Spitzer's Slap: Small Change on the Street


By Heather Timmons Despite nine months of investigations into conflicts-of-interest on Wall Street, the major investment banks haven't done much soul-searching. Behind the scenes, the pinstripers have grumbled about the possible political ambitions of New York Attorney General Eliot Spitzer and the long process that came up with the monetary fines. Meanwhile, the big houses continue to pump out rosy research when it concerns their banking clients. Contrition? It's hard to find.

All the grousing abruptly stopped on Dec. 20, when Spitzer and the Securities & Exchange Commission announced a preliminary settlement. Investment banks, which will pay a total of $1.4 billion in fines, agreed to buy research from independent firms in the future, with each bank shelling out $80 million to $400 million a year for such information. The idea is to separate investment banking from research analysis, finally putting this latest Wall Street scandal in the past. Now the big question is: Will the big investment banks finally get what the fuss was all about?

ROAD-SHOW BAN. The dollar amounts in the fines are hardly onerous. The $400 million that Citigroup will pay, for example, is about one-tenth of its third-quarter earnings. (BW Online's recent Reader Survey on this topic found wide support for much higher fines. See "Wall Street: How Hard a Wrist Slap?") The banks also will have to ban analysts from road shows and investment-banking presentations. Citi, which has come under the strongest fire from the AG's office, issued a terse statement pointing out that the settlement didn't require any firm to admit wrongdoing.

So what has Wall Street learned from this latest crisis in confidence? It's hard to be optimistic that it will be any better in the future. One telling moment occurred during the press conference to announce the deal at the New York Stock Exchange, when shareholder gadfly Evelyn Davis asked NYSE chief Richard Grasso exactly how the settlement money will be used to bolster investor education.

"Thank you for that, Evelyn, I'm sure it will be useful in the future," Grasso answered, dismissing the question with all the sincerity of a radio talk-show host brushing off an unwanted caller. Spitzer jumped in with a more carefully weighed response about how no one could tell investors what to buy, but that they should have full knowledge of all their options.

PERFORMANCE RATINGS. Davis has certainly earned her gadfly reputation. She has been tossed out of more than a few shareholder meetings in her time, and she often hogs the microphone, peppering her questions about company revenues with sometimes hard-to-relate anecdotes from her own life. But this question was a good one, and her concern was valid.

As part of the settlement, firms will cough up $85 million to educate investors. That amount could easily be squandered on pamphlets no one will read -- or it could be funneled into something much more useful, like an online database rating brokers and analysts. Grasso's response seemed to sum up the brusque attitude so many on Wall Street have adopted: They just want this episode over and done so their focus can return to the business of making money.

Still, what Spitzer's office is trying to do is commendable. The attention brought to Wall Street conflicts has sparked an important debate, and these firms will likely pay out much more than the $1.4 billion in civil litigation in the future. As Spitzer noted on Friday, if they violate the settlement, they'll be found in contempt of court. This could result in more fines or even criminal action.

FOX IN THE HENHOUSE? It's already clear the Dec. 20 deal has split independent researchers. Some firms are embracing the settlement because they see lots of extra business in the outcome. A two-day-old consortium called Best Independent Research (BIR), representing seven independent firms, is trying to position itself as the best source for investment banks to tap for the unbiased information that the settlement demands. "Our firms focus on stock selection," explains Thomas White, president of BIR. Investment banks that buy research from the group also would get a one-page report listing performance-based ratings of analysts to give retail customers.

Then there's Investorside research, a two-month-old trade group of 17 independent research firms, which rejects the settlement's entire rationale. The reason: Investorside thinks regulators want this case closed as much as Wall Street does. Rather than forcing investment banks to buy independent research, Spitzer & Co. should be focusing on tougher policing of investment banks, Investorside believes.

"It's a little like having the fox rent shelf space to the hens in the henhouse," says Scott Cleland, head of the group. "There were tough Chinese Wall rules for 40 years. But for the past 10 years, it has been a shower curtain instead -- because no one enforced them."

Cleland has a point. Ultimately, investors may want to ask: What difference does changing the speed limit make if not enough cops are on the road to enforce it? Timmons covers banking for BusinessWeek in New York


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