FORMER CHIEF EXECUTIVE OFFICER SENTENCED TO 60 MONTHS’ IMPRISONMENT FOR SECURITIES FRAUD

FROM:  U.S. DEPARTMENT OF JUSTICE
June 18, 2012 
The Commission announced today that, on June 14, 2012, the Honorable Douglas P. Woodlock of the United States District Court for the District of Massachusetts sentenced Jon Latorella of Marblehead, Massachusetts, to 60 months’ imprisonment, to be followed by three years of supervised release, and the payment of restitution to be determined at a later hearing. Latorella is the former chief executive officer of LocatePlus Holdings Corporation (“LocatePlus”), a Massachusetts-based information technology company that sold on-line access to public record databases for investigative searches. On November 10, 2010, the United States Attorney’s Office for the District of Massachusetts (“USAO”) charged Latorella and former LocatePlus chief financial officer James Fields with conspiracy to commit securities fraud for their role in a scheme to fraudulently inflate revenue at LocatePlus as well as a scheme to manipulate the stock of another company.

On November 10, 2010, the same date on which the indictment against Latorella and Fields was unsealed, the Securities and Exchange Commission (“Commission”) amended a previously-filed civil injunctive action against LocatePlus arising out of the same conduct, to add Latorella and Fields as defendants. The Commission’s civil injunctive action is stayed until the conclusion of the criminal case, which remains pending against both Fields and LocatePlus.

CFTC COMMISSIONER CHILTON AND DOCTORS NO,WHO AND ALL THE REST .

FROM:  COMMODITY FUTURES TRADING COMMISSION
“The Good Doctors”
Keynote Address of Commissioner Bart Chilton to the Mutual Fund Directors Forum, 2012 Policy Conference, Washington, DC
June 19, 2012
 Introduction
Good evening and thanks for that kind introduction.  It’s great to be with you.  I'm always impressed with people like you who take the time and travel away from your businesses and families to visit Washington and make your case on issues. That's an important thing, and it doesn't matter on which side of issues you fall. It’s a privilege to have an opportunity to be with you for some of your time in D.C. Even after 26 years in this town, it is still intriguing to hear that magical word “policy.”  I hope this year’s policy conference goes well for you.

Regulatory Health
Let’s discuss some policy issues, but do it within the construct of financial market regulatory health.

Before I get to it, is there a doctor in the house? The older I get, the nicer it is to know if we are close to a doctor. Any medical doctors, PhDs, doctors of love, as Gene Simmons says, anyone? Okay, great.

The financial health of markets: aren’t these markets astonishing? Aren't you sometimes simply in awe—in awe—of what they do and how they do it. They are pulsing every day and all night around the world to the beat of 160 million transactions a day.  It’s incredible they work as well as they do.  At the same time, though, we all know that once-in-a-while, they need a doctor. There is often a shock associated with that awe. Maybe that’s because of a Flash Crash, a major bankruptcy, a massive trading loss or any number of other problems. And yes, when there’s talk about needing a doctor—or, in this context—needing a little regulatory check-up, some people’s blood pressure starts to rise.  Chill pills are for that stuff, dude. Let’s just review how not taking very good care of our financial markets got us to where we are today.

 Dr. Drew
We don’t need to guzzle ginkgo biloba beverages to recall 2008 and the collapse of Bear Stearns, Lehman Brothers and AIG; the resulting dreadful bailout and the devastating effect on our own and a large part of the global economy.  Thinking about all of that raises a little financial PTSD for some people.
“Doctor my eyes,
Tell me was I wrong.
Was I unwise to leave them open for so long?”

Well, as hard as it is to think about 2008, there is that whole “learning from our experiences” or rather—mistakes—thing.

Who is familiar with CNN's Dr. Drew Pinsky, Dr. Drew—the former Love Line co-host?  If you’ve ever watched the show, he deals a lot with addictions—drug addictions, alcohol addictions, food addictions, sex addictions—you name it.  He is an impressive guy and he's helped a lot of people. One thing he always says is that the first step to recovery is admitting you have issues.

Well, in 2008 and the years leading up to it, we had issues. We had a problem, and we’re still in recovery today.  The point there is that we are recovering.  We are getting better, thank you very much. Congress recognized that we had a problem and passed the Dodd-Frank Wall Street Reform and Consumer Protection Act about two years ago right now.  That’s good, because we clearly needed something: therapy, recovery, whatever. As they often say in this town, "mistakes were made."

 Dr. Seuss
Once you’ve acknowledged the problem, therapists would suggest dissecting it to understand what went wrong. There were a couple of causes to the financial illness—the economic crisis—“Things,” if you will—that led to the system pretty much failing us.
 Thing One—shout out to good Dr. Seuss—were lax or non-existent laws and regulations that allowed the free markets to rock ‘n’ roll so much that they rolled right over our economies—and our citizens.

There is an old saying about how the best things in life are free. Well, the worst things in life are also sometimes free, like disease and famine and, yes, unbridled free markets with zero, zip, zilch oversight.  Of course, it wasn’t just the lax laws, rules and regulations.  Nope, Thing One just allowed for unprotected and risky behavior...and risky business.
CHFT
Thing Two were the active agents:  the captains of Wall Street—that’s how the FCIC, the Financial Crisis Inquiry Commission, described them. They wholly developed these very pioneering products, these innovative investments to be traded and re-traded.

