“Masking”: A Mass Conspiracy Inside Merrill Lynch

By Pam Martens and Russ Martens: March 26, 2018

At last we know why the New York State Attorney General’s office has decided to sideline the Securities and Exchange Commission and U.S. Department of Justice and become the self-appointed watchdog over Wall Street’s Dark Pools: it’s helping its hometown industry by doling out tiny fines and never digging too deep. This past Friday’s fine against Merrill Lynch’s Dark Pool marks the fourth time since 2014 that the office of New York State Attorney General Eric Schneiderman has leveled a meaningless fine of less than $50 million against the Dark Pools of Wall Street’s mega banks that are making billions of dollars in profits each year through what Senator Bernie Sanders calls a “business model of fraud.” (Schneiderman’s office brought earlier charges against Barclays, Credit Suisse and Deutsche Bank.)

“Masking”: A Mass Conspiracy Inside Merrill Lynch

On Friday, Schneiderman’s office issued a press release on its $42 million fine against Bank of America’s Merrill Lynch subsidiary for an insidious fraud that Merrill had internally called “masking.” The press release itself, however, masked the brazenness and seriousness of what Merrill Lynch had done. By reading the actual settlement agreement instead of the detail-lacking press release, we added up the following crimes that Merrill Lynch had committed versus the puny fine of $42 million:

The company had falsified internal documents it provided to customers for at least five years in commission of a crime; it falsified reporting data on where stock trades were actually executed for its customers; it engaged in secretly routing orders to Bernie Madoff’s market-making business, which was itself being financed by Madoff’s massive Ponzi scheme, raising the possibility that it helped to make it appear legitimate; it falsified invoices to customers, lying about where their trades had been executed; and it altered its internal technology to facilitate placing false information on customer invoices. The settlement document explains:

“Beginning in March 2008, BofAML [Bank of America Merrill Lynch] entered into agreements with ‘electronic liquidity providers’ (‘ELPs’) to execute a portion of BofAML’s institutional client orders. Those ELPs, which changed over time, included Citadel Securities, D.E. Shaw, Madoff Securities, Knight Capital, Getco (which later merged with Knight Capital to become KCG, now owned by Virtu Financial), Two Sigma Securities, Sun Trading, and ATD (then a division of Citigroup, now owned by Citadel Securities)…Pursuant to the agreements, the ELPs could choose whether to fill the DSA orders themselves. In return, the ELPs did not charge BofAML for the executions. The prices at which those trades executed with the ELPs were, in industry parlance, at the ‘far side’ of the spread between the bid and the ask.”

What was really going on here? Schneiderman says in his press release that Merrill Lynch was using its “technology to exploit their clients in service of their business relationships with large industry players.” Translation: making big loans to hedge funds and high frequency traders (prime brokerage) is a very profitable business and wooing those “large industry players” is apparently worth the gamble of running afoul of the law.

And here is the worst part of this settlement: the settlement document makes clear that the Attorney General’s office knew precisely which individuals had orchestrated this massive deceit against Merrill’s customers but the Attorney General’s office failed to charge any individual or even name him or her. The settlement document reads:

“In March 2008, after entering into the agreements with the ELPs, described above, BofAML’s then-head of Global Equity Trading and then-head of electronic trading directed BofAML employees to alter FIX messages for BofAML client trades executed by ELPs, by replacing the codes which identified ELPs with a new code referencing BofAML. Pursuant to this direction, BofAML employees re-programmed BofAML’s internal trading systems to automatically remove the original codes which accurately reflected the ELP venues in Tag 76 (e.g., ‘CDRG’ for Citadel, ‘SHAW” for D.E. Shaw, and ‘MADF’ for Madoff) and insert a new identifying code (‘MLCO’) which inaccurately reflected the trading venue as BofAML.”

The settlement agreement also makes clear that the fraud evolved into a widespread conspiracy within Merrill with multiple department heads participating in the cover up. The settlement agreement explains:

“In July 2008, BofAML personnel became aware that certain institutional client invoices contained a billing line item for ELP executions (referred to on the invoices as ‘trading partner’ executions). This line item could have revealed to institutional clients that certain of their trades had been executed with ELPs, even though FIX messages and TCA reports had concealed that fact and misrepresented the trading partner to be BofaML.

“The then-head of electronic trading wrote to the then-Chief Operating Officer of BofAML’s Cash Equities business: ‘[W]e have to lock this down asap. It’s a huge business risk to have these invoices include ‘Trading Partners’ as a line item.’ The then-Chief Operating Officer responded by agreeing and confirming, ‘We deleted the line last month.’

“Subsequently, BofAML undertook to, in one BofAML employee’s words, ‘develop code to suppress the trading partners data from the external clients’ bills going forward.’ ”

Merrill Lynch admitted to the charges brought by the New York State Attorney General. According to the settlement agreement, the fraud involved over 16 million stock trades which encompassed more than 4 billion shares of stock.

A particularly unsettling aspect of this, not mentioned in the settlement agreement, is that while Merrill Lynch was engaging in this fraud against its customers, the central bank of the United States, the Federal Reserve, was secretly making loans at almost zero interest rates to Merrill Lynch to help it survive the financial crisis. The report from the Government Accountability Office (Table 8) shows that the Fed made cumulative loans to Merrill of $1.9 trillion while sluicing an additional $1.3 trillion to Bank of America.

Another problem is the strange silence we are hearing on this matter from the Securities and Exchange Commission, the top Federal regulator of securities trading. If Merrill Lynch was falsifying information about where trades were executed on its customers’ invoices, wouldn’t it also follow that it was falsifying the same information on its Form 606 that it is required to file with the SEC?…

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