Goldman Settles, Now What?

Goldman Sachs settled its dispute with the SEC over whether it misled investors in some CDO deals for $550 million. Apparently, if you tell one client to buy a security while simultaneously telling another that it's worthless, it'll cost you $550 million. Goldman should've known better. I mean, after the internet bust, it cost Henry Blodget $25 million just for telling investors to buy a stock while secretly believing deep down inside that it was worthless. He didn't even tell anyone to short the stocks he was recommending, he just kind of had a bad feeling and sent one internal email to a colleague. $550 million is a nice round number. It's a big enough penalty to make you think that the bank definitely did something very wrong and is contrite. The investment bank went so far as to admit that it made a "mistake." On the other hand, the penalty amounts to about one week's worth of trading revenues. That's right. One week. So yeah, they're kind of sorry, but considering how much money the bank made during the credit boom, and then how much money it extracted from the government afterwards, this penalty amounts to peanuts.

Everybody knows that investment banks need to continually create complex products out of thin air that nobody really understands and then market them as the opportunity of a lifetime. That is where the real juice lies. Nobody gets rich trading transparent products like stocks anymore. Turns out, much of the time "complex" actually means worthless. If this weren't the case, investment bankers wouldn't be so rich, and they wouldn't have to pay so many gosh darn fees to various regulatory agencies every few years. We wouldn't have bankrupt municipalities done in by interest rate swaps, or pension funds that can't seem to meet their obligations because they bought some SIVs that were AAA rated for about a minute, or foreign banks that are pissed off at us because they just discovered they are exposed to a bunch of defaulting US subprime borrowers, or mutual funds that don't understand why their largest holding turned out to be a ponzi scheme masquerading as an oil and gas company. Or investors who don't understand why that internet stock never had an 8,000% annual growth rate. Or rich people who can't figure out why the hedge fund that their advisor told them was a guaranteed money maker, with a strategy that was "too complicated to explain," was a ponzi scheme masquerading as a...ponzi scheme.

In any event, with this round of regulatory action pretty much behind them, it's time to move on to a better question: How are investment banks going to screw their customers out of money next? So far, earnings out of the big banks have been decent due mostly to reduced charges taken on the main-street banking side. Investment banking revenues are down significantly. Goldman tends to outperform the other banks in trading, but without a large lending arm to lean on, odds are that earnings might disappoint. Time to get the quants cranking on some new products.

Pressure Mounts on Goldman

The folks at Goldman might still believe they are doing God's work, yet the regulators believe otherwise, as the news of a possible criminal probe by federal prosecutors hit the tape last week and sent the investment bank's stock reeling. Add that to the SEC charges filed last month, and it's not looking so good for the world's most lovable vampire squid. Sure there's enough money to settle charges with everyone, but criminal charges? Not good, and generally not survivable. Time to crank up the PR machine and work on convincing everyone that they're really sorry, they're nothing to change and stuff like this is never going to happen again, at least not for another seven years or so.

The FT reports this morning that GS is planning to "change some of its practices in dealing with institutional clients, a step that could help it settle charges filed last month by US securities regulators." The thing is, even though the designation of "institutional client" implies that said client actually understands what it's investing in, that has proved not to be the case. In fact, many clients gladly purchased billions upon billions of complicated structured products from GS without knowing that they would likely be worthless in a matter of months. So, what to do to address the issue of GS's clients being boobs for assuming that the bank actually cared that it was selling worthless garbage to book monster profits? Hmmm, let's see... Oh, here's a great idea! Make them state that they understand the risks associated with any given security before doing a transaction with the bank. Creates a bunch of needless paperwork. Protects the bank from lawsuits in the future. Keeps the lawyers busy. Problem solved.

