In the spring of 2007, as the mortgage market came unglued, two Bear Stearns
executives shared their growing fears in a series of e-mail messages to
each other about the perilous condition of the giant hedge funds they
“I’m fearful of these markets,” one wrote.
The other said later, “Believe it or not — I’ve been able to
convince people to add more money.” He concluded that “I think we
should close the funds now.”
But three days later, the pair, Ralph R. Cioffi and Matthew M.
Tannin, presented an upbeat picture to worried investors without
disclosing that the two funds were plummeting in value and that Mr.
Cioffi had already pulled some assets from one of them.
A little more than a month later, the funds, filled with some of the
most explosive and high-risk securities available, imploded,
evaporating $1.6 billion of investor assets and setting off a financial
chain reaction that has rattled global markets, caused more than $350
billion in write-downs, cost a number of executives their jobs and
culminated in the demise of Bear Stearns itself.
On Thursday, Mr. Cioffi and Mr. Tannin surrendered to federal agents
at 7 a.m. They were fingerprinted and taken in handcuffs to the federal
courthouse in Brooklyn where they were charged with nine counts of
securities, mail and wire fraud.
The two men, who were forced out of their jobs last year, are the
first senior executives from Wall Street investment banks to face
criminal charges stemming from the credit mess, and the investigation
by federal prosecutors based in Brooklyn is likely to become a test
case of the government’s ability to make successful prosecutions of
arcane financial transactions.
“This is not about mismanagement of a hedge fund investment
strategy,” said Mark J. Mershon, the head of the New York office of the
Federal Bureau of Investigation, at a news conference Thursday. “It is about premeditated lies to investors and lenders.”
Yet, despite the drama, there is no guarantee that cases that rely
on e-mail exchanges and unclear states of mind result in jail time. In
one prominent case involving e-mail exchanges, for example, charges
were ultimately dropped against Frank P. Quattrone, the high-level Credit Suisse banker accused of interfering with a government investigation.
Despite the publicity surrounding the Enron scandal, some
high-profile cases, which like this one were based on e-mail exchanges
and complicated financial arrangements, were successfully challenged.
“We have to be wary of a rush to judgment,” said Robert A. Mintz, a
former federal prosecutor and a lawyer at McCarter & English. “The
question is whether these managers crossed the line from permissible
spin to willful misrepresentation.”
Mr. Cioffi posted bail of $4 million, secured by his house in
Tenafly, N.J., property in Naples, Fla., and a $600,000 individual
retirement account. Mr. Tannin’s bail was $1.5 million, to which he
attached an apartment on West End Avenue in Manhattan.
Despite the highly complex nature of the subprime investments, the
government’s base claim is simple: Mr. Cioffi and Mr. Tannin, in a
desperate bid to keep fretful investors from heading for the exits,
deceived investors by not disclosing how badly the two funds were doing.
In an indictment made public Thursday, prosecutors relied heavily on
e-mail exchanges between Mr. Cioffi and Mr. Tannin in trying to paint a
picture of fear and desperation inside Bear Stearns as the firm
grappled with a crisis that would eventually lead to its end.
In a statement, Edward J. Little, a lawyer for Mr. Cioffi, said that
the credit market had spread losses throughout Wall Street. “Ralph
Cioffi’s funds lost money in exactly the same way,” Mr. Little said.
“Because his funds were the first to lose might make him an easy
target, but doesn’t mean he did anything wrong."
Susan Brune, a lawyer for Mr. Tannin, said her client had been made a scapegoat for the wider market crisis.
The two funds had names as abstruse as the complex subprime
securities in their portfolios — High Grade Structured Credit
Strategies Fund and its riskier sister offering, the High Grade
Structured Credit Strategies Enhanced Leverage Fund.
Overseen by Mr. Cioffi, a well-regarded executive with more than 22
years of experience at Bear Stearns, the funds were in essence a symbol
of the frenzy and greed that characterized the booming subprime
mortgage market from 2003 through 2006. The funds were highly
leveraged, in some cases borrowing as much as $20 for every dollar
invested and were sold to Bear’s most exclusive clients.
Through 2006, the High Grade fund did well, gaining as much as 40
percent in one year. In August, to satisfy demand from clients, Bear
started a second fund at what would prove to be the top of the market.
According to the indictment, Mr. Cioffi and Mr. Tannin became aware
of the funds’ difficulties in March. Mr. Cioffi gathered his team and
led a vodka toast in celebration of their overcoming a rocky February.
But as the markets got worse, Mr. Tannin became increasingly worried
about the funds’ exposure to securities backed by subprime mortgages.
Mr. Cioffi calmed him: “We are not 19 year olds in Iraq,” he said in
an e-mail message that was part of the indictment. But his own worries
were growing. After a bad March, he told a colleague, “I’m sick to my
stomach over our performance in March.”
The indictment claims that the two men hid their concerns from
investors, lenders and even Bear’s own brokers. “We have an awesome
opportunity,” Mr. Cioffi said to a Bear Stearns broker. Mr. Tannin
congratulated himself: “Believe it or not I’ve been able to convince
people to add more money,” he said to a colleague.
In late March, the indictment claims that the funds’ decline
prompted Mr. Cioffi to transfer $2 million out of the $6 million he had
in the Enhanced Fund and put it in a less risky fund that was showing
Prosecutors claim that the move — which he never disclosed to
outside investors who themselves were desperate to exit — was proof
that he was putting his interests ahead of clients.
Bear Stearns and Mr. Cioffi’s lawyers say that there was no such
motive and that Mr. Cioffi’s investment was done in support of the
other fund in which he was not previously invested and that he managed.
In late April, investors were becoming concerned. One investor tried
to pull $57 million. Mr. Cioffi, in a bid to keep the investor in the
fund, said that he himself had $8 million invested. The indictment says
that was a lie.
A few days later, Mr. Tannin, who was known within the group as a
worrier, sent an e-mail message to Mr. Cioffi in which he suggested
closing down the funds after a report showed that the securities they
were holding were rapidly losing value. “If the report was true, the
entire subprime market was toast,” he wrote to Mr. Cioffi. The subprime
market looked “pretty dam ugly,” he wrote from his home, early Sunday
It was a radical proposition from one of the funds’ managers, and
Mr. Tannin took the precaution of not using Bear’s e-mail system,
prosecutors said. He sent the note to the e-mail account of Mr.
A few days later, on an April 25 conference call, Mr. Cioffi and Mr.
Tannin presented a sanguine face to investors, arguing that the funds
were in good shape.
The two managers did all they could to right their sinking funds,
even going so far as to pitch to their group’s pricing team that the
securities should receive higher values, thus mitigating the funds’
decline, according to the indictment. Their request was rejected.
In June, as the market continued its descent, Mr. Cioffi told
investors that they could not withdraw funds. Despite a last-ditch
effort by Bear Stearns to bail the funds out by offering a $3.2 billion
loan, clients in both funds lost 100 percent of their investments.
Just before the funds’ collapse, Mr. Cioffi, who just a year earlier
was making an eight-figure salary, gave voice to his fears. “I’ve
effectively washed a 30-year career down the drain,” he said.
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