Light markets, dark markets, big markets, small,
Green, red and black markets, they traded them all,
Burning up the fiber and fires on the phones,
And then what they did, was trade bundles of loans,
The markets were rising with new dough, don't you know,
And cheetah technology, that just never went slow,
The risk was so portable, so easy to move,
That sometimes they wondered, just whose risk they might lose Trading and trading is what kept them alive
And they did so, this trading, 24-7...365.
Thing One and Thing Two:  those harmless numskulls, what could go possibly go wrong?

 Dr. No
 Well, go wrong it did. We admitted and acknowledged we had a problem and received some treatment.  The problem, the condition if you will, today is: the recovery—the work—is not complete and there is temptation to do away with the very laws—the recovery program—we were admitted to in reaction to the 2008 financial crisis and the all-to-close-to collapse of national economies.  Let’s call that a near relapse.
There have been moves afoot in Congress to repeal some or all of Dodd-Frank, primarily by some of those who voted against it in the first place.  That's okay; they do and vote the best they see fit. Nobody is suggesting we all have to go about things the same way. Remember the James Bond antagonist, Dr. Julius No? Let’s call these folks Dr. Nos.  Many of this group voted no, or nay—on Dodd-Frank and on full funding for regulators.  The Dr. Nos would defund the precise market health professionals who were given the rather tough task of keeping an eye on Wall Street.  And, still others, including regulated entities themselves, like your group, are choosing to fight the new regulations in court. That’s fine. We are a litigious society. I'm not going to touch that one now. I'll leave that not to the doctors, but the lawyers.

The President requested, and the Senate Appropriations Committee passed, a CFTC funding level of $308 million. In the House, the Dr. Nos are proposing only $180 million. In Europe, they’d call that an “austerity measure.” But let’s call it what it is: a seriously substantial and severe budget reduction. Cutting our Agency’s oxygen off so that our nation can’t have market health professionals on the case or the technology we require to monitor those that we are supposed to be overseeing is not putting the financial health of the American people first.

Think about MF Global.  Think about JPMorgan.  Are these markets really any safer and healthier than they were when they did a code blue in 2008?  A little, I’d say.  However, we’re still in recovery mode for sure.  We still require a doctor.  And, it is still essential to pay for it.  There are some folks in this town and on Wall Street who wish Dr. Kevorkian was still around for us regulators. They are doing their best without him to administer a little euthanasia. The financial sector still has 10 lobbyists for every single member of Congress—more than any other sector. They are pretty effective at getting their way.

As regulators, we don't make the laws. If Dodd-Frank went away, I'd think it was a mammoth mistake, but the law is the law and we Commissioners swore an oath to uphold it. That is, however, what we are doing right now—upholding the law—the law. We owe it to taxpayers and consumers to insist that these markets remain healthy.

Dr. Phil
Most folks know TV's Dr. Phil.  He’s forever talking about setting limits, especially in relationships.  If somebody pushes your buttons: be it a parent, child, spouse, co-worker or friend, Dr. Phil will suggest setting some limits.  Don’t get sucked into their world or their drama.  Well, if limits are good enough for Dr. Phil, they’re good enough for me—especially when it seems like an appropriate prescription for a policy I have supported for many years.

 A fundamental part of Dodd-Frank, which only seems to gain public attention when gas prices are high, is speculative position limits.  (And yes, this is another one that’s being challenged in court).

As we all know, oil and gasoline prices were very high earlier this year. The highest prices were actually in the summer of 2008. The average national price of gasoline in July of that year was $4.10 a gallon. There was a lot of attention to the subject then, and there was earlier this year. Today, not so much, although limits are still an essential medication to reduce market manipulation.

Here’s why: numerous studies show a link between speculation and prices. Studies from the International Monetary Fund, the Federal Reserve, and numerous universities all show it.  There was a senior exchange official who a little more than a year ago said there wasn't any evidence that linked speculation to prices. There was even a former colleague of mine who kept saying there was no evidence. Wha wha what? It was amazing. Last year, I put 50 studies, papers and notable quotations from respected individuals on the CFTC web site. They are still there. I talk about them all the time, including right now. I can continue to explain this to people, but I can't comprehend it for them.
Why does a trader need so much concentration that they can push prices around?  I just don’t get it.

 Large concentrations in silver, gold, natural gas, crude oil and orange juice have existed in recent years. I've witnessed it, and at times, I've seen prices react.
In addition to the bankers' lawsuit which seeks to stop our position limits rule from being implemented, regulators have been derelict in not getting them in place sooner.  We keep hearing that imposition of limits is being held up because it's contingent upon our issuance of a swaps definition, and Dodd-Frank requires that we do that as a joint rulemaking with the SEC.  That's correct. Dr. Phil might ask, “How’s that workin’ out for ya?”  Well, I'd say, "Notsamuch, Doc."

I have respect for my regulatory colleagues, but I've gotta say, they’ve moved so slow that I think we need to check their pulse on this one.  Call me an impatient patient, but we have a responsibility to act here, and it's high time we do so to protect markets and consumers.
A man runs into the doctor’s office and says, “Doctor, you need to see me immediately, I think I’m shrinking!” The doctor says, “Calm down and take a seat. You will have to wait your turn and be a ‘little’ patient.” Well, we’ve been a little patient. We’ve been a lot patient.

