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Financiers Feel the Wrath of Regulators

Thursday, 19 September 2013

Financial regulators have long been criticised for their meek approach to prosecuting rich and powerful wrongdoers. However, there appears to be renewed vigour on both sides of the Atlantic to make financial crime pay more dearly.

In the US, the SEC recently required an admission of wrongdoing to settle a case in a step away from the no-admit/no-deny policy of the past.

Philip Falcone and Harbinger Capital Management

Having been accused of improperly using capital from his hedge fund, Harbinger Capital Management, and illegitimately favouring some of his investors; hedge fund manager Philip Falcone has agreed to the US Securities and Exchange Commission’s (SEC) proposal requiring him to admit wrongdoing, pay $18million in fines and be banned from the securities industry for 5 years.

This settlement appears to be an upshot of new SEC chairman Mary Jo White’s announcement of a more robust policy of requiring defendants to admit wrongdoing along with other punitive measures.

Where did Falcone Go Wrong?

Falcone had, at the height of his success as a hedge fund manager in 2007, achieved a 116 per-cent gain for Harbinger Capital Partners by betting against the sub-prime mortgage market. However as the fund’s assets were tied up with those of Lehman Brothers, the fund suffered a 22 per-cent loss in 2008 following Lehman’s collapse.

As a consequence, on Christmas Eve 2008 Falcone informed his investors that they would not be able withdraw their money from the fund in order to defend it from a rush of capital redemptions, which may have crippled the fund.

Enforcement Actions

In June 2012 the SEC filed two enforcement actions against Falcone and Harbinger, charging both with fraud. The regulator alleged that Falcone had illegally loaned himself $113 million in fund (client) assets to pay his taxes, that Harbinger had manipulated bond markets and that certain customers’ redemption requests were favoured at the expense of others.

After a year of litigation, the SEC staff reached an agreement based on a lenient settlement in which Falcone and Harbinger would face a 2-year ban and a financial penalty without having to admit or deny liability. However this settlement was rejected by the commissioners, who eventually approved the more onerous settlement, requiring an admission of wrongdoing by the defendants on 19th August 2013.


Such a settlement seems to be a notable departure from the usual SEC policy of allowing alleged transgressors to neither admit nor deny any wrongdoing, enabling Wall Street Firms to avoid admissions of guilt due to fear of further civil litigation. The outcome of the Harbinger case has provided some precedent for lawyers endeavouring to determine the sorts of cases that will require admissions of liability in the future.

The implications for financial regulation, SEC and financial firms of this new precedent seem twofold. Firstly, where the SEC will require admissions to settle cases, those cases will be harder to settle due to the natural reluctance of defendants to provide such admissions. One consequence of this could be that the SEC will feel compelled to try more cases – potentially straining its resources.

Secondly, the admission requirement may have an impact on the availability of Directors and officers liability insurance which indemnifies company officers against losses suffered as a consequence of wrongful acts in their capacity as directors or officers.

However, many in regulatory roles and the wider public will view the SEC’s new approach as a step in the right direction. For more information about white collar defence or the implications of this case contact Peter Gourri today by email or telephone 0207 611 4848.

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