The opinion of the court was delivered by: HAROLD BAER, JR.
HAROLD BAER, JR., U.S.D.J.:*
In this action, the Securities and Exchange Commission ("SEC") has alleged numerous violations of the Securities Act of 1933 ("Securities Act") and the Securities Exchange Act of 1934 ("Exchange Act"). The SEC seeks equitable remedies consisting of permanent injunctions and disgorgement of wrongfully obtained proceeds. The three remaining defendants in this action went to trial before me on December 5, 1994: Rosario Russell Ruggiero, Capital Shares, Inc., and Lawrence Caito, the president of Capital Shares, Inc. The SEC generally alleges that these parties acted in concert pursuant to an unwritten contractual agreement to manipulate the market for certain stocks.
The SEC alleges that all defendants here violated the following securities laws: (1) sections 17(a)(1), 17(a)(2), and 17(a)(3) of the Securities Act [ 15 U.S.C. § 77q(a)(1), q(a)(2), and q(a)(3)]; (2) section 10(b) of the Exchange Act [ 15 U.S.C. § 78j(b)] and Rule 10b-5 thereunder [17 C.F.R. § 240.10b-5]; and (3) section 9(a)(2) [ 15 U.S.C. § 78i(a)(2)] of the Exchange Act. Both section 17(a) of the Securities Act and section 10(b) of the Exchange Act are general antifraud provisions which prohibit any scheme to defraud in connection with the offer, purchase or sale of securities, while section 9(a)(2) of the Exchange Act prohibits manipulation of the prices of those securities listed on a national securities exchange. In addition, the SEC alleges that Caito and Capital Shares violated sections 15(c)(1) and 15(c)(2) of the Exchange Act [ 15 U.S.C. §§ 78o (c)(1) and (c)(2)] (and Rules 15c1-2 [17 C.F.R. § 240.15c1-2] and 15c2-7 [17 C.F.R. § 240.15c2-7] thereunder), which generally prohibit securities fraud and manipulation by brokers and dealers, and section 17(a)(1) of the Exchange Act [ 15 U.S.C. § 78q(a)(1)] and Rules 17a-3 and 17a-4 thereunder [17 C.F.R. §§ 240.17a-3 and 240.17a-4], which impose certain record keeping requirements. There is no dispute that the SEC's burden of proof on all of these claims is the "preponderance-of-the-evidence" standard. Herman & MacLean v. Huddleston, 459 U.S. 375, 390, 74 L. Ed. 2d 548, 103 S. Ct. 683 (1983).
II. THE ALLEGED CONTRACTUAL AGREEMENT BETWEEN THE DEFENDANTS
The SEC's allegations stem from its charge that there was an unwritten contractual agreement (the "Agreement") among the defendants (as well as the other named parties who are no longer defendants) to manipulate the prices of certain publicly traded securities, which, collectively, came to be known as the "Haas stocks" by reference to the Haas Securities Corporation ("Haas"), which also allegedly took part in the illegal activity. The alleged manipulation of the market occurred approximately between January and October 1987. The specific stocks, all of which were traded over the counter, consisted of Big O Tires, Inc., Cliff Engle Ltd., Digital Metcom, Inc., Fountain Powerboat Industries, Inc., Tunex International, Inc., Flores de New Mexico, Inc., and TS Industries, Inc. Of these stocks, Big O, Cliff, and Digital were traded on the Boston Stock Exchange.
The alleged Agreement involved the defendants "engaging in manipulative activity in order to increase the prices to stabilize the prices of the stocks against normal 'market overhang' and against instances of particularly heavy selling pressure." SEC's Post-Tr. Mem. at 1. Such activity, asserts the SEC, was "designed to interfere with the free forces of supply and demand." Id.