Earlier this year, in March, I suggested we "consider" using a provision of Dodd-Frank that shifts unresolved jurisdictional disputes to the Financial Stability Oversight Council (FSOC) if an agreement can’t be found. We have been continually reassured we are going to consider this joint rule with the SEC "next month." We've been told that each month since my Agency approved limits. We were told it could happen last December and subsequently almost every month. I see no promise of movement from the SEC on this. We are two years into this new law, and position limits were supposed to be implemented after six months. The FSOC should resolve this.

Dr. Dolittle
Another policy issue I want to spend some time on is the issue of technology in trading.   I was going to call this section “Dr. Strangelove” since he was always fiddling around with technology—in his case nuclear weapons—or maybe “Dr. Leonard McCoy” from Star Trek. “Dammit Jim, I’m a doctor…” not a regulator.

There are a lot of people fiddling around with technology in financial markets today. But instead, I decided on Dr. Dolittle because I call these high frequency computer traders "cheetahs" due to their incredible speed as they travel through the market jungle.  They are out there all the time trying to scoop up micro-dollars in milliseconds. They are wicked smart and clever. I talked to the animals last week. By the way, they really are very agreeable and shrewd folks. I’m just jesting, of course. Nevertheless, I told them very clearly that they need to be regulated.

Here are the problematic symptoms that led to my, umm, diagnosis. The largest futures exchange in the World is in Chicago.  Their third largest trader by volume there has been a cheetah based in Prague.  Bully for the exchange, which has touted this firm in their magazine.

As an aside, I’ll note the curious case of the vanishing articles. The story about this Prague cheetah was in the fall of 2010 and it appeared in the exchange magazine. While you can find the issue on their web site, that article about the cheetah disappeared. I was alerted to this by two reporters who were fact-checking my stuff about the cheetah. When they asked the exchange about it, they were told that the story didn't exist. So, I looked into it. After some digging, I found it again. But, what the exchange did was took it off their web site. As it turns out, there is another story missing from that same edition: one about Jon Corzine, in which he talks about taking more risks as the, then, new head of MF Global. I have both stories. Folks have a right to keep whatever they want on their websites. I just think it is curiously peculiar that they'd pull those two stories—strange, but true.

So, bully for the exchange. Bully for the cheetah.  Bully for Prague. Hooray for Prague!
However, if we, the U.S. regulators, simply want to look at books and records, perhaps because we are concerned about trading activities on a U.S. exchange—it could happen—that cheetah in Prague is not required to provide us with anything. Nada.  Furthermore, we don’t even have the ability to command books and records information from domestic cheetahs.  Nada. These cats are not required to provide a thing to U.S. regulators, under the current set of circumstances, unless we get a judge to issue a subpoena.  It is simply loco.  Nada? informaciónnes de los catos es un problemo.

At the very least, the cheetahs need to be registered.  Yet, no place in the Dodd-Frank law are these traders even mentioned.  That is how quickly the markets are metastasizing.

I believe there is some value to the cheetahs. However, their awesomeness isn't too difficult to contemplate. I wrote about these traders in a Financial Times op-ed a long time ago (September of 2010).  In it, I suggested, “There is a good argument to be made that ‘parasitical trading’ does not truly contribute to fundamental market functions.”  I’m not trying to get rid of them—make the cheetahs an endangered species.  There's no opposition to new technology here.  The cheetahs do provide liquidity—albeit what I’ve dubbed as "fleeting liquidity."  If you want someone to hedge your commercial risk for 3-5 seconds, I know just the cats for the job.

I also believe that these cheetahs have a disproportionate influence on markets simply because of their speed.  Their trading volume isn’t traditionally large—although in overnight illiquid trading even smaller size trades can move markets. We’ve seen that many times—but their swiftness as traders can send signals to the market when they’re in pursuit of their prey.  That, in and of itself, is fairly new and presents troublesome issues.
Consequently, I’m suggesting that in addition to the cheetah registration requirement, we require testing of their programs before they are engaged in the market production environment. The programs should have kill switches in case they go feral. We need to require quarterly reports on their wash sales (and that they undertake efforts to stop those from occurring). And finally, cheetah executives, the head of their pride, must be accountable for such reports.

I expect the Agency to issue a concept release related to technology very soon. My colleague, Commissioner O'Malia, has done a lot of good work on these issues as the Chair of our Technology Advisory Committee. I’m hopeful, and expect (certainly if I am to support it), that as part of this concept release, these ideas will be included and we will receive some public comments to facilitate us moving forward.

Dr. Jekyll
A doctor says to her patient, “You have a split personality, a mental disorder—you’re crazy.” To which the patient says, “I want a second opinion.” The doctor says, “Okay, you’re ugly, too.”
Remember Dr. Jekyll from The Strange Case of Dr. Jekyll and Mr. Hyde? It had to do with split personalities, within the same body.

Just like Dr. Jekyll, who had two personalities, we see that the banks themselves have a troublesome duplexity. This split personality was created when the Glass-Steagall Act was repealed in 1999. Currently, banks have two voices in their heads. They have an interest in their proprietary bottom line, and in their customers. When the two distinct personalities are opposed, just like Dr. Jekyll and Mr. Hyde, it can get unpleasant. And, it has. Here's what we know: with the banks, we understand which personality supersedes. They do—the banks. The customers’ interests can become secondary.

