In 2011, when New York District Court Judge Jed Rakoff rejected the SEC’s $285 million settlement with Citigroup, the opinion he wrote seemed like a turning point. The SEC’s enforcement division was making the rounds on Wall Street in the aftermath of the economic meltdown and visiting with the largest firms. In 2010, when GoldmanSachs settled with the SEC, it was for a record-setting $550 million. It must have seemed like judgment day to the SEC but it landed with a thud in public opinion just like Bank of America’s $17 billion settlement does today.
After GoldmanSachs, JPMorgan Chase settled. Then it was Citigroup’s turn and something unexpected happened. When the settlement agreement landed in front of DCNY Judge Rakoff in Manhattan for it to be approved, stamped, signed, sealed and delivered, he refused. According to legend, he did what no judge had ever dared to do and he did it with style. His legal opinion left no room for doubt about the way he felt. It was blunt and comical. More than anything else it was finally the truth. Here’s the introduction:
"Citigroup created a billion-dollar Fund that allowed it to dump some dubious assets on misinformed investors. This was accomplished by Citigroup's misrepresenting that the Fund's assets were attractive investments rigorously selected by an independent investment adviser, whereas in fact Citigroup had arranged to include in the portfolio a substantial percentage of negative projected assets and had then taken a short position in those very assets it had helped select. Having structured the Fund as a vehicle for unloading these dubious assets on unwitting investors, Citigroup realized net profits of around $160 million, whereas the investors as the S.E.C. later revealed, lost more than $700 million." |
Not only did Citigroup knowingly sell garbage to its clients, it simultaneously used a short position in its own account that acted like a bet that would create profits for the firm as the clients lost money. It was that perverse. What Citigroup had done wasn’t all that Rakoff ripped to shreds.
Every SEC consent order, a term used for the settlement, since the beginning of time included an essential boilerplate clause. Using the same language every time, the firms that agreed to pay a fine did so without admitting they did anything wrong. Here’s what Rakoff said about it:
Here, the S.E.C.'s long-standing policy -hallowed by history, but not by reason -of allowing defendants to enter into Consent Judgments without admitting or denying the underlying allegations." |
Hallowed by history, but not by reason, indeed. Naturally Judge Rakoff found the $285 million settlement amount to be insufficient, as well.
It’s easy to imagine that the CEO of Citigroup was probably irritated to think that he might have to take some real lumps instead of the slap on the wrist Judge Rakoff rejected.
The SEC might have been encouraged to become bolder in its enforcement actions with the financial firms it oversees and regulates but that’s not how it works. The SEC put its boldness on display by teaming up with Citigroup in an appeal to force Judge Rakoff to accept their settlement.
I always thought it was funny when Elizabeth Warren asked whoever headed the SEC at the time during a hearing if they ever got tough and took a firm to court. For the SEC, the answer had to be "Yes," but not in the way she meant. They did get tough . . . with Judge Rakoff and they took Citigroup to court as co-plaintiffs.
It took almost three years but the case is finally done now. The Second US Circuit Court of Appeals in New York ruled that Judge Rakoff was wrong when he rejected the Citigroup settlement. The court said he abused his discretion. Rakoff signed the agreement but he didn’t hold back in his opinion.
“This Court fears that, as a result of the Court of Appeal’s decision reached by governmental regulatory bodies and enforced by the judiciary’s contempt powers will in practice be subject to no meaningful oversight whatsoever. But it would be a dereliction of duty for this Court to seek to evade the dictates of the Court of Appeals. That Court has now fixed the menu, leaving this Court with nothing but sour grapes.” |