The SEC’s Greed Is Coming Back to Bite It

The people who broke the law want their money back.

Seeking catharsis?

Photographer: Douglas Healey/Bloomberg via Getty Images
This post originally appeared in Money Stuff.

Sometimes people do bad securities stuff and they get in trouble with the Securities and Exchange Commission. The SEC can do things to punish the people who do the bad stuff: It can't put them in prison, but it can ban them from the securities industry, or it can fine them money. It can also demand "disgorgement," which means, roughly speaking, that they have to pay back the money they made (or the money their victims lost) by doing the bad stuff. I mean, they have to pay it back to the SEC. The SEC doesn't have to give it back to the victims. 

A weird thing about disgorgement is that the SEC sort of made it up. There was never a law saying that the SEC could get disgorgement, but it seems sort of obvious that it should be able to, and so it managed to talk courts into it. "In the absence of statutory authorization for monetary remedies, the Commission urged courts to order disgorgement as an exercise of their 'inherent equity power to grant relief ancillary to an injunction,'" the Supreme Court said last year, describing the history of SEC disgorgement. (The SEC was only authorized to seek fines in 1990; now it often pursues both fines and disgorgement. In 2002, Congress specifically authorized the SEC to seek "any equitable relief that may be appropriate or necessary for the benefit of investors," which perhaps covers disgorgement, at least when the money goes back to victims.)

This all went along well enough for decades and then the SEC got a little greedy. In 2009, it sued a guy named Charles Kokesh for doing bad securities stuff from 1995 to 2009. SEC actions have a 5-year statute of limitations, so most of that bad stuff was too old for the SEC to fine Kokesh for it. But the SEC argued that there's no statute of limitations for disgorgement: Statutes of limitations apply to penalties, and disgorgement is not a penalty; it is just the fair requirement that fraudsters give up their ill-gotten gains. The Supreme Court (unanimously) disagreed, finding that disgorgement is a penalty and that the SEC couldn't pursue it for Kokesh's very old behavior.

That was a minor loss, but it opened up a can of worms. "Nothing in this opinion should be interpreted as an opinion on whether courts possess authority to order disgorgement in SEC enforcement proceedings or on whether courts have properly applied disgorgement principles in this context," says a footnote to the Kokesh opinion. Well ... wait ... can the SEC get disgorgement? If you read the Supreme Court's opinion in a particular way, you'll notice that it finds that the SEC regularly pursues penalties against securities fraudsters that are not specifically authorized by statute. That is weird! Usually the government can't punish you in ways that are not spelled out in a written law. It is not unheard-of -- the government can pursue equitable remedies in civil cases, and we often talk around here about how insider trading is a crime that is not explicitly set out in any statute -- but it is weird.

Anyway some lawyers read the Kokesh opinion in that particular way and brought this class-action lawsuit against the SEC a couple of weeks ago. Delightfully the class of victims/plaintiffs in the lawsuit is securities fraudsters: Specifically, it's "all persons or entities from whom the SEC has collected, during the period from October 26, 2011 to the present, purported 'disgorgement,'" with some fairly minor-seeming exceptions. The alleged damages are "approximately but not less than $14.9 billion over the last six years." Casual internet browsing suggests that potential class members might include Raj Rajaratnam (for insider trading), SAC Capital Advisors (ditto), Och-Ziff Capital Management Group (for paying bribes in Africa), Standard & Poor's Ratings Services (for mis-rating commercial mortgage-backed securities), and a whole bunch of big banks for crisis-era mortgage misbehavior. (Goldman Sachs Group Inc.'s Abacus settlement, as well as Angelo Mozilo and Bernie Madoff, just miss the time cutoff.) I hope they all show up to court to demand their $14.9 billion back, and to get some catharsis. Finally, the people who broke the law get to sue the SEC.

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