Some would argue that the two can exist in the same body, but the evidence doesn't support that—not at all. We saw Goldman Sachs and Citibank both establish what I've termed "fake-out funds," like when a player fakes in a ball game. Only this isn't a game. It involves real money for the bank customers.

The two banks each established these funds, recommended them to their own customers, and then the banks took the opposite position. That's pretty sinister, right? A dreadful mixture of contrasting motives played out in a crooked fashion. The Goldman case was settled with the SEC for $550 million. The Citibank settlement with the SEC, for $285 million, was actually thrown out by U.S. District Judge Jed Rakoff for being too lenient. He called it “a mild and modest cost of doing business.” Soon, he's expected to rule on the matter himself.

“Doctor, doctor, give me the news…” What’s the answer to…these policy blues? No pill is gonna kill this ill, it will take the… Volcker Rule.

Well, the Volker Rule is the law. If regulators are thoughtful and implement it appropriately, it will take the banks’ split personality, their troublesome duplexity, out of the equation. I believe we can, and will. Again, it is our responsibility to do so, under...the law.

Conclusion—Dr. Marcus Welby
Well listen, I should wrap this up.  I know you’ve got another big day tomorrow.  We will leave all of the rest of the doctors alone tonight. Doctor Who? Yeah, him, and the rest: our cowboy Docs Holliday and Scurlock, Docs Severinsen, Hollywood and Watson, Dr. Ruth and Sanjay Gupta, Doctor Frasier Crane and Dr. Laura, Doctors Dre, Evil, Feelgood and Demento. You can play at home. It’s fun for the whole family.
This will really date me, but Dr. Marcus Welby was played by actor Robert Young. He, Young the actor, used to do these television commercials that would start off with him saying something like: “I’m not a doctor, but I play one on TV.” Then, he'd endorse some health-related product, like aspirin. Well, I'm not a doctor. And, I DON'T play one on TV, but I sure have enjoyed speaking about the health of our financial markets and the ongoing need for preventative care by regulators to protect investors, hedgers and yes, most importantly consumers.

I’ve got to run to the ER. Thank you for the opportunity to be with you.  Nurse!

FDIC TESTIMONY BEFORE CONGRESSIONAL COMMITTEE ON FINANCIAL SERVICES REGARDING SUPERVISION AND RISK MANAGEMENT

FROM:  FEDERAL DEPOSIT INSURANCE CORPORATION
Speeches & Testimony
Statement of Martin J. Gruenberg, Acting Chairman, Federal Deposit Insurance Corporation on "Examining Bank Supervision and Risk Management In Light of JPMorgan Chase's Trading Loss" Before the Committee on Financial Services, United States House of Representatives; 2128 Rayburn House Office Building
June 19, 2012
Chairman Bachus, Representative Frank and members of the Committee, thank you for the opportunity to testify this morning on behalf of the Federal Deposit Insurance Corporation on bank supervision and risk management as it concerns recent trading losses at JPMorgan Chase.

The recent losses at JPMorgan Chase revealed certain risks that reside within large, complex financial institutions. They also highlighted the significance of effective risk controls and governance at these institutions.

The four FDIC-insured subsidiaries of JPMorgan Chase firm have nearly $2 trillion in assets and $842 billion in domestic deposits. As the deposit insurer and backup supervisor of JPMorgan Chase, the FDIC staff works through the primary federal regulators, the Comptroller of the Currency and the Federal Reserve System, to obtain information necessary to monitor the risk within the institution.

The FDIC maintains an onsite presence at the firm, which currently consists of a permanent staff of four professionals. The FDIC staff engages in risk monitoring of the firm through cooperation with the primary federal regulators. Following the disclosure of JPMorgan Chase’s losses, the FDIC has added temporary staff to assist in our current review. The team is working with the institution’s primary federal regulators to investigate both the circumstances that led to the losses and the institution’s ongoing efforts to manage the risks at the firm. The agencies are conducting an in-depth review of both the risk measurement tools used by the firm and the governance and limit structures in place within the Chief Investment Office (CIO) unit where the losses occurred.  Following this review, we will work with the primary regulators to address any inadequate risk management practices that are identified.

Following the announcement of these losses in May, the FDIC joined the OCC and the New York Federal Reserve Bank in daily meetings with the firm. Initially, these meetings focused on gaining an understanding of the events leading up to the escalating losses in the CIO synthetic credit portfolio. The FDIC has continued to participate in these daily meetings between the firm and its primary regulators. We are looking at the strength of CIO’s risk management, governance and control frameworks, including the setting and monitoring of risk limits. The FDIC is also reviewing the quality of CIO risk reporting that has historically been made available to firm management and the regulators. Our discussions have also focused on the quality and consistency of the models used in the CIO as well as the approval and validation processes surrounding them. Although the focus of this review is on the circumstances that led to the losses, the FDIC is also working with JPMorgan Chase’s primary federal regulators to assess any other potential gaps within the firm’s overall risk management practices.

