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SEC Charges Stifel, Nicolaus & Co. and Executive with Fraud in Sale of Investments to Wisconsin School Districts


Washington, D.C., Aug. 10, 2011 — The Securities and Exchange Commission today charged St. Louis-based brokerage firm Stifel, Nicolaus & Co. and a former senior executive with defrauding five Wisconsin school districts by selling them unsuitably risky and complex investments funded largely with borrowed money.

In a complaint filed in federal court in Milwaukee, the SEC alleges that Stifel and Senior Vice President David W. Noack created a proprietary program to help the school districts fund retiree benefits by investing in notes linked to the performance of synthetic collateralized debt obligations (CDOs). The school districts established trusts that invested $200 million in three transactions from June to December 2006, paid for largely with borrowed funds. According to the SEC’s complaint, Stifel and Noack misrepresented the risk of the investments and failed to disclose material facts to the school districts. In the end, the investments were a complete failure, but generated significant fees for Stifel and Noack.

“Let this be a teaching moment for sellers of complex financial products,” said Robert Khuzami, Director of the SEC’s Division of Enforcement. “The sale of these products to school districts or similar investors must meet well-established standards of suitability and accurate disclosure. Stifel and Noack violated these standards and jeopardized the ability of the school districts to fund operations and provide a quality education to students.”

Elaine C. Greenberg, Chief of the SEC Division of Enforcement’s Municipal Securities and Public Pensions Unit, added, “Stifel and Noack abused their longstanding relationships of trust with the school districts by fraudulently peddling these inappropriate products to them. They were clearly aware that the school districts could ill afford to bear the risk of catastrophic loss if these investments failed.”

According to the SEC’s complaint, the five school districts are Kenosha Unified School District No. 1, Kimberly Area School District, School District of Waukesha, West Allis-West Milwaukee School District, and School District of Whitefish Bay. The SEC alleges that Stifel and Noack made sweeping assurances to the school districts, misrepresenting that it would take “15 Enrons” — a catastrophic, overnight collapse — for the investments to fail. They also misrepresented that 30 of the 105 companies in the portfolio would have to default and that 100 of the top 800 companies in the world would have to fail before the school districts would suffer a loss of their principal.

The SEC alleges that among material facts that Stifel and Noack failed to disclose were the portfolio in the first transaction performing poorly from the outset, credit rating agencies placing 10 percent of the portfolio on negative watch within 36 days of closing, and certain CDO providers expressing concerns about the risks of Stifel’s proprietary program and declining to participate in it.

According to the SEC’s complaint, Stifel and Noack sold the school districts an unsuitable product that did not meet their investment needs. The school districts had no prior experience with investing in CDOs and related instruments. Stifel and Noack knew that the school districts lacked the requisite sophistication and experience to independently evaluate the risks of the investment, and knew that the school districts relied on Stifel and Noack’s recommendations. The school districts contributed $37.3 million toward the $200 million investment and borrowed the remaining $162.7 million.

The SEC alleges that the heavy use of leverage and the structure of the synthetic CDOs exposed the school districts to a heightened risk of catastrophic loss. The investments steadily declined in value in 2007 and 2008 as the CDO portfolios suffered a series of downgrades. By 2010, the school districts learned that the second and third investments were a complete loss and that the lender had seized all of the trusts’ assets. The school districts suffered a complete loss of their investment and suffered credit rating downgrades for failing to provide additional funds to the trusts they established.

The SEC alleges that Stifel and Noack violated Section 17(a) of the Securities Act of 1933, and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. The SEC also alleges that Stifel violated and Noack aided and abetted violations of Section 15(c)(1)(A) of the Securities Exchange Act of 1934. The SEC seeks permanent injunctions, disgorgement of ill-gotten gains with prejudgment interest, and financial penalties.

The SEC’s investigation was conducted jointly by the Enforcement Division’s Municipal Securities and Public Pensions Unit led by Elaine Greenberg and Mark R. Zehner and the Structured and New Products Unit led by Kenneth Lench and Reid Muoio. The investigative attorneys were Kevin Guerrero, Keshia W. Ellis and Ivonia K. Slade in Washington D.C. and Jeffrey A. Shank and Anne C. McKinley in the Chicago Regional Office. The broker-dealer examinations team of Marianne E. Neidhart, Scott M. Kalish, George J. Jacobus and Daniel R. Gregus of the Chicago Regional Office assisted the investigation. Steven C. Seeger and Robert M. Moye of the Chicago Regional Office will lead the SEC’s litigation.

The SEC’s investigation is continuing.

Among previous SEC enforcement actions related to the offer and sale of CDOs are cases against Goldman Sachs, ICP Asset Management, J.P. Morgan, and Wachovia Capital Markets. For more information about other SEC enforcement actions against misconduct related to the financial crisis, visit the SEC website at: http://www.sec.gov/spotlight/enf-actions-fc.shtml

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For more information about this enforcement action, contact:

Elaine C. Greenberg
Chief, SEC Enforcement Division’s Municipal Securities and Public Pensions Unit

Kenneth R. Lench
Chief, SEC Enforcement Division’s Structured and New Products Unit



Modified: 08/10/2011