The CRIMINAL CASE against BEAR STEARNS

Wall Street on Trial: A Case That Could Falter

October 12, 2009, 11:30 am

Dan Slater, a former litigator, is following the government’s criminal case

against two former Bear Stearns hedge fund managers for DealBook.

Here is his analysis of the coming trial.

For the blood-thirsty, there’s the specter of retribution for an act that some believe tipped the first domino in the global financial crisis. For those who think a bailout-happy Washington has taken it too easy on the financial sector, the prosecution of two hedge fund managers, the era’s shadowy and iconic Wall Street players, represents the first instance of government pushing back. And then there’s the legal community, eager to see whether an indictment so rich in seemingly damning e-mail messages will in fact yield guilty verdicts.

But several former prosecutors say that the coming criminal trial of Ralph Cioffi and Matthew Tannin, the former Bear Stearns hedge fund managers brought up on fraud charges in connection with the implosion of two funds, is far from a slam dunk. And they say that any attempt by the government to build a case based on anti-Wall Street sentiment could backfire.

The trial is scheduled to start on Tuesday in Federal District Court in Brooklyn.

At the time of indictment, in June 2008, government lawyers appeared to have uncovered what prosecutors called “badges of fraud” — indicators that people were up to no good. For instance, just a few days before a conference call in which Mr. Tannin told investors that “we’re very comfortable with exactly where we are,” he sent an e-mail message from his personal account telling Mr. Cioffi that the subprime mortgage market – the market to which the funds were tied — “looked pretty damn ugly,” and that, if a recent report was correct, “then the entire subprime market is toast.”

The indictment is rife with similarly quotable remarks that appear to be at odds with the defendants’ public pronouncements regarding the health of the funds. But prosecutors must show that these isolated comments represent a pattern of thinking over time — a scheme to defraud — rather than merely a thought of the day.

“A case based on internal e-mails, bereft of context, can teeter precariously when witnesses appear at trial and provide an unanticipated framework,” said John Hueston, who prosecuted Enron’s former top executives, Jeffrey K. Skilling and Kenneth L. Lay. “That’s the lesson we learned in Enron. Be careful with what appears, on its face, to be a smoking gun.”

A case heavy on e-mail traffic could, in fact, benefit the defense. Bradley Simon, a former federal prosecutor in the Eastern District of New York, the same office that is handling this prosecution, explained: “As a defense lawyer, I like this situation because everything is subject to interpretation. It’s harder to cross-examine live witnesses, to shake them from their positions. But e-mails aren’t human. You can attribute many meanings. It’s an opportunity for creative lawyering.”

As the first major prosecution for behavior that has been linked to the financial crisis, the enormous portent in this case could also, paradoxically, play to the defendants’ advantage. Many fraud cases brought by the Justice Department in recent memory have involved defendants who are accused of causing the particular collapse in question.

Take Enron. There, it could be argued that Mr. Lay and Mr. Skilling, given the strategies they used, brought down the company.

But the case of Mr. Cioffi and Mr. Tannin, lawyers say, hews to a different narrative. After all, much has changed in the world since the implosion of the Bear Stearns funds in 2007 and the fire sale of Bear to JPMorgan Chase the following year. Lehman Brothers, for instance, would collapse in spectacular fashion and the financial crisis would continue to flower.

Therefore, Mr. Hueston said, “it’d be a mistake for the prosecution to try to inflame the passions of the jury by portraying this case as somehow connected to the meltdown. That argument is too easy to attack.”

Indeed, expect defense lawyers to toss “scapegoat” around liberally in an effort to get jurors, despite any enmity they may have toward bank employees, to see Mr. Cioffi and Mr. Tannin as objects of irrational hostility.

Prosecutors, perhaps aware of this pitfall, wrangled with the defense over whether “lifestyle” evidence would be admissible. The government hoped that presenting the jury with Mr. Cioffi’s assets, including cars, golf memberships and real estate holdings, would help explain why a man who supposedly made more than $30 million in 2005 and 2006, and who had not led a criminal lifestyle, suddenly decided to lie.

(Notably, material aspiration is what gave birth to the case against the prominent New York lawyer Marc Dreier, one of the chief Madoff-era Ponzi schemers. According to a recent profile in Vanity Fair, Mr. Dreier was lamenting his lack of beachfront property when he decided to embark on one of the more brazen frauds in Wall Street history. In July, Mr. Dreier was sentenced to 20 years in prison for defrauding clients and investors out of about $400 million.)

Motive, as the aphorism goes, is never an element but always relevant. Because people don’t just lie, they lie for a reason like, say, in the hopes of continuing to live high on the hog. So while motive is not technically part of fraud, it will be argued by both sides to establish whether the defendants had the requisite “intent” — here, a knowing fraud — for the crime charged.

But lifestyle evidence also has a more sinister purpose. It exacerbates class division between defendant and juror, not unlike the $6,000 shower curtain that became the pièce de résistance of the case against L. Dennis Kozlowski, the former chief executive of Tyco International, who in 2005 was convicted of crimes related to looting the company.

As such, the judge, Frederic Block, said at a pretrial hearing in the Cioffi-Tannin case that he did not think “people should be subject to being convicted for crimes based upon the fact they have a big or small lifestyle.” Ultimately, he instructed the government not to mention lifestyle evidence in its opening statement. Although prosecutors are permitted to tell the jury that as the funds’ prospects were looking bleak, Mr. Cioffi redeemed $2 million of his $6 million investment in one of the funds.

Meanwhile, on the other side of the courtroom, defense lawyers will paint their clients as loyal employees whose aggressive salesmanship was fostered by Bear’s notoriously cutthroat and self-interested culture. They will argue that Mr. Cioffi and Mr. Tannin were effective for more than three years before they became early victims of a worldwide financial crisis.

Legal experts say that Mr. Tannin, in particular, might take advantage of a “wrong place, wrong time” argument. His lawyers could theorize, for instance, that his ambivalence over whether he and Mr. Cioffi should approach a lawyer, or even close the funds altogether, reflects a sense of panic and desperation rather than intent to defraud and that he was simply paralyzed by circumstances spiraling out of control.

“There’s a lot of animosity right now toward people on Wall Street,” said Eric Sussman, who led the successful fraud prosecution of the media magnate Conrad M. Black in 2007. “That public sentiment is manifest in all the cases, civil and criminal, coming up. It’s a tough hurdle, but not insurmountable.”

Dan Slater, a former litigator, is a freelance journalist in New York and a former writer for The Wall Street Journal’s Law Blog.

http://dealbook.blogs.nytimes.com/2009/10/12/wall-st-on-trial-a-case-that-could-falter/