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The Daily Reckoning | Monday, March 8, 2010 A Personal Perspective on the SEC My what big teeth you have, Grandma! Eric Fry Today we take a break from our typical Reckoning to bring you an atypical Reckoning. Our colleague, Porter Stansberry provides an up- close-and-personal perspective of the SEC - the government agency in charge of safeguarding the financial markets and protecting the interests of individual investors. Does this particular government agency actually safeguard the markets and protect the interests of individual investors? Let the reader decide. Your editor's here at The Daily Reckoning will refrain from commentary that might prejudice our readers. Nevertheless, we must admit that we cannot escape the thought that Porter's experience reminds us of a familiar children 's story: "My what big teeth you have, Grandma!" Read on... The Daily Reckoning Presents Why The SEC Sued Me - And Why You Should Care Porter Stansberry The reason you might have heard about my Securities and Exchange Commission (SEC) lawsuit is because I didn't settle the case. When most people are sued by the SEC, they do their best to put the matter behind them - as quickly and quietly as possible. This normally involves paying a large fine and essentially promising "not to do it again." If you pay the fine, the chances are good most people will ignore the matter. You're not required to admit any guilt. Thus, the damage to your reputation is largely mitigated and you can go on with your life. That's why most people settle with the SEC when it comes to civil (noncriminal) lawsuits. But I didn't settle when they sued me. Even when a settlement was offered to me for as little as $1 million, I refused it. Instead, I've faced a lengthy court battle that's brought with it tremendous risks to my reputation and legal bills amounting to almost $3 million. Why on Earth would I try to fight the "city hall" of the securities industry? Because I'm eager for the facts of my case to come to the public's attention. I know when the facts of my case are accurately known by the public, my subscribers will support my decision to fight the SEC. That's why I've never tried to hide this matter from anyone. Unfortunately, so far, almost none of the critical issues at stake in my fight have been accurately reported. Worse, people who have no idea what they're talking about continue to assume my case is another example of a financial publisher acting scurrilously - front-running his subscribers or ripping people off by promoting penny stocks that he's been paid to endorse. And so... at the risk of upsetting the judges who have to date refused to believe a word I've said about the matter... I would like the opportunity to tell you, my subscribers, exactly why I've refused to settle my case. And why the matter is now pending before the U.S. Supreme Court. I'd also like the opportunity to direct you to several reliable sources of information about the matter, such as The New York Times and The Wall Street Journal. Most of the things written about the case elsewhere are patently false and misleading. For example, most people don't know my battle with the SEC actually has nothing to do with stock trading or actual securities fraud. The truth is, there isn't any allegation that I ever owned the stock in question - and there never has been. Nor is there any allegation I've done anything at all that's directly related to the purchase or the sale of any security. I didn't "front run" my recommendation. I wasn't being paid by promoters to recommend a stock. These things have all been said about the case - even by a few fellow journalists. But in fact, I wasn't even accused of doing them by the SEC. So what is this case about, if it's not about trading in securities? My lawsuit with the SEC started as a fight over the First Amendment rights of a publisher - me. It has continued because I refused to settle or buckle under to the government. I maintain my writing was honest, materially correct, and is certainly protected by the First Amendment of the U.S. Constitution. I claim a former unit of the Department of Energy - a unit that was sold to investors in 1996 and is now known as USEC - was withholding material information from the public. I believe it did so in order to reward certain investors, including its bankers, its corporate insiders, and members of the Department of Energy. By revealing information about a major and long-pending agreement with USEC's Russian supplier of uranium, I disrupted the opportunity insiders had to accumulate shares at lower prices. In short, I ruined the party by telling investors the agreement had been reached and would be announced in a few days. Because USEC was trading at a very distressed price (half of book value) and was paying such a high dividend (yielding more than 8%), I believed the stock would soar once this long-pending agreement was made public. In my report, I explained why the agreement would turn USEC into a profitable company by lowering the company's raw material costs dramatically. I predicted the stock would double on the news. And that's almost