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Securities and Exchange Commission v. Ralph R. Cioffi and Matthew M. Tannin

June 18, 2012


The opinion of the court was delivered by: Block, Senior District Judge:


The parties to this civil enforcement action have negotiated a settlement.

Because the settlement contemplates the entry of consent judgments, it requires the Court's approval. See Barcia v. Sitkin, 367 F.3d 87, 90 (2d Cir. 2004) ("[A] consent decree (or consent judgment) is an agreement of the parties entered upon the record with the sanction and approval of the court." (citation and internal quotation marks omitted)).

Many in the financial world believe that the recent economic crisis was triggered by the collapse in 2007 of Bear Stearns and, in particular, the roughly $1.6 billion in losses suffered by two of its hedge funds.*fn1 On June 18, 2008, the government indicted the funds' two managers, Ralph Cioffi and Matthew Tannin, on charges of securities fraud and wire fraud. Basically, the indictment centered on their alleged misrepresentations as to the health of the funds when they knew that the funds were on their last legs. On the same date, the Securities and Exchange Commission ("SEC") brought this civil enforcement proceeding to, inter alia, recover monetary damages.

After a lengthy jury trial, Cioffi and Tannin were acquitted on November 10, 2009, of all criminal charges. The SEC then advised the Court that it wished to press forward on its civil suit, and the Court set the case down for trial to begin in February 2012. Just weeks before the trial was to start, the parties advised the Court of the settlement. On February 13, 2012, they presented the terms of the settlement in open court for the Court's approval. At that time, the Court characterized the money that the defendants would be paying to the SEC - $800,000 by Cioffi; $250,000 by Tannin - as "chump change" in light of the $1.6 billion in losses to the funds' investors, and asked the parties to submit letter briefs as to the reasons why the Court should approve the settlement. Those briefs were filed on February 21, 2012.

Having carefully reviewed the parties' submissions the court is constrained to accept the settlement. In doing so it notes the limited powers that Congress has afforded the SEC to recoup investor losses -- as well as obstacles that it has placed in the path of litigation by the private bar -- and invites Congress to consider whether more should be done by the government to come to the aid of the victims of Wall Street predators.


It is useful to first recount the events that led to the demise of Bear Stearns and the so-called collapse of the financial markets. As 2005 drew to a close, the 15-year bubble in the U.S. housing market finally burst. As home values fell, defaults on home loans increased, as did foreclosures of the mortgages securing the loans. As they continued to fall, lenders found themselves holding bigger and bigger piles of worthless debt.

The effect was particularly dramatic in the subprime mortgage market, in which banks and mortgage companies offered financing to higher-risk borrowers in exchange for the reward of higher interest rates. By 2007, major subprime lenders were posting huge losses. Some companies put themselves up for sale for pennies on the dollar; others simply went out of business altogether.

The widespread failure of banks and mortgage companies would have been bad enough, but the crisis soon spread to the entire financial sector. Lenders had long leveraged their debt holdings as collateral for bond issues and other securities. By the late 1990s, enterprising individuals were taking the practice to new levels, bundling hundreds or thousands of individual debts, cutting them up into slices (or "tranches") of various risk levels, and offering them to the investing public. These collateralized-debt obligations ("CDOs") became cash cows for several major Wall Street houses, including Merrill Lynch, Goldman Sachs, Lehman Brothers, Morgan Stanley and Bear Stearns. Although CDOs could be structured around many types of debt, mortgage-backed securities ("MBSs") were a particular favorite. By one estimate, well over $1 trillion inMBSs were issued by the private sector in 2006 alone; almost half of those were backed, at least in part, by subprime mortgages. See Office of Federal Housing Enterprise Oversight, Mortgage Market Note 08-3: A Primer on the Secondary Mortgage Market 3-4 (July 21, 2008), available at*fn2

The complexity of MBSs and CDOs made it difficult for anyone, including the industry's bond-rating agencies, to quickly and accurately determine the status of their collateral. But as the sheer volume of mortgage defaults and foreclosures grew, it became apparent that the toxicity of the underlying debt was infecting the securities it backed. The cash cows had become diseased.

The effect on issuers was swift and catastrophic. Goldman Sachs and Morgan Stanley saved themselves by accepting federal bailout funds, in exchange for which they agreed to become traditional banks. See Andrew Ross Sorkin & Vikas Bajaj, Radical Shift for Goldman and Morgan, N.Y. Times, Sept. 22, 2008, at A1 ("Goldman Sachs and Morgan Stanley, the last big independent investment banks on Wall Street, will transform themselves into bank holding companies subject to far greater regulation[.]"). Lehman Brothers declared bankruptcy -- the largest in U.S. history. The last two players, Merrill Lynch and Bear Stearns, were sold at bargain prices to other entities. By September 2008, the era of the Wall Street investment bank had came to an end. The echoes of the collapse resonate to this day.


In Bear Stearns's case, the collapse was largely attributed to the two hedge funds managed by Cioffi and Tannin under the aegis of one of its subsidiaries. Heavily invested in subprime-backed securities, the funds were also highly leveraged, having used their holdings to borrow hundreds of millions of dollars with which to buy more CDOs. By 2006 the funds had collectively attracted more than $1.6 billion in investments. Even after servicing their debts, they were able to pay exceptional returns of 1% to 1.5% per month.

The funds posted their first losses in early 2007. By the end of May, their investors were clamoring to redeem their investments, while their creditors were threatening to seize their collateral. The resulting cash crunch forced Bear Stearns to halt redemptions on June 7, 2007, and to inject $1.6 billion of its own money into the funds two weeks later.

Those measures bought the funds less than a month. On July 17, 2007, Bear Stearns announced that the seizure and forced sale of increasingly worthless assets had left "effectively no value" in one of the funds and "very little value" in the other. Accountancy: Bearing It All, Economist, July 21, 2007, at 41. In the end, the announcement proved to be optimistic. Both funds filed for bankruptcy protection on August 1st. One hundred percent of the $1.6 billion in investor equity was wiped out.

By the time the dust settled, Bear Stearns was moribund. Attention shifted to Cioffi and Tannin, and the criminal and civil proceedings were initiated.

The crux of the civil settlement is that the defendants, without admitting or denying the SEC's allegations, have agreed to the entry of consent judgments against them. Those judgments would

* enjoin both defendants "from violating Section 17(a)(2) of the Securities Act of 1933 [15 U.S.C. ยง 77q(a)(2)] in the offer or sale of any security by the use of any means or instruments of transportation or communication in interstate commerce or by use of the mails, directly or indirectly[,] to obtain money or property by means of any untrue statement of a material fact or any omission of a material fact necessary in ...

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