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Promises Made, and Remade, by Firms in SEC Fraud Cases

When Citigroup agreed last month to pay $285 million to settle civil charges that it had defrauded customers during the housing bubble, the Securities and Exchange Commission (SEC) wrested a typical pledge from the company: Citigroup would never violate one of the main antifraud provisions of the nation’s securities laws.

The U.S. Securities and Exchange Commission seal hangs on the facade of its building in Washington, DC.
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The U.S. Securities and Exchange Commission seal hangs on the facade of its building in Washington, DC.

To an outsider, the vow may seem unusual. Citigroup , after all, was merely promising not to do something that the law already forbids. But that is the way the commission usually does business. It also was not the first time the firm was making that promise.

Citigroup’s main brokerage subsidiary, its predecessors or its parent company agreed not to violate the very same antifraud statute in July 2010. And in May 2006. Also as far as back as March 2005 and April 2000.

Citigroup has a lot of company in this regard on Wall Street. According to a New York Times analysis, nearly all of the biggest financial companies — Goldman Sachs, Morgan Stanley, JP Morgan Chase and Bank of America among them — have settled fraud cases by promising that they would never again violate an antifraud law, only to have the SEC conclude they did it again a few years later.

A Times analysis of enforcement actions during the past 15 years found at least 51 cases in which the SEC concluded that Wall Street firms had broken antifraud laws they had agreed never to breach. The 51 cases spanned 19 different firms.

On Wednesday, Judge Jed S. Rakoff of the Federal District Court in Manhattan, an SEC critic, is scheduled to review the Citigroup settlement. Judge Rakoff has asked the agency what it does to ensure companies do not repeat the same offense, and whether it has ever brought contempt charges for chronic violators. The SEC said in a court filing Monday that it had not brought any contempt charges against large financial firms in the last 10 years.

Since the financial crisis, the SEC has been criticized for missing warning signs that could have softened the blow. The pattern of repeated accusations of securities law violations adds another layer of concerns about enforcing the law. Not only does the SEC fail to catch many instances of wrongdoing, which may be unavoidable, given its resources, but when it is on the case, financial firms often pay a relatively small price.

Sen. Carl Levin, a Michigan Democrat who is chairman of the Senate permanent subcommittee on investigations and has led several inquiries into Wall Street, said the SEC’s method of settling fraud cases, is “a symbol of weak enforcement. It doesn’t do much in the way of deterrence, and it doesn’t do much in the way of punishment, I don’t think.”

Barbara Roper, director of investor protection for the Consumer Federation of America, said, “You can look at the record and see that it clearly suggests this is not deterring repeat offenses. You have to at least raise the question if other alternatives might be more effective.”

SEC officials say they allow these kinds of settlements because it is far less costly than taking deep-pocketed Wall Street firms to court and risking losing the case. By law, the commission can bring only civil cases. It has to turn to the Justice Department for criminal prosecutions.

Robert Khuzami, the SEC’s enforcement director, said never-do-it again promises were a deterrent, especially when there were repeated problems. In their private discussions, commissioners weigh a firm’s history with the SEC before they settle on the amount of fines and penalties.

“It’s a thumb on the scale,” Mr. Khuzami said. “No one here is disregarding the fact that there were prior violations or prior misconduct.”

But prior violations are plentiful. For example, Bank of America’s securities unit has agreed four times since 2005 not to violate a major antifraud statute, and another four times not to violate a separate law. Merrill Lynch, which Bank of America acquired in 2008, has separately agreed not to violate the same two statutes seven times since 1999.

Of the 19 companies that the Times found by the SEC to be repeat offenders over the last 15 years, 16 declined to comment. They read like a Wall Street who’s who: American International Group , Ameriprise, Bank of America, Bear Stearns, Columbia Management, Deutsche Asset Management, Credit Suisse, Goldman Sachs, JPMorgan Chase, Merrill Lynch, Morgan Stanley, Putnam Investments, Raymond James, , UBS and Wells Fargo/Wachovia.

Two others, Franklin Advisers and Massachusetts Financial, said that their two settlements were made simultaneously and therefore one incident did not violate a previous cease-and-desist order.

A spokesman for Citigroup said “there is no basis for any assertion that Citi has violated the terms” of any settlement.

But some experts view many settlements as essentially meaningless, particularly since they usually do not require a company to admit to the accusations leveled by the SEC. Nearly every settlement allows a company to “neither admit nor deny” the accusations — even when the company has admitted to the same charges in a related case brought by the Justice Department — so that they are less vulnerable to investor lawsuits.

In 2005, Bank of America was one of several companies singled out for allowing professional traders to buy or sell a mutual fund at the previous day’s closing price, when it was clear the next day that the overall market or particular stocks were going to move either up or down sharply, guaranteeing a big short-term gain or avoiding a significant loss.

In its settlement, Bank of America neither admitted nor denied the conduct, but agreed to pay a $125 million fine and to put $250 million into a fund to repay investors. The company also agreed never to violate the major antifraud statutes.

Two years later, in 2007, Bank of America was accused by the SEC of fraud by using its supposedly independent research analysts to bolster its investment banking activities from 1999 to 2001. In the settlement, Bank of America without admitting or denying its guilt, paid a $16 million fine and promised, once again, not to violate the law.

But two years later, in 2009, the SEC again accused Bank of America of defrauding investors, saying that in 2007-2008, the bank sold $4.5 billion of highly risky auction-rate securities by promising buyers that they were as safe as money market funds. They weren’t, and this time Bank of America agreed to be “permanently enjoined” from violating the same section of the law it had previously agreed not to break.

In fact, the company had already violated that promise, according to the SEC, when it was accused last year of rigging bids in the municipal securities market from 1998 through 2002. To settle the charges, Bank of America paid no penalty, but refunded investors $25 million in profits plus $11 million in interest. And, the bank promised again never to violate the same law.

The SEC let the bank settle without admitting or denying the charges, even though Bank of America had simultaneously settled a case with the Justice Department’s antitrust division admitting the same conduct.

Companies routinely argue that while they may be settling multiple violations of the same law, the facts of each case are different — and therefore not exactly a repeat offense.

But Jayne Barnard, a law professor at the William & Mary Law School who has studied repeat securities fraud violators, said “it stretches the truth” to claim that a company’s multiple violations of the same law “are just a freakish coincidence.”

The SEC can target repeat violations. It could bring civil contempt charges against a company for violating one of orders, but it rarely does. The SEC does not publicly refer to previous cases when filing new charges.

Mr. Khuzami, the agency enforcement chief, said it prefers to use its resources to bring charges of new violations against a company rather than to pursue contempt charges in court.

“If you’ve got a company that settles a case involving its research analysts one year, and several years later it is accused of fraud in selling a CDO to customers, those are very different parts of a company,” Mr. Khuzami said, referring to collateralized debt obligations, a form of derivative that contributed to the housing bubble.

Donna M. Nagy, a professor at the Indiana University law school and an author of a widely used textbook on securities law enforcement, said that by ignoring previous accusations of violations, the SEC was minimizing the value of its actions.

Edward Skyler, a spokesman for Citigroup, said that the fact that the company entered into a $285 million settlement last month does not mean that it had violated the terms of any previous settlement.

“Like all other major financial institutions, Citi has entered into various settlements with the SEC over the years and there is no basis for any assertion that Citi has violated the terms of any of those settlements,” he said.

Mr. Levin, the Michigan senator, said he believed that the SEC’s settlements were the problem. “It’s like a cop giving out warnings instead of giving tickets,” he said. “It’s a green light to operate the same way without a lot of fear that the boom is going to be lowered on you.”

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