Analysis: GameStop saga may provide early test of Biden administration ethics pledges

Citadel Income Fund

01/02/2021 11:00

By Trevor Hunnicutt and David Lawder
    WASHINGTON, Feb 1 (Reuters) - Arguably the last thing new
U.S. Treasury Secretary Janet Yellen wants to take up during her
first days in office is a financial market imbroglio involving
one of her last private sector business relationships.
    But as hedge fund Citadel LLC emerges as one of the key
actors in the trading frenzy last week involving GameStop Corp -
and questions arise over whether the activity exposes deeper
risks for the financial system - Yellen could find herself
pulled into the fray.
    Citadel, together with another fund, extended a $2.75
billion financial lifeline to hedge fund Melvin Capital
Management, which had suffered heavy losses by betting against
GameStop  GME.N . Citadel also pays for the right to process
Robinhood users' trades, a practice that has drawn some concern
from investor advocates. 
    The White House has said Yellen is among a handful of
officials monitoring the fracas. As head of the Financial
Stability Oversight Council (FSOC), Yellen is broadly
responsible for the health of the entire trading and investing
system.
    A sticking point for her to clear, though, may be $700,000
in speaking fees she accepted from Citadel, as recently as last
fall. Yellen has pledged not to involve herself in an official
capacity in matters involving the firm without first seeking a
written waiver from Treasury ethics officials.
    Ethics experts say that pledge is not a hard wall for her to
scale should the need arise. After ethics violations dogged the
Trump administration, some groups are urging Yellen to
pre-emptively seek a waiver, and set a precedent.
    "This example is a good test of Biden's ethics executive
order and the transparency that follows, but it also highlights
the revolving door and why restrictions are necessary to protect
the integrity of government missions, policies, and programs,"
said Scott Amey, general counsel at Project On Government
Oversight, a nonpartisan government watchdog group.    
    The Treasury secretary normally does not get involved in
matters involving individual stocks and concentrates instead on
broad systemic risks to the financial system, which the
department monitors through daily market surveillance.
    "Secretary Yellen of course will abide by her ethics
agreement and ethics pledge in all instances," Treasury
spokesman Calvin Mitchell said. He did not indicate how she
would approach the specific Citadel issue. 

    SPEAKING FEES 
    Like many former government officials, including https://www.reuters.com/article/usa-fed-bernanke/bernanke-enjoys-fruits-of-free-market-with-first-post-fed-speech-idUSL1N0M11FA20140305
 her Federal Reserve chair predecessor Ben Bernanke, Yellen took
speaking fees from private companies after she left government.
 urn:newsml:reuters.com:*:nL1N2JC01D 
    Yellen filed an ethics agreement https://extapps2.oge.gov/201/Presiden.nsf/PAS+Index/18A4D129DD5675888525864F0081071C/$FILE/Yellen,%20Janet%20L.%20final%20EA.pdf
 with the Office of Government Ethics in December saying she
would "seek written authorization to participate personally and
substantially in any particular matter" related to any companies
that paid her speaking fees prior to joining President Joe
Biden's administration - for a year after her last speech to
each firm. 
    Yellen spoke several times at Citadel, most recently on an
Oct. 27 webinar, according to the filing. She was paid at least
$700,000 in speaking fees by the Citadel while she was in
private practice at the Brookings Institution think tank,
another disclosure https://extapps2.oge.gov/201/Presiden.nsf/PAS+Index/C22B882BBDC40AC78525864F008106AB/$FILE/Yellen,%20Janet%20L.%20AMENDEDfinal%20278.pdf
 shows.
    These speaking engagements, which also include financial
heavyweights such as Barclays, Citigroup, and Goldman Sachs, 
are not likely to impact her ability to give Biden broad advice
on the stock trading matter, government ethics experts say.
    "If this becomes a situation where regulators are
considering new rulemaking with Citadel as the poster-child,
that's different," said Lisa Gilbert, executive vice president
of Public Citizen, a group pushing for stronger financial
regulation. 
   
