Eagle on the Street

  His predicament as a witness that afternoon was in some ways of Shad’s own making. There had been a chance to close off the Broderick matter privately a year before, around the time when the Dennis Levine case broke. Broderick’s lawyer, Beville May, who had worked for two years in the commission’s enforcement division before entering private practice, had made overtures to Shad and the other commissioners about a settlement of the case. May felt strongly about the case and had mixed feelings about her own experience as a female attorney in John Fedders’s enforcement division. When May returned to private practice, she was frustrated with the SEC bureaucracy, unimpressed by Shad, and disillusioned with her own treatment by other enforcement division attorneys. Shad had reviewed May’s settlement proposal and the detailed allegations made by Broderick, but he hadn’t studied the case in depth. At a closed meeting on the sixth floor that spring, Shad indicated he thought a settlement was worth considering if for no other reason than to avoid the negative publicity of an open trial in federal court, where Broderick’s complaint was destined to be heard if the commission didn’t take care of it privately. But Shad, always a tough negotiator, wanted to press for better settlement terms from Broderick. Two of Shad’s senior staff lawyers, Dan Goelzer and Linda Fienberg, recommended at the meeting that the case should be settled because the risk of losing at trial and the possibilities for adverse publicity were too great. But another commission lawyer, Ben Greenspoon, who had investigated the matter thoroughly and would represent the SEC if the case went to court, wanted to go to trial. He said that Cathy Broderick, who was under the care of a psychiatrist and sometimes given to emotional outbursts, would make a flaky witness and that no one would believe her. A report prepared by EEO Manager Ernie Miller’s office confirmed Broderick’s allegations about the trysts and drinking, but said no EEO violations had occurred.

  In the end, the commissioners had voted 5 to o not to settle the matter. Broderick had sued, and now Shad found himself seated across from Broderick and her lawyer, a witness in the drama that had dominated Broderick’s life for more than five years.

  “You are the chairman of the commission, though, Mr. Shad, are you not?” Beville May asked him.

  “Yes.”

  “And as chairman you head the agency?”

  “That’s your definition.”

  “What is my definition?”

  “That I head the agency. I’m not sure I have ever seen it in writing that I head the agency.”

  “Frankly,” May said, “I didn’t expect to get into this much trouble over this kind of question.” She went on to another subject and then came back to ask him whether, as chairman of the Securities and Exchange Commission, he found the allegations of discrimination and harassment made by Cathy Broderick to be “of a serious nature.”

  “The terminology is serious, but whether it has any merit is another matter,” Shad said. “… The matter of a sexual harassment case is so rare and doesn’t rise to the same significance as the major ongoing responsibilities of the executive director and the division directors and the heads of other major offices.… There are established procedures for handling this type of matter and they do not involve bringing them to the attention of the chairman of the SEC, who has an awful lot of other more serious responsibilities.”

  “You will be confronted with subtle temptations, close calls, conflicts of interest, difficult decisions—but if it would not read well on the front [page of a newspaper], don’t do it,” Shad pronounced into the microphone. A sea of students, their graduation gowns and hats billowing, was spread before him.

  He had flown to Rochester, New York, shortly after completing his deposition in the Broderick case, to deliver a commencement speech to the graduating class at the University of Rochester on Sunday, June 14. Gregg Jarrell had become a member of the Rochester faculty after his hasty retirement from the SEC, and he had arranged for Shad to deliver the address and to receive an honorary doctorate degree. It was fitting, given the power Shad had granted to the SEC’s chief economist, that Jarrell had helped to plan the event on Shad’s last weekend as SEC chairman. Flattered and intrigued by the university’s invitation, Shad had drafted a sweeping speech about ethics, business, free market ideology, and the condition of American finance.

  “A recent Harris poll indicates that 82 percent of Americans believe business is primarily motivated by greed,” Shad advised the graduates. “By contrast, a recent study by Johnson & Johnson indicates that 30 companies presumed to have above-average ethical standards have significantly outperformed the stock market.… $30,000 invested in the Dow Jones average 30 years ago would be worth about $150,000 today, a fivefold increase. However, $1,000 invested in each of the [ethical] 30 companies would be worth about $700,000, a 23-fold increase.… There are at least strong clues and opinions that the marketplace does indeed reward quality, integrity, and ethical conduct—that it is smart to be ethical.”

