As early as 1997, officials at the Securities and Exchange Commission suspected that Robert Allen Stanford was running a Ponzi scheme. But they did not take significant steps to investigate until 2005, and it was not until 2009 that the agency charged Stanford with perpetrating an $8 billion fraud from Texas and his island base in the Caribbean.
So concluded the SEC’s inspector general in a report last year. Now, in a follow-up study, inspector general H. David Kotz concludes that some of the same internal influences that contributed to the Stanford embarrassment may be compromising the SEC’s handling of tips about potential frauds.
Loosely translated, SEC officials responsible for examining financial firms may be so concerned about their batting averages that they refrain from recording their suspicions in an SEC database of tips, complaints and matters referred to colleagues in the SEC’s enforcement division for possible follow-up, Kotz said in a report released Thursday.
The SEC’s Office of Compliance Inspections and Examinations is supposed to be an early warning system in fraud detection.
But the new investigation found “that internal concerns over incentives and metrics with regard to the percentage of OCIE referrals being accepted by Enforcement may have led OCIE senior officials to request that a particular referral not be captured in the Tips, Complaints and Referrals (TCR) system to avoid the risk of having large numbers of outstanding referrals,” the inspector general wrote.
In addition, the examination staff “sometimes presents referrals informally to Enforcement prior to proceeding with the formal referral process. As a result, there is a concern that not all referral-worthy matters may be captured,” the inspector general wrote.
Another pitfall is that SEC examiners and their counterparts in enforcement “use different systems to track referrals, and those systems do not currently interface with each other,” the inspector general said.
The Stanford case, and the SEC’s similar fumbling of tips about Bernard Madoff’s even larger Ponzi scheme, were severe setbacks to the agency’s reputation that some members of Congress continue to cite in arguing that the SEC does not deserve the budget increase it says it needs. The SEC has argued that it needs money to upgrade its computer systems, among other things.
In his earlier investigation of the Stanford case, Kotz found that senior officials in the SEC’s Fort Worth office “perceived that they were being judged on the numbers of cases they brought, so-called ‘stats,’ ” and believed that “novel or complex cases were disfavored.”
“As a result, cases like Stanford, which were not considered ‘quick-hit’ or ‘slam-dunk’ cases, were not encouraged,” Kotz wrote.
In the new report, Kotz cites signs of improvement. Based on a survey of SEC examiners, he says that the level of concern about enforcers’ handling of referrals has dropped dramatically.
The survey found “that the large majority of examiners do not believe that Enforcement will only take referrals that involve high dollar value amounts and can easily be brought against the violator,” Kotz wrote.