Might I suggest the following format for the new documents:

"Dear Valued Customer,

Please be advised that when our salesmen call you, they are attempting to sell securities that Goldman no longer wishes to own in its inventory. If we actually believed the securities were going to rise in value, we would keep them. In fact, it is highly likely that we believe the securities will lose value immediately. Furthermore, please be aware that we have likely front-run you before calling you in order to bid up the price of the securities we want you to purchase. In fact, if the securities are actively traded and you see bids on the screens reflecting certain prices, please be aware that it might just be our trader trying to paint the screens to coerce you into paying an inflated price. The minute you place your order, the trader might pull his bids in order to make you look and feel like a jackass. If the securities are less liquid products without tradeable prices, products in fact that we have created, please be aware that you are paying WAY more for the securities than we actually believe they are worth. It's what we at Goldman refer to as "customer service." As a profit making enterprise, it is our job to rip you off until you feel it in your keister. If you haven't thought of your keister today, might I recommend that you give your GS salesman a call. Have a nice day!"

Banks Battle Regulation. Period.

The headline in the WSJ reads "Banks Gear Up for a Battle." The ensuing article discusses banks' new worries over being forced to define and hive off their profitable proprietary trading units due to the Volcker Rule. Yet the headline is symbolic of the new financial environment. In fact, you could play a fun little game of fill in the blank if you were too lazy to read the story. Banks Gear Up for a Battle Over...

1. Bonuses ("But how are we supposed to retain talent???")
2. New Fees Imposed on Liabilities ("You're going to kill the repo market with that mindless 15 bp tax!!")
3. Forcing Issuers of Asset-Backed Securities to Retain a Sizable Amount of Default Risk ("You're going to destroy the ABS market! How are we ever going to fuel another bubble? I mean, ahem, you're going to destroy the market!")

The list could go on and on. The theme for the year will be banks pushing back against an army of regulators attempting to prevent more rampant speculation that leads to yet another huge boom and bust cycle that requires more bailouts because the economy is still a slave to our bloated financial system. Get used to it. The banks have way too much money and power now that they are profitable again and can operate with government guarantees. There is a much easier answer to stopping a bubble in its tracks, of course. Raise interest rates. The free money goes away.

Insider Trading is So 2008

Following on the heels of the arrest of Galleon Group co-founder Raj Rajaratnam, the Feds are finally threatening to crack down on insider trading. Anyone who regularly trades in the options market knows that this practice has gone on undetected and unpunished for years. Don't believe me? Here are just a few examples from the many I witnessed during my career as an options market maker:

• A certain bio-tech stock which had fairly thinly traded options had a customer that always managed to buy out-of-the-money calls right before the company released positive phase three drug trials and FDA approvals.
• Several really lucky options traders happened to buy a boatload of out-of-the-money calls for $.10 on a regional bank stock the day before expiration, which also happened to be the day before JP Morgan bought the bank for a huge premium.
• My personal favorite was the purchase of loads of out-of-the-money puts in Merck for a $.05 the day before expiration, which happened to be the day before the company announced it was pulling Vioxx from the shelves. The stock dropped at least $10 on the news.

In fact, point to any M&A deal, and I'll guarantee that right before the merger is announced there is an unusually large amount of options activity. It starts with the traders who have the inside information making their bets. It is immediately followed by the piggy backers who assume that somebody knows something even if they don't so they'd better get involved. Finally, it ends with the traders who originally traded against the insider traders panicking to cover before their faces get ripped off when the actual news is announced. Is this really what we want when we talk about "efficient" markets?

Perhaps with the arrest of the billionaire Raj Rajratnam, pictured on the front page of the WSJ with Hank Paulson of all people, things will change. This particular alleged insider trading ring involved traders at hedge funds as well as executives from high-tech and health-care firms who gave them material non-public tips. The whole thing sounds like something out of the 80's but is probably far more commonplace than most of us would like to think. The ring is accused of making illegal profits of $20 million, but I'd wager it's far more than that given that Galleon was a multi-billion dollar hedge fund with decent returns. Authorities, however, only need to prove a few choice instances of insider trading to ruin the hedge fund and send the culprits to prison.

