Brokerage houses that had raced into the arbitrage business disbanded these stock trading units as the losses from busted takeovers mounted. The image of Ivan Boesky, the fit-looking arbitrager in his three-piece suit with gold pocket watch, had been replaced by that of a freakish, decaying Boesky, who appeared with long hair and a scraggly beard on the front page of the New York Post. While Boesky’s three-year prison sentence at Lompoc had changed his appearance, it apparently had not changed everything else.
“Now, Mr. Boesky,” he was asked under oath, as he testified in one of many trials that resulted from his cooperation with the SEC, “under your cooperation agreement with the United States government, you agreed not to break any laws of the United States or of any state. Is that correct?”
“That is correct.”
“While you were at Lompoc prison, did you break any laws of the United States?”
“I think I did.”
“And tell us what you did.”
“Well, there were a couple of chaps who did laundry there. And I gave them a few quarters and they did my laundry.”
“And that was a violation of the law of the United States. Isn’t that right?”
“I think it was.”
The outlaw investment bank that had financed Boesky when he was at his peak also would not survive.
Ten months to the day after John Shad joined the firm as its chairman, it was all over. Hammered by collapsing confidence in the junk bond market, pinched by new laws restricting how many junk bonds a savings and loan could own, and unable to overcome the financial and legal costs of its plea bargain with the government, Drexel filed for protection from its creditors under the federal bankruptcy laws on February 13, 1990. It was the largest Wall Street firm ever to fail.
Shad felt depressed. He had bet wrongly about Drexel, and his return to Wall Street had been a colossal personal and professional mistake. When he left the SEC in 1987, he had felt like a hero, celebrated for coming down on insider trading with hobnail boots, and for removing regulatory burdens that had unduly hampered the financial markets. But like Drexel’s junk bonds, the perceived value of some of Shad’s accomplishments had proved fleeting. Since his departure from the commission, the stock market had crashed, E. F. Hutton had fallen, Milken had admitted his guilt, and Drexel had collapsed into insolvency while Shad held the chairmanship. Shad could not help but feel that he deserved better.
Inside Drexel, the firm’s rapid demise came as a surprise. Shad and Joseph said they had no idea deteriorating conditions in the junk bond market would lead to an abrupt loss of confidence in the firm’s creditworthiness. Without the ability to borrow, Drexel could not stay in business. Toward the end, Shad and Joseph tried and failed to convince anyone to extend credit to prolong Drexel’s life. But after years of running roughshod over Wall Street firms, commercial banks, and industrial companies, Drexel had no allies in the establishment or in government willing to lend a hand. When it was over, Shad blamed Congress for Drexel’s bankruptcy, saying its ill-conceived rules barring S&Ls from owning junk bonds had killed the firm.
In the aftermath, Shad wrestled with his legacy. The morning after Drexel filed for bankruptcy, he was troubled to see a report in the New York Times that said he had joined Drexel to help repair the firm’s image. It bothered Shad that anyone would think he had been hired for public relations value. As always, he calculated his own value in hard numbers, and by his reckoning he had carried his weight at Drexel. His annual pretax compensation was $3.175 million and during his ten months at the firm, he figured he had brought in business that paid for much of his salary. Stung by what he saw as the negative implications of the Times’s report, Shad seized on an idea: He would write a letter to the newspaper praising himself, and then ask his protégé Joseph to sign it and send it along.
Joseph didn’t think this was a very good plan. It would be obvious to anyone paying attention that immediately after the bankruptcy, he wasn’t going to be spending his time writing letters to defend Shad’s honor, which hadn’t really even been attacked. But Shad was a stubborn man. He drafted his letter anyway, and Joseph, willing to make his friend happy, signed.
“Your February 14th report that John Shad joined Drexel to help repair the firm’s image is an understatement,” the letter signed by Joseph said. “First, he accepted the chairmanship last April only after being encouraged to do so by the Justice Department and approved by the Securities and Exchange Commission—and he is contributing his after-tax Drexel compensation to the Harvard Business School. He was invited to become chairman because of his demonstrated ability to manage the firm, based upon his outstanding record and reputation as an investment banker, top executive, corporate director, and chairman of the SEC. During the past 10 months, he has exceeded our expectations … [producing] well over a million dollars in investment banking fees and [he] has important transactions in progress.”
The Times never published the letter, but Shad made sure it was distributed to members of the press.
While serving as chairman of Drexel, Shad made his mark in Cambridge one other way: He made another charitable bequest to Harvard Business School. The school wasn’t sure what to do with all of the $20 million Shad had donated for a program in business ethics. So in the time-honored tradition of academic fund-raising, it asked Shad for more. The business school dean indicated that Harvard would name a building after Shad if he came up with additional funds. Shad liked the idea of bricks and mortar, took out his checkbook once more, and soon a new Harvard Business School athletic center was dedicated in his name. It was quickly dubbed “Shad’s Shed” by faculty and students.