As a general matter, and apart from the specifics of this situation, evaluating the quality of financial institutions’ risk management practices, internal controls and governance is an important focus of safety-and-soundness examinations conducted by the federal banking agencies. Onsite examinations provide an opportunity for supervisors to evaluate the quality of the loan and securities portfolios, underwriting practices, credit review and administration, establishment of and adherence to risk limits, and other matters pertinent to the risk profile of an institution. One important element of risk management is that senior management and the board receives accurate and timely information about the risks to which a firm is exposed. Timely risk-related information is needed by institution management to support decision making and to satisfy disclosure requirements -- and it is an important element of supervisory review.

Without speaking to the specifics of the case for which a review is underway, the recent losses attest to the speed with which risks can materialize in a large, complex derivatives portfolio. The recent losses also highlight that it is important for financial regulatory agencies to have access to timely risk-related information about derivatives and other market-sensitive exposures, to analyze the data effectively, and to regularly share findings and observations.

DISTRICT COURT ENTERS FINAL JUDGMENTS AGAINST DEFENDANTS JAMES CLEMENTS AND ZEINA SMIDI.

FROM:  U.S. SECURITIES AND EXCHANGE COMMISSION
June 18, 2012
DIMITROULEAS/SNOW
The Commission announced that on May 21, 2012, a District Judge in the Southern District of Florida entered Final Judgments Ordering Disgorgement, Prejudgment Interest and a Civil Penalty against Defendants James Clements and Zeina Smidi. Pursuant to Section 20(d) of the Securities Act of 1933 (Securities Act) and Section 21(d) of the Securities Exchange Act of 1934 (Exchange Act), District Court Judge William P. Dimitrouleas ordered Defendant Clements to pay disgorgement of $339,451, prejudgment interest of $88,975.66, and a civil penalty of $339,451, and ordered Defendant Smidi to pay disgorgement of $2,492,000, prejudgment interest of $611,837.60, and a civil penalty of $2,492,000.

The District Court previously entered by consent permanent injunctions against Clements and Smidi on February 6 and 17, 2012. The permanent injunctions enjoined Clements from future violations of Securities Act Sections 5(a), 5(c), and 17(a), and Exchange Act Sections 10(b), 15(a), and Exchange Act Rule 10b-5, and enjoined Smidi from future violations of Exchange Act Section 10(b), and Exchange Act Rule 10b-5. Clements and Smidi neither admitted nor denied the allegations of the complaint in their consents.
The Commission filed a complaint against Clements and Smidi on March 30, 2011, alleging they operated a Ponzi scheme that offered investors guaranteed monthly returns. The Defendants first told investors they would use investor proceeds to trade in foreign currencies and later stated they would use proceeds to invest in Swiss high-yield, fixed-rate savings accounts. In reality, however, Clements and Smidi siphoned approximately $3 million of investors’ money to their personal bank accounts, and paid out approximately $3 million for travel, expenses, and luxury items.

DERIVATIVES AND THE CROSS-BORDER APPLICATION OF DODD-FRANK SWAP MARKET REFORMS

FROM:  U.S. COMMODITY FUTURES TRADING COMMISSION
Remarks on Derivatives and the Cross-Border Application of Dodd-Frank Swap Market Reforms at the Institute of International Bankers’ Membership Luncheon
Chairman Gary Gensler
June 14, 2012
Good afternoon, Rich, thank you for that kind introduction and for inviting me to speak about the Commodity Futures Trading Commission’s (CFTC) efforts to bring much-needed reform to the swaps market.

With just the click of a mouse, swap market risk can spread around the globe.
AIG’s subsidiary, AIG Financial Products, brought down the company and nearly toppled the U.S. economy. How was it organized? It was run out of London – actually as a branch of a French-registered bank – though technically organized in the United States.
It was sobering evidence of how overseas risk can come crashing back to our shores to affect middle-class taxpayers, many of whom had never heard of swaps.

Swaps – developed to help manage and lower risk for commercial companies – also concentrate and heighten risk in international financial institutions. When these entities fail, as they have and surely will again, swaps can quickly spread risk across borders.
Following the crisis, when President Obama gathered together the G-20 leaders in Pittsburgh in 2009, a new consensus formed internationally. Swaps, which were basically not regulated in the United States, Japan or Europe, should now be brought into the light of regulation.

Despite different cultures, political systems and financial systems, we've made significant progress on a coordinated and harmonized international approach to reform.
In 2010, the U.S. Congress passed the historic Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act). To date, the CFTC has completed 33 swaps market reforms. We are on track to finish the nearly 20 remaining reforms this year.
Japan, Europe and the largest provinces in Canada have also made substantial legislative progress on reform.

I would like to highlight the progress we're making together on transparency, clearing and margin.

Promoting transparency to the public in the swaps market is critical to both lowering the risk of the financial system, as well as to reducing costs to end users.

The CFTC has completed key transparency rules. Starting as early as September, real-time reporting to the public and to regulators will become a reality. We are nearing consideration of the final swap execution facility rule, which will bring pre-trade transparency to the marketplace.

The G-20 leaders recognized reporting to regulators is not enough. Public market transparency is critical to promoting competition and lowering risk. The Japanese and Europeans have public transparency proposals in front of their legislative bodies that would further align international reform efforts.

Clearinghouses also significantly benefit from public market transparency, as they need to mark their positions to market daily, as well as rely on liquid markets when a clearing member defaults.