According to Bloomberg's story on the new hardline taken by Federal investigators on insider trading, the targets of the investigations, which have been going on for two years, include hedge-fund managers, lawyers and "other Wall Street players." Some probes rely on wiretaps, like the aforementioned Galleon case, while others depend on a "secret SEC commission data-mining project set up to pinpoint clusters of people who make similar well-timed stock investments." I guess the secret is now out of the bag. Who knows if any of these methods will catch another big fish? But perhaps all they need to do is scare investors into avoiding any suspicious looking activity. So next time you pick up the phone and Bud Fox tells you that "Blue horseshoe likes Andecott Steel" do yourself a favor and hang up.

Regulators in Hilarious Move to Halt Reliance on Short-Term Funds

The credit crisis in its infancy was merely a funding crisis. In mid-2007, the normally highly liquid money markets began experiencing a pullback in lenders' eagerness to take certain forms of collateral. So Wall Street's greatest friend, the Fed, began creating a slew of new financing vehicles which offered near-unlimited funds for banks so that they could continue, if not increase, their reliance on short-term funding. Then Bear Stearns imploded, followed by Lehman, not to mention a slew of other leveraged vehicles (who have no access to the Fed) that were cut off from short-term funding when the money markets seized.

After spending a few years completely propping up the money markets, regulators now think they it's a good idea to halt banks' reliance on short-term funds. Hilarious! If regulators wanted to halt reliance on short-term funds, they maybe should've had a chat with the Fed and not allowed them to become the short-term lender of not only last resort but ONLY resort. Furthermore, borrowing short and lending long IS how banks make money. When the yield curve is steep, they print cash, when it inverts they lose money. If you take away their ability to play the yield curve, they will just raise their fees on deposits. So I suspect this plan to regulate will be met with resistance and wind up being so watered down that it becomes irrelevant.

The way to combat banks' reliance on short-term funding is to get the Fed out of the business of propping up the banking sector with super cheap funding. Make it clear that the financing vehicles they created in the past two years are being wound down and aren't coming back, and then have a plan in place to liquidate failed institutions. Spoken to Lehman or Bear lately? Funny, they don't seem to have any funding problems anymore.

Lehman Brothers Revisited

Markets, regulators, and commentators have had a year to reflect on the repercussions from the failure of Lehman Brothers. Because of the devastation caused by the collapse of the once scrappy and proud investment bank, many have come to the conclusion that it was a big mistake to allow Lehman to go down. The consensus seems to believe that it cost us more to let Lehman fail than it would've to bailout the firm. I completely disagree.

The theory seems to be that Lehman's failure caused a domino affect whereby other liquidity strained institutions also failed because of Lehman. What's become more clear a year later is that some financial firms were insolvent and some only had liquidity problems. While the line between the two became blurred during the heyday of the crisis, the distinction is important. The insolvent firms would've failed regardless of whether Lehman was bailed out. AIG would not have survived. Citi would've gone down. Bank of America, because of its horrible Merrill purchase would've failed as well. The government-assisted sale of Bear Stearns to JP Morgan and the preemptive seizures of Fannie and Freddie, which were all meant to stabilize the market and keep liquidity flowing, did not keep Lehman from failing. The insolvent institutions were doomed; it was only a matter of time. Lehman's failure only sped up the process.

While it is nearly impossible to calculate how much the domino effect of Lehman's failure actually cost the economy, it is indisputable that Lehman's secured creditors received less than 10 cents on the dollar. The firm had an $100 billion hole in its balance sheet, and possibly more. A bailout of Lehman would've only cost our government an additional $100 billion dollars that was simply unrecoverable. So frankly, I'm glad Paulson drew a line in the sand and I wish he'd have kept it there instead of reverting to more bailouts.