exactly what happened. Based on what I'd learned from a company insider (the director of investor relations), I wrote the agreement would be announced at a major nuclear summit featuring presidents Bush and Putin on May 22, 2002. The insider explained the details of the summit to me in advance, long before they appeared in the newspaper and told me to "watch the stock on May 22." And in fact, the long-awaited announcement came about a month later, on June 19, 2002. Keep in mind, this agreement had been pending for more than two years. And yet, somehow, I was able to pinpoint almost to the day when it would be announced to the public. Did the stock soar? No, not exactly. It moved from around $8 to around $11. That's roughly a 40% move in a few days. That's not bad. More importantly though, following the new agreement with the Russian uranium supplier, the stock traded all the way up to nearly $20 over the following three years. In fact, by the time my case reached its first federal judge, investors who followed my advice would have made more than 150% on the investment, thanks to capital gains and big dividends. (The stock eventually went to $25 during the uranium bubble of 2007.) Yes... that's right. The SEC is suing me for a matter that involves a stock that went from under $8 to nearly $25. That's more than a 200% gain. You've got to be kidding, right? Nope. But why? Here's the heart of the matter. I believe the company knew for certain its deal for cheap Russian uranium would receive the required final approval of both the U.S. and Russian governments at the summit. This approval was the only thing holding up the deal. With this knowledge in hand, it would have been easy for the company's insiders and other senior officials in the Department of Energy to load up on the stock and profit once the news was announced to the public. And I wasn't the only analyst who was told when to expect the deal. In the discovery process of our lawsuit, we found a notebook from USEC's investment bank - Bank of America - where its analysts clearly indicated May 22 was the expected announcement date. But instead of pursuing the possibility USEC's managers and bankers were withholding this material information, the SEC decided to attack me. Keep this in mind: I didn't use this information for my own personal gain. I didn't buy the stock. Or even just tell my friends to buy the stock. No, instead I did my job. I published a report about what I'd learned and offered to sell my report to any (and all) interested investors. I also sent a copy of my report (and the accompanying sales letter) to my source at USEC. He never asked me to change a single word of my report. He had my cell phone number. He had my office number. He had my e-mail address. If there was any legitimate problem with my report, all he had to do was ask for a correction. He never did. Not even to this day. I did all of the things any reputable journalist would do. I checked my source's facts. Sure enough, a presidential summit was approaching. Sure enough, there was a large pending contract. Sure enough, the new deal would change the economics of the company in a dramatically positive way. I sent a copy of my report to my source. And I offered it for sale to the public. If anyone wasn't satisfied with the report, for any reason, I gave him his money back. Even today, looking back at the matter through the lens of time and experience, I still think my USEC report was one of the great stories of my career and I'm proud of the report I wrote. Are there things I would have done differently? Yes. I would have made sure to have a recording of my interview. You see, even though I never owned a share of the company, even though I had no incentive whatsoever to lie about the company, and even though third parties who have looked at the facts of the case (like The New York Times) agree my report on the matter was overwhelmingly correct... the SEC decided to come after me and not the people who were really defrauding the public. Incredibly, the SEC sued me for securities fraud, saying I had lied about what my source told me and that selling my report about USEC was tantamount to brokering the stock. Specifically, the SEC claimed my source didn't tell me to "watch the stock on May 22," which was the only part of our conversation that I quoted. Since I can't prove what my source said, you might assume I must be lying. But if he didn't explain the timing of the deal to me, how could I have known - within a month - exactly when the deal would close? The fact is, until our discussion, I didn't know anything about the upcoming presidential summit. It wasn't reported in The Wall Street Journal until about a week after our discussion. But... just for the sake of the argument... what if you assume I knew about the summit from another source and I merely attributed it to the company in order to claim I really had "inside" information? Why then, even after I wrote the report and sent my source a copy, did he not demand a retraction? And if the company knew my report was false, why didn't it put out a press release denying it? The NYSE rules require companies to put out press