While our approaches are not identical, there is a great deal of consistency among the major market jurisdictions in lowering risk by bringing standardized swaps into central clearing. We are collaborating internationally on clearinghouse rules, as well as on determinations as to which swaps must be cleared. It is my hope that the CFTC’s first clearing determinations will be put out for public comment this summer and completed this fall.

The CFTC’s determinations are likely to begin with standard interest rate swaps in U.S. dollars, Euros, British pounds and Japanese yen, as well as a number of credit default swap indices.

The CFTC is working with the Federal Reserve, the other U.S. banking regulators, the Securities and Exchange Commission (SEC), and international regulators and policymakers to align margin requirements for uncleared swaps. I think it is essential that we align these requirements globally, particularly between the major market jurisdictions. An international release on margin requirements will be put out for public comment shortly. The approach will be consistent with the approach the CFTC laid out in its margin proposal last year. We anticipate, in addition, formally reopening the comment period on our initial proposal so that we can hear further from market participants in light of the international release.

Cross-border Application of Swaps Market Reforms
Though what I've reviewed so far may have been of interest, I guess that Rich and Sally Miller invited me here today mostly to tell you how reforms will affect those of you in the international banking community.

Section 722(d) of the Dodd-Frank Act, states that swaps reforms shall not apply to activities outside the United States unless those activities have “a direct and significant connection with activities in, or effect on, commerce of the United States.”
The CFTC plans to soon put out to public comment our interpretation and related guidance on this provision to get public feedback, including from your members.
Let me touch upon how it relates to U.S. financial institutions, and then discuss how it relates to international institutions.

Recent events at JPMorgan Chase are a stark reminder of how swaps traded overseas can quickly reverberate with losses coming back into the United States.

We've seen this movie before. Financial institutions set up hundreds, if not thousands of legal entities around the globe. During a default or crisis, risk of overseas' branches and affiliates inevitably flows back into the United States.
We saw this with AIG.

We saw this with Lehman Brothers. Among Lehman Brothers’ complex web of affiliates was Lehman Brothers International (Europe) in London. When Lehman failed, this London affiliate, with more than 130,000 outstanding swaps contracts, failed as well. Who stood behind these swaps contracts? The U.S. mother ship, Lehman Brothers Holdings, had guaranteed many of them.

We saw this with Citigroup. It set up numerous structured investment vehicles (SIVs) to move positions off its balance sheet for accounting purposes, as well as to lower its regulatory capital requirements. Yet, Citigroup had guaranteed the funding of these SIVs through a mechanism called a liquidity put. When the SIVs were about to fail, Citigroup in the United States assumed the huge debt, and taxpayers later bore the brunt with two multi-billion dollar infusions. And where were these SIVs set up? They were launched out of London and incorporated in the Cayman Islands.

We saw this with Bear Stearns. Its two sinking hedge funds it bailed out in 2007 were incorporated in the Cayman Islands. Yet again, the public assumed part of the burden when Bear Stearns itself collapsed nine months later.

And remember Long-Term Capital Management? When this hedge fund failed in 1998, its swaps book totaled in excess of $1.2 trillion notional. The vast majority were booked in its affiliated partnership… in the Cayman Islands.

There are some in the financial community who want us to ignore these hard lessons of past financial institution failures.

They might tell you that swap trades booked in London branches of U.S. entities shouldn't be brought under Dodd-Frank reform.

They might tell you that affiliates, even when guaranteed by the mother ship back here in the United States, shouldn't come under Dodd-Frank reform.

They might tell you that affiliates acting as conduits for swaps activity back here shouldn't be brought under Dodd-Frank reform.

If we follow their comments, the result would be that American jobs and markets would move offshore, but, particularly in times of crisis, risk would come back to affect our economy.

So what has the CFTC staff recommended to the Commission?
First, when a foreign entity transacts in more than a de minimis level of U.S. swap dealing activity, the entity would register under the CFTC’s swap dealer registration rules.
Second, the staff recommendation includes a tiered approach for overseas swap dealer requirements. This is largely consistent with comments received from major international swap dealers. Some requirements would be considered entity-level, such as for capital, risk management, recordkeeping and reporting to swap data repositories (SDRs). Some requirements would be considered transaction-level, such as clearing, margin, real-time public reporting, trade execution and sales practices.

Third, entity-level requirements would apply to all registered swap dealers, but in certain circumstances, overseas swap dealers could meet these requirements by complying with comparable and comprehensive foreign regulatory requirements, or what we call “substituted compliance.”

Fourth, transaction-level requirements would apply to all U.S. facing transactions. For these requirements, U.S. facing transactions would include not only transactions with persons or entities operating or incorporated in the United States, but also transactions with their overseas branches. Likewise, this would include transactions with overseas affiliates that are guaranteed by a U.S. entity, as well as the overseas affiliates operating as conduits for a U.S. entity’s swap activity.
Fifth, for certain transactions between an overseas swap dealer (including a foreign swap dealer that is an affiliate of a U.S. person) and counterparties not guaranteed by or operating as conduits for U.S. entities, Dodd-Frank transaction-level requirements may not apply. For example, this would be the case for a transaction between a foreign swap dealer and a foreign insurance company not guaranteed by a U.S. person.

What does this mean for your membership?

