Steve Cohen Case: "Too Big To Jail" Will Cause America to Fail

Federal prosecutors, in conjunction with the FBI, filed criminal charges against SAC Capital Advisors, the multi-billion dollar hedge fund controlled by billionaire Steven A. Cohen, on Thursday. The firm has been a target of investigation for several years as the United States government has been exploring alleged insider trading at the firm.

While criminal indictment of large companies is uncommon, this ambitious action is a bold step by U.S. regulators to fight fraud on Wall Street — one that is welcome and long overdue. Treading lightly with banks and financial moguls who break the law sets a terrible precedent. Prosecutors often dislike filing lawsuits against major companies for fear of the potential unintended consequences of arraignment. Criminal charges against SAC will likely cause investors to withdraw their money from the fund and trading partners to suspend business with SAC, engendering the destruction of the firm. But if this happens it will be because of problems the firm brought upon itself.

The prosecutors' case against SAC may very well make this the highest-profile insider trading case in U.S. history. The company and its employees are no strangers to allegations of securities fraud. Four former SAC employees have pled guilty to insider trading and in March, SAC was forced to pay $616 million in a settlement with the Securities and Exchange Commission (SEC) after facing further insider trading allegations.

This suit against SAC directly follows an SEC civil action last week which accuses Mr. Cohen of failing to oversee employees who are now suspected of insider trading. These two employees, Matthew Martoma and Michael S. Steinberg, have been charged with insider trading and contend that they’re not guilty.

The SEC contends that Cohen received an email from an SAC analyst which stated that an employee of the computer maker Dell disclosed private financial information about Dell to an SAC analyst. Cohen, who minutes after receiving the e-mail, sold his entire stock in Dell, "earned profits and avoided losses totaling of more than $275 million."

In a 46-page response, Cohen's lawyers contend that Mr. Cohen receives many emails each day, only reads "11%" of them and did not see the email regarding Dell's finances. The SEC contends that Cohen did not adequately investigate these red flags associated with the emails and prevent "potentially unlawful conduct by employees under his supervision."

While Cohen’s and the SAC's trials are pending, some analysts worry about the collateral damage these lawsuits may entail. Many are concerned about the 1,000 workers employed by SAC and the potential negative effects of SAC’s prosecution. This pervasive thinking has led many to oppose the criminal prosecution of big banks, brokerages, investment firms, and other corporate and conglomerate organizations.

As the New York Times’ Andrew Ross Sorkin argued in his piece titled “Realities Behind Prosecuting Big Banks” in March, when Arthur Andersen, energy giant Enron’s accounting firm, had charges brought against them in 2002 by the Bush administration, the firm was forced to fold and 28,000 American jobs were lost. Sorkin contended that simply, “banks [are] too big to jail.”

This sentiment was echoed by the Obama administration this March, despite its view that the "too-big-to-fail" paradox was solved by the Dodd–Frank Wall Street Reform and Consumer Protection Act.

U.S. Attorney General Eric Holder told the Senate Judiciary Committee in early March: “I am concerned that the size of some of these institutions becomes so large that it does become difficult for us to prosecute them when we are hit with indications that if we do prosecute — if we do bring a criminal charge — it will have a negative impact on the national economy, perhaps even the world economy.” Holder continued: “I think that is a function of the fact that some of these institutions have become too large.”

This is treacherous thinking that not only sets a precedent for lawlessness, but is in itself flawed.

Take a look at Mr. Sorkin’s example of the collateral damage that prompts him to invoke his “too big to jail” ideology. Sorkin fears that it is in the public's best interest not to hold corporations fully accountable for their crimes because it will lead to reduced employment. Despite what Sorkin leads his readers to believe, most of the 28,000 workers from Arthur Andersen moved to other accounting firms and thus, were able to retain employment despite their former employer’s collapse.

The idea of “too big to jail” will be the end of our democracy, the destruction of our markets, and the bane of our attempt to create a fair justice system. Without justice and discipline, we give license to large companies to cheat while only facing minimal repercussions. This rationale allows for the unfettered proliferation of theft, fraud and corruption.

As I argued in last week’s column, “Bankers and Traders Who Defraud the Public Deserve Only One Thing,” avoiding “moral hazard” and amply punishing market manipulators is the beginning of curbing the culture of corruption in our financial system. With comments from those like Holder, the future appears bleak.

But there is still hope.

Preet Bharara, the U.S. attorney for Manhattan who spoke last week at the CNBC Institutional Investor Delivering Alpha Conference, made it explicitly clear that “[no one is] too big to indict. No one is too big to jail.”

Bharara, who contradicted Holder’s “too big to jail” philosophy in his interview at the CNBC Conference, continued, “I have been saying for years…if you give people a blank check and you tell people that they have a get out of jail free card because of their size or because of their interconnectedness to the economy as an absolute matter, that’s a very dangerous thing.”

Bharara is absolutely right. A mere slap on the wrist or minor financial penalties will not fight corruption and will only create a culture of malfeasance and exploitation amounting to nothing more than grand theft.

If we are to get serious about financial sector reform and combating fraud and theft, we need to prosecute and imprison bankers and traders who break the law and finally hold them responsible for their crimes. Justice must be uniformly applied to everyone, large and small, or else we make a mockery of every American value we cherish.