  Having quantified the value of business ethics, John Shad then defended the integrity of Wall Street, espousing the themes that had guided him throughout his tenure as chairman of the SEC.

  “Wall Street has long been a favorite target, and yet Wall Street’s ethics compare favorably with other professions and occupations.… Business management still suffers from the image of the robber barons, caricatured as fat, greedy old men with gout. The few robber barons who existed were born over a century ago and buried in the debris of the 1929 crash. Today the bulk of American industry and finance are managed by a generation of giants. They are well-read and educated, widely-traveled, honest, sensitive and attractive human beings.”

  He paused.

  “Like you and me.”

  * The SEC’s statement said additionally that Boesky’s stock sales had not included “any of his personal holdings.” In making this assertion, Shad and the commission attempted to respond to public criticism that the SEC had left Boesky a wealthy man after the $100 million settlement. The SEC settlement was based only on the estimated $50 million in illegal trading profits Boesky earned on tips from Dennis Levine plus a $50 million penalty under the Insider Trading Sanctions Act. Boesky earned more than $30 million in additional illegal trading profits based on tips from merger specialist Marty Siegel and pocketed additional money from other illegal schemes. There were those who believed the SEC left Boesky and his wife and children—to whom he had already passed certain of his assets—with considerable wealth from illegal trading.

  Questions also were raised about whether the $100 million settlement was really worth $100 million. The assets transferred to the SEC by Boesky actually consisted of $50 million in cash and an estimated $50 million in stock. A problem arose later when the SEC found it could not obtain $50 million if it sold the stock. Nonetheless, Shad and others at the commission continued to insist the deal was worth $100 million. Enforcement chief Gary Lynch said the $100 million represented what the cash and shares were worth to Boesky when he gave them up, rather than what they were later worth to the SEC, and his view prevailed upon the media and the public consciousness. In some ways, it was a rare public relations victory for the SEC.

  * At another hearing, Shad pointed out that salary—the major SEC recruiting and retention problem—also needed addressing through a reevaluation of ceilings on individual salary levels. “People leave the SEC and get 100 percent to 200 percent salary increases,” Shad said. “My daughter graduated from law school a year ago. She makes more than I do.” Shad’s salary as SEC chairman was $82,500.

  * While declaring that the government’s investigation would continue, U.S. Attorney Rudolph Giuliani acknowledged that the high-profile arrests of Goldman’s Robert Freeman and Kidder’s Wigton had been a mistake. Separately, Kidder, Peabody paid the SEC more than $25 million to settle civil insider-trading charges arising from some of the allegations originally made against Freeman and Wigton.

  * To commemorate Shad’s sixth anniversary at the commission in 1987—making him the longest-serving chairman
in SEC history—members of his senior staff presented him with a pair of big, black hobnail boots. They were inscribed on the toe with Shad’s famous 1981 pledge to “come down on insider trading with hobnail boots.”

  * The $10-million-plus fortune Shad brought with him to Washington in 1981 was invested heavily in stocks and had grown with the bull market. The funds were in a blind trust, with investment decisions made by Morgan Stanley.

  20

  A Form of Service

  His bedroom window at the rear of the embassy residence looked over a garden of riotous color. Rows of tulips stood like sentries beside the lawn and when the sun came out, as it did occasionally, the shrubs and ancient trees threw off sculptured shadows in the thin North European light. But for the clip, clip, clip of the gardener’s shears or the muffled rumble of a passing delivery van, the place was silent, tranquil. And John Shad, too much of the time, was bored.

