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April 13, 2007
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Transcript - April 13, 2007

BRANCACCIO: Welcome to NOW. It's what passes as one of the few common experiences left in America. A couple of months ago, it was the super bowl and next Tuesday it's the income tax deadline. For many, it'll be a weekend of accounting to the government.

You won't be surprised that most types of investment funds have rigorous reporting requirements as well. But there's quite an exception. Hedge funds are very "in" these days but they are almost completely exempt from government scrutiny—even though as much as two trillion dollars may be invested in them including a lot of your pension money.

But some hedge fund managers won't tell anyone what they are doing with your money—not even the government. Bryan Myers produced our report.

BRANCACCIO: Gary Aguirre is a member of a club that seems to get bigger each day. He's one of a growing number of government employees who say they've been fired because of politics.

While Aguirre is a former federal investigator, he isn't one of those U.S. Attorneys you may have heard about. Instead, Aguirre used to work for the SEC, the Securities and Exchange Commission...the outfit that watches over our financial markets.

BRANCACCIO: You think your firing was political

AGUIRRE: I do. I was investigating one of Wall Street's elite.

BRANCACCIO: This is Aguirre's first network television interview. And if you belong to pension plan or worry about your investments, you'll want to stick around for this.

Aguirre's story is more than just a fellow who got fired from his government job. It's the story of a guy who tried to look under the hood of the financial services industry, and found out how difficult that can be, even when there are allegations of wrongdoing. And according to Aguirre, the biggest hurdle was the very government agency that's supposed to be policing the investment industry.

AGUIRRE: I never dreamed the SEC, with its mission of protecting investors would block it, an investigation they way they did.

BRANCACCIO: Gary Aguirre didn't start out as an investigator of corporate fraud. In the 1960's, after graduating from law school, Aguirre soon found work as a public defender. Later, in the 1980's, Aguirre made a name for himself—not to mention millions of dollars—as a trial attorney. And in 2001, Aguirre decided to begin a new chapter in his life. At age 61, he went back to law school.

Graduating near the top of his class, Aguirre earned a second law degree, this one in securities regulation. Eventually, he found work at the SEC.

In 2004, Aguirre's bosses asked him to look into a large investment company called "Pequot Capital Management." Pequot was suspected of insider trading.

Pequot had bought a bunch of stock in a company shortly before the news broke that company was being taken over by General Electric. Pequot made 18 million dollars on the deal. Officials at the New York stock exchange thought that was fishy, so they alerted the SEC.

After pouring over tens of thousands of documents, investigator Aguirre developed a theory.

AGUIRRE: We were looking into the possibility that Pequot's CEO had been tipped by John Mack, the current CEO of Morgan Stanley.

BRANCACCIO: In other words, Aguirre suspected John Mack of giving Pequot a heads up about that pending take over. As a Wall Street big shot, Mack is in a position to know a lot of inside information about companies. And Mack is close friends with the folks at Pequot.

Aguirre's bosses thought he might be on to something one supervisor wrote him, "Mack is another bad guy in my view." So Aguirre decided to question Mack.

AGUIRRE: I was following an evidence trail. And it led to that door. And the logical thing was to knock on the door and try to find out what was behind it.

BRANCACCIO: As part of his investigation, Aguirre had already questioned the folks at Pequot. But, Aguirre says, it's when he wanted to question Mack that things got bad.

AGUIRRE: I informed my supervisor that I intended to issue a subpoena to Mr. Mack. And he told me that he could not authorize the issuance of a subpoena for Mr. Mack because of Mr. Mack's powerful political connections.

BRANCACCIO: John Mack is more than just one of most powerful men on Wall Street. Mack is also a what's called Republican Party "ranger." In 2004, he raised over $200,000 for the re-election campaign of President Bush. At one point, Mack was even considered for the post of Secretary of the Treasury.

