Federal prosecutors say former Credit Suisse Group AG broker Eric Butler used bait-and-switch tactics to fraudulently steer institutional and retail clients into millions of dollars worth of auction-rate securities, collateralized debt obligations (CDOs) and other risky debt instead of the safe, conservative investments the investors initially asked for. On Aug. 14, after only two hours of jury deliberations, Butler was found guilty of conspiracy to commit securities fraud, securities fraud and conspiracy to commit wire fraud. He faces a maximum sentence of 20 years in prison on the most serious count.

Butler’s co-defendant is Julian Tzolov, who had fled the country earlier this year. He was returned to the United States on July 20 and has since pleaded guilty to conspiracy, wire fraud and securities fraud. His is awaiting sentencing.

Butler and Tzolov were charged in September of lying to clients about their purchases of nearly $1 billion of auction-rate securities and CDOs from 2004 to 2007. Reportedly, the two men had told customers their investments were backed by federally guaranteed student loans.

During Butler’s trial, Tzolov served as a witness for the prosecution, providing testimony against his former partner.

“We did it together,” Tzolov told jurors. “We were sitting right next to each other. We were meeting with clients together.”

In the wake of the collapse of the auction rate securities market in February 2008, many of the nation’s largest financial institutions quickly agreed to settlements with state securities regulators as a way to resolve charges they misled retail and institutional investors about the liquidity risks of the instruments they underwrote.

The latest state to order a Wall Street institution to buy back auction rate securities from investors is Pennsylvania, which on Aug. 11 ordered Wells Fargo & Co.’s Wachovia unit to buy back $324.6 million of auction rate securities from an estimated 1,300 Pennsylvania retail investors.

Wachovia also will pay a $2.52 million assessment to the state for its role in the auction rate securities market.

In a press release on the ARS agreement with Wachovia, Pennsylvania Securities Commissioner Steven Irwin said the bank “marketed and sold these securities as safe, liquid and cash-like investments when, in fact, they were long-term investments subject to a complex auction process that failed in early 2008, leading to illiquidity and lower interest rates for investors.”  

The Pennsylvania Securities Commission is continuing its investigation of other investment firms and their sales of auction rate securities. In July, the regulator ordered TD Ameritrade to repurchase $26.5 million of auction-rate securities. That same month, Pennsylvania also reached a settlement with Citigroup over ARS sales. That settlement, which was part of a larger deal agreed to with 12 states, required Citigroup to buy back $978.1 million worth of auction rate securities from Pennsylvania investors. In addition, Citigroup paid a $2.31 million fine to the Pennsylvania Securities Commission.

Former BusinessWeek writer Matthew Goldstein hit the nail on the head in his Aug. 11 blog about the Securities and Exchange Commission’s so-called “scared-straight” campaign to clean up Wall Street. Goldstein appropriately calls the SEC’s latest round of enforcement actions, including those against Bank of America, General Electric and former American International Group CEO Hank Greenberg, “an attempt by regulators to clean-up the docket so the litigation papers can be sent to cold storage.” 

The Bank of America/SEC settlement is a perfect example of what Goldstein is talking about. Under the agreement announced Aug. 3, Bank of America would pay $33 million to settle charges by the SEC that it lied to shareholders about billions of dollars in bonuses promised to Merrill Lynch executives. Judge Jed Rakoff, the federal judge overseeing the case, has now nixed that deal, and on Monday, got BofA’s lawyer to reveal that in agreeing to the SEC’s settlement it didn’t believe it did anything wrong by deceiving shareholders. 

And therein lies the problem – and a very basic flaw in how the SEC operates. By allowing entities like Bank of America and others to simply pay a fine for an alleged offense without also publicly admitting their wrong doing, accountability becomes non-existent. The message is sent loud and clear that actions really don’t have consequences when it comes to Wall Street, and bad behavior, fraud and the like can continue on in full force.

The SEC and its new chairman, Mary Schapiro, purport to have a renewed sense of urgency for righting the wrongs of Wall Street. If that is the case, then the regulator needs to get serious about accountability. That means issuing a new mandate, one that requires individuals to admit liability before the SEC will sign off on any civil enforcement action. If the individuals in question refuse to admit their alleged offenses, then the SEC needs to put tough talk into action and proceed with legal recourse.

A federal judge is saying “no” to the $33 million settlement between Bank of America (BofA) and the Securities and Exchange Commission (SEC), refusing to sign off on the agreement and demanding answers as to why the regulator accepted what he calls a “small penalty.” Judge Jed S. Rakoff of the U.S. District Court for the Southern District of New York made his remarks at an Aug. 10 hearing, where he also asked Bank of America for the names of the executives allegedly involved in lying to investors about plans to pay billions of dollars in bonuses at Merrill Lynch, which BofA acquired during the height of the financial crisis.

“If Bank of America misled the shareholders, as you assert about a multibillion dollar matter, isn’t there something strangely askew in a fine of $33 million?” Rakoff asked the SEC’s lawyers during the Aug. 10 hearing. “It is very difficult for me to see how the proposed settlement is remotely reasonable.”

