In late March, when James Kidney retired as a trial lawyer at the Securities and Exchange Commission after 24 years, he gave a retirement speech to remember. The 66-year-old lawyer accused the agency of padding its enforcement statistics by targeting small time violators, while it politely tiptoes around executive suites. Rarely have such criticisms been stated so bluntly and publicly by an agency insider.
Although Kidney didn’t mention a particular case, one example he could have cited was the SEC’s lawsuit against Goldman Sachs & Co. over its Abacus investment vehicle. More than 2,000 pages of documents released by the SEC in response to an American Lawyer Freedom of Information Act request show Kidney’s frustrations over the SEC’s handling of that case, and the divisions within the agency over the investigation. (For a full timeline of the SEC’s deliberations, click here.)
“My experience in this case still bothers me a lot,” Kidney said in sworn testimony taken in the summer of 2010, a few months after the SEC sued Goldman and trader Fabrice Tourre. Over 80 minutes of testimony [PDF], Kidney vented his frustrations that the SEC didn’t target anyone more senior than Tourre. “We take extraordinary inferences and apply them to common little people,” he said. “It still bothers me that we had a lot more than inference here and we didn’t do anything with it.”
Kidney was one of at least 30 SEC lawyers and officials who testified in the summer of 2010 in an investigation by the SEC’s then–inspector general, David Kotz, into whether the Goldman Sachs case was politically motivated. He concluded it wasn’t.
In a statement, SEC director of enforcement Andrew Ceresney declined to address the Abacus case, but maintained that the agency has been aggressive. It has filed enforcement actions against 169 individuals and entities arising from the financial crisis, he noted, including 70 CEOs or other senior executives, leading to $3 billion in monetary relief. “We’re proud of our record of holding wrongdoers accountable to the fullest extent of the laws we oversee and putting money back in the pockets of harmed investors,” he said.
The SEC opened its probe into the Abacus collateralized debt obligation in 2008, investigating whether Goldman misled investors in 2007 by failing to disclose that it let hedge fund manager John Paulson pick faltering mortgage securities for the CDO and then bet against it. Two large investors lost more than $1 billion. Kidney joined the Abacus investigation in the summer of 2009, when it was led by then-­associate director Cheryl Scarboro and assistant director Reid Muoio. They were focused on charging Tourre, a 28-year-old Goldman vice president at the time of the deal who was tasked with marketing the CDO.
Kidney told Kotz he was dismayed by the investigation. “When I got in, the staff, particularly the assistant director, seemed to pretty much feel that the investigation was over, which shocked me,” he said. “There were obvious holes in the investigation. …It was not a case where there was only one low-level vice president involved.”
Kidney was particularly upset by Muoio’s “extreme reluctance” to take the testimony of Jonathan Egol, then a Goldman Sachs managing director who supervised Tourre. “Muoio tells me: ‘We’re not going to do Egol because we already know what his position is going to be, which is that he was too busy. This is just a job he let Tourre do.’”
Muoio confirmed to Kotz that he didn’t want to take Egol’s testimony. “We were highly unlikely, highly unlikely to have a case against him,” he told Kotz. Muoio, who is still at the SEC, declined to comment.
Kidney was astounded by this reasoning. “It just seems to me this was the first time in my whole career here that we were not following the string. We were not going to take the [testimony of the] supervisor of this guy who clearly we were going to sue? Not even take the supervisor’s testimony? I mean the smallest stock-manipulation case, the smallest insider-trading case, the smallest almost anything would go at least a little way up the supervisory chain, interviews, testimony or something.” Kidney was further angered when the case was scheduled for a vote by the five commissioners in December 2009 without Egol’s testimony.
In her interview with Kotz, Scarboro said she supported taking Egol’s testimony; now a partner at Simpson Thacher & Bartlett, she did not respond to a request for comment.
Kidney threatened to quit the case, but the acting head of the trial unit, Mark Adler, convinced him to stay. Kidney told Kotz that he “was told that the front office … liked the fact that I was aggressive.” Adler, now chief trial counsel at the Public Company Accounting Oversight Board, did not respond to requests for comment.
Kidney’s protests led the vote to be delayed to take the testimony of Egol, who was interviewed on Jan. 7, 2010. Muoio told Kotz the interview was a bust. “We didn’t lay a glove on him,” Muoio said. But Kidney said he was encouraged by the testimony, as was Lorin Reisner, who was then the deputy director of enforcement, in part because Egol admitted reviewing the Abacus marketing materials.
A vote on the case was rescheduled for Jan. 28. Two days before that vote Commissioner Troy Paredes, one of two Republicans on the commission, met with Kidney and the rest of the Abacus team. Paredes questioned whether Ababus marketing materials that claimed a neutral asset manager selected the portfolio were truly misleading, Kidney told Kotz. In addition, Kidney said, Paredes “raised the issue of whether Goldman could be held liable if we only named Tourre.”
The vote came off the calendar a second time. When interviewed by Kotz, Paredes said he didn’t recall why. Now a fellow at the Hoover Institution, Paredes did not respond to a request for comment.
Egol’s interview apparently wasn’t totally useless. The SEC issued a Wells notice to Egol on Jan. 29, 2010, informing him that the enforcement staff planned to recommend charges against him. After a March 4 meeting with Egol’s lawyer, then-enforcement chief Robert Khuzami polled the team: Kidney, Reis­ner and another SEC lawyer wanted to sue, according to the transcripts; Muoio remained against it.
Khuzami had the final say. On March 23 he emailed the team: “I’m a no on Egol.” An upset Kidney quit the case. “I’m out,” he wrote back to Khuzami. Later, to Kotz, he called his reaction “childish” and “impulsive,” adding that he quickly apologized and asked to stay on the case.
In testimony of his own [PDF], Khuzami told Kotz the decision not to pursue Egol was a “difficult judgment call,” but he concluded they didn’t have the evidence. Now a partner at Kirkland & Ellis, he declined to comment for this story. Reisner, now the chief of the Criminal Division of the U.S. Attorney’s Office for the Southern District of New York, says he is “completely comfortable” with the charging decisions. “Jonathan Egol did nothing wrong,” says his lawyer, Frank Wohl of Lankler Siffert & Wohl. “The SEC clearly got it right when it decided not to sue him.”
After the SEC filed its case against Goldman and Tourre on April 16, 2010, Kidney moved off the Tourre trial team, after being assigned a lesser role. In 2011 he won an insider trading conviction against a former executive of TPG Capital Inc., and he was one of the leaders of the SEC’s pending fraud case against former executives of Fannie Mae and Freddie Mac.
Last August a Manhattan federal jury found Tourre liable for misleading investors, and in March he was ordered to pay more than $825,000. At press time, he had not indicated whether he would appeal. His lawyer, Pamela Chepiga of Allen & Overy, declined to comment. Egol retired from Goldman in February.
In parting words to his colleagues, Kidney placed much of the blame for the SEC’s timidity on the revolving door between the SEC and Wall Street. “I have had bosses, and bosses of my bosses, whose names we all know, who made little secret that they were here to punch their ticket. They mouthed serious regard for the mission of the commission, but their actions were tentative and fearful in many instances,” he said. “The revolving door doesn’t push the agency’s enforcement envelope very often or very far.”