releases anytime there's a material misstatement in the press. The fact of the matter is, my report was overwhelmingly correct. And my source couldn't deny my report because he didn't know whether or not I had a recording of our conversation (which took place over the phone). When the SEC came calling later in 2002, I expected it would be going after the company for selective disclosure - a violation of SEC regulation FD. And sure enough, it wanted all of my personal records to make sure I wasn't front-running the stock, etc. But then, instead of shifting its investigation to the company, it demanded to have the entire subscription list of not just my publishing company, but also of our parent company, Agora Inc. It wasn't going after USEC for withholding material information; it was going after us by intimidating our clients. And it didn't ask for just the USEC report subscribers - it demanded every single name and address on our entire database, including my parent company's database. Rather than give in to this subpoena, we sued the SEC in federal court to protect our subscribers' privacy. A well-established legal precedent protects a publisher's subscriber lists. (What you decide to read is none of the government's business.) That's part of the story I'm sure you've never heard before: We sued the SEC first. And we did so to protect our subscribers, the overwhelming majority of whom never bought the USEC report in the first place. I understand that you might reasonably wonder... How could any of this be true? I mean, wouldn't you expect that as soon as the SEC knew I'd sent my source a copy of the report, the matter would be closed? Or don't you think as soon as it knew I wasn't trading the stock or front- running it, the SEC would have simply left me alone? Even after reading all of this, undoubtedly, a lot of people must think I'm merely trying to muddy the waters because I'm guilty of front- running the stock... or lying to investors. Why else would the government waste its time on a newsletter writer? I understand my story might be hard to believe - at first. The public generally has confidence in our government. It will be hard for some people to imagine the SEC would actually go after a journalist with the intent of putting him out of business simply because it didn't like what he was writing about. But my story isn't unique. At the same time the SEC was abusing its power by subjecting me to interrogations, subpoenas, and crushing legal bills - all in violation of the First Amendment - it was also going after many other legitimate market participants - including David Einhorn, the well-regarded hedge- fund manager (Greenlight Capital) for merely speaking about securities. As with my case, the SEC came after Einhorn for speaking openly about abuses taking place at a Washington-based business (Allied Capital), a company that - like USEC - was heavily staffed with former government officials, including Joan Sweeney, the company's chief operating officer, who was a former senior member of the SEC's Division of Enforcement. Our stories are eerily similar... THIS IS WHAT EINHORN WAS WARNING INVESTORS ABOUT, AS EARLY AS 2002. THE SEC RESPONDED BY INVESTINGATING EINHORN. Rather than investigating Einhorn's claim that Allied Capital was cooking its books by using fraudulent accounting, the SEC instead began investigating him, alleging securities fraud because of what he'd said about Allied Capital during a presentation at an investment conference that's held to benefit charities. After several years of threats and abuses (like having his phone records stolen), Einhorn was vindicated. The shares of Allied Capital collapsed as the company was revealed as fraudulent. But even today, Joan Sweeney is still with Allied Capital. The SEC has never been forced to fire any of the agents who abused their power during the investigation of David Einhorn. To draw attention to the abuse he'd suffered, Einhorn decided to donate all of the money he made from shorting Allied Capital to charity, and he wrote an entire book about the situation called, Fooling Some of the People All of the Time. Says Einhorm about his experience: Allied isn't the biggest, most egregious, or most audacious fraud I have seen. In a sense it is a garden-variety fraud - dishonest business dealings by dishonest management. So why all the fuss? The story I am telling is one that has been surprising and unexpected - even to me. I think it is important and needs to be told. This book reveals some serious problems in the regulatory landscape that I am in a unique place to discuss. I care that the SEC and other regulators seem to have stopped enforcing laws against corporate malfeasance. I care that company officials can lie with impunity on public conference calls. And I have been appalled that the government officials overseeing the lending programs that Allied has defrauded are so indifferent and unwilling to act even when presented with clear evidence of abuse. The overall lack of law enforcement is startling... If we are going to permit the retribution against the whistleblowers shown in this story - defamation, investigation, invasion of privacy and so forth - then we surrender public free speech. If we allow the people in this story to operate outside the law, then we nourish a corrupt business culture. Rather than turn a blind eye to the fraud I witnessed, I made a decision to stand up and speak out despite the consequences. I hope my story inspires regulators and government agencies to do the right thing.  