Henry Kissinger’s quip about the Iran-Iraq War, “It’s a pity both sides can’t lose,” might as well apply to New York State Attorney General Andrew Cuomo’s impending legal assault on several leading banks for alleged criminality in their mortgage-backed CDO business. With their bailouts, heads-I-win-tails-you-lose compensation packages and arrogance, the banks have few well-wishers, even among hedge fund managers like me, whom one might assume to be the bankers’ natural class allies.
As for Mr. Cuomo, in his previous incarnation as President Bill Clinton’s HUD secretary, he pushed Fannie Mae and Freddie Mac to step up their mortgage lending to less qualified borrowers, setting a few snowballs rolling down the slope that later unleashed the subprime avalanche. In the wake of Elliot Spitzer, we in finance regard the office of NYS-AG not unlike the Jews might have viewed the Inquisition post-Torquemada — with suspicion and hostility no matter who the next guy empowered with the Martin Act or auto-da-fé, respectively, happens to be.
The attorney general assumes that behind every great fortune lost, there is a great crime. Would that it were so: Fewer fortunes would be lost.
The gravamen of Mr. Cuomo’s complaint is that the banks misled the rating agencies—a strangely narrow link in the subprime crisis’ long chain of culpability. (Leave aside the question of whether designing securities to game rating models constitutes fraud rather than invidious cleverness.) Cast here as the victims are the agencies, a group that most observers would brand as malefactors. If their promiscuity in assigning triple-A ratings broke no laws, the agencies were at least violating their moral duty to be intelligent. Mr. Cuomo’s gambit is akin to waging the war on drugs by prosecuting only the guys who recruit mules—for lying about the weight of the contraband they were asked to carry. You have to wonder why the attorney general has gone here to look for his scapegoat.
For one thing, every other link in the chain was heavily regulated. Mr. Cuomo can’t just preempt the competent regulator, as Mr. Spitzer learned when he tried to launch his own investigation into bank lending practices and found himself on the business end of a suit from the Office of the Comptroller of the Currency. The banks know the letter of the regulations to which they are subject. Mr. Cuomo must realize by now that the banks followed the articulated rules on disclosure and other duties when they issued mortgage-backed securities. The highly paid structuring gurus of Wall Street bring jesuitical brilliance to meeting the letter of the law whenever they flout its spirit.
Mr. Cuomo has latched on to the one relationship that fell into the interstices of the various regulatory schemes. Without verbose regulations about how banks should deal with rating agencies, the banks can’t point to scrupulous adherence to the letter of the rules; and Mr. Cuomo can wield the bludgeon of the Martin Act—no proof of criminal intent required!—to chastise behavior that is merely unseemly.
Having seen how well his sharper and more vicious predecessor fared as far as eventual convictions in his own attack on Big Finance, Mr. Cuomo knows that’s not the game. Rather, his goal is to turn up embarrassing dirt and thereby motivate a settlement that will make the drip-drop of revelations stop. No doubt about it: The paper trail is going to be a gold mine of banker bravado. Once exposed, the emails will make “Fab” Fabrice Tourre’s fulminations look as polite as a wedding-gift thank-you note. Out of everybody on the Street, Goldman guys, in my experience, exhibited the strictest email discipline.
I would be saddened if all this served to kill off the culture of Wall Street trader email. It’s our poetry, a vibrant demotic of boasts, cynicism, exuberant vulgarity and braggadocio, where a deal that disappoints is a “pig” or “dog”; a rapid reversal in a trade is a “facial”; and bonds get tagged with insulting nicknames. When Argentina issued a bond called “NOBACs,” a friend of mine dubbed them in an email “NO-pay-you-BACs.” Should she then never be permitted to sell them, regardless of how low the price or how well educated about Argentine perfidy the buyer might be?
Turning these kinds of emails into ammunition for prosecutions makes about as much sense as issuing a warrant every time a gangsta rapper drops a track about smoking a rival. It’s just a persona, the rapper asserts. The same goes for the traders, who have a little fun playing the badass for each other—before heading home to their lives as upstanding citizens of the Upper East Side or Greenwich, Conn.
The attorney general assumes that behind every great fortune lost, there is a great crime. Would that it were so: Fewer fortunes would be lost. Sometimes, the blame is to be laid at the door of mistakes, bad ideas, sloppiness and greed, all of which surely abounded at every link of the mortgage-backed securities chain. Great sins, to be sure. But not every sin is a crime. And we ought to be skeptical when the prosecutor needs to make himself a hero—or is seeking the office of governor. And even when the sinners, like the banks, make for great villains.
HFM’s Diary of a Very Bad Year: Confessions of an Anonymous Hedge Fund Manager will be published in June.