Bond-Trader Crackdown Stalls, But Wall Street May Never Be Same

(Bloomberg) -- Mortgage-bond traders David Demos and Jesse Litvak bent the truth when talking to their customers, and after two government cases unraveled spectacularly on Thursday, it looks like they got away with it. Even so, Wall Street may never be the same.

Many salespeople no longer reveal how much their banks paid for a bond they’re trying to sell customers, as a matter of firm policy. Traders say they’re more cautious about what they put in emails and chat messages that can be traced. Banks have beefed up their efforts to monitor their employees.

"People have improved their practices overall," said Elizabeth Baird, a former bond trader and a partner at law firm Morgan, Lewis and Bockius who represents broker-dealers on enforcement issues. "There are better disclosures being made."

Privately, traders fret that the cases have helped make the already-opaque world of mortgage-backed securities even less transparent. The U.S.’s crackdown focused on bonds backed by residential home loans without government backing, a more than $770 billion market.

In Balance

Litvak, 43, formerly worked at Jefferies Group and was the first of more than a half-dozen traders to be charged by U.S. authorities with fraud for lying to clients. His 2013 arrest sent shock waves through Wall Street as traders realized they could face criminal prosecution for making misrepresentations to customers while negotiating trades. Some dealers wondered why the government was suddenly cracking down on what was seen as typical puffery and haggling to seal a deal. He was ultimately convicted twice, only to have both overturned.

Demos, a 36-year old former managing director at Cantor Fitzgerald LP, was found not guilty of securities fraud in Connecticut Thursday. Prosecutors said Demos lied to his customers about the prices at which Cantor Fitzgerald had bought or sold mortgage bonds, boosting the profit his firm earned on a trade and, ultimately, his own bonus.

Other cases still hang in the balance. A federal jury last year delivered a mixed verdict against three men who supervised Nomura Holdings Inc.’s residential mortgage-backed securities desk. Prosecutors plan to retry two of the men, Ross Shapiro and Michael Gramins after the jury deadlocked on some charges.

At least 10 Wall Street professionals tied up in structured debt misconduct probes from the government and banks had moved to online lenders, privately held brokerages, and other less-regulated firms, Bloomberg found in late 2016. New York attorney Alex Spiro, who was part of Demos’s defense team, said Thursday’s ruling may mark an end to the government’s crackdowns.

"I hope this verdict ends these prosecutions," said Spiro, a partner at Quinn Emanuel Urquhart & Sullivan.

Despite the effect the cases have had on the market, traders are likely to continue stretching the truth to land sales, said Anthony Sanders, a real estate finance professor at George Mason University and former head of mortgage-bond research at Deutsche Bank.

"It’s the nature of the type of people who go into trading," Sanders said. "They’re generally highly aggressive people trying to maximize profits for themselves.”

To contact the reporters on this story: Claire Boston in New York at cboston6@bloomberg.net, Chris Dolmetsch in New York State Supreme Court in Manhattan at cdolmetsch@bloomberg.net.

To contact the editors responsible for this story: Nikolaj Gammeltoft at ngammeltoft@bloomberg.net, Dan Wilchins, Paul Cox

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