Questions for Khuzami

April 16, 2010

When the SEC announced its case against Goldman this morning, the Commission’s Director of Enforcement, Robert Khuzami, happened to be at the same New Orleans conference as this columnist. I’ll have more thoughts after I’ve had a chance to read the complaint. In the meantime, I thought I’d share some notes from the question/answer session he did with those of us in the mini press corps on hand.

Here’s the tape from CNBC. Your correspondent was off to Khuzami’s right…


1. How is this different than any other synthetic CDO? All of them are structured with a short on the other side.

He said there’s a difference between just going short and going short while simultaneously picking the bonds that are in the deal. The securities fraud occurred when Goldman failed to disclose the role Paulson played picking the bonds.

2. There are likely many other cases of subprime shorts directing the structuring of CDOs. Magnetar is one. But there are guys mentioned in Michael Lewis’s book, and many others besides Paulson. If the SEC is targeting Goldman for failing to disclose the role shorts played in this deal, will it target other banks who may have similarly failed to disclose?

He said they’re looking at a wide range of products … If they see securities with similar profiles, they’ll look at them closely.

3. According to e-mails in the complaint, ACA was communicating with Paulson and had final say about bonds went into the deal. So is it really that misleading to tell investors that the bonds were selected by an objective third-party manager?

Paraphrasing Khuzami’s response: ACA wasn’t really an objective third-party constructing the portfolio, as promised by offering docs, since Paulson was so heavily involved.

4. What about the SEC’s reputation? After the BofA blowup, it will look pretty bad if this prosecution fails.

Paraphrasing: Our job is to investigate and bring cases and that’s what we’re doing here.


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I posted this already, but it’s probably worth posting this again.

The legal loophole still hampers the SEC from retrieving the money from John Paulson, even if the SEC wins this one.
The legislators need to act fast.

If a baseball franchise influences the players so that the team loses, and, in the meantime, bets against the team. Everybody knows it’s a crime, but the analagous betting behavior by the financial sector is not specifically codified as a “crime” yet by law.

The SEC can only prosecute under the misrepresentation and failure to disclosure law. So John Paulson cannot be charged and the profit pocketed by his Hedge Fund is not retrievable by this action.

Posted by Jos5319 | Report as abusive

After the whole Madoff mess, the SEC needs to look real thorough with this Goldman scrutiny

Posted by Storyburncom_is | Report as abusive

The preceding is not necessarily true. If Paulson participated in a conspiracy to facilitate the “misrepresentation and failure to disclos(e)”, they will be as liable at GS. Of course, the hard part is proving that.

More broadly, I’m hoping the FBI will step up and apply the RICO statute to what has gone on in the financial sector. It will make taking down Italian organized crime look like a cakewalk.

Posted by Lilguy | Report as abusive

Is Paulson acting on material non-public information when shorting the very same CDOs that he is selecting on behalf of ACA? The timing of his executing those trades is crucial under the law. But it is certainly unethical in any case, especially if Paulson’s team has CFA charter holders. CFA ethics standard require that the individual bring the matter to management attention and disassociate from the situation. Any investigative journalists reading this?!?

Posted by TaggartGalt | Report as abusive

Summary: Khuzami remained fair and firm while the gaggle feigned amazement that such an investigation might even go the distance.

Anyone who flirts with the prospect of the SEC faltering in its public service is likely to remain stigmatized for life. From here on in, they have it coming.

Posted by HBC | Report as abusive

Any rogue trader can hide a trade in desk

Posted by Storyburncom_is | Report as abusive

You are correct that they are theoretical ways to circumvent the loopholes, but the associated hurdles are nonetheless unreasonably steep.

Prosecuting on the conspiracy theory is one. Common sense makes many common taxpayers wonder if Paulson should be considered truly the mastermind. Accomplice, or even solicitation theories may be considered, to charge Paulson. However, as you pointed out, additional evidence is required. Nobody expects somebody committing an unethical act to make elaborate documentations of their communication. In real life, it is always the opposite. To expect your theory to be sufficient to work justice to meet the common taxpayers’ expectations, would be analagous to expecting and relying on murderers and bank robbers to make videos of their crimes for law enforcement. How often does that happen?

Therefore, despite your distracting argument, the bottomline remains the same. The relevant laws must be revised, and revised urgently. Otherwise, the hope will be much dimmer, for recuperating any substantial, or even any meaningful part of the loot. The American taxpayers deserve it. Our children and grandchildren deserve it.

Posted by Jos5319 | Report as abusive

I have no problem with strengthening laws that inhibit or prevent the kind of alleged activity GS & Paulson, et al, engaged in. Indeed, I’m all for it.

Still, now having it’s foot in the door, the SEC can depose people and search any available records for evidence of Paulson participation in the alleged fraud. First, I suspect they will find something (all bank robbers are videotaped) and, second, I don’t think it will take a very high standard of evidence to persuade a jury (if this comes to that) that Paulson was part of a plot. Maybe a judge could prevent that outcome, but I don’t think he/she would.

I also suspect a variety of criminal charges to be levied against the players in Abacus–and probably other GS–CDO deals. NY and Connecticut are already in the process. Foreign governments are now after GS & I expect that Paulson won’t be far behind.

As Simon Johnson put it, I think we’ve had our “Pecora moment:” The beginning of the end of the kind of deceptive and fraudulent trading tactics used by GS and other TBTF institutions, and their allies among hedge funds, etc.

Posted by Lilguy | Report as abusive

Is Paulson too big to fail too? RICO is the only way to go.

Posted by BRUVIE | Report as abusive

I hope you will be correct that more charges are underway.
However, I saw how Khuzami answered reporters on TV. Responding to why he was not charging Paulson, Khuzami said that Paul “did not misrepresent”. If Khuzami has any current plans to charge Paulson for soliciting Goldman to commit the alleged fraud, I don’t think Khuzami would have chosen those words.

Secondly, according to that news report, Goldman claimed to have lost money overall, and received only about 150 million dollars from Paulson, while Paulson made some billion or billions of dollars.

Taken together, the loot is with Paulson. If Paulson is not a defendant, I do not see how the money can be retrieved through the current charges alone.

Don’t forget there is incredibly intense pressure on Khuzami to win this case. He knows well that he could be pounded on if he has to back off on any accusation, as if he had no merit and damaged the reputation of Wall Street— all kinds of unfair backlash. I happen to think that if that happens, it is mostly because he is prosecuting on laws designed to prevent Enron. Those laws are full of loopholes for the purpose of the prosecution of the betting on and promoting toxic mortgages. They are worse for the purpose of the retrieval of the loot from this kind of unethical acts. There is sufficient pressure to force the SEC to act in a conservative manner as is. I don’t doubt that some might argue that a conviction on ANY of such charges will send a stern message and serve as a strong deterrent. However, billions of dollars is a big lure for many who are expert at capitalizing on loopholes. They won’t stop unless the law is explicit on the matters, and not just tangentially forbidding it.

Posted by Jos5319 | Report as abusive

The SEC already “won” just by filing the suit because no matter the outcome guilty or innocent, all deals that stink even remotely as bad Abacus will be regulated like they should have been all along. I vote for the guys with the RICO subpoenas, an army of them, the sooner the better. That should shake out a lot of middle desk CYA testimony to smoke out the Masters. It would really be nice to see America viewed by the world as an example of fair play rather than an embarassment.

Posted by Woltmann | Report as abusive