The most important thing that happened when Lehman failed was that it reintroduced the idea of risk into investing. Markets from stocks, to emerging markets, to money market funds were slapped across the face with a giant RISK! Credit markets move in cycles and often in the good times, investors forget that they are actually taking risk with their money when they invest and then remember when they lose money in the down cycles. During this last boom, it was as if risk no longer mattered, and investors just made up numbers and plowed headlong into every stupid investment peddled to them. The Fed's decision to take $26 billion in Bear's crappy assets onto its balance sheet and assist the sale to JP Morgan in the early days of the credit crisis introduced the idea that the government would never let a systemically important institution fail. This is precisely why the market ripped for two months following that move. Yippee! The government is going to support every institution that's in trouble, so investing is risk free again. No worries. But as defaults began to rise and losses started piling up, risk reared its ugly head again.

Sadly, the government's intervention through the introduction of a variety of new mechanisms, liquidity injections and direct capital support, has removed the idea of risk taking from investing again. Now everyone is just focused on how much money they can make by taking advantage of the government's largesse. The government has taken away a key function of the market, which is the obligation to make the determination between those institutions that would've survived the crisis and those who should've failed due to too much risk-taking. For example, JP Morgan and Goldman Sachs likely would've survived. They may have been forced to raise very expensive capital from alternative sources, but they probably would've scraped by. By offering government guarantees for their debt and cheap financing for their collateral through the Fed, the government took money from investors and handed it directly to JP and GS. Without these guarantees, we wouldn't be having any discussions about bonuses, because the banks would be hoarding capital to stay alive. While the short-term benefits have been great for the market, the long-term effects are murky, and frankly scare me. If you introduce the idea of risk-free investing for everyone, banks are just going to throw money at stupid investments again expecting a bailout later. Heads I win, tails the taxpayer loses.

The government had six months after Bear caved to come up with a solution for letting financial institutions fail without cratering the market. They failed to do so. It's been a year since Lehman failed and we still don't have a viable plan on the table. This sends a signal to the market that the government is going to support our financial institutions indefinitely. Make no mistake, we will pay for this later.

Sweeping Regulatory Overhall? Or Just Sweeping It Under the Rug?

Obama announced what many are calling landmark regulatory reform for the financial services industry.  Others are just shrugging their shoulders, wondering why shuffling some responsibilities around to the same group of regulatory bodies that completely missed the financial crisis is going to somehow avert the next crisis.  After all, Sarbanes Oxley, enacted after the off-balance sheet partnership shenanigans at Enron caused the implosion of the firm, did absolutely nothing to stop all of the off-balance sheet partnership shenanigans by Wall Street investment banks this time around.  Notice how the investment banks are somehow always in the mix?  They found the way around the last regulatory overhaul and they will find their way around the next.  There's just too much money at stake and they have no problem paying the fines AFTER the money has been made.

Here's a quick summary of some of the new powers granted to the various regulatory agencies recommended in the proposal:

•  The Treasury Secretary (the position that provided such consistent leadership decisions in the past year as bailing out Bear, letting Lehman fail, giving AIG multiple billions so it could give the money to Goldman Sachs, bailing out Citigroup 2x? 3x?, then trying to get Sheila Bair canned for the audacity of attempting to stem foreclosures) will gain authority to seize systemically important non-bank institutions.  Mr. Geithner will also chair the "financial services oversight council."  A new "national bank supervisor" will regulate federally chartered depository institutions and sit within the Treasury.
• The Fed (the esteemed institution that created not one but two financial bubbles not even ten years apart, that invented a host of new financing facilities which gave investment banks a huge subsidy allowing them to finance any kind of collateral, regardless of whether anyone can price it at interest rates far below market rates, reduced interest rates to zero, then started buying Treasuries from the Treasury department which is likely to cause yet another bubble at some point in the next few years) will gain new powers to identify risks in the financial system.  You know, risks like bubbles, and since the Fed usually causes them, they should definitely see the next one coming.
• The SEC (allowed investment banks to increase leverage to 30-1, failed to notice the risks on the balance sheets of most major banks and investment banks which they were in charge of regulating, has yet to discipline any bank or investment bank for accounting fraud, blamed the financial crisis on short-sellers, missed a boatload of ponzi schemes, in particular a $65 billion one which whistle blowers repeatedly tried to warn about) is still tasked with protecting investors.  
• The Comptroller of the Currency is out, but the former head, John Dugan, is now going to become the head of the new bank regulator that reports to the Treasury.  I have no idea what the Comptroller of the Currency was supposed to do during the financial crisis but I'm assuming Mr. Dugan will continue to do it at his new post within the Treasury.
• The FDIC (which even I must admit has so far done a fairly decent job of winding down all of the failed banks and protecting depositors without causing a panic, although Ms. Bair likes to give a few more guarantees than I am comfortable with) will help unwind systemically important institutions when they fail but will only execute on orders from the Treasury.
• The Office of Thrift Supervision is also kaput.  
  

