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Saturday, January 25, 2014

Scorsese's Pump and Dump

by Doug French

Former prosecutor Joel Cohen tells the Wall Street Journal the movie "The Wolf of Wall Street" should not have been made. Mr. Cohen believes the mere fact Hollywood megastar Leonardo DiCaprio portrayed the penny stock hustler glamorizes a criminal who, while very charming, woke up everyday wondering how he could break the law.

One would think any movie that annoys the ex-government prosecutor who took down Jordan Belfort and his firm Stratton Oakmont that much must be worth seeing. Unfortunately, securities fraud is hard to depict on the screen in a way that holds the moviegoer's attention, especially for nearly three hours.

"Pump-and-dump" is not as visual as, say, a gunfight. It is far easier to show characters enjoying the fruits of what the government considers fraud. So while there is the occasional reference to selling stocks of worthless companies and a cold call or two depicted along the way, most of what Martin Scorsese shows is the old Wall Street party stand by?cocaine being snorted from various body parts of naked females.

One wonders if any real crime was actually committed. Is it the role of government to prosecute individuals for calling people on the phone, stretching the truth, and selling dubious investments? There are multiple government agencies involved in regulating this sort of activity and investors sadly think the Securities and Exchange Commission (SEC) and the FBI force salespeople to tell the truth. ?Good luck with that.

As far as money laundering and shipping money offshore to avoid prosecution go, who is the victim? ?Scorsese's message seems to be it?s against the law to make lots of money and blow it on hookers and drugs.

Belfort gets started at a large Wall Street firm selling blue chip shares. He's mentored by Mark Hanna (Mathew McConaughey) who assures the young trainee the objective of selling stocks is to transfer clients' money to the brokers' pockets. Making clients money is not the idea. Any profits are on paper only and the broker must be sure to roll those profits, to the extent there are any, into other "ideas" before the client can turn them into actual dollars. The only people making cold hard cash for spending are the brokers.

The firm goes under and Belfort seeks other employment. He's about to take a retail sales job believing no one is hiring stock brokers when his wife spots an ad looking for that very thing. Scorsese's depiction of the penny stock chop shop is perfect. Located in a dumpy strip center, Belfort discovers a room full of losers, not a quotron terminal in sight, selling shares from the Pink Sheets (companies that don't meet the financial reporting criteria to be listed on NASDAQ or one of the other exchanges).

Belfort is stunned when he learns he can earn 50 percent commissions selling this junk. And sell it he can, spinning elaborate tales about the amazing profit potential of companies he knows little about. He sells dreams of riches to working folk.

What "Wolf" neglects is to actually show us a customer. Moviegoers saw Harry Reynard's anguish when he lost his life savings in "Boiler Room" a 2000 movie also based upon Stratton Oakmont. And who can forget the beaten down James Lingk (Jonathan Pryce), who falls for Ricky Roma's (Al Pacino) soft sell in David Mamet's masterpiece "Glengarry Glen Ross," the classic in this genre and a much superior movie to Scorsese's.

Belfort soon starts his own firm and hires a collection of old friends and odd balls to pitch shares. The idea is to gain customer confidence by first selling blue chips and then make the real money later pushing penny stocks. Belfort then instructs his sales force to sell the pink sheet shares to rich people exclusively, forgetting the middle class cliental.

Presumably rich folks are sophisticated investors, but like the poor they're always wanting to make something for nothing.

To make the real money, Belfort gets into the initial public offering (IPO) business. In the movie Belfort takes Steve Madden Shoe company public. Madden was a high school buddy of Belfort's partner Danny Porush (renamed Donnie Azoff in the movie).

The SEC enforcement attorney on Belfort's case, Ronald Rubin, wrote an op-ed for the Wall Street outlining how Belfort made his millions. Stratton Oakmont would sell the IPO shares to insider friends who would in turn sell the shares back to the firm at a small profit. The Stratton sales force would would then line up buyers.

Customers were told they couldn't get in at the initial price. Friends of Belfort and Porush would buy and sell shares between them at ever increasing prices until the shares hit the price Belfort was looking for and then the customer orders were filled at the highest price.

Then the money really started rolling in. More staff are hired. Forbes does a hatchet piece on ?Belfort which only makes more young brokers want to work for him. ?Management never grows up. A new wife is married. The parties get wilder. The drugs get heavier. Midgets get tossed.

Rubin provides a key admission in his analysis. "The run-up from $4 to $12 could be accomplished in minutes. This was a common first-day trading pattern for legitimate hot IPO stocks during the 1990s, so the manipulation wasn?t obvious," he writes.

What Scorcese's story leaves out is that Stratton Oakmont was wheeling and dealing during the late 1990's tech stock boom. Cheap Fed money sent everyone looking for easy riches and Belfort's salesforce was there to feed their customer's hopes and dreams. ?Who could tell the difference between and the shares Stratton was pitching?

Rubin writes that the same boiler-room fraud wouldn't work today, ?"so long as the Securities and Exchange Commission and the Financial Industry Regulatory Authority (Finra) did their jobs, but the same was true in Stratton Oakmont?s time."

Belfort was a charismatic leader who created tremendous loyalty among his workforce. DiCaprio makes a couple stirring speeches to the Stratton Oakmont troops. But the government picks up Belfort' trail and ultimately he shows what kind of guy he really is.

Prosecutor Cohen is especially unhappy that DiCaprio's Belfort appears with the real Belfort himself at the end of the movie pitching Belfort's real life motivational speaking enterprise. But I thought it a fitting end to an overly long movie. Belfort is no Willy Loman. There is always something to sell, memories are short, and suckers are always ready to get rich.
Douglas E. French is a Director of the Ludwig von Mises Institute of Canada. Additionally, he writes for Casey Research and is the author of three books; Early Speculative Bubbles and Increases in the Supply of Money, The Failure of Common Knowledge, and Walk Away: The Rise and Fall of the Home-Owenrship Myth. French is the former president of the Ludwig von Mises Institute in Auburn, Alabama.

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