Eagle on the Street

  We’ve got a problem here, the official said ominously.

  A little-known firm called Bevill Bresler that traded big batches of government securities, including U.S. Treasury bonds, was collapsing because an egregious fraud scheme had been exposed. The firm’s failure could threaten the integrity of the country’s financial system, the Fed believed. Lynch was told to fly to Newark, New Jersey, on Easter Sunday, to attend a meeting about how to handle the fiasco.

  It was weeks before Lynch could focus much time or attention on any enforcement matters other than the government-securities crisis. And there were other distractions. That spring, Shad was called several times to testify before Congress, not only about the Bevill Bresler scandal, but also about enforcement and the budget and the attempt to install a new, computerized filing system at the SEC. Late into the night, Lynch sat with Shad in the chairman’s office, drafting testimony, rehearsing questions and answers, cramming facts and figures. Other senior staff were acquainted with the cycle of anxiety and intense preparation Shad went through before each appearance on Capitol Hill, but for Lynch it was mostly new, and it came just as the chairman was deciding whether to appoint him as the commission’s permanent enforcement chief.

  Shad was impressed by Lynch—especially the way he handled himself under pressure—but one had to be somewhat wary of his youth. The thirty-four-year-old Lynch was a lean six foot one weighing 185 pounds, with a sober intensity about him. He was energetic, yet often seemed unemotional and very serious. To some at the commission he seemed distant, though not aloof. Thick, dark hair parted in the middle draped his head; his eyebrows, which slanted in toward the top of his nose, suggested unusual intelligence. He had a brilliant command of securities laws, but what impressed people most about him was the way in which he accomplished so much in such a low-key, rational manner. Virtually all of Lynch’s short career in law had been spent at the SEC. By working closely and successfully with Fedders, Lynch had proved that he shared the enforcement priorities of his Republican superiors, especially their emphasis on prosecutions of insider trading. But he was no ideologue, and he had no lengthy experience in the private sector, where Shad and Fedders each had developed the suspicion of bureaucracy that shaped their approach to enforcement policy.

  Raised on farmland near New Hampton, New York, not far from the Delaware River in the foothills of the Catskill Mountains, Gary Lynch had known little of the wealth and sophistication of Wall Street, though the skyscrapers of the financial district were only seventy miles from his rural home. His father had an eighth-grade education and owned a small trucking business, hauling dairy products and onions into New York City and its environs. The Lynches lived beside a small farm that had been in the family for generations, and in the summers, until college, he worked in the onion fields and at the local onion processing plant. (Perhaps that explained Lynch’s fondness while at the SEC for thick, pungent cigars.) He was no bumpkin. He knew that he wasn’t going to grow up to be an onion farmer or a trucker, and in fact Lynch not only was the first member of his family to graduate from college, he also was Phi Beta Kappa at Syracuse University, where he focused on political philosophy. During law school at Duke University, an early marriage to his hometown sweetheart fell apart. After graduating and working a brief stint at a Washington law firm, Lynch drifted around the country for a while, landing finally at the SEC’s enforcement division partly because it suited the sense he had of himself as someone on the side of the underdog. Growing up, Lynch identified closely with his father’s struggle as a small businessman against institutional forces more powerful than he was. The Teamsters Union tried to organize the drivers at his father’s trucking company, and they threw rocks through truck windows when his father resisted. Lynch was young at the time, but he said later that it bothered him that the Teamsters didn’t seem to care whom they hurt, even if their efforts produced the greatest hardship for the organizers’ friends and neighbors.

  Inside the enforcement division, Lynch was seen by a number of his colleagues as a rising star, a talented lawyer who had built a close working and personal relationship with Fedders, and was not tainted by involvement with the controversies over Stanley Sporkin’s views and methods. When he reached the top of the division, first as associate director and then as Fedders’s interim successor, Lynch’s cool manner and the personal distance he kept made him seem sometimes unapproachable. There were those down at the workaday, staff-lawyer level of the division who saw Lynch as part of an exclusive, macho boys’ club within enforcement, a club that included assistant director Bill McLucas, his friend Bruce Hiler, and other senior attorneys. These people, many of them women, felt that the SEC brass—including Fedders, Lynch, and even Chairman Shad—was insensitive to what they felt was their second tier, outsider status in the enforcement division, notwithstanding Shad’s promotion of many women in other divisions of the SEC. But in the uncertain weeks after Fedders’s resignation, when Lynch jockeyed to be named as the permanent enforcement director, most of his colleagues were rooting for him. The feeling inside the division was that despite some frustration over the failure to mount credible prosecutions of major Wall Street figures like Boesky and Milken, the commission was doing the best job it could to police corruption and insider trading in the markets. There were few voices inside or outside the commission clamoring for a change in direction or policy—all of the hullabaloo that February and March concerning Fedders focused on his secret personal life, not on the question of whether the SEC’s enforcement program had succeeded or failed while he was in charge. Moreover, in the aftermath of emotional policy battles with Shad over cases such as Merrill Lynch and Smith Barney, Lynch’s appointment would signal that the chairman supported continuity within the bureaucracy’s most important division.