Cox Vs. Paulson: Contradictory Plans?

With every US government agency frantically enacting drastic measures in the name of halting a full-blown financial crisis, it is interesting to ponder each agency's political agenda.  Predictably, Congress is hoping to save the ailing homeowners on the verge of foreclosure, an ever expanding voter block in an election year.  Bernanke is greasing the money markets, with little regard for the solvency of the institutions ("Whatever collateral they have, I'll take it!  Just give them a loan!")  The President is tasked with lifting the country's wilting morale by grinning and declaring that "Our economy is strong!" (just pull the string on his back and he'll say it again.)  The Treasury Secretary oversees bailouts, takeovers, raising capital for a government-run hedge fund, and ensuring that nobody gets confused about where he stands on the issue of moral hazard (equity is creamed but bondholders and counterparties are protected, unless you're Lehman, in which case, don't come cryin' to me, you bunch of pansies.)  The SEC Chairman, Chris Cox, is siding with equity holders by temporarily out-lawing short-selling.  The jury is out on how well any of these plans will work, save Mr. Cox's short-sale ban which is, um, not really going as planned.  Sure, the market rallied powerfully on Friday, only to give it all back on Monday, and demonstrated marked intraday volatility on both days.  Perhaps Mr. Cox should've spoken to a few market participants before enacting his plan (a singe derivatives trader? one hedge fund manager?)  If Mr. Cox is thoroughly confused as to why his plan has backfired so harshly, he might consider calling Mr. Paulson, who at least has some experience working for a Wall Street bank.  The conversation may go something like this:

Cox:  Hello Hank?  This is Chris.

Paulson:  Who?

Cox:  Chris Cox, SEC Chairman.

Paulson:  I don't know who you are, or which organization you're with, but I am a very busy man.

Cox:  Geez.  I'm head of the Securities and Exchange Commission!

Paulson:  Hmmm.  That rings a bell.  What do you want?

Cox:  I was wondering if you could maybe give me some advice on what to do about the short-sale ban.

Paulson:  A short-sale ban?  That's the dumbest thing I've ever heard.  It'll wreak havoc on the markets.  I wouldn't even consider something that foolish.

Cox:  Well, actually, it's already done.  We enacted the ban on Friday.  The ban goes until Oct 2.

Paulson:  WHAT?  

Cox:  Didn't you see the announcement in the financial press?  I was very pleased with the amount of coverage it received in the press.  Although, the response has not been as positive as I expected.  I just don't understand.

Paulson:  So you say the ban goes until Oct 2?  Can you hold on for a second? (puts Cox on hold and makes another phone call.)  Hey Bernie, I know this is supposed to be a blind trust and all since I'm Treasury Secretary but blue horseshoe says "SELL ALL OF MY STOCKS!"  You got that?

     

SEC Temporary Short-Sale Ban Official: Capitulation or Manipulation?

