Wall Street Settlement Is Just Slap on the Wrist

By Dan Ackman

May 1, 2003

This week the Securities and Exchange Commission held a press conference at which it announced a settlement of charges with 10 of the largest firms on Wall Street. New York Attorney General Eliot Spitzer starred at the press conference, and compared himself to Teddy Roosevelt. Everyone there agreed the deal was "historic."

The settlement spoke to charges concerning the pervasive corruption of Wall Street's so-called analysts. Those are the folks who are supposed to give their honest advice about whether a stock is likely to go up or down. Instead they spent the late 1990s Internet boom yelling that nearly every stock would go up, and serving as adjuncts to the investment bankers who were busy taking dubious firms public and reaping millions in fees.

Several firms were accused of trading favors with executives of corporate clients by selling them "hot" stock offerings. They then could flip the shares for a virtually risk-free profit - and later steer investment banking fees to their benefactors. Most firms that went public during the late 1990s' frenzy are now trading for a buck or two.

No one will go to jail for this; indeed no one admitted fault of any kind (though no one denied it either.)

The firms will, of course, pay a variety of fines totalling $1.39 billion. On its own, the figure sounds like a lot, historic even. But judged in any kind of context, even $1.4 billion is fairly insignificant. Take Citigroup. It will pay the highest fine of all - a total of $400 million. But in 2000, when a lot of the malfeasance was going on, the financial conglomerate recorded $112 billion in revenue. Even if Citigroup got just a third of its revenue from investment banking, the fine works out to about three days' pay, or less than one day for each year of the boom. That's not nothing, and it is a nuisance. Like a speeding ticket.

Of course, it would be crass to judge the Wall Street settlement in money terms alone. What about the "sweeping structural reforms"? The SEC summarizes those reforms as follows: "To ensure that stock recommendations are not tainted by efforts to obtain investment banking fees, research analysts will be insulated from investment banking pressure. The firms will be required to sever the links between research and investment banking."

But this separation between bankers and analysts - the so-called Chinese Wall - has been the norm for generations on Wall Street; even if the rules were widely flouted during the now busted boom, they are not new. This is reform in the same way "Love Thy Neighbor" is reform.

It's fine to make existing rules more specific. But these reforms might even harm investors. Many have filed claims, either through arbitration or as members of class actions. In a conference call with the press on Monday, Melvyn Weiss, the lead lawyer in a class-action lawsuit focusing on corruption of the IPO process, said the regulators "are trying to make appear as new." If judges or arbitrators believe that, they might let bankers or analysts off the hook on the notion that new laws should not apply to past conduct, Weiss said.

The SEC and the states set aside $387.5 million as "disgorgement," money that might in theory be used to compensate investors. Everyone knows this amount is minuscule relative to the hundreds of billions in losses (only a fraction of which, to be sure, could be linked to corruption). Regardless, Spitzer insists that the evidence his office has unearthed will help private lawyers make claims for their clients. This may be the case.

But the obsession with private e-mails obscures the fact that analysts were quite openly participating in sales calls with investment bankers. Bankers routinely bragged to potential clients about their analysts, who would "support" the new issues. All the sophisticated players knew, including, one hopes, the regulators. But while it was going on, the regulators - and the investing public - looked away.

All this is the way of the world on Wall Street and it comes as no surprise. But Spitzer and the SEC should tone down all the "historic" talk. And he should probably leave Teddy Roosevelt out of it.

Dan Ackman is a senior columnist for Forbes.com.