AGUIRRE: Morgan Stanley hired a very, very high profile attorney who bypassed all levels of enforcement, my level and four or five levels above me, and went directly to the Director of Enforcement.

I was told to go on vacation. Almost on my last day of vacation, I got a call, and was unceremoniously fired.

BRANCACCIO: Aguirre was stunned. Just weeks earlier, his bosses had given him a big pay raise, citing his work on the Pequot case.

BRANCACCIO: How could they just fire a person who's getting good job evaluations?

AGUIRRE: They said that essentially, "You're just completing your first year with the SEC. We've decided not to extend your employment."

BRANCACCIO: As a relatively recent hire, the SEC was within its rights to fire Aguirre. So we asked the SEC why he was let go. They declined to make any comment for this story.

But in previous statements about Aguirre, the SEC has cited personality problems for his dismissal, saying Aguirre was, "difficult to work with." They also deny the agency caved in to any political pressure.

Republican Senator Charles Grassley has been looking into the Aguirre affair.

GRASSLEY: He wanted to investigate a very important person on Wall Street and they said, "Well, you can't do that. He's got too high a political connections."

BRANCACCIO: Grassley sits on the Senate Judiciary Committee, which oversees the SEC.

GRASSLEY: It tells me you have an agency that has very serious problems. The agency says you can't question him because he's got political connections, and then Gary is fired. Doesn't that raise questions in your mind whether or not maybe he was on the right track?

BRANCACCIO: You take him seriously, though

GRASSLEY: We do take him very seriously.

BRANCACCIO: After Aguirre was fired, the SEC did eventually question John Mack. The agency has since closed its investigation, saying it found "no evidence" of wrongdoing by either Mack or Pequot.

In a written statement, a spokesperson for John Mack told us, quote, "Mr. Mack had nothing to do with the sec's decision if or when to seek his testimony." The spokesperson added that Aguirre, quote, "continues to make irresponsible allegations...without producing any evidence whatsoever."

Not everyone is so sure. Republican senator Arlen Specter, who's taken a look at Aguirre's evidence, has called the SEC's investigation a possible "cover-up."

BRANCACCIO: What do you think was at stake?

AGUIRRE: It's a tilted playing field.

BRANCACCIO: Tilted against whom?

AGUIRRE: Well, it's tilted against all the investors that are honest, that are playing the game by the rules.

BRANCACCIO: You're worried that could really hurt the whole system of capitalism that we have?

AGUIRRE: Well, yes, it could. Lack of public confidence, combined with high levels of speculation, gave us the 1929 crash.

BRANCACCIO: A stock market crash? Aguirre's worries come from the type of company he was investigating. Pequot is a "hedge fund"—one of the hottest types of investments these days. They use fancy, hopefully clever, and sometimes risky strategies in a bid to make money. How do these things work? Hard to say. Their strategies are typically secret.

Hedge funds now control as much as two trillion dollars. And it's not just rich people's money as it's so often argued. Some of America's biggest pension plans have been sinking tons of money into hedge funds—General Motors has...as well as Verizon...and International Paper, just to name a few.

Their employees may not even know it. Take a look at International Paper's annual report from last year. In the section on its pension plan, it doesn't even mention the words "hedge fund."

GRASSLEY: When pensions start investing in hedge funds, then the average Joe Blow or Mary Smith is at risk if the hedge fund goes under. We don't want another Enron to happen with the hedge fund business.

BRANCACCIO: There has already been trouble. In 2005, the county of San Diego in California put money into a hedge fund called "Amaranth." That money came from the pension plan for employees like office workers, the sheriff, and highway crews. Amaranth claimed it was investing money in a lot of stuff. Instead, Amaranth sunk most of its money into a single risky investment.

Turns out, Amaranth was betting against Mother Nature. It bought heavily into natural gas, betting that bad weather would drive up prices. Instead, prices fell and Amaranth lost six billion dollars. More than 150 million of that belonged to the employees of San Diego County.

