But many of the CDO managers, while at the heart of the worst excesses of the CDO business, were fly-by-night shops that disbanded in the wake of the financial crisis and are unlikely to be seen as worthy scalps for a resource-starved SEC.
Since the SEC is incapable of targeting each and every malefactor, its strategy typically is to lay down markers for the civil litigants who follow. Once the details behind the
settlements become public, investors and plaintiffs’ attorneys can often use those cases as templates for future litigation.
“Historically the SEC enforcement division has always looked for help from class-action lawyers,” says former enforcement lawyer Landy.
For at least one of the Magnetar deals, the process might be reversed. The Financial Times has reported ($) the agency is looking at a $1.5 billion Magnetar CDO called Norma. The CDO was the subject of a lawsuit against Merrill Lynch, the bank behind the deal, by Rabobank, a Dutch firm that lost money on it. The lawsuit was settled for an undisclosed sum. Merrill is now owned by Bank of America, which declined to comment. Despite the parties’ shutting the door to further discovery, the Financial Crisis Inquiry Commission obtained emails from the lawsuit between the parties involved in the deal.
The emails paint a similar picture to what happened with Squared. In this case, the CDO manager was a small firm called NIR Capital.
“When one Merrill employee learned that Magnetar had executed approximately $600 million in trades for Norma without NIR’s apparent involvement or knowledge, she emailed colleagues, ‘Dumb question. Is Magnetar allowed to trade for NIR?’,” according to the FCIC’s report.
“NIR abdicated its asset selection duties to Magnetar with Merrill’s knowledge,” the FCIC report states.
NIR did not respond to a request for comment.
In a letter to the commission, a Bank of America lawyer stated that NIR had ultimate responsibility for asset selection and it was common for investors like Magnetar to have input in that process.
The SEC’s complaint involving Squared makes it clear that Magneter’s true aim was to bet against the deal, and that JPMorgan and GSC employees knew it. While Magnetar has consistently maintained that it had a market-neutral strategy and was not betting on a housing market collapse, the SEC complaint paints a different picture. A Magnetar employee explained in an internal email that its investment in Squared was “basically nothing,” and that the firm was “just doing it … to buy some protection,” or shorts. A JPMorgan salesperson wrote on Feb. 13, 2007, a year and a half before the financial crisis: “We all know [Magnetar] wants to print as many deals as possible before everything completely falls apart.”
Did Merrill and NIR employees have similar knowledge? An SEC action may reveal the answer. As with Squared, Magnetar’s role in Norma was never disclosed to investors.
