It's not really a surprise that federal investigators found a way to press charges against SAC Capital, the massive Stamford-based hedge fund run by art-collecting billionaire Steve Cohen. Preet Bharara, the crusading U.S. Attorney from the SDNY, has been on a quest to bring down Cohen and SAC for what feels like a decade, and the dozen-odd smaller insider-trading cases brought against employees of SAC in the past few years have been leading up nicely to one big, fat set of charges against the firm itself.
What's surprising is how convincing the new charges are.
First, it's worth explaining that criminal liability – the idea that corporations, rather than individuals, can be charged with crimes – is a very controversial legal concept, and you can kind of see why. If a group of Walmart executives cheat on their taxes, shouldn't they get charged with tax evasion individually? Why should the entire organization – down to cashiers and shelf-stockers – be punished for the sins of a few? Corporate liability is especially dicey when it comes to financial firms, which for various reasons are often put out of business when they're charged with crimes. (See: Andersen, Arthur.) And most times, prosecutors settle corporate criminal cases rather than bringing a full indictment, to avoid the possibility of too much collateral damage.
I happen to think that corporate criminal liability is problematic in a lot of scenarios. But after reading the indictment, I'm convinced that SAC Capital might be one of the few examples where indicting the entire company actually makes sense.
The indictment basically presents SAC as a one-man operation. There's Cohen, and then there's a mass of traders, lawyers, HR execs, and compliance people below him, all of whom are powerless to overrule his whims. Even when it comes to hiring known insider traders!
In particular, in or around the summer of 2008, the SAC Owner received a warning from an employee of another hedge fund ("Hedge Fund A") that Richard Lee, who previously had worked at Hedge Fund A, and was known for being part of Hedge Fund A's "insider trading group." A SAC business development employee subsequently informed Richard Lee that the SAC Owner had decided to hire Richard Lee ... anyway, overruling objections from SAC's legal department.
Most of the facts in the SAC indictment are old news – carefully-worded e-mails between Cohen and his traders kinda-but-not-really acknowledging that they were trading on illegal inside information, rehashes of how SAC traders talked about "black edge," proof that Cohen knew (or should have known) that this stuff was taking place. The news in the indictment is basically that the firm's laissez-faire attitude toward inside information extended to all areas of operation – that SAC's entire strategy revolved around identifying people who were likely to be able to get inside information, hiring them, and pressing them to get as much information as they could. This wasn't a few traders acting on illegal information – it was a group of traders that had been given jobs on the basis that they could get illegal information to act on.
Add SAC's penchant for identifying likely insider-traders to the fact that the firm's compliance department seems to have trained employees on how to craft e-mails to disguise insider trading, and you have basically the ideal place to charge with criminal fraud – a corporation that is seeded with illegality and blind-eye-turning all the way from the corner office down to the lowly HR workers, a firm whose internal forces of ethical conduct have been completely neutered, and that is so thoroughly corrupt that it can't be reformed simply by throwing out a few bad apples. Corporate-level charges mean that it doesn't even matter whether Cohen himself was involved in insider trading – it simply accuses him of having established a corporate culture that was a petri dish for fraud.
Now that SAC itself has been charged criminally, there are basically five ways the firm's saga can end:
1. SAC pleads guilty and dies quickly, turning into a family office that manages just Cohen's fortune or simply shutting down.
2. SAC pleads not guilty, but clients stage an exodus before the trial, and prime brokers refuse to do business with an indicted firm. SAC also dies quickly, or simply kicks out all its remaining clients and turns into a family office.
3. SAC pleads not guilty, goes to trial, and loses. It dies.
4. SAC pleads not guilty, goes to trial, and wins. But it doesn't really matter, because most clients have already pulled their money out, and most top employees have already left SAC for hedge funds that aren't living under a cloud of criminal charges. The firm muddles on as a second-rate trading shop, managing mostly Cohen's money, with only the weakest traders left.
5. SAC pleads not guilty, goes to trial, wins, and returns in a blaze of glory. Clients flood back in with billions of dollars, and immediately forgive the nine (nine!) current or former SAC employees who have been charged with insider trading. Returns skyrocket, superstar traders all want to work for the newly unburdened SAC, and Cohen rides off to Greenwich in a diamond-encrusted Maybach.
As you can see, 5. is the least likely possibility here. Restoring SAC Capital to its onetime greatness was already unlikely – the firm is already an untouchable in some corners of the financial sector, thanks to the years of scrutiny it has faced. But now that a criminal indictment has been handed down, the reputational damage to SAC will be permanent and probably terminal. It would take a miracle to save the firm, and restore Cohen to the pedestal he once occupied.