Without Judge Rakoff’s consent, the BofA/SEC settlement cannot move forward. As it stands, the judge has asked for further filings and information by Aug. 24, and says a settlement wouldn’t be approved before Sept. 9. 

On Aug. 3, Bank of America, without admitting or denying the SEC’s allegations, agreed to pay $33 million to settle charges that it misled investors about Merrill Lynch’s plans to pay executive bonuses as it prepared to report fourth-quarter losses totaling more than $15 billion. In turn, those losses affected the fiscal health of Bank of America, which acquired Merrill Lynch in January 2009.

The SEC alleges that Bank of America promised shareholders that Merrill Lynch would not pay year-end bonuses and incentives without first getting BofA’s consent. In reality, however, the SEC says the bank already had given that approval, authorizing Merrill Lynch to pay nearly $6 billion in extra compensation. 

As reported Aug. 10 by the Washington Post, Judge Rakoff had harsh words for BofA lawyers during the hearing, demanding to know the names of the individual or individuals who decided what to reveal to shareholders in a November proxy statement. According to the article, the judge specifically asked whether Bank of America chief executive Kenneth D. Lewis and former Merrill Lynch chief executive John Thain were involved.

“Was it some sort of ghost?” Rakoff asked. “Who were the people? . . . If you are correct that this proxy statement was materially misleading, then at a minimum Mr. Thain and Mr. Lewis would seem to be responsible for that, yes?”

Regions Financial Corp., whose brokerage arm is Morgan Keegan & Company, has revealed in its Aug. 5 10-Q filing with the Securities and Exchange Commission (SEC) that Morgan Keegan, Morgan Asset Management Company and three employees each received a Wells notice in July from the SEC’s office in Atlanta, alerting them to prepare for future enforcement actions for possible violations of the federal securities laws. 

A 10-Q is a quarterly report required by the SEC for publicly traded companies. Generally, firms file a 10-Q 45 days after the end of a quarter. The document itself contains similar information found in a company’s annual 10-K filing, but the 10-Q information usually is less detailed; moreover, in most cases, the financial statements in a 10-Q are based on assumptions, which typically require revisions in future accounting periods.

In addition to the SEC’s notice, Morgan Keegan received a second Wells notice in July – this one from the Financial Industry Regulatory Authority (FINRA). According to that notice, a preliminary determination had been made by FINRA, recommending discipline actions against Morgan Keegan for violating various NASD rules in connection to sales of certain investment products.

In both the SEC and FINRA notices, the “products” in question include a group of seven proprietary mutual funds that are facing a slew of arbitration claims by investors who suffered sizable losses in 2007 and 2008 because of investing gambles made by Morgan Keegan in risky debt and other mortgage-related holdings. 

In their claims, investors allege that Morgan Keegan misrepresented the funds as low-risk and high-yield products, when in reality the funds were tied to the most volatile components of the mortgage loan industry.

When that industry ultimately collapsed, investors lost 90% and more of their money in the RMK funds. According to the pending arbitration cases against Morgan Keegan, investor losses related to the RMK mutual funds total more than $2 billion.

Morgan Keegan & Co., the Memphis-based brokerage firm owned by Regions Financial Corp., is facing hundreds of arbitration claims by investors who lost billions of dollars in seven RMK mutual funds that made risky investments in mortgage-related securities. Now Morgan Keegan is asking a Birmingham court to overturn several recent arbitration awards that ruled in favor of investors and their claims against the troubled brokerage.

Morgan Keegan filed its most recent motion to vacate on July 22 over a $220,000 award. According to an Aug. 4 story in the Wall Street Journal, Morgan Keegan is basing its appeal on the fact that the arbitration panel chairman should have been removed from the panel because he resided on a prior arbitration panel that also ruled against Morgan Keegan. 

In another appeal filed in May, Morgan Keegan asked the court to vacate a $628,000-plus award. In that appeal, Morgan Keegan accuses arbitrators of misconduct for not postponing a hearing during which the investors presented suitability claims. The investors, Morgan Keegan says, had “disavowed” such claims. 

A third motion to vacate also was filed in May in which Morgan Keegan accused an arbitration panel of exceeding its authority by awarding more than $187,000 in damages, attorneys fees and costs. Steven B. Caruso, a New York attorney with Maddox Hargett & Caruso, represents the investor in that case.

Arbitration appeals are considered unusual and difficult to win. Moreover, the strategy always comes with a price tag.

“Who pays for it?,” asks Caruso in the Wall Street Journal article. “The shareholders of Regions Financial.”

The Securities and Exchange Commission (SEC) has charged Bank of America (BofA) of lying to investors and misleading them about billions of dollars in bonuses being paid to Merrill Lynch executives at the time of its acquisition of the firm. Bank of America, which bought Merrill earlier this year, agreed to settle the SEC’s charges and pay a penalty of $33 million.

According to the SEC’s complaint, Bank of America was in violation of securities laws when it allegedly told shareholders in November 2008 that year-end bonuses would not be paid without its consent.

