SAC Gets the Heads-Up No One Wants to Receive

A Wells notice gives targets of an SEC investigation a slim chance of avoiding a suit
Steven Cohen, founder and CEO of SAC Capital Advisors, speaks during the 2011 SkyBridge Alternatives (SALT) conference in Las Vegas Photograph by Ronda Churchill/Bloomberg

Steven Cohen’s SAC Capital, the $14 billion hedge fund whose trades have long been the subject of insider trading allegations, has received a Wells notice, Bloomberg News reported Wednesday. The Wells notice is the Securities and Exchange Commission’s peculiar advance warning that it has enough evidence to launch a civil suit, but it has not done so just yet. It is the ominous singing legalgram of the financial world, intended to give the recipient a sense of the ground a potential suit would cover and to blunt the sudden market impact that could be caused by a government case that was entirely a surprise.

The warnings can be written or oral. A Wells notice is part of a broader “Wells process” (pdf), in which the target of an investigation is invited to respond with—you guessed it—a Wells submission before the commission officially takes action. Those submissions are ordinarily a target’s last, best chance to talk the SEC out of a civil suit. (The process gets its name from John Wells, a New York lawyer who led a 1972 panel on enforcement issues.)

The Wells notice received by SAC, Bloomberg reported, cites fraud and something called control-person liability—an avenue of attack that could extend to Cohen himself, who wasn’t named in this notice, for failing to discourage or detect insider trading, even if he had no direct knowledge of improper trades.

The SEC doesn’t publish statistics on how many Wells notices it issues. In 2005, though, the commission’s then-director of enforcement, Linda Chatman Thomsen, told a lawyers panel that “the majority of cases where we issue a Wells is going to result in a recommendation [of action] to the commission.”

That leaves room for many cases to be dropped, or for their scope to be narrowed, or for some of the individuals named in a Wells notice to be removed from consideration. “Indeed, nearly every attorney with a regular SEC enforcement practice has the experience of making a Wells submission”—that is, a response to a Wells notice—“and never hearing another word from the staff,” wrote Michael J. Missal and Richard M. Phillips in a 2007 textbook, The Securities Enforcement Manual: Tactics and Strategies.

That’s unlikely to be the case for SAC Capital. The federal government has been pursuing the Stamford (Conn.) hedge fund for years. So far six employees or former employees have been tied to insider trading. The latest, Mathew Martoma, an ex-portfolio manager for a unit of SAC named CR Intrinsic Investors, was arrested Nov. 20 in Florida. Cohen isn’t named in the civil or criminal case, but he is referred to as the “Hedge Fund Owner” and “Portfolio Manager A.”

In a conference call with investors on Nov. 28, Cohen said he had acted appropriately at all times, Bloomberg reported.

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