San Diego county officials say that if they knew that, they wouldn't have invested in Amaranth. And where were the government regulators? Unlike garden-variety mutual funds, the government doesn't require hedge funds to disclose what they're doing with people's money.

The collapse of Amaranth has led to calls for greater government oversight of the hedge fund industry. William Donaldson is the former chairman of the SEC.

DONALDSON: The fact of the matter is that there are a lot of people who have quite a lot of money, who invest in hedge funds, who haven't got the faintest idea—as to what's going on inside that black box.

BRANCACCIO: How does that happen?

DONALDSON: Many of them don't disclose exactly what they're doing. Or exactly how they made their money.

BRANCACCIO: Donaldson emphasizes that many hedge funds are well run. But even he says more transparency is needed, something he told Congress back when he ran the SEC.

DONALDSON: "...Hedge funds are being purchased by intermediaries on behalf of millions of ultimate small investor beneficiaries..."

BRANCACCIO: In 2004, the SEC, under Donaldson, adopted a rule which required hedge funds to keep better records, and, open those books to the SEC.

DONALDSON: We see hedge funds being accused of all this stuff. They may or may not being doing it. But if we have to wait until a crime, or alleged crime, has been committed, fraud, then we're too late.

BRANCACCIO: What the people running these hedge funds say, they've said to us, is, what we're doing is secret. It's proprietary information. We don't want to share that with the public or government.

DONALDSON: We're not asking them to. They're simply asked to disclose to the government who they are , how the running entity internally, and most importantly, they are subjecting themselves to the SEC coming in when the SEC wants to, to inspect what's going on.

BRANCACCIO: Donaldson's rules didn't last long. Less than two years after the SEC put them into effect, they were overturned by a federal court, the result of an unlikely lawsuit.

GOLDSTEIN: If there's a wave of bank robberies in the neighborhood, do we need more laws against bank robberies? It's already illegal. Fraud's fraud. You don't need more laws against fraud.

BRANCACCIO: Phil Goldstein's effort to take on the SEC was considered a long shot. Goldstein is a former civil engineer for the City of New York, and a self-taught investor. He's says no one is forcing pension plans to invest in hedge funds.

GOLDSTEIN: The source of the problem, if there is a problem, is the capability of the people running the pension funds. What you're really saying is that the people running the pension funds are too dumb to do due diligence on hedge funds. So let's make sure the hedge funds safer so that when they make these stupid mistakes, they're not gonna lose that much money.

BRANCACCIO: Goldstein now owns a company called Bulldog Investors. Bulldog manages several hedge funds worth about ½ a billion dollars. And like a lot of hedge funds, Bulldog handles money for pension plans.

GOLDSTEIN: There's nothing uniquely risky about hedge funds.

BRANCACCIO: Goldstein points out, many hedge funds do tell investors what they're up to—voluntarily. But critics say many others do not, leaving investors in the dark about whether they are operating prudently or taking wild risks.

GOLDSTEIN: The reason that we don't take crazy risks and the reason that we don't steal money is not because we're afraid of the government policing us. It's because our goal is to build a long term successful business.

BRANCACCIO: Bulldog has never been accused of mishandling money. Goldstein says that's got nothing to do with government regulation.

GOLDSTEIN: The policeman is the customer. If the customer is not satisfied, he's not going to go there. The business is going to fail.

BRANCACCIO: Republican Senator Charles Grassley believes it's tough for pension funds to make the right decisions when they don't have much information. Hedge funds now account for as much as 1/3 of the trading on the New York Stock Exchange on any given day. So last month, he introduced legislation to put back the rule to make hedge funds keep records. The blowback, Grassley says, was more than he had ever seen in 28 years of being a senator.

GRASSLEY: Within hours, maybe within minutes after I made that speech on the floor of the Senate, these hedge fund people were calling here, trying to kill our amendment. And it wasn't just my phone; it was phones all over Capitol Hill.