  As he awaited Shad’s decision, Lynch watched the newspapers. Stories in the leading papers about who was in contention and who was being interviewed for key government positions served in Washington as a kind of community bulletin board of rumor, akin to whispered stories in the bazaars and courts of ancient capitals. One newspaper story reported that Lynch was not Shad’s first choice, that the chairman was anxious to find a prestigious attorney from Wall Street to take Fedders’s place. Lynch could only grit his teeth and wait.

  In April, Shad finally called.

  I would be pleased if you would accept the position of enforcement director permanently, the chairman said.

  Lynch answered that he would be honored.

  The stories about your not being my first choice weren’t true, Shad later told him. I talked to some people on the outside, but I decided that you could do the best job.

  Lynch thanked him. Afterward, he wondered whether Shad had offered that disclaimer only to be gracious. But Lynch chose to believe that the chairman meant what he said.

  That month Gary Lynch moved his personal belongings—his framed law degrees from Syracuse and Duke, his personal files, the art deco print on his office wall, the hundred or so law books and legal conference materials he had collected—two doors down the hall to Fedders’s fourth-floor corner office. Lynch felt relieved and pleased to finally get the job, though it meant moving into his friend’s domain, the office with the big desk, the old Western Union teletype machine in the corner, and the view of the American and SEC flags that fluttered just outside the window. He had no idea that what was soon to unfold on Wall Street and at the SEC would cause him to attain the fame and public prominence that Fedders had so desperately coveted.

  15

  A Tale of Two Buildings

  In 1984, in the prime of middle age, Irving Einhorn loaded a bundle of his belongings into his silver Honda Prelude and headed west across the interstate highways from Washington to Los Angeles. He went west for the reason millions had gone west before him: It was time for a change.

  He was not the picture of a frontiersman. Einhorn was a spirited, jocular man who liked to kibbitz; his belly suggested he enjoyed a good meal as well. He was
bald, bearded, and just five-feet five-inches tall. He insisted that everyone call him Irv, including those who worked for him at the SEC.

  For twelve years he had toiled as a trial lawyer at the commission, first at the regional office in Chicago and then at headquarters in Washington. He had done well, but no one had ever suggested Einhorn was on the fast track. Throughout his career, and throughout his life, Einhorn had been in no great hurry, a quality some of those around him found attractive and even charming. It was a quality that contrasted sharply, however, with the obsessive attitudes toward time and ambition exhibited by Michael Milken, the financier who was to become Einhorn’s legal opponent in 1985, and whose junk bond department in Drexel Burnham’s Beverly Hills office was by far the most important financial operation in Einhorn’s new jurisdiction.

  Einhorn had a general idea about who Milken was and how junk bonds worked from a few articles he had read in newspapers and magazines. Beyond that, Einhorn would teach himself what he needed to know when the time came. He had always done it that way. The son of a Philadelphia cabdriver, Einhorn had enrolled at Temple University when Dwight D. Eisenhower was in the White House, and graduated when Richard Nixon was elected. The intervening nine years he spent in the leisurely pursuit of life’s pleasures. The prospect of selling cars in Philadelphia persuaded him to complete his education, and after college he enrolled at Villanova University law school. He promptly transferred to a smaller school, losing academic credit in the process, mainly because he wanted to get away from his new mother-in-law. Working as an attorney at the SEC provided a safe geographical buffer for more than a decade, but it did not hold his marriage together. At forty-two, following his divorce, Einhorn spoke with Jack Shad about becoming the chief of the commission’s sizable regional office in Los Angeles. It seemed a good time to move on.

  Einhorn never boasted that he was a legal scholar, but Shad was impressed with him nonetheless. He had extensive litigation experience, he took a commonsense approach to enforcement cases, he got along reasonably well with his superiors, and he didn’t take himself too seriously, as Shad thought some SEC lawyers did. That, and a solid interview with the chairman, were enough to win Einhorn the job.

  The commission’s Los Angeles office—staffed by dozens of attorneys responsible for policing securities fraud in an enormous region of the Far West and the Pacific, including Guam and Hawaii—was in an embarrassing state of disarray when Einhorn was appointed its administrator and prepared to move from Washington. It was hard to know whether Shad understood; he rarely visited the far-flung offices and didn’t express much interest in their work. Yet in Los Angeles, the problems common to many of the commission’s regional branches were especially acute. And since Drexel’s junk bond department, arguably the most important profit-making financial institution in the country during the mid-1980s, was situated just blocks from the SEC’s L.A. branch, the troubles at the commission had potentially grave implications.

  When Einhorn finally arrived, it was hard at first for him to worry too much about Drexel and Milken—he had too many of his own problems. The office had been without a regional administrator for six months, saddling the senior attorneys with an almost unmanageable workload and depressing morale down through the ranks. Moreover, there was no senior enforcement lawyer managing the office’s ongoing campaign against securities fraud. Turnover among the younger lawyers was high. The L.A. office was far from glamorous, its work garnered little attention or publicity, and the salaries it offered were outstripped by both private law firms and southern California’s high cost of living. Many attorneys who stayed with the commission in Los Angeles weren’t talented or energetic enough to find a better job.

