The global forex fraud that has implicated several high profile forex trading firms on Wall Street was uncovered by a hedge fund set up by the Federal Bureau of Investigation.
In a classic FBI 'sting' reminiscent of the old pawnbroker trick where the police set up fake pawnshops to videotape thieves selling stolen goods, the FBI created a fake hedge fund called Centurion Consulting Inc. to conduct its massive undercover investigation of foreign exchange and securities fraud.
US Attorney James Comey said the 18-month investigation, code-named Operation Wooden Nickel, had exposed "a staggering array of criminal conduct" by people working in and around the foreign exchange business.
It was claimed that the allegedly fraudulent foreign exchange trading had been going on for as long as 20 years with potentially millions of dollars of kickbacks paid to dozens of people. Sources at the SEC say that a full-scale investigation into all foreign exchange operations, which handle some USD 1.2 trillion worth of trades a day, could not be ruled out.
Comey said on Wednesday: "Today's charges run the gamut of fraud. With more than 1,000 victims, from small investors to large banks, the losses are in the millions."
The charges filed earlier this week include perjury, money laundering, extortion, bankruptcy fraud, narcotics trafficking and firearms offences.
According to documents filed earlier this week in the US District Court for the Southern District of New York, it was through Centurion Consulting that the Feds were able to collect the evidence they needed to crack open the alleged ring of forex and securities fraudsters.
The sting involved placing Centurion Consulting and an FBI agent posing as a hedge fund manager at the heart of the alleged fraudsters' operations in the World Financial Center in New York. "When the FBI placed an undercover in the forex world posing as a bad guy ... he had more criminal schemes thrown at him than you could imagine," Comey said.
Large and small players hit by fraud
The sweep netted traders at major financial institutions as well as 'boiler-room' dealers who target small investors.
According to the criminal complaint, some of the world's biggest banks were defrauded by corrupt players inhabiting every level of the largely unregulated forex inter-bank market, where financial institutions and other large entities arrange their own swaps in foreign currencies.
Traders took pay-offs, often in cash-stuffed envelopes, to steer their own banks into loss-making currency trades which were set up by corrupt brokers elsewhere.
Among those banks affected were JP Morgan Chase; Société Générale; UBS Warburg Dillon Read; Dresdner Kleinwort Benson; and Israel's Discount Bank. Employees of Tullett Liberty and ICAP were also charged.
Over a single six-month period, the FBI's sting recorded 123 rigged trades totalling in excess of USD 650,000.
"This had been going on far and wide for 20 years so the imagination runs wild as to the total loss," Comey said.
Comey said the case should also serve as a warning to small investors who might be conned into investing funds in bogus financial firms with fancy names that promise safe returns from forex operations. He said: "They're not fancy, just fraudulent."
Come added: "There may be legitimate commerce, but there are a lot of sharks in that water. If you are going to go swimming, we in law enforcement suggest a period of careful reflection from the beach before you jump in."
The FBI Sting
The FBI 'sting' began in the spring of 2002 after the FBI learned from a "cooperating witness" of alleged fraudulent activity in the massive foreign exchange market.
The FBI created Centurion Consulting, its fake hedge fund, in May 2002, 'managed' by an undercover FBI agent. Shortly thereafter, the so-called hedge fund manager was introduced to four of the alleged ringleaders of the scam - Vito Napoletano, Leonard Basman, Ian Scott Bursztyn and George Omeste. According to an affidavit, the cooperating witness told the FBI he had been involved with these four in other forex scams.
Two months later, Napoletano apparently decided the alleged scheme would get a major league address; through a shell company called Oxford Capital Group LLC he entered into a lease agreement for space on the 36th floor of 2 World Financial Center, a building that houses several major Wall Street groups.
A month later Napoletano allegedly struck a deal that would mark the beginning the end for the alleged trading scams: he allowed the cooperating witness and the FBI-operated Centurion Consulting hedge fund to occupy office space in his suite at 2 World Financial Center. By then two of Napoletano's firms - Madison Deane & Associates Inc. and Free Star Capital Inc. - had moved into the same address.
Regulators charge that Madison Deane was a 'boiler room' operation that employed 20 to 50 brokers who used hard sell, cold call tactics to get individuals to invest in bogus or non-existent currency trading strategies. Free Star was described by investigators as a forex trading firm.
By November 2002 the FBI began to covertly monitor and record both audio and video conversations. The CFTC said federal agents had infiltrated the forex operation in the World Financial Center and captured "hundreds of hours" of video and audio recordings of defendants allegedly scheming to deceive unsuspecting customers and steal millions of dollars. The video and audio tapes are expected to provide crucial evidence in this case.
CFTC and SEC Take Action
The FBI investigation, which involved the CFTC and the Securities and Exchange Commission, lead to the arrest of 47 individuals on Tuesday and Wednesday this week.
Along with the criminal charges announced Wednesday, the Commodity Futures Trading Commission (CFTC) announced it filed six separate civil complaints charging a total of 31 individuals and entities with fraud in the sale and solicitation of illegal foreign currency futures contracts.
Related civil charges were also brought by the Securities and Exchange Commission.
copyright hedgeweek 2003