It's official.  Chris Cox is insane.  He has chosen to follow in the footsteps of the loons at the FSA in London and put in place a temporary ban on short-selling of financials.  The ban extends to 799 financial institutions including banks, broker dealers and insurance companies.  The FSA's ban on short-selling on financials in the FTSE 100 has caused the mother of all short covering rallies on the FTSE 100, which was up around 8% the last time I checked.  I suspect there will be significant dislocations in the US markets as investors scramble to cover shorts.  The ban on short-selling offers a few exemptions, most notably to market makers in the stocks and investors who take on short positions due to an options expiration.  It doesn't, however, exempt options market makers beyond today's trading day.  By the way, did the SEC or the FSA know it was options expiration friday?  You'd think the regulators would have the sense not to impose a rule change of this magnitude effective immediately on a FRIGGIN ' OPTIONS EXPIRATION FRIDAY of quite possibly the most volatile week of trading the market has ever seen.

First, a wee bit of criticism, then I'll get to some predictions.  I firmly believe that short-sellers provide an invaluable pool of liquidity to the market.  Being a successful short-seller is extremely risky and difficult to pull off.  Short-sellers tend to be investors that dig deep into financial statements and root out fraud.  It was short-sellers that identified Enron as a ponzi scheme while all the Wall Street analysts, mutual fund investors, and the media were praising the company without asking difficult questions.  The market needs cynics.  Stocks are risky.  It is absurd to attempt to manipulate the stock market higher when the fundamentals of financials are so poor.  Is it true that investors were attempting to short the dealers in the past few days?  Absolutely.  Why?  Because the money markets were no longer willing to lend and dealers need the money markets to survive.  Did Mr. Cox and the other clowns at the SEC know that primary dealers borrowed $59 billion from the discount window yesterday?  That facility that no bank wants to admit to borrowing from because it is a lender of last resort and indicates the firm has run out of financing options?  You see, broker dealers have very risky business models.  You'd never actually know that if you listened to Wall Street analysts who continually forecast smooth earnings growth for them despite the fact that they operate in an extremely cyclical business environment.  Owning brokerage stocks is a risky proposition and investors need to fully understand the risks they are taking.  Owning banks and insurance companies has also been risky as of late because of the ridiculously loose underwriting standards that the industry allowed for so many years.  Short-sellers were short these stocks because they took the time to identify the underlying risks in the business and understood how toxic the assets on their balance sheets were.  The mutual funds and pension funds who are long these stocks should be ashamed of themselves for just believing that the stocks were cheap on a price to book basis, without caring enough to understand that the book values were grossly overstated.  So now, we're going to bailout equity investors?  Why?  Because the Dow was down 20% on the year?  Mr. Cox doesn't think that is justified given that financial firms have taken $500 billion in write-downs?  

My predictions are that we do get a huge rally in the market (obviously, futures are already up significantly.)  Furthermore, we will get crazy dislocations on specific stocks that have been actively shorted lately.  Some financials will be up 50%, 60%, maybe more.  This will possibly lead to some extraordinary losses taken in the derivatives market (and derivatives gains by people who were smart enough to anticipate this absurd action.)  But then, Mr. Cox has set us up nicely for a huge crash in financials once again when the temporary short-sale ban expires in October.  October, after all, is always a great month for a market crash. 

Auction Rate Securities Failures Lead to Lawsuits and Deja Vu

Last Thursday, Massachusetts regulators filed a lawsuit against UBS alleging that the bank gave conflicted advice to customers in the auction-rate securities market.  As it became increasingly apparent that the auctions were going to fail when institutional investors started bailing in droves, UBS cranked up the sales pitch to retail customers, attempting to steer them into these "safe and liquid" securities.  Massachusetts has obtained emails where the auction-rate securities were referred to as a "huge albatross" coupled with emails urging managers to "mobilize the troops" to shovel the securities down unsuspecting individual investors' throats.  According to the Financial Times, many more lawsuits related to auction-rate securities will follow.  Anyone who is shocked by these obvious conflicts of interest was more than likely born in the 80's and busy with prom plans the last time Wall Street settled charges for conflicts of interest. 