Stanley Aslanian pleaded guilty on criminal charges of conspiring to manipulate the market for several of the Haas stocks. Aslanian gave deposition testimony concerning the existence of this Agreement and stated in a somewhat rambling fashion over several days that the defendants were all participants in the Agreement. The defendants do not dispute that there was such an agreement to sell these stocks at a guaranteed profit. Rather, what each defendant argues is that while the other parties knew of the Agreement's existence and acted in furtherance of it, they did not. Essentially, the remaining defendants claim to be victims, as opposed to perpetrators, of the scheme. Ruggiero's Post-Tr. Mem. at 2 ("Ruggiero was . . . a victim of the scheme to manipulate the market carried out by Stanley Aslanian and others at Haas.") Capital Shares' and Caito's Prop. Find. F. & Concl. L. at 10, P 49 ("Caito was not aware that Haas was manipulating the stocks. Aslanian misled Caito and others regarding his manipulation of the Haas stocks." (citation omitted)).
For the reasons that follow, the Court finds that each of the defendants knew of this Agreement and acted in accordance with it, thereby violating the various provisions of the Securities Act and the Exchange Act, and the rules promulgated thereunder, noted above.
III. CAPITAL SHARES AND CAITO: MARKET MAKER OR MANIPULATOR?
The SEC has specifically alleged that defendant Capital Shares, a broker-dealer registered with the SEC, and Caito (as sole shareholder, President, Head Trader, and "control person" of Capital Shares) artificially increased the value of the Haas stocks, quoted excessive prices for these stocks, and effected "wash sales." The last allegation refers to a practice whereby stock is traded between parties who are related and thus no actual change in beneficial ownership occurs as a result of the sales. Ernst & Ernst v. Hochfelder, 425 U.S. 185, 205 n.25, 47 L. Ed. 2d 668, 96 S. Ct. 1375 (1976). This creates the illusion that the stock is being more heavily traded than is actually the case.
Because the alleged underlying "guaranteed profit" Agreement was unwritten, the SEC's evidence of these defendants' participation in it is indirect (except for the testimony of Aslanian, who pleaded guilty and agreed to cooperate with the government). However, as will be discussed below, the law allows the Court to rely on indirect evidence to sustain a finding that defendants manipulated the market. SEC v. Resch-Cassin & Co., 362 F. Supp. 964, 976 (S.D.N.Y. 1973).
The SEC relied heavily on the expert testimony of William Rothe, the Managing Director and head of over-the-counter trading at Alex Brown & Sons and a member of the Board of Governors of the National Association of Securities Dealers Automated Quotation System. Rothe's testimony showed that Capital Share's bid quotations and transactions in the subject stock, as well as their general practices in executing these transactions, were inconsistent with those of a lawful marketmaker.
For example, Capital Shares claims that it is normal at the end of a day of trading to "recap." Capital Shares' and Caito's Prop. Find. F. & Concl. L. at 7, P 30. According to Capital Shares, this means that at the end of the day, the marketmaker will contact a given broker-dealer to confirm a trade with that broker-dealer as to size, price and/or security. However, Rothe testified that the frequency with which Capital Shares "recapped" with Haas in particular was inconsistent with lawful industry practice. Trial Tr. at 842-43 (Rothe). The frequency with which the "recapping" with Haas occurred is instead consistent with the SEC's contention that Haas was acting as buyer of last resort for their own stocks, which Capital Shares was regularly buying in huge quantities. Moreover, Aslanian, Rothe and Carl Mark Burgess, a Haas employee during the times at issue, testified that the "recapping" was done to inform Laff and Aslanian of which stocks Caito expected Haas to buy back pursuant to the Agreement. Ct. Ex. A at 149-52, 219 (Aslanian); Trial Tr. at 448-49 (Burgess), 792-93 (Rothe). Thus, Haas was being contacted for the purpose of confirming that it was actually going to buy back the stock that Capital Shares had purchased on the market. The resulting purchases made it appear as though the stock was being more heavily traded than was actually the case. This conclusion is supported by the fact that such a large portion of the Haas stocks ...