    SYSTEMIC RISK 
    A major question is whether volatility from Gamestop and
similar retail investor revolts against short-squeezes boil over
into a systemic event that sends markets crashing broadly.
 urn:newsml:reuters.com:*:nL1N2K42M3 urn:newsml:reuters.com:*:nL1N2K325I   
    Typically a matter involving an individual stock or equity
market trading and brokerages would fall to the Securities and
Exchange Commission, which has said it is examining the matter.
    On Friday, SEC commissioners including acting chair Allison
Herren Lee said in a statement https://www.sec.gov/news/public-statement/joint-statement-market-volatility-2021-01-29
 they were closely monitoring the extreme volatility in certain
stocks and warned market participants to "uphold their
obligations to protect investors and to identify and pursue
potential wrongdoing."
    Extreme stock price volatility "has the potential to expose
investors to rapid and severe losses and undermine market
confidence," they added.
    Biden's choice to run the SEC, Gary Gensler, awaits Senate
hearings.
    The FSOC that Yellen chairs is charged with identifying
risks and responding to emerging threats to financial stability.
It includes the heads of the Federal Reserve and other major
U.S. financial regulatory agencies.
    It has the authority to designate non-bank financial
institutions for consolidated supervision to minimize risk to
the financial system or to break up firms that pose a "grave
threat." 
    Distress in individual companies rarely rises to such a
level. Treasury maintains daily market surveillance, but it is
looking for orderly market functioning and broad systemic
threats.
    Thus far, the situation looks contained, Barclays said in a
note to clients on Friday. Short positions in stocks favored on
the Reddit social media site total about $40 billion, which
would limit the pain to a handful of hedge funds.
    "The ongoing short squeeze in a few stocks by retail
investors has raised concerns of a broader contagion. While we
believe there is more pain to come, we remain optimistic that it
is likely to remain localized," Barclays said.
    
    YELLEN HAS FEW WALL STREET TIES
    Unlike many previous Treasury secretaries, Yellen has only
worked as an academic and for the government, not at a bank or
trading firm. 
    Richard Painter, a former top ethics lawyer to President
George W. Bush, said many Treasury secretaries had a great deal
more entanglements that would raise conflict of interest
concerns than Yellen.
    Henry Paulson, a Republican who was U.S. Treasury secretary
during the 2008 financial meltdown, sold half a billion dollars
in stock from his former employer Goldman Sachs Group Inc  GS.N 
to satisfy ethics concerns. Paulson later forced Goldman and
other major banks to take billions of dollars in taxpayer
capital at the depth of the financial crisis.
    Steven Mnuchin, Yellen's immediate predecessor, pledged https://www.reuters.com/article/us-usa-trump-mnuchin/trumps-treasury-nominee-mnuchin-pledges-to-divest-assets-worth-millions-idUSKBN14V297
 after he was nominated to divest $94 million in investments,
and refrain from any decisions involving CIT Group until August
2018, when he was due a payment of $5 million from the company. 
    "Yellen is going to be about as clean as you can get on this
stuff," Painter said. 

    <^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^
EXPLAINER-Why regulators may scrutinize GameStop's Reddit-driven
retail stock surge     urn:newsml:reuters.com:*:nL4N2K246P
TIMELINE-GameStop's 1,600% surge in retail investor vs hedge
fund battle     urn:newsml:reuters.com:*:nL8N2K2494
BREAKINGVIEWS-Short squeezers could end up strangling themselves
    urn:newsml:reuters.com:*:nL8N2K22TV
The big short: GameStop effect puts global bets worth billions
at risk     urn:newsml:reuters.com:*:nL1N2K217R
Hedge fund Melvin Capital has closed GameStop position
-spokesman     urn:newsml:reuters.com:*:nFWN2K20LX
GRAPHIC: GameStock surge timeline    https://tmsnrt.rs/2KSQYX3
GRAPHIC-GameStop 'long the shorts' trade goes mainstream    
 urn:newsml:reuters.com:*:nL8N2K33OF
Bernanke enjoys fruits of free market with first post-Fed speech
   https://www.reuters.com/article/usa-fed-bernanke/bernanke-enjoys-fruits-of-free-market-with-first-post-fed-speech-idUSL1N0M11FA20140305
Mnuchin pledges to divest assets worth millions     https://www.reuters.com/article/us-usa-trump-mnuchin/trumps-treasury-nominee-mnuchin-pledges-to-divest-assets-worth-millions-idUSKBN14V297
    ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>
 (Reporting by Trevor Hunnicutt and David Lawder; Additional
reporting by Nandita Bose; Editing by Heather Timmons, Dan
Burns, Edward Tobin and Diane Craft)
 ((trevor.hunnicutt@tr.com; +1 646 223 7914;
twitter.com/trhunnicutt; Reuters Messaging:
trevor.hunnicutt.thomsonreuters.com@reuters.net))