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Libor Scandal Spreads, Ratings Troubles Deepen, Volcker Rule Bites

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Receiving Wide Coverage ...

A Hard Rain's Gonna Fall: JPMorgan Chase (JPM) on Thursday became the latest megabank implicated in the global scandal involving the rigging of Libor, the London Interbank Offered Rate. The U.S. banking giant coordinated its Swiss franc Libor submissions with those of Royal Bank of Scotland, which, Scan noted yesterday, has itself reached a $612 million rate-rigging settlement. The JPM connection surfaces through documents filed in connection with RBS's deal earlier in the week with U.S. and U.K. authorities, the Financial Times reports. Specifically, two of its yen swaps traders were implicated in dealings with Tom Hayes, a star trader who began his career at RBS before moving on to UBS and Citibank (NYSE:C). Goldman Sachs (GS) also reportedly wooed Hayes. The trader is rapidly emerging as having played as prominent a role in the in the Libor-rigging scandal as Bruno Iksil, aka the London Whale, did in JPM's Chief Investment Office brouhaha. Hayes, a brainy and socially awkward Brit nicknamed "Rain Man," was the "connective tissue in pervasive efforts by several banks to boost trading profits by manipulating the London interbank offered rate," according to a long profile in the Wall Street Journal. His "strong connections with Libor setters in London [are] invaluable," his boss at UBS wrote in an email to executives, including one who now co-heads the firm's investment bank, according to a Journal report citing documents released as part of the RBS settlement. "Hayes often acted with the knowledge of bosses mindful of his ability to rack up big trading profits," it writes. Citi eventually won the tussle for his services. Hayes was arrested by the U.K.'s Serious Fraud Office (No, there is not a Non-Serious Fraud Office) in December. He has not been charged but reportedly remains under investigation. He faces separate wire fraud, price-fixing and conspiracy charges by the U.S. Department of Justice (which Hayes referred to, perhaps prophetically, as "the dudes who…put people in jail" in a phone call that the DOJ tapped). There are no indications that Hayes has cut a deal with the feds, the FT reports. That, in turn, raises the likelihood that the Rain Man will face pressure to roll on associates, colleagues and, most notably, higher-ups. In fact, Hayes has already invoked the "I'm innocent. It was my bosses!" defense, is cooperating with British authorities and pointing the finger at former superiors, the Journal writes, citing Jennifer Arcuri, a close friend of the trader. (As cooperating witnesses are fond of saying: "Call me a snitch. Call me a rat. But call me at home 'cause that's where I'm at.") The FT describes the Libor riggers as part of "a clubby world where fortunes were made on friendships and connections" and where one trader, whose name was redacted, continued to co-ordinate submissions with RBS even after moving to JPMorgan. One way or another, the Libor scandal appears destined to rise up the ranks of U.S. and non-U.S. banks alike. While working for UBS's Tokyo unit (which pled guilty to a U.S. fraud charge as part of the bank's $1.5 billion Libor settlement), Hayes told colleagues during morning meetings which way he planned to push Libor and even posted status updates on his Facebook page, the Journal reports. Wall Street Journal, Financial Times

Rate This: Yes, the wheels of financial justice grind slowly, but grinding away is what they're doing at what's left of the credit rating firms' credibility. New York Attorney General Eric Schneiderman this week subpoenaed Standard & Poor's Ratings Services, a unit of McGraw-Hill (MHP), and formally requested information from rivals Moody's Investors Service (MCO) and Fitch Ratings to examine ratings they issued in the run-up to the financial crisis, the Journal and Bloomberg report, both citing a "person familiar with the matter" (typically code for someone close to the publicity-seeking tough guy in the story). Schneiderman is making his move on the heels of the Justice Department's filing late Monday of a suit that charges S&P with culpability for $5 billion in losses suffered by federally backed banks and credit unions that relied on its high ratings of mortgage-backed deals that later soured. Thirteen state attorneys general also filed lawsuits against S&P this week alleging the firm presented its ratings as based on objective and independent analysis when they were actually inflated to cater to banking clients. Schneiderman has made notable progress getting himself into the headlines, but the Journal notes that he could face hurdles in proceeding with legal action involving crisis-era ratings because of a 2008 agreement his predecessor (and political nemesis, Andrew Cuomo) made with the firms. For Schneiderman to move forward, he will first have to prove that one or more of the credit-rating firms violated the 2008 agreement involving six "reforms" to the way they rated certain mortgage-backed deals. Injecting his typical sagacity, the New York Times' Floyd Norris avoids the journalistic equivalent of acting as a transcription service and weighs the evidence on both sides of the case. On the one hand, Norris raises the specter that S&P could be on the road to Arthur Andersen-dom. He notes that the Justice Department is in possession of messages indicating there was belly-aching inside S&P over the loss of business for being too...prudent. On the other hand, he notes that the government case "quotes from no secret whistle-blower, indicating that while the government has interviewed a lot of people from S.& P., including many who have left, it found none who would support the claim that the ratings were knowingly wrong." Floyd Abrams, a partner in Cahill Gordon & Reindel who is representing S.& P, reminds the author that, in addition to S&P, those who in 2007 thought the housing mess would not lead to disaster were the folks running the Federal Reserve and the Treasury Department. Wall Street Journal, New York Times, Bloomberg

Bubble, Bubble...: In its bid to save the world from the last financial crisis and keep the economy going, is the Federal Reserve also setting the stage for the next debacle? Time will tell, but for now a growing chorus is voicing concerns that credit markets are getting off key. Jeremy Stein, a Fed governor, joined in on Thursday, expressing concern that some financial markets are showing signs of overheated speculation as persistently low interest rates encourage investors to take ever larger risks. "We are seeing a fairly significant pattern of reaching-for-yield behavior emerging in corporate credit," Stein said. The Fed governor highlighted several markets—including junk bonds, mortgage real-estate investment trusts and commercial banks' securities holdings—as areas where potentially troubling developments are emerging. He went on to emphasize that "It need not follow that this risk-taking has ominous systemic implications." Even so, the Times take-away was that the Fed "regards investment bubbles, rather than inflation, as the most likely negative consequence of its push to reduce unemployment by stimulating economic growth." New York Times, Wall Street Journal

Wall Street Journal

Here's some sobering news: Even the deft folks running Goldman Sachs have concluded that there's no way to sidestep the Volcker Rule. The investment bank has for the past two decades wooed clients into committing money to its private-equity funds by promising that the firm and its partners were laying the same bets with their own savings. Now, Volcker restrictions on such activity—which are aimed at limiting the risks megabanks take—are expected to sharply reduce Goldman's investments in its own funds. The Journal reports that the rule, in turn, is forcing Goldman to make major changes in a $50 billion business that has reaped big profits for the bank, employees and clients. Goldman likely will have to shrink the size of its investment in its funds to 3% from as much as 37% once the Dodd-Frank Act's Volcker provision is finalized later this summer.

New York Times

Mary Jo White is either one tough lady or one major patsy for Wall Street, considering the profiles of her that have appeared since the former federal prosecutor and private litigator was nominated to be the next chairwoman of the Securities and Exchange Commission. This morning, the left-leaning Times editorial page does White a solid. First it dispenses with the perfunctory nod to doubters by acknowledging grumblings over her work in private practice defending Wall Street and "her lack of a deep regulatory background." It's all a lead-up to the Times' view that "Her qualities of toughness, tenacity and aggressiveness are just what the S.E.C. needs in a leader." No question, toughness has been lacking at the SEC. The question that remains unanswered is how tough White can be when her personal entanglements will force her to recuse herself from matters involving some of the most important institutions and individuals likely to come before the Commission.

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