TCS Daily

The Attorney General Who Would Be King

By Dominic Basulto - June 14, 2005 12:00 AM

Until now, New York Attorney General Eliot Spitzer (the so-called "Sheriff of Wall Street") and his merry band of prosecutors have been able to police the financial markets with a mix of intimidation, bravado and well-timed publicity to extract guilty pleas and high-profile civil settlements from Wall Street wrongdoers. However, last week's acquittal of former Bank of America broker Theodore Sihpol on 29 counts of improper trading in mutual funds has dealt a major blow to Spitzer's carefully constructed image of invincibility. The Sihpol case -- the first of the eight criminal cases resulting from Spitzer's probe into the mutual fund industry that actually went to court -- ended up becoming the first major courtroom defeat for Spitzer. While Spitzer claims that he has no intention of backing down in his crusade against Wall Street, his brand of heavy-handed securities market enforcement apparently has little or no support in the court of law.

While nobody doubts that certain aspects of Wall Street need to be cleaned up, Spitzer has consistently over-reached his authority in his pursuit of wrongdoing on Wall Street. He has shown a willingness to search out and then apply rarely used or obscure laws to extend the prosecutorial reach of the New York Attorney General's office. In the case of conflicts of interest on Wall Street and other allegations of wrongdoing in the financial services industry, it was Spitzer's aggressive interpretation of the 1921 Martin Act that gave the Attorney General's office wide latitude to prosecute fraud in the securities industry. Spitzer has used these expanded prosecutorial powers to force civil settlements from the likes of Merrill Lynch and Marsh & McLennan.

Now that Theodore Sihpol, a relatively low-level brokerage executive who ended up as the fall guy for wealthy hedge fund investors, has stood up to Spitzer, perhaps other Wall Street figures caught up in Spitzer's campaign against financial fraud will be emboldened to challenge Spitzer. It already appears that regulatory authorities could challenge Spitzer's encroachment onto their regulatory turf. Spitzer is already embroiled in a nice little spat with the Office of the Comptroller of the Currency (OCC), which has locked horns with Spitzer over the policing of discriminatory mortgage lending practices. While Spitzer sees nothing wrong with extending his jurisdiction to include nationally-chartered banks, the OCC sees this as an egregious over-stepping of his authority.

Moreover, Spitzer has attacked business practices that appear to skirt the boundary between black and white and, at the same time, attempted to build cases around rarely prosecuted activities. As the Wall Street Journal pointed out in a recent op-ed piece, though, "the criminalization of widely accepted business practices ex post facto is both unjust and offensive to the rule of law." In the case of Sihpol, it was the prosecution of illegal trading in mutual fund shares after the widely accepted 4pm trading deadline. For some time, it has been a dirty little secret that brokers routinely receive same-day pricing for trades that occur after 4pm, giving them an unfair advantage over rivals who play by the rules. For jurors in the case, this obviously posed a problem -- was Sihpol actually doing anything wrong if the securities laws at that time did not explicitly establish a 4pm trading deadline? Recognizing that jurors would not be able to render a guilty verdict, Spitzer was forced to give key witnesses in the trial immunity from prosecution -- a step that only served to increase doubts about Spitzer's case.

Of course, Spitzer claims that his aggressive enforcement stance is actually good for U.S. shareholders and the individual investor. In a Wall Street Journal op-ed piece in April, Spitzer explained at length why strong enforcement of the securities industry is actually good for the American economy. According to Spitzer, the belief that enforcement is bad for the economy "fixates on examples of intrusive government regulation in the distant past." Claiming that we are in a "qualitatively different" period than in the past, Spitzer interpreted that to mean that the U.S. needs more enforcement, not less. Increased regulation, though, does not encourage greater competition or improved allocation of capital -- it shackles competition and leads to inefficient use of resources.

It is perhaps all too obvious why Spitzer has preferred to use headline-grabbing tactics, intimidation and the threat of criminal prosecution to achieve his ends rather than depend on the U.S. legal system. After all, Eliot Spitzer is not just campaigning against financial wrongdoing on Wall Street -- he is also campaigning to become the future governor of New York in 2006. His Web site may not state it outright, but he is trying to leverage his crusade against the most corrupt of Wall Street practices to win over the hearts and minds of New York voters. Sound familiar? To some extent, it's the same strategy that Rudy Giuliani used to campaign for New York City Mayor nearly fifteen years ago. A few more setbacks in the courtroom, though, and New York voters may view Spitzer only as an over-reaching political opportunist.

The author is a TCS contributing writer who covers technology, business and venture capital markets.


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