation. The question is: Has Milken provided advice in exchange for some form of compensation? The SEC is looking at a number of transactions that Milken has done with Guggenheim. In one instance being investigated, Milken and the firm jointly invested in an energy company called Milagro, which says the infusion helped it buy the Gulf Coast operations of Petrohawk Energy for $825 million in 2007.

From this brief description it sounds like there is a genuinely interesting issue here, which is: what is advice? Also, what is compensation? So two interesting issues I guess.2 One could imagine a scenario where Milken sources the Milagro investment for himself, the company needs more money, and Milken talks about the idea with his guys at Guggenheim, who after all manage some $800 million of his money and with whom he chats frequently. Guggenheim invests alongside Milken, and because Milken came up with the idea and had the contacts, Guggenheim agrees that he gets better terms – say, more of the deal for less cash – than do Guggenheim and its non-Milken clients.3 Is that just Milken making a smart investment and negotiating good terms for himself, while also bringing in Guggenheim because he likes them or needed them to complete the deal or both? Or is it Guggenheim giving him “some form of compensation” in exchange for his “advice” on the deal?

I don’t know, but honestly: who cares? You might be interested in these questions out of idle curiosity, or for your own nefarious purposes,4 but why would the SEC want to make a fuss over them? Banning someone from being an investment advisor or broker is a tricky beast, much harder than banning them from being an airplane pilot or a hairdresser, because at their core “investment advising” and “brokering” consist of saying “hey, this is a good investment,” or “hey, Joe, have you met Sue?,” respectively. And there’s a certain constitutional squickyness about preventing people from saying stuff. Here you can read a man who was banned from the securities industry opining on the goodness of an investment; I submit to you that the SEC is not going to come after him for it. (Nor should they.)5

Given that trickiness it’s hard to see why the SEC should go after Milken just for foot-faulting from “investor with ideas” into “investment advisor.” Unless, I suppose, other Guggenheim investors were harmed. I’m sort of a willing-buyer-willing-seller kind of guy when it comes to private equity investors, for the most part, so I’m not too troubled. I believe that Guggenheim was looking for the best possible investments for its investors, and a 25% IRR on a deal with Milken – even one where he effectively gets a promote – is better than a 15% IRR elsewhere.

But the SEC might worry if Milken was getting that compensation, or pseudo-compensation, or whatever, in a way that was undisclosed to Guggenheim’s other investors. Giving him some arguable form of compensation without telling investors looks shadier than just saying “we have a sub-advisor contract with Mike Milken where we pay him $X,” or disclosing to coinvestors in Milagro that Milken was getting a promote for sourcing the deal. It sounds like that’s what they’re worried about:

[Guggenheim president Todd] Boehly has been subpoenaed by the SEC, and the firm has provided thousands of trading records and e-mails to investigators. The agency has contacted Guggenheim clients about Milken. SEC investigators are in regular communication with Guggenheim, but so far the probe — which has continued for two years — hasn’t resulted in any formal action.

Still, seems a little harsh to come after him over that. In SEC offering documents and merger fairness opinions, banks like to go overboard in disclosing potential conflicts of interest and things that look like compensation, because they don’t want there to be any dispute that any quasi-compensation-looking thing was an undisclosed payment. But Guggenheim and Milken couldn’t do that. A disclosure like “FYI, just to be clear, Mike Milken invested alongside us, and brought us into the deal, and so he’s getting more of the equity,” or whatever, would look a lot like an admission that Milken was acting as a broker or investment advisor. Which is what he wasn’t allowed to do in the first place.

The SEC is investigating Michael Milken [Fortune]
Guggenheim is flexing its $170 billion muscles [Fortune]

1. Related: the Supreme Court today unanimously ruled against the SEC in a statute of limitations case:

The SEC faced a five-year statute of limitations on bringing a case. The agency alleged the market timing took place between 1999 and 2002, but it didn’t bring a complaint until 2008. The defendants, Marc J. Gabelli and Bruce Alpert, argued the agency’s five-year clock ran from the time of the alleged offense, but the SEC said the clock should have started later, in late 2003, when it says it discovered the conduct.

The high court flatly rejected the SEC’s arguments. “We have never applied the discovery rule in this context,” Chief Justice Roberts wrote in an 11-page opinion.

So as a legal matter I agree with the unanimous Supreme Court (edgy of me I know), but never mind that. Notice the SEC discovered misconduct in 2003 and brought the case in 2008. That’s not great, no?

2. Plus a third which is: in 2007? Didn’t the SEC miss its statute of limitations? Oops!

3. FWIW this stylized hypothetical doesn’t seem to be what happened: the deal was led by ACON, not Milken. Though maybe Milken was key in bringing Guggenheim in, I dunno.

4. My nefarious purposes include building a Volcker-compliant private equity business within a bank. Exercise for the reader: construct such a business using coinvesting rather than explicit management agreements.

5. I suppose you can prevent them from getting paid for saying stuff – it would probably be a no-no for Milken to get an explicit salary from Guggenheim – but the fact that he’s investing his own money makes that harder to trace. There’s nothing wrong with one investor in Guggenheim’s hedge funds, or in Milagro for that matter, getting a better deal than other investors because of some value that they bring to the table, as long as that value isn’t “investment advice.”

Anyway presumably Blodget is making money on Business Insider, or at least planning to.

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Comments (7)

  1. Posted by BI General Counsel | February 27, 2013 at 6:28 PM

    The SEC was going to go after Blodget but he replied to their Wells notice with a tranny porn slideshow and they lost interest in suing him.

  2. Posted by Guggenheim Sales | February 27, 2013 at 6:32 PM

    Love all the attention we've gotten from you today Matt!

    -Believer that any publicity is good publicity when it's in a Matt post and he's not embarrassing you like he did the Bloomberg editors

  3. Posted by Jim S | February 27, 2013 at 8:34 PM

    Pretty sure lots of Drexel investors lost money due to MM imploding the firm with multiple securities law violations. But I agree this seems silly.

    Acon-Bastion has been killing it with their latest fund. Very high returns.

  4. Posted by Deleveraging | February 27, 2013 at 9:21 PM

    Halfway through this I was wondering if Henry (Chauncey Gardner) Blodgett was going to get a mention.

  5. Posted by Fewdollarsmore | February 28, 2013 at 12:46 PM

    I am suspecting that there is more to this because the Milken spokesperson in his statement was
    1) very strongly playing the philanthropy card,
    2) using phrases "he has had no desire to be" and "has strictly avoided doing anything" that are weaker forms of denial than saying he absolutely does not advise anyone on their investments.
    3) rewriting past guilt in milder tones such as "certain consulting activities" can be construed as continual denial or deception.

  6. Posted by Im_a_Dude | February 28, 2013 at 4:11 PM

    “oh, yeah, he supposedly did some insider trading in the mid ’80s, so it makes sense that the SEC would be getting to it now.”

    that sums up the SEC in a nutshell

  7. Posted by Online Slideshows | April 16, 2013 at 9:23 AM

    Such a great yet interesting post. Thank you very much for sharing this helpful stuff.