World-class fraudster Allen Stanford may have suffered a 110-year federal prison sentence for his legendary fraud, but much of the wealth he stole in his $7.2 billion Ponzi scheme is still at large and has not been returned to his many victims. A July 3 ruling by US District Judge Robert Wilkins, of the District of Columbia, does not give fraud victims much hope they will be made whole any time soon.
Wilkins rejected an attempt by the Securities and Exchange Commission to compel the Securities Investor Protection Corporation (SIPC) to start liquidation proceedings directed at the financial institution and other holdings previously controlled by Stanford in order to compensate as many as 7,000 of his victims.
The judge ruled that because the Securities Investor Protection Act of 1970 covers only “customers” of US institutions, Stanford victims who had invested through the fraudster’s offshore banks were not “customers” protected under the act. The 1970 law created the SIPC as a brokerage-backed protection fund for securities investors.
This was the first time the SEC has attempted to force the SIPC to act by court order. The ruling deals a blow to the agency’s intensive three-year effort to recover assets for Stanford victims. It also rejects the SEC’s attempt to widen the scope of SIPC coverage to include investors who were defrauded at non-US financial institutions.
SEC’s sought very broad application of SIPC law
“The interpretation sought by the SEC is extraordinarily broad and would unreasonably contort the statutory language [of the SIPA],” said Wilkins in his ruling.
The SIPC is not intended to be an insurance fund for defrauded securities investors, but, rather, to protect persons who invested in failed brokerage houses. However, it has conducted liquidations and reimbursed investors in other major Ponzi cases, including the classic Bernard Madoff fraud. The SIPC has paid about $800 million to investors and $300 million in legal fees to diverse law firms in the Madoff fraud.
“This case is important in terms of the burden of proof the SEC has to bring in order to get the SIPC involved,” says Nancy Rapoport, a law professor at the University of Nevada, in Las Vegas, and former practicing bankruptcy lawyer. “The judge essentially told the agency, ‘you’ve got to be a little less creative because we’re going to be very specific in how this statute is enforced.’”
Ruling leaves Stanford victims few recovery options
Stanford’s 20-year scheme involved selling fraudulent certificates of deposit marketed to US and international investors by the Stanford Group Co., a Texas-based brokerage that was registered with the SEC and was a member of SIPC. The CDs were issued by Stanford International Bank, in Antigua, which processed investor’s payments and issued the CDs directly to investors.
By the time Stanford was indicted on federal charges in February 2009, he had duped about 21,500 investors in dozens of countries. He was convicted on March 8, 2012, in Houston.
Stanford’s victims now have little hope of recouping their losses. “It’s very difficult when you’re dealing with international law and the kind of offshore structures that are a common feature of these kinds of Ponzi schemes,” says Thomas Ajamie, a Houston attorney specializing in securities litigation who represents several Stanford victims.
Stanford’s “investors” now must rely on tortuous bankruptcy proceedings underway in Texas federal court. “What’s going to be returned to the victims is whatever the receiver can get them,” Ajamie continues. “They’re in his hands, to a large degree.”
Ajamie notes that to date, none of the funds recovered by Dallas lawyer Ralph Janvey, the court-appointed receiver in the case, has been distributed to Stanford victims. Reports by Janvey to US District Judge David Godbey show that $218 million had been recovered by late 2011, but that roughly $150 million of that amount has been used to pay the fees of Janvey and the legal team of other law firms that he chose.
SIPC has no duty to ‘offshore’ investors, judge says
The SIPC, a nonprofit quasi-government agency supervised by the SEC and designed to protect investors in failed or insolvent broker-dealers, may liquidate an investor’s securities that were held by a failed broker-dealer, or may pay up to $500,000 to individual investors if their securities cannot be recovered.
The case before Judge Wilkins emerged when the SIPC rejected a request by the SEC to commence liquidation proceedings that would lead to payments to Stanford victims. The SEC filed its unprecedented lawsuit in December 2011.
The SIPC said the Stanford investors were outside of its protections. In one of its court filings, the SIPC said that the Securities Investor Protection Act “does not even permit, much less require, the initiation of liquidation for purchasers of the offshore bank certificates of deposit at issue here.”
The SEC responded that there is no meaningful distinction between Stanford’s in foreign bank and US-based brokerage. It pointed out that Stanford routinely shifted investor funds between the two and deceived victims into thinking their investments were covered by the SIPC.
Wilkins was unconvinced. “The Court… [is not] swayed by the SEC’s argument that some of the CD sales proceeds were used to pay expenses of SGC (Stanford Group Company) and that some of the investors were told that the CDs were protected by SIPA.” he said. He called these side issues and noted that to compensate Stanford victims would place a severe strain on the SIPC’s fund, which has already been drained by the ongoing payments to investors in the Madoff and other cases.
The SIPC fund has $1.5 billion in reserve, which would not be even half of the $3.5 billion that would be needed to compensate 7,000 Stanford victims at $500,000 each.
Once blasted for not stopping Stanford, SEC now ‘aggressive’ in seeking victim recovery
For some, the SEC’s loss is not surprising, but disappointing. “I was never sure how the SIPC would have responsibility for CDs issued by an offshore bank,” says Ajamie. “It always seemed like the SEC was trying to fit a square peg into a round hole.”
The SEC has faced strong criticism for its handling of the Stanford case. Much of the criticism has been directed at the inaction of Spencer Barasch, the Associate District Director of the Enforcement Division, in Forth Worth. Barasch, who left the SEC in 2005, reportedly failed to respond to repeated allegations that the CDs being offered by the Stanford Group Company were fraudulent. After he left the SEC, Barasch represented Stanford as a lawyer in 2006 and paid a $50,000 civil penalty to the Justice Department in January 2012 for violating federal ethics rules in connection with his legal work for Stanford.
Consequently, the SEC’s attempt to force the SIPC to compensate Stanford victims is viewed by many close observers as a reaction to its failure to apprehend Stanford initially.
“The SEC suspected this was a fraud for almost a decade,” says Ajamie. “You had a situation where the head of enforcement was told by his own staff that this was a Ponzi scheme, and he just didn’t act.”
“I think this played a big role here,” he continues. “The agency is basically saying, one of our own screwed up, and didn’t do his job, and now they’re trying to make up for a colossal error by being aggressive about sources of funds for Stanford victims, and taking an aggressive legal position.”
The SEC has 60 days to appeal the July 3 ruling by Wilkins.
“I don’t know what else [victims] have,” says Rapoport, in commenting on a possible ultimate loss by the SEC. “That would be tragic. We’re talking about the life savings of people lost in this fraud.”