  Into this quagmire bounced Einhorn, snapping his fingers, trying to reinvigorate the place. He tried to sort out some of the lingering administrative problems by making fast decisions, and he brought in an outside lawyer to run the office’s enforcement program, a move which further depressed morale. Some among the L.A. staff weren’t quite sure what to make of him.

  This much was clear soon after Einhorn took charge: If the office was ever to recover from its demoralizing disarray, it would do so by successfully prosecuting major securities-fraud cases. Success in prominent cases had built up morale in the enforcement division at SEC headquarters in Washington, and had contributed to a culture of achievement that attracted talented lawyers despite the commission’s modest salaries. And if there was one case that could rocket the L.A. office to prominence faster than any other, it was the SEC’s lingering and desultory investigation of Milken’s junk bond department in Beverly Hills. Einhorn had an obvious opportunity. When Jack Hewitt’s long investigation of alleged market manipulation by Milken had been closed by SEC headquarters staff in Washington, the files had been transferred to Los Angeles. In the year or so since Hewitt’s probe was closed, staff lawyers in the L.A. office had opened a related and similar probe of suspicious trading by Milken and Drexel in the bonds of Caesars World, the gaming and casino company. Though he had no crackerjack investigators to assign to the matter, if Einhorn could make a case against Drexel, he might well turn things around.

  Caesars was a prototypical Milken client, since the company’s gambling business was too unsavory to attract many of Wall Street’s prestigious, mainstream investment banks. An irony of the L.A regional office’s investigation was that during his Wall Street career it had been SEC Chairman Jack Shad, then at E. F. Hutton, who had defied Street tradition and completed the first underwriting of a casino company by a major investment bank—the company was Caesars World Resorts. During the 1980s, Milken extended Shad’s breakthrough into an enormously profitable business. Drexel’s junk bonds financed the growth of nearly every casino in Las Vegas and Atlantic City. The investigation approved by Einhorn concerned a series of large and suspicious trades in which Caesars World bonds had been shuffled between Milken’s personal account, a Drexel junk-bond-department account, and various Drexel customer accounts. There were questions about insider trading, manipulation, and conflict of interest—the same sorts of questions Hewitt and the headquarters staff had pursued to a dead end in 1982 and 1983. Einhorn hoped to succeed where headquarters had failed.

  The trouble was that neither Irving Einhorn nor anyone else in the SEC’s Los Angeles regional office seemed to know what to do about Milken and Drexel. They subpoenaed records, they prepared to take testimony from Milken and others, they followed all the rules of SEC investigative strategy. But never—not once—did a staff member from the L.A. office set foot inside the junk bond department to stage an inspection or watch Milken work as he directed his employees or his customers. The commission had the right to inspect and audit the books and records of its registered broker dealers, of which Drexel was one, to examine stock-and-bond-trading practices in detail, and to check that employees received proper training and supervision. But even in 1985, when Drexel began to engineer the wildest and most controversial corporate takeovers on record—financing billion-dollar merger bids with little but moxie and fee-producing promises about financing—the SEC lawyers kept to their offices down the block, poring slowly and methodically through their mounds of trading records, occasionally inviting a Drexel employee in for testimony, but never deviating from the narrow mandate of their Caesars World bond-trading investigation.

  The Drexel and SEC offices may have been on the same street—Drexel was at 9560 Wilshire Boulevard, amid the exclusive boutiques and neatly groomed palm trees of downtown Beverly Hills, while the SEC was at 5757 Wilshire, in a seedier strip south of old Hollywood—but they might as well have been on different planets.

  Milken and some of his business partners owned the choice property at the corner of Wilshire Boulevard and Rodeo Drive, and Milken profited by renting most of the office space in the building to Drexel. It was symbolic of his overall relationship with his New York–based employer; Milken was the landlord and Drexel was the tenant. Though he held no seat on the firm’s board of direc
tors, Milken called the shots, profiting from a wide range of special financial deals with Drexel—deals which Shad’s old protégé Fred Joseph and the other top firm officials in New York permitted in part because they lived in fear of losing their biggest producer. Milken had the words DREXEL BURNHAM LAMBERT affixed in big gold letters high on his building’s facade, prominently facing the Beverly Hills shopping strip. (In contrast to this conspicuous location, a passerby on Wilshire would not have known the SEC was hidden inside an office building alongside other anonymous tenants.) Milken and his traders and salesmen arrived for work in the predawn darkness; they passed by a flower and sculpture garden; entered through a private door in the rear of the building; crossed a sleek, cool lobby of black marble and gold trim; and rode finally up to the sprawling and brightly lit trading floor. Their workdays were dominated by transactions of dizzying complexity, with opportunities for incomprehensible wealth. By 1985, Milken’s employees were almost certainly the highest paid in the history of American finance, with some junk bond salesmen—mostly young men in their twenties and early thirties—earning $20 million or $30 million a year, and Milken himself being paid $135 million by Drexel that year. Those numbers didn’t include the millions of dollars a year in additional earnings available from special personal trading opportunities in the junk bond and stock markets, including the sort of trades under investigation in the Caesars World probe.