When he resigned as Drexel chairman in the summer of 1990, Shad remained firmly convinced of virtually all of the deregulatory precepts he had carried with him from Wall Street to the SEC a decade earlier. But the SEC he left behind was by now a very different place. Gone was the enthusiasm for Chicago School economic theory and quantitative cost-benefit analysis. First under law professor David Ruder and especially under the chairmanship of Richard Breeden, an attorney and a political intimate of President George Bush, the commission had moved away from the narrow interpretation of its powers under Shad to the more regulatory, expansionist, moralist mode it had projected during Stanley Sporkin’s time and during certain other periods in its history. The commission’s approach to regulatory and enforcement issues under Breeden became openly interventionist and more aggressive. Breeden, who had superb White House and congressional contacts, obtained new powers to regulate the trading and finances of Wall Street brokerages, new authority to close the markets in an emergency, and new enforcement tools. He unsuccessfully sought to gain regulatory control for the SEC over stock index futures. Inside the agency, he shifted enforcement priorities, putting stockbrokers on notice that the commission would watch out for small investors more closely and setting up a special unit to scrutinize banks and other financial institutions. Criticism of Breeden echoed the 1970s complaints against Sporkin and his colleagues—it was said that he was too tough, too arrogant, too much a regulator.
If Shad had emphasized the stockholder’s interest and market liquidity, Breeden focused on the public interest and market stability. On the February night that Joseph had been meeting with bankers seeking emergency funding for Drexel, he received a late-night telephone call in his office from Chairman Breeden of the SEC and a senior official of the Federal Reserve. (Shad had already gone home.) They told Joseph, who had not yet obtained financing, that for the sake of market stability, Drexel should file for bankruptcy and make its intentions known the next morning before markets opened for trading. Breeden threatened to take action unless Joseph did. The next morning, the resilient American financial markets absorbed the news of Drexel’s voluntary bankruptcy with barely a ripple.
As Breeden sought to reshape the commission in his image, the reputation of Shad’s Securities and Exchange Commission and its historic insider-trading prosecutions loomed large. Fictiona
lized incarnations of its vigilant officers omnisciently apprehending anyone who even considered trading on inside information were depicted in Hollywood films and popular television shows. The corporate raider was now an archetype of popular American culture, villified for selfish amorality and celebrated for swashbuckling verve. Depicted in dramatic fantasies in the latter half of the 1980s—the raider usually got his comeuppance in the last act. The door would open and a handful of glum men in dark suits would enter the raider’s swank office or home. The intruders announced stiffly and sternly that they had come from the SEC, and the antihero would be led away. He always knew, the expression on his face suggested, that he would be caught.
The reality that many insider traders got away scot-free during the 1980s was lost in the excitement about Milken, Drexel, Boesky, and the rest. The compelling argument that the SEC, through its abdication of serious junk bond and takeover regulation during John Shad’s tenure, had helped to create some of the very problems it was later credited with solving, was never discussed.
Instead, the image of a strong and righteous commission had retained its place in the national consciousness, and the agency’s public service mission seemed likely to endure well into the next century.
* In early 1991, before prosecutors asked her to reduce Milken’s sentence, Judge Wood recommended that Milken serve a term of thirty-six to forty months before being eligible for parole. She made the statement at a hearing in connection with her recommendation to the U.S. Parole Commission. The judge said she reached this conclusion after calculating that Milken’s six admitted crimes cost investors only $318,000, much less than prosecutors had estimated. Judge Wood said those losses, tied only to Milken’s admitted crimes, didn’t reflect the overall damage he had caused for financial markets and investors.
A Note on Sources
This book is based primarily on thousands of hours of interviews with more than 250 people. Most of the interviews were conducted between 1987 and 1990 on a “background” basis, meaning that people agreed to talk with us only if we agreed not to identify them. The desire of Securities and Exchange Commission employees and alumni for anonymity seemed to grow out of loyalty to the agency’s long tradition of secrecy. In some cases, sources cited the need to protect client and business relationships in their requests that they not be named. The ultimate willingness of so many people to talk with us seemed a function of many factors, including strong feelings about the importance of the SEC’s work and a desire to shape our views.
In addition to present and former SEC officials, we interviewed people who served in the White House, Congress, the Justice Department, the Federal Reserve, the Treasury Department, the Commodity Futures Trading Commission, and the Office of Management and Budget. We talked with officials from the major stock and futures exchanges in New York and Chicago, and finance industry lobbyists. We did much of the reporting in Washington and New York. But our work took us throughout the United States to sites ranging from Drexel Burnham Lambert’s Beverly Hills office to SEC Chairman John Shad’s birthplace in Brigham City, Utah, to courthouse basements in Milwaukee and Madison, Wisconsin. We interviewed scores of people who know Shad, including relatives, classmates at Harvard Business School, and executives on Wall Street and elsewhere who have had dealings with him over the years. We interviewed subjects of SEC investigations, witnesses, and their lawyers. We talked with investment bankers, traders, money managers, arbitragers, and attorneys who work at the highest levels of global finance. We also talked with ordinary investors.
