The Judgment Of Salomon: An Anticlimax

To Securities & Exchange Commission Chairman Richard C. Breeden, it was a clear victory over Salomon Inc. In a settlement announced on May 20, the SEC won $290 million in fines and damages against the Wall Street giant for violations of securities laws. The fine--second only to the $600 million assessed against the former Drexel Burnham Lambert Inc.--"should send a clear message to potential wrongdoers that violations of the law in the government-securities market will not be tolerated," Breeden declared.

But Breeden might want to think twice before putting the Salomon settlement front and center in his trophy case. Despite an 11-month investigation that took sworn testimony from more than 200 traders, the SEC didn't uncover much more than Salomon Inc. Chairman Warren E. Buffett publicly admitted last fall. Nor did the SEC unearth the widespread, massive fraud it apparently believed lay beneath the surface of the $4 trillion Treasury market. While charges are still likely against former Salomon executives and other firms, Breeden admitted the probe "did not substantiate that wrongdoing is common, everyday, or systemic in this marketplace."

BARE CUPBOARD. That conclusion strikes a clear blow at the SEC's ambitions to extend its reach more deeply into the $4 trillion government-securities market. It bolsters the Treasury Dept. and the Federal Reserve, which argue that heavy-handed new regulations would drive up the rates the government must pay to finance the national debt. "The cops kept going back to look for broader violations," says a senior Fed official, "but they just didn't find anything."

For Salomon, the settlement means its wrenching, yearlong ordeal could be over by Aug. 3--the date when Treasury and the Fed will lift their sanctions against the firm. The two months between now and Aug. 3, however, won't be easy: Salomon will be suspended from its coveted role as a primary dealer--one of the 38 select firms that trade securities with the New York Fed. Besides costing Salomon perhaps $4 billion in trading volume, the suspension will bar the firm's economists and traders from daily contact with the Fed's Open Market Desk. Without that intelligence on the Fed's plans to raise or lower interest rates, Solly's bond traders will be at a competitive disadvantage.

The financial hit to Salomon is substantial but manageable. Buffett announced on May 20 that the firm would take a $185 million pretax charge-off in the second quarter--to add to the $200 million reserve already set aside for penalties and legal expenses. The firm faces about 50 lawsuits from investors and other dealers, alleging that Salomon's bidding violations allowed it to corner the market for specific Treasury securities. The SEC settlement includes $100 million for a restitution fund for such claims. Litigants, though, may have a hard time making their case--since the SEC was unable to accumulate sufficient evidence that Salomon manipulated markets. "That's what the whole case is about--collusion and manipulation--and there's no mention of it in the SEC's complaint," says a plaintiff's attorney. "It's like the dog that didn't bark."

NO DEAL. While Salomon is off the hook with the feds, certain Salomon ex-officials may still face government charges. Former chief government bond trader Paul Mozer, who the SEC says initiated 10 false bids in 9 Treasury auctions, hasn't yet struck a bargain with prosecutors to testify against his former bosses, according to lawyers familiar with the talks. That could mean he was unable to provide damaging evidence against his superiors, such as former CEO John H. Gutfreund, who resigned after revealing that he had known of Mozer's actions for four months before informing regulators. Gutfreund is currently discussing with the SEC whether any civil charges will be brought. The absence of a Mozer deal with the feds may also mean that Mozer hasn't been able to supply material evidence implicating other securities firms. Mozer's lawyer could not be reached for comment.

The May 20 agreement closes a nasty chapter in the life of Salomon. By coming clean with both investigators and customers, Buffett kept the firm alive. But after nine months under fire, Salomon still faces the huge challenge of rebuilding its badly damaged business.

       $122 MILLION in SEC penalties for civil securities law violations: submitting 
      false bids in Treasury auctions; creating false books and record-keeping; 
      failing to state facts in press release and registration statement; trading to 
      create fictitious tax losses
       $68 MILLION in forfeitures and payments to Justice Dept. for settlement of 
      antitrust and other claims
       $100 MILLION for a restitution fund for payment of private damage claims. 
      Unclaimed amounts revert to Treasury
      TWO MONTHS' SUSPENSION of primary dealership. Firm banned from trading with Fed 
      Open Market Desk June 1-Aug. 3
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