BRANCACCIO: Congress, now controlled by the Democrats, later dropped Grassley's proposal.

Many Democrats come from states that are home to the big financial services companies. Democratic senator Christopher Dodd of Connecticut is the new chairman of the Senate Banking Committee. When asked about hedge fund regulation, Dodd replied, "I'm not envisioning...running back to that." Dodd has received nearly five million dollars in contributions from the financial services industry over the years. In fact, it's been reported nearly 2/3's of political contributions from hedge fund managers go to Democrats.

Gary Aguirre, that government investigator who was fired by the SEC, believes Wall Street is buying political protection. Fed up with Washington, he says he might start a new law practice, one specializing in investment fraud.

BRANCACCIO: Do you think the average American investor would be surprised to learn what his or her exposure is to hedge funds?

AGUIRRE: Well, I think of course they would.

BRANCACCIO: And it isn't just pension plans from private companies that are jumping into the hedge fund game. State pension plans, like those from California, New Jersey, and Pennsylvania, are now investing billions as well. Aguirre offers employees some advice: if you're in a pension plan, you need to take a hard look at how it's handling your money.

NARRATOR: Once again from New York City, David Brancaccio.

BRANCACCIO: Now on to the drama of filing taxes. Remember the Stephen King movie "Carrie" where you think the film's all done, then an arm pops up from the grave? That's rather like an especially loathed feature of many a tax return...called the alternative minimum tax. You think your tax return is finished, but no, there's more, and it's not pretty.

What began as a way to make super rich people pay some tax is now haunting many a middle class family. Last year less than four million households paid the A.M.T. This year the New York Times estimates it'll be 23 million. Each year congress says it wants to do something about this and now it's the Democrats turn to promise. Joining me Newsweek columnist Allan Sloane.

BRANCACCIO: Mr. Sloan, good to see you.

SLOAN: A pleasure, Mr. Brancaccio.

BRANCACCIO: We brought you in not because you're a world famous expert on all things money, but because I ride into town with you sometimes on the commuter train. And I understand that you actually pay the alternative minimum tax yourself?

SLOAN: And you do, and we sob on each other's shoulder, creating a scene on New Jersey Transit.

BRANCACCIO: Well, that's the thing. Does that make us fat cats?

SLOAN: Well, I can't speak to your weight, but what it means is, unless there's something I'm missing about you, you're making less than $700,000 a year, and for that matter, so am I.

BRANCACCIO: This thing—what was it for originally?

SLOAN: Back in 1969, back when I had hair, the idea of this was to make sure that a handful of people with enormous incomes and tax shelters paid at least something, which is, I still think, a very good idea. But over time, especially in 1986 when the thing was rewritten, it's turned into a snare for what I guess we will call the middle and upper middle class, and even sometimes lower than that. Whereas someone with real heavy-duty money generally doesn't pay it.

BRANCACCIO: You mean the really rich people in America aren't even worried about this?

SLOAN: I don't know if they're worried about it. But they shouldn't be, because they don't pay it.

BRANCACCIO: Part of the thing is—you know, you pay your state and local taxes, but something that makes that more palatable, is that you can then write it off your federal return. But then this tax comes through and pulls it all back.

SLOAN: Yeah, it's—off the top of my head, I think I lost the benefit from a half to two-thirds of my state and local taxes. Again, I'm not starving. I'm not overtaxed. But this just annoys me because I feel I'm being swindled. I don't mind paying more upfront. I don't like being swindled.

BRANCACCIO: So let's get rid of the Alternative Minimum Tax. Democrats are saying that they might try.

SLOAN: Sure, I think it's a great idea. And while we're rid of it, getting rid of that, while don't we get rid of the Social Security Tax, get rid of everything. And we'll just borrow the entire cost of the government from Asian central banks.

BRANCACCIO: Well, that's the thing, right? I mean, I've seen one estimate. If we would just get rid of this alternative minimum tax right away, over ten years it would cost the treasury a trillion dollars with a 'T'.