We are aware of the pitfalls presented by any attempt to reconstruct events after the fact. Wherever possible, we relied on transcripts, contemporaneous notes, Congressional records, court papers, and other documents that, unlike memories, do not change with the passage of time. We relied on confidential SEC memos and other documents in some instances. In other cases, we gained access to commission records, including testimony by Michael Milken in enforcement division investigations, by making requests under the Freedom of Information Act. We reviewed voluminous public records, ranging from SEC enforcement cases to financial disclosure forms filed by Shad and other commissioners. In two instances—the Citicorp and Mobil cases of the early 1980s—transcripts of closed commission meetings were available from public sources.
We were aided enormously in our research by the work of other journalists and authors. A few of these works were notable for being ahead of their time or unusual in their depth. These include Allan Sloan and Howard Rudnitsky’s 1984 Forbes magazine cover story, “Mike Milken’s Marvelous Money Machine,” and a variety of reporting by James B. Stewart and Daniel Hertzberg of the Wall Street Journal, including their Pulitzer Prize–winning account of Ivan Boesky’s relationship with investment banker Marty Siegel in February 1987. Two articles in 1985, “The Roaring Eighties,” by Steven Brill, in The American Lawyer, and “The Casino Society,” by Anthony Bianco, in Business Week, explained early on how takeovers, corporate raiders, and arbitragers fueled speculation in the financial system. Our work benefited, too, from James Sterngold’s New York Times reporting on the fallout from the 1987 stock market crash, particularly the collapse of Shad’s old firm, E. F. Hutton. A series of articles spanning several decades in Fortune magazine on the Harvard Business School class of 1949, including “The Class the Dollars Fell On,” by Marilyn Wellmemeyer in 1974, enhanced our understanding of Shad and his peers.
Other articles and books helped us in specific areas covered by our narrative. John Brooks’s “Once in Golconda,” Joel Seligman’s The Transformation of Wall Street: A History of the SEC, former SEC secretary John Wheeler’s review of the Seligman book in the Yale Law Journal, and “Regulation by Prosecution,” by former SEC commissioner Roberta Karmel, all provided important background about the commission’s formation and development. Articles about Bohemian Grove in Psychology Today in 1975 and by Jack Anderson in 1981 provided details about that summer camp for the rich and powerful that we otherwise would not have known. Off the Books: Citibank and the World’s Biggest Money Game, by Robert Hutchison, provided insight into the SEC case against Citicorp. Investigative reporting on the Citicorp matter and Shad’s finances by Jeff Gerth in the New York Times revealed the tension between Shad and Congress. We relied on Three Plus One Equals Billions: The Bendix–Martin Marietta War, by Allan Sloan, for details on that takeover fight. Boone, an autobiography by oilman T. Boone Pickens, Jr., provided extensive information on takeover battles in which he was involved.
Connie Bruck’s 1984 article in the Atlantic Monthly, “My Master Is My Purse,” on Ivan Boesky, and her later book about Michael Milken, The Predator’s Ball: The Junk Bond Raiders and the Man Who Staked Them, told us a great deal about two of the most important financiers of the era. Brooks Jackson’s Wall Street Journal scoop on John Fedders’s marital problems and divorce trial, and Shattered Dreams, by Charlotte Fedders and Laura Elliot, provided us with much information about the violence in the Fedders’ home. Sharon Walsh’s account of the Catherine Broderick sexual harassment case against the SEC in the Washington Post opened our eyes to new avenues of inquiry about Shad’s commission. Douglas Frantz’s 1987 book, Levine & Co: Wall Street’s Insider Trading Scandal, provided much helpful background on Dennis Levine, including the December 1985 SEC meeting concerning the case and the encounter involving Levine and his partner-in-crime Robert Wilkis, when they discovered Levine’s notoriety at a newsstand in Manhattan’s Hell’s Kitchen neighborhood. Reporting by Laurie Goodstein of the Washington Post in 1990 provided us with reaction on the streets of New York to Michael Milken’s ten-year prison sentence.
If we have inadvertently failed to cite any published works from which we have benefited, we apologize in advance.
Index
ABC television, 335
Ackerman, Peter, 264
Aetna Life & Casualty Co., 113–15, 147
Agee, William, 102, 103, 104, 105
Allied Corporation, 103, 104, 183
&nb
sp; American Airlines, 12
American Financial Corporation, 90, 134
Anheuser-Busch, 183
AT&T, 146, 157
Baker, Howard, 356
Baker, James, 199, 324, 354, 366
Banca Della Svizzera, 54–58
Bank Leu, 292–306, 316
Barron’s, 192
Baston, Luis, 374
Batterymarch Financial Management, 148
Bear, Stearns & Company, 214
Belvedere Securities, 97–98
Benbow, Joel R., 287
Bendix Corporation, 102, 103–4, 105–7, 118, 146, 147
Bergen, Edgar, 22
Eagle on the Street Page 42