  Often Shad cloistered himself in the ground-floor room near the kitchen where friends had installed an arcade-size Pac-Man videogame machine. There he stood bent over the six-foot contraption—a glass of milk resting nearby, a cigarette burning in an ashtray—jabbing his joystick this way and that to a loud and demonic rhythm. Amplifiers at the base of the machine blared as Shad’s yellow Pac-Man gobbled across the video screen. At the top of the screen, where the score was tallied, the numbers rolled higher and higher each time the Pac-Man swallowed one of its electronic enemies. Shad glanced up occasionally to check his score. The numbers still mattered, just as they had during his thirty years on Wall Street and his six years as SEC chairman.

  The embassy residence resembled in some ways a museum depicting the scale and character of Shad’s successful career. When he arrived in The Hague during the summer of 1987, following his appointment by President Reagan as the new U.S. ambassador to the Netherlands, Shad brought with him boxes of memorabilia that now lined the bedroom hallway and covered the bookshelves and walls of two sitting rooms. There were diplomas—one from the Harvard Business School, another from the New York University School of Law—as well as alumni achievement awards. There were framed magazine covers on which Shad had been featured. There was a molded plastic seal of the Securities and Exchange Commission that hung slightly crooked. (The sharp-eyed federal eagle at the center of this ubiquitous symbol had inspired the SEC’s in-house documentary “Eagle on the Street.” But during Shad’s reign the movie had grown obsolete because no monies were appropriated to update it.) Along the walls hung posed and candid photographs, many of them inscribed, from his six years in Washington: Shad with George and Barbara Bush; Shad with former Treasury Secretary and White House Chief of Staff Donald T. Regan; Shad with Federal Reserve Board Chairman Paul Volcker; Shad with Defense Secretary Casper Weinberger; Shad with former White House Chief of Staff James A. Baker III; and Shad with Ronald Reagan. On one side of the bedroom hallway, there was a framed June 17, 1987, letter from Reagan praising Shad for his work as Wall Street’s chief regulator at the SEC. The president’s words had the ring of 1980s truth—liquidity and efficiency, liquidity and efficiency—and they sounded more like John Shad than Ronald Reagan.

  “Under your stewardship, our capital markets have experienced phenomenal growth and today are the largest, most liquid and efficient in the world,” the letter from Reagan said. “Through automation, paperwork reduction and regulatory simplification, you have increased the commission’s productivity to help keep pace with the market’s expansion. All the while you have achieved remarkable success in rooting out fraud and abuse in the securities industry. When you became chairman you promised to come down on insider traders with ‘hobnailed boots’ and you can be proud of your record on that score. I know that in the future you can look back with pride on all you have achieved at the Commission and take satisfaction that you did so without increasing the size of the staff.”

  Shad did feel proud about what he had done. Yet by the time he celebrated his sixty-fifth birthday, in June of 1988, one year after he left the SEC for The Hague, it was becoming increasingly obvious that his legacy at the commission was not yet settled. In October of 1987, the high-flying stock market had crashed, provoking widespread questioning about government regulation of the financial markets during the 1980s. Already weakened by criminal charges, the E. F. Hutton brokerage, Shad’s longtime employer on the Street, had been obliterated by the market crash. A sex scandal dating to the era of Shad’s SEC tenure was in the headlines. In New York, Shad’s understudy Fred Joseph and his Drexel firm faced devastating criminal and civil charges amid the biggest Wall Street-corruption probe ever—an investigation launched by the SEC under Shad.

  Shad faced personal problems, too. Already suffering from paralysis due to her 1981 stroke, his wife, Pat, was now dying of throat cancer. Shad appeared as phlegmatic as ever even as he carried flowers to her hospital bedside. Pat spent considerable time in a hospital in the Dutch town of Leiden, not far from The Hague. Shad often was alone in the cavernous embassy residence. Given all of these setbacks and the relative lack of satisfaction he felt professionally as ambassador—a job he had sought out as a new challenge—it was, for Shad, an altogether uncomfortable time.