SLOAN: Well, yeah. And that's because the A.M.T., we'll give it—you know, its nickname, 'cause we're so intimately familiar with it, has morphed into this monster. And I think in 2016 or something like that, if you left everything alone, The A.M.T. would be producing more for the treasury than the regular income tax would.

BRANCACCIO: So let's get rid of it.

SLOAN: Fine, except I think that we can't afford it. Unless—you know, may—maybe we're gonna find a new line of business for the government. But somebody's got to pay for the government.

BRANCACCIO: So leave it alone. You're saying you want to pay—

SLOAN: No.

BRANCACCIO:—the tax?

SLOAN: No, I am saying is we ought to go back to what they call in my profession "first principles". It would be a very good idea to redraw this thing to make it so it in fact applies only to a handful of very high income people who otherwise would pay nothing, and for the rest of it, let—let's just tweak the income tax rate and raise it some. Or—there are a hundred different ways to do this.

And there's a study I saw with 32 options. But this could be done, if there's political will. But it's much better for you and me to sit around and whine about the A.M.T. then actually deal with the consequences. And whining is—we're journalists. It is what we do.

BRANCACCIO: But also with politicians, tax cutting is where it's at. And the Democrats would like to be seen as tax cutters.

SLOAN: Well, everyone wants to be seen as a tax cutter. But there's no way to change the A.M.T. Not bankrupt the government without getting more money from somewhere or cutting spending. And we know they're not gonna cut spending. They're gonna cut spending by a trillion dollars? Somehow I think not.

BRANCACCIO: Well, that's the thing, right Allan, is that in this country we often don't have honest conversations with ourselves about the things we want, the things that we want to pay for and where the money's gonna come from.

SLOAN: Well—well that's right. And you and I sit around. And we look at this and we're reasonably dispassionate. And I hate to say this. I would rather have just paid a straight up two percent higher rate and not been chiseled. But I don't imagine if I'm running for office, I would say that. Then again, I would, and that's why I'd probably never get elected.

BRANCACCIO: So, it's not gonna be hard to find people to say, "Please, take away this A.M.T." But when you start saying, "All right, how are we gonna pay for it." It gets very thorny.

SLOAN: Well, in fact, there is legislation running around in Washington to eliminate the A.M.T., and when I called someone and said, "Well, what are they proposing to replace it with?" There was this laughter on the phone. And they said, "Nothing."

BRANCACCIO: Oh, that's great. Why don't we just borrow another trillion dollars over the next ten years?

SLOAN: Well, I'll write the first check.

BRANCACCIO: Well, Allan Sloan, Wall Street editor of Newsweek, thank you very much.

SLOAN: You're welcome, Mr. Brancaccio, sir.

BRANCACCIO: We'd like to take a moment now to remember a giant of American literature: Kurt Vonnnegut. And he had wonderful words and wisdom to share when he did one of his last television interviews with us. About life, politics, and books.

BRANCACCIO: Well you wrote in the book about this. You write; What makes being a live almost worthwhile—

VONNEGUT: Yeah.

BRANCACCIO:—for me besides music, was all the Saints I met who could be anywhere. By 'Saints' I meant people who behaved decently, in a strikingly indecent society.

VONNEGUT: Yes. Their acts of kindness and reason. On a very—on a face-to-face. On a very local.

BRANCACCIO: On a human level.

VONNEGUT: Yeah. On a human level. And, oh, I've also spoken about you, know you've heard of 'original sin.' Well, I also, I call attention to original virtue. Some people are born to be nice, and they're gonna be nice all their lives, no matter what.

BRANCACCIO: Well, I think it's easy to notice that some moments with you Mr. Vonnegut add up to I think a magic moment..

VONNEGUT: Well, I had a hell of a good time I must say. If this isn't nice I don't know what is.

BRANCACCIO: And that's it for NOW. From New York, I'm David Brancaccio.



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