The Ken Lay Defense: Stephen A. Cohen’s Memo
Both the money management and brokerage business are built on compliance regimes that rely on supervision. No one is supposed to execute a trade or make an investment for a client without a supervisor reviewing the transaction. As I mentioned on Monday, Stephen A. Cohen faces an SEC administrative proceeding that alleges he failed to supervise SAC’s portfolio managers and traders.
Today, many newspapers are carrying excerpts of Mr. Cohen’s rebuttal. The rebuttal is contained in a 63-page memo to SAC employees. At first, I thought the memo had been leaked, and I felt a tiny bit of sympathy for Mr. Cohen because he couldn’t converse with his employees without sharing his message with the world. However, upon further reflection I realized that the detailed memo was designed to get Mr. Cohen’s defense out to the general public.
From the various accounts in the press, Mr. Cohen appears to be adopting the Ken Lay defense. You might recall that the late Mr. Lay claimed that he was unaware of the various improprieties running rampant at Enron. Yes, Mr. Lay was the CEO of Enron, but no, he was not aware of the machinations taking place below him. Mr. Cohen seems to be taking the same approach. He claims that he did not read the critical email that would have alerted him to an improper trade in Dell because he received over 1,000 emails per day and was on the phone when the email arrived. He also argues that he didn’t have knowledge of inside information allegedly used by Mathew Martoma at one of SAC’s affiliates.
I have trouble believing that the Ken Lay defense will work. By the way, Mr. Lay was convicted and sentenced to 40-years in prison. He died while his appeal was pending. In Mr. Cohen’s case, the SEC is pursuing a charge that he failed to supervise, not a case that accuses him of trading on inside information. It strikes me that being “too busy” isn’t a very good defense to the charge that he didn’t supervise. If there’d been one random transgression, then perhaps one might absolve Mr. Cohen of responsibility. In a complex organization with thousands of trades occurring each day, it is possible for a rogue trader to do something wrong without being detected even if the supervisory controls were good. However, SAC experienced numerous problems, and even paid the SEC $600 million because of them (without admitting or denying the allegations).
In addition, Mr. Cohen has always had a reputation as a very hands-on money manager. He’s supposed to be one of the most thorough and meticulous consumers of investment information in the money management business. Supposedly, that is how he built his stellar track record. Now that he is in the crosshairs of the SEC, he suddenly doesn’t know what the people closest to him, fellow portfolio managers, were doing.