I hope you'll remember most people don't do what I've done and what Einhorn did. Most people don't fight the SEC because they don't want their names in the paper, they don't want the stigma of being investigated by the government, etc. Believe me, I can understand why. When the news of the SEC's investigation of me leaked out, publishers around the world refused to do business with me. Potential employees refused to come to work with me. Companies refused to be interviewed by me. The lawsuit has made it vastly more difficult for me to simply stay in business. Even today, every time a potential subscriber stumbles across information about the lawsuit on the Internet (and much of it is completely untrue) he's likely to cancel his subscription or simply decide not to renew. And think about this... the more people who simply refuse to write about securities because of the threat of an SEC action or because they fear retaliation from the businesses they write about, the less high- quality information will be available to investors. The less information is available, the more bad actors will take advantage of investors. Whether you realize it or not, the SEC isn't trying to protect investors. If it were, Bernie Madoff would have never happened. The SEC knew all about Bernie Madoff - the SEC audited him regularly. Many people - including Barron's - pointed their finger right at Madoff and revealed his fraud. Still, the SEC did nothing. The SEC knew all about Enron and WorldCom and the conflicts at the investment banks during the Internet boom. The SEC knew all about GM's debt load. It knew all about the problems with Fannie and Freddie. In fact, it was the SEC that approved the huge increase to investment banks' leverage in 2004 - a move that directly led to the financial crisis of 2008. But... maybe you still trust the SEC. And if you do and you want to believe Porter Stansberry is out to harm investors by publishing independent reports on public companies - that come with a money-back guarantee - there's probably very little I can do to change your mind. On the other hand, if you ask any securities industry professional who reads our newsletters, I have no doubt he will tell you our work is among the best you can buy anywhere and is far superior to nearly all of the research put out by the brokerage firms. I know this is true because thousands of professionals are our clients and I have hundreds, if not thousands, of testimonials from these readers. The truth of this case is so simple to see. Just ask yourself two questions: 1. How can the SEC accuse Porter of intentionally lying when Porter sent his source his full report and the source never requested a retraction or a correction to any of Porter's reporting? 2. Why would the SEC risk a constitutional battle with a bona fide journalist over a report even The New York Times says was basically correct? Why would the SEC want to shut down a business like Stansberry & Associates Investment Research - which offers refunds to any unsatisfied customers and whose analysts never trade in the securities they recommend? Don't you wonder why the SEC would target my business - which doesn't manage money or broker stocks - while ignoring enormous ponzi schemes going on in the businesses it supposedly regulates? I can't prove it... but I don't think the government likes it very much when I tell investors the truth about things like Fannie, Freddie, and General Motors. I don't think the SEC wants the American people to know the truth about our financial markets - or the state of our government's finances. And I think the government is afraid of what will happen when you find out the truth. Whatever happens with my court case, I hope you'll know I did, and have always done, my best to tell you the truth. After all, unlike the government, the truth is my only weapon. Regards, Porter Stansberry for The Daily Reckoning Joel's Note: Even though the SEC rarely recognizes fraudulent accounting and/or corrupt corporate governance before the fact, professional short-sellers often do. And even though the SEC rarely prosecutes the frauds it does discover, the financial markets ALWAYS prosecute and punish corporate wrongdoing...eventually. In the chart above, you can see very clearly when the market rendered its damning judgment of Allied Capital. Although short-sellers are wrongly blamed for subverting confidence in companies like Allied, the technique of short selling is actually one of the best tools for keeping these guys in line. Porter's S&A Short Report does exactly that - providing readers with honest analyses and, therefore, opportunities to profit as these companies' dirty laundry is brought into the unforgiving light of day. You can learn more about this service right here: The S&A Short Report