Comments on: Judge in SEC’s Bear Stearns case catches Rakoff fever On the Case Fri, 15 Jul 2016 20:42:45 +0000 hourly 1 By: nate1604 Fri, 17 Feb 2012 12:13:55 +0000 Very interesting development. Based on everything I have read about these hedge funds and the criminal trial it was probably wise for the SEC to “cut their losses” and admit defeat sooner rather than later. The SEC probably raised the white flag of surrender after high-level brass saw a delivery truck with the Defendants’ file-cabinet-sized summary judgment pleadings.

IMO it is very telling that the SEC’s civil complaint OMITS several crucial details of the alleged misconduct, namely:
(1) the identity of ANY of the investors (alleged victims);
(2) the manner in which the investors (alleged victims) came into contact with the hedge fund and subsequently agreed to invest in the hedge fund(s).

The SEC’s complaint makes it sound like Cioffi was “targeting” unsuspecting investors who unwittingly decided to invest in a hedge fund by “accident”, in the same way that Charles Keating sold debt securities to 90 year old grandmothers in the lobby of Lincoln Savings adorned with government-insured seals of approval.

The SEC’s complaint seems to be predicated upon the existence of both (1) an identifiable “hedge fund industry” and (2) judicially ascertainable “industry standards” by which that “industry” operates. While it is undeniably true that a “hedge fund industry” does exist in the legal and accounting sense, it may be very difficult to present admissible evidence of any readily-ascertainable “industry standards” upon which Hedge Fund investors could reasonably expect to rely, other than the plain language of the Trust Indentures and other applicable transactional documents which those investors knowingly signed.

The SEC’s complaint contains repeated references to Cioffi’s alleged withholding of negative information about the deteriorating subprime market; but it is likely that the investors signed written agreements which not only allowed Cioffi to withhold various types of information from investors, but which also expressly prohibited investors from ever claiming any reliance upon any such withheld information (based the investors assurances that they were fully capable of performing their own independent due diligence).

Also the SEC’s complaint apparently assumes ipso facto that it was actually possible for Cioffi (or anyone else) to generate or obtain “accurate” accounting reports which could meaningfully describe the hedge funds’ “true financial condition” at a particular point in time. However virtually every RMBS/CDO offering document contains explicit disclaimers and warnings essentially stating (in not so many words) that it is IMPOSSIBLE for ANYONE to generate scientific, independently-verifiable formulas or models which accurately predict the instrument’s expected cash flows with any reasonable degree of certainty. Given that there was (and is) no “readily ascertainable” method of objectively valuing/monitoring the individual RMBS/CDO securities associated with these hedge funds, it may be very difficult for the SEC to establish that Cioffi actually provided investors with “false” valuations in the first instance, let alone that Cioffi actually believed they were “false”.