“In fact, Bank of America had already contractually authorized Merrill to pay up to $5.8 billion in discretionary bonuses to Merrill executives for 2008,” the SEC said in a statement. “The disclosures in the proxy statement were rendered materially false and misleading by the existence of the prior undisclosed agreement allowing Merrill to pay billions of dollars in bonuses for 2008.”

As reported Aug. 3 by the Washington Post, New York Attorney General Andrew Cuomo and Bank of America have been at odds with each over the bonus payments. In February, Cuomo subpoenaed the bank to obtain the names of all bonus recipients, contending that Merrill Lynch accelerated the payments before the announcement of a $9.8 billion fourth-quarter loss.

Citigroup did it, followed by Morgan Stanley, UBS, Merrill Lynch, Wachovia, Bank of America (BofA) and, most recently, Morgan Keegan and Ameritrade. The “it” concerns settlement agreements with the Securities and Exchange Commission (SEC) to repurchase billions of dollars worth of auction-rate securities from retail investors. Scores of Wall Street firms agreed to the deals with regulators, with only a few holdouts. One of those holdouts: Raymond James Financial. 

Raymond James Financial is the subject of Gretchen Morgenson’s Aug. 1 column in the New York Times. In the article, she writes that clients of the Tampa-based brokerage currently hold some $800 million of illiquid auction-rate securities, down from $1 billion earlier this year.

The decline is tied to redemptions by issuers of auction-rate securities, such as closed-end funds and municipalities. So far, Raymond James has shown no interest in redeeming customers’ holdings. Its reasoning? Buying back $800 million of auction-rate securities at par is equal to more than 4% of the company’s total assets and 42% of its shareholder equity. 

On the other hand, Raymond James apparently had the financial stability last year, at the height of the credit crisis, to raise its dividend 10%. The move proved especially beneficial for Thomas James, CEO of Raymond James Financial. James owns 12.2% the company shares outstanding. Dividends on those shares generated a handsome profit totaling about $6 million for James and another total another $6.5 million this year if the company continues to pay the current rate of 44 cents a share.

The payments are in addition to James’ salary and pay package, which is valued at $3.55 million, according to the New York Times story.

Then there’s the money Raymond James came up with to fund its corporate branding campaign. In 2008 and 2009, the company spent $6.3 million to acquire the naming rights to the stadium where the Tampa Bay Buccaneers play. The contract runs until 2016, and the costs rise 4% every year.

Meanwhile, as the “financially strapped” Raymond James funds million-dollar salaries, raises its dividend and outlays millions of dollars on corporate advertising and marketing efforts, its clients remain permanently caught in an auction-rate securities nightmare.  

The possibility that Morgan Keegan will face civil charges from the Securities and Exchange Commission (SEC) is welcome news for thousands of investors who have filed arbitration claims against the Memphis-based brokerage for losses in a group of collapsed bond funds.  

Regions Financial Corp., the parent company of Morgan Keegan, announced in early July it had received a Wells Notice from the SEC for possible violations of securities laws involving certain mutual funds. The SEC sends a Well Notice to people or firms as a way to formally alert them to the possibility that enforcement action will be brought against them.  

For investors, the Wells Notice could be a boon to their legal cases against Morgan Keegan. According to a July 31 article in the Wall Street Journal, securities arbitrators may now be more inclined to order Morgan Keegan to provide investors with copies of certain documents that could assist in their claims. 

“That notification has to influence arbitrations when the issue of discovery of regulatory documents comes up,” said Steven Caruso, a New York-based attorney with Maddox Hargett & Caruso, in the Wall Street Journal.  

Even though the Wells Notice did not specifically name the funds in question, the SEC said they were managed by Morgan Asset Management Inc., which is part of Morgan Keegan. Seven former Morgan Keegan funds suffered massive financial losses in 2007 and 2008 because of their exposure to risky subprime securities and even more risky collateralized debt obligations. 

Between March 31, 2007, and March 31, 2008, losses in the RMK funds totaled more than $2 billion. 

In July 2008, Regions transferred management of several of the RMK funds in question to New York-based Hyperion Brookfield Asset Management.

The Financial Industry Regulatory Authority (FINRA) has fined Merrill Lynch and UBS Financial Services $250,000 for supervisory failures that led to unsuitable sales of closed-end funds. FINRA also suspended five Merrill Lynch brokers for 15 days and fined them $10,000 for making unsuitable recommendations to clients. 

The five Merrill Lynch brokers sanctioned by FINRA include:  

• Kenneth C. Iwelumo of the Newark, New Jersey, branch, whose customers suffered losses totaling approximately $563,000.
• Ronald Kemp of the Denver branch, whose customers suffered losses totaling approximately $411,000.
• Joseph Miller of the Springfield, Massachusetts, branch, whose customers suffered losses totaling approximately $130,000.
• John Ong of the New York City branch, whose customers’ suffered losses totaling approximately $350,000.
• Michael Kizman of the Schaumburg, Illinois, branch, whose customers suffered losses totaling approximately $221,000.

UBS was fined $100,000 for similar supervisory failures.  

On Jan. 1, 2009, Merrill Lynch was acquired by Bank of America Corp. for $29 billion.