At the turn of the century we had analysts like Henry Blodget and Jack Grubman.  The former slapped "strong buy" ratings on stocks that he thought were dogs, while the latter rated telecom firms a "strong buy" to get his kids into exclusive pre-schools.  The enthusiastic ratings were concocted solely for the purpose of winning more investment banking business from the companies.  They clearly were terrible investments as nearly all of the stocks that these crack analysts rated as "strong buys" went bankrupt.  Investors were mad.  Regulators produced conflicting emails, and fines were paid.  

When economists talk about cyclicality of markets, they are usually referring to the business cycle.  Investment banking is a cyclical business in the sense that banks typically perform very well when the economy is doing well, and poorly in a recession.  What I find fascinating about Wall Street is that it suffers from regulatory cyclicality as well.  Part of this must stem from the compensation structure.  Bankers, traders, salesmen and analysts are paid extremely well in good times and therefore are easily susceptible to crossing ethical boundaries in order to squeeze the last penny out of their bonus checks.  When you are paid millions of dollars in bonuses over the course of the boom in the cycle, it is much less painful when you are laid off, particularly if the bank ends up paying the fines.  While the good times are rolling, investors are happy.  All of the giddiness grinds to halt when the market turns and investors starts losing their shirts.  They hire lawyers, and file lawsuits.  Regulators don't want to look stupid, so they follow with their own lawsuits and enforcement actions.  Banks appoint scapegoats, fire them, pay the fines and swear they will never do it again.  The slate is wiped clean and the cycle begins again.  Will Wall Street ever change?  Or will we be experiencing deja vu all over again after the next bubble bursts?   

Former Bear Stearns Hedge Fund Managers Arrested By FBI

Ralph Cioffi and Matthew Tannin, the managers of two collapsed internal Bear Stearns funds that were the first casualties of the credit crisis, have been arrested by the FBI.  In a sign of what may result in a rash of criminal indictments, regulators have shown they are serious about doling out the punishment to those responsible for investor losses.  I find it interesting that they would start with these two guys.  According to the Wall Street Journal, prosecutors are zeroing in on an email that Mr. Tannin sent to his senior colleague Mr. Cioffi, indicating his concerns that the markets for the structured products they held as investments were "toast."  He also suggested they consider shutting down the funds.  Mr. Cioffi responded and suggested that the two meet to discuss his concerns.  The two apparently met, discussed the issues and decided Mr. Tannin's concerns were unfounded.  However, Mr. Cioffi did withdraw $2 million of his own money from one of the funds in March, which would contradict his assertion that he felt the funds were on solid footing.  Four days after their supposed meeting, Mr. Tannin told investors in a conference call that he was "quite comfortable" with their holdings.  In the weeks that followed, investor redemptions and margin calls forced them to dump positions into an unfriendly market and wiped out the funds.  While it is certainly true that these two guys are guilty of being terrible investors, I certainly hope the Feds have more than this email to base their case.  Frankly, if you are managing other people's money and you never worry about the markets moving against your trading positions, you're in the wrong business.  It's not that I don't think these guys should suffer if they truly misled investors, I just have a hard time believing they are were the worst offenders on the long list of those who used the credit market boom to deceive investors.  It seems as if much more egregious conduct occurred during the boom that should be prosecuted.  Should everyone involved in securitization of subprime and Alt-A mortgages be investigated for baking unrealistic default rates into the pie?  What about all of those AAA ratings on securities that are now trading at distressed levels?  Don't the ratings agencies need to be investigated for misleading investors?  How about every mortgage broker that steered an unsophisticated borrower into an unsuitable mortgage because he received higher fees on those types of products?

I, for one, will be interested to see whether two guys who managed funds that were supposed to be complex and sophisticated can get away with claiming they were too stupid to see the storm building.  Wall Street will be nervously awaiting the result of the this trial as well, perhaps while cleaning out their email boxes...