So it means that if a legal entity has over $8 billion in market making swaps activity with U.S. market participants, it should be preparing to register as a swap dealer. For foreign financial institutions, swaps with U.S. persons or their overseas branches would count toward the de minimis threshold. In the midst of a default or a crisis, there is no satisfactory way to really separate the risk posed to a branch from being transmitted to its parent bank.

Swap dealer registration will be required two months after we finalize with the SEC the joint rule further defining the term "swap." The further definition rule is now before Commissioners at both agencies.

It means the entity would have to comply with the various Dodd-Frank provisions applicable to swap dealers, though in certain cases, this may be done through substituted compliance.

In addition to the interpretive guidance, the CFTC also is considering a release on phased compliance for foreign swap dealers. The separate release addresses comments from international and U.S. market participants. For overseas swap dealers that register with the CFTC, the release provides for phased compliance in the following manner:
Compliance with transaction-level requirements with U.S. persons and branches of U.S. persons would be required;
Entity-level requirements (other than reporting to SDRs) that might come under substituted compliance may be delayed for up to one year. During that time, the CFTC would be moving to complete the cross-border interpretive guidance and would work with market participants and foreign regulators on plans for substituted compliance; and
For overseas swap dealers, swap transactions with U.S. persons and branches of U.S. persons would be required to be reported to a SDR (or the CFTC).
The CFTC has had a long history of recognizing comparable regulations of foreign regimes. We have entered into numerous memoranda of understanding on both information sharing and supervisory coordination with our international counterparts with regard to foreign clearinghouses, exchanges and intermediaries.
Conclusion

The 2008 crisis – caused in part by swaps – was the worst financial and economic crisis Americans have experienced since the Great Depression. Eight million Americans lost their jobs, and millions of families lost their homes.

The crisis was a failure of the financial system and of financial regulation. The high levels of debt and excessive risk that contributed to the crisis continue to reverberate in Europe and the United States.

The CFTC is well over halfway to finishing critical swaps market reforms bringing transparency to this market and lowering its risk to the public. We’ve taken into account more than 30,000 comment letters, held 1,600 meetings with the public and hosted 18 roundtables. But now it's time to finish the job.

Some in the financial community have suggested that we retreat from these critical reforms. But the ever-growing financial storm clouds hanging over Europe and the lessons from the U.S. financial crisis should guide us that now is not the time to retreat from reform. Now is the time to promote transparency and protect the public.

MORTGAGE COMPANY CFO GETS 60 MONTHS IN PRISON FOR PAR TIN $2.9 BILLION FRAUD

FROM:  U.S. DEPARTMENT OF JUSTICE
Friday, June 15, 2012
Former Chief Financial Officer of Taylor, Bean & Whitaker Sentenced to 60 Months in Prison for Fraud Scheme
WASHINGTON – Delton de Armas, a former chief financial officer (CFO) of Taylor, Bean & Whitaker Mortgage Corp. (TBW), was sentenced today to 60 months in prison for his role in a more than $2.9 billion fraud scheme that contributed to the failure of TBW
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De Armas was sentenced today by U.S. District Judge Leonie M. Brinkema in the Eastern District of Virginia.  The sentence was announced today by Assistant Attorney General Lanny A. Breuer of the Criminal Division; U.S. Attorney Neil H. MacBride for the Eastern District of Virginia; Christy Romero, Special Inspector General, Office of the Special Inspector General for the Troubled Asset Relief Program (SIGTARP); Assistant Director in Charge James W. McJunkin of the FBI’s Washington Field Office; David A. Montoya, Inspector General of the Department of Housing and Urban Development (HUD-OIG); Jon T. Rymer, Inspector General of the Federal Deposit Insurance Corporation (FDIC-OIG); Steve A. Linick, Inspector General of the Federal Housing Finance Agency (FHFA-OIG); and Richard Weber, Chief of the Internal Revenue Service Criminal Investigation (IRS-CI).

De Armas, 41, of Carrollton, Texas, pleaded guilty in March to one count of conspiracy to commit bank and wire fraud and one count of making false statements.

“For years, Mr. de Armas, the CFO of one of the country’s largest private mortgage companies, helped defraud financial institutions by concealing from them billions of dollars in losses,” said Assistant Attorney General Breuer.  “His lies and deceits contributed to the devastating losses suffered by major institutional investors.  As a consequence for his crimes, he will now spend the next five years of his life behind bars.”

“As CFO, Mr. de Armas could have – and should have – put a stop to the massive fraud at TBW the moment he discovered it,” said U.S. Attorney MacBride. “Instead, he and others lied for years on end to investors, banks, regulators and auditors and caused more than $2.4 billion in losses to major financial institutions.”

“Rather than blow the whistle on billions of dollars in fraud, de Armas chose to help conceal it,” said Special Inspector General Romero.  “This CFO lied to investors, banks, regulators and auditors to cover up the massive fraud scheme which resulted in the failure of both TBW and Colonial Bank.  The court’s decision to sentence de Armas to five years in prison reflects the seriousness of his role as a gatekeeper within TBW and the contribution of his crime to our nation’s financial crisis.”

“The actions of Mr. De Armas and others resulted in the loss of billions of dollars to major financial institutions,” said Assistant Director in Charge McJunkin.  “Today’s sentence serves as a warning to anyone who attempts to take advantage of investors and our banking system.  Together with our law enforcement partners, the FBI will pursue justice for anyone involved in such fraudulent schemes.”