  The crash was a particular sore point, not least because Shad had boldly and publicly proclaimed before Congress in the spring of 1987 that a 500-point drop in the Dow Jones Industrial Average was virtually unthinkable. Between the time of Shad’s pronouncement and the 508-point, single-day plummet of the Dow on October 19, 1987, the stock index had risen by several hundred points, making a steep fall more likely than it had been in the spring. Shad pointed this out anytime his prediction before Congress was mentioned, and he suggested that if he had been asked the same question in August 1987, when the Dow peaked at more than 2,700 points, he wouldn’t have said that a crash was so unlikely. Shad’s revisionism helped to obscure the point that the issue before Congress in the spring hadn’t been the SEC chairman’s skills as a prognosticator, but his effectiveness as a regulator. During 1988, as the stock market returned to a semblance of normalcy and studies poured forth about what had gone wrong in the October crash, few people blamed Shad explicitly. To assign responsibility for such a complex and chaotic event to a single person or even a single institution would be absurd. Yet it was hardly lost on Shad that analyses of the crash by academics, financial exchanges, and even the bipartisan study commission appointed by President Reagan focused on many of the regulatory and political issues that had dominated his tenure as chairman of the SEC.

  Shad understood from the day it happened that one cause of the chaos on Black Monday, 1987, was the growth of massive speculation in the Chicago stock-futures pits, the markets Shad had helped to create when he first arrived in Washington. Isolated in The Hague when the panic struck, Shad could do little more than read the news reports of catastrophe on Wall Street. He wanted to get involved. Shad thought the regulators in Washington should raise the small down payments required to trade millions of dollars of stock futures, a move he hoped would quell speculation and dampen volatility caused by computer-driven trading. From his office in the embassy, Shad dispatched telegrams to White House Chief of Staff Howard Baker and to his successor as SEC chairman, former Northwestern University law school dean David Ruder.

  “Action is needed now,” Shad urged.

  While serving as SEC chairman, Shad from time to time had expressed concern about the growth of speculation in the Chicago futures markets, yet neither he nor any other regulator in Washington had done anything about it. Many of those who examined the crash blamed uncoordinated and, at times, speculative stock futures trading in Chicago for contributing to the shock and steepness of the October 19 “market break,” as the crash was euphemistically called by the SEC. President Reagan’s Brady Commission report said that between 1982 and 1987 the rise of computer-driven, mathematical, speculative trading in Chicago had caused the stock exchanges in New York and the futures and options pits in Chicago to blend into a single, bubbling, vola
tile marketplace—and that one determined regulator was needed to bring it under control. The split in regulatory jurisdiction that left the SEC in charge of stocks and the Commodity Futures Trading Commission in charge of stock futures—the split devised by Shad and CFTC Chairman Johnson in 1981—had to be repaired immediately to “reduce the possibility of destructive market breaks,” the Brady report said. But the White House distanced itself from the recommendation. Shad seemed to agree that given the political opposition fueled by the well-heeled Chicago markets, this idea was too extreme a form of government intervention to be feasible.

  The SEC had been ineffective on Black Monday in part because its authority was truncated by the existence of the CFTC but also because its new chairman, David Ruder, lacked Shad’s intuitive feel for the financial markets. To Shad’s credit, during those long and sometimes difficult months of 1988 when so many of his convictions and accomplishments seemed threatened by events on Wall Street that he could not control, he never gloated over Ruder’s missteps to those who visited him in Holland. Shad’s friends and former colleagues were not so discreet. They said that if Shad had been at the commission when the panic hit, he would have taken charge and stemmed the hemorrhaging.

  But even those who were closest and most loyal to Shad could not pretend to ignore the overarching implications of the crash: that the great bull market of the 1980s, the Reagan market, had been driven to a large degree by feverish speculation, whether on options or futures or the boom in corporate takeovers. It was axiomatic to economists of every ideological stripe that stock prices plummeted in October 1987 because investors in their collective, if suddenly reversed, wisdom thought prices were too high and decided to sell. But why? Only a few months before Black Monday, no less a bastion of cautious, corporate establishment thinking than Fortune—John Shad’s favorite business magazine—had queried on its cover, “Are Stocks Too High?” Inside, the magazine offered the “surprising answers” of some experts that various old rules of thumb, which indicated stocks were excessively valued, no longer applied and that stock prices were destined only to go up.