According to court documents, de Armas joined TBW in 2000 as its CFO and reported directly to its chairman, Lee Bentley Farkas, and later to its CEO, Paul Allen.  He previously admitted in court that from 2005 through August 2009, he and other co-conspirators engaged in a scheme to defraud financial institutions that had invested in a wholly-owned lending facility called Ocala Funding.  Ocala Funding obtained funds for mortgage lending for TBW from the sale of asset-backed commercial paper to financial institutions, including Deutsche Bank and BNP Paribas. The facility was managed by TBW and had no employees of its own.

According to court records, shortly after Ocala Funding was established, de Armas learned there were inadequate assets backing its commercial paper, a deficiency referred to internally at TBW as a “hole” in Ocala Funding.  De Armas knew that the hole grew over time to more than $700 million.  He learned from the CEO that the hole was more than $1.5 billion at the time of TBW’s collapse.  De Armas admitted he was aware that, in an effort to cover up the hole and mislead investors, a subordinate who reported to him had falsified Ocala Funding collateral reports and periodically sent the falsified reports to financial institution investors in Ocala Funding and to other third parties.  De Armas acknowledged that he and the CEO also deceived investors by providing them with a false explanation for the hole in Ocala Funding.

De Armas also previously admitted in court that he directed a subordinate to inflate an account receivable balance for loan participations in TBW’s financial statements.  De Armas acknowledged that he knew that the falsified financial statements were subsequently provided to Ginnie Mae and Freddie Mac for their determination on the renewal of TBW’s authority to sell and service securities issued by them.

In addition, de Armas admitted in court to aiding and abetting false statements in a letter the CEO sent to the U.S. Department of Housing and Urban Development, through Ginnie Mae, regarding TBW’s audited financial statements for the fiscal year ending on March 31, 2009.  De Armas reviewed and edited the letter, knowing it contained material omissions.  The letter omitted that the delay in submitting the financial data was caused by concerns its independent auditor had raised about the financing relationship between TBW and Colonial Bank and its request that TBW retain a law firm to conduct an internal investigation.  Instead, the letter falsely attributed the delay to a new acquisition and TBW’s switch to a compressed 11-month fiscal year.

“We are pleased to have joined our law enforcement colleagues in bringing Mr. de Armas to justice,” said Inspector General Rymer.  “The former Chief Financial Officer’s actions contributed to one of the largest bank frauds in the country and led to the demise of TBW.  His punishment, along with the earlier sentencings of other co-conspirators involved in the Colonial Bank and TBW scheme, sends a clear message that those who abuse their positions of trust and seek to undermine the integrity of the financial services industry will be held accountable.  We will continue to pursue such cases in the interest of ensuring the safety and soundness of our Nation’s banks and the strength of the financial services industry as a whole.”

“Delton de Armas was a key player in the TBW fraud; the significant sentence of 60 months handed down today appropriately takes that role into account,” said Inspector General Linick.

In April 2011, a jury in the Eastern District of Virginia found Lee Bentley Farkas, the chairman of TBW, guilty of 14 counts of conspiracy, bank, securities and wire fraud.  On June 30, 2011, Judge Brinkema sentenced Farkas to 30 years in prison.  In addition, six individuals have pleaded guilty for their roles in the fraud scheme, including: Paul Allen, former chief executive officer of TBW, who was sentenced to 40 months in prison; Raymond Bowman, former president of TBW, who was sentenced to 30 months in prison; Desiree Brown, former treasurer of TBW, who was sentenced to six years in prison; Catherine Kissick, former senior vice president of Colonial Bank and head of its Mortgage Warehouse Lending Division (MWLD), who was sentenced to eight years in prison; Teresa Kelly, former operations supervisor for Colonial Bank’s MWLD, who was sentenced to three months in prison; and Sean Ragland, a former senior financial analyst at TBW, who was sentenced to three months in prison.

The case is being prosecuted by Deputy Chief Patrick Stokes and Trial Attorney Robert Zink of the Criminal Division’s Fraud Section and Assistant U.S. Attorneys Charles Connolly and Paul Nathanson of the Eastern District of Virginia.  This case was investigated by SIGTARP, FBI’s Washington Field Office, FDIC OIG, HUD OIG, FHFA OIG and the IRS Criminal Investigation.  The Financial Crimes Enforcement Network (FinCEN) of the Department of the Treasury also provided support in the investigation.  The Department would also like to acknowledge the substantial assistance of the SEC in the investigation of the fraud scheme.

This prosecution was brought in coordination with President Barack Obama’s Financial Fraud Enforcement Task Force.  President Obama established the interagency Financial Fraud Enforcement Task Force to wage an aggressive, coordinated and proactive effort to investigate and prosecute financial crimes.  The task force includes representatives from a broad range of federal agencies, regulatory authorities, inspectors general and state and local law enforcement who, working together, bring to bear a powerful array of criminal and civil enforcement resources.  The task force is working to improve efforts across the federal executive branch, and with state and local partners, to investigate and prosecute significant financial crimes, ensure just and effective punishment for those who perpetrate financial crimes, combat discrimination in the lending and financial markets, and recover proceeds for victims of financial crimes.