Sorry, Judge Rakoff: You Can't Give the SEC the Galleon Wiretaps. . .Yet

U.S. District Court Judge Jed Rakoff gained some fame in financial circles for making the Securities and Exchange Commission strengthen its settlement with Bank of America, then approving even the beefed-up pact only begrudgingly because he still believed heads didn't sufficiently roll. He appears so zealous about righting Wall Street's wrongs that when Judge Denny Chin had to withdraw from 15 shareholder suits against Bank of America (BAC) because he was being appointed to an appellate judgeship, the bank sent him a letter pleading with him to not give the cases to Rakoff. But Rakoff's zeal see people held accountable has just gotten his wrist slapped by the Second Circuit Court of Appeals.

Both the Department of Justice and the Securities and Exchange Commission have brought suits claiming Raj Rajaratnam and his colleagues at Galleon Group engaged in a vast insider-trading conspiracy. The Department of Justice's criminal case is built on a mountain of wiretap evidence: 18,150 communications involving 550 people taped off 10 phones.

(It's worth noting that the DOJ's use of wiretaps in this case represented a tactical sea change in its pursuit of financial malefactors: Prior to this, wiretaps were primarily used against alleged drug lords, mobsters, terrorists and the like. Now, "and the like" also includes alleged Wall Street fraudsters.)

Why Not Share Evidence?

The government's criminal case is strong enough that it has already netted a dozen guilty pleas, although the two biggest fish, Rajaratnam, and Galleon executive Danielle Chiesi, have pleaded not guilty and are awaiting trial. The outcome of that trial -- indeed, the chance that either will plea bargain instead -- almost certainly hinges on whether or not the wiretaps were legal and can be used as evidence, or are suppressed instead.

The SEC's civil case is pending before Judge Rakoff, who in February took the step that earned him that Second Circuit wrist slap: He ordered the Galleon defendants to give the SEC the mountain of wiretap evidence that Justice had turned over to them.

Now I'm sure some of you are wondering: If Justice has the wiretaps, why doesn't the SEC? It's one federal government, after all. But that's not how wiretap evidence works. To protect the privacy of the innocent people recorded, and the privacy of the alleged crooks as it regards irrelevant matters, wiretap information isn't shared easily, even among governmental divisions. Judge Rakoff, in granting the SEC access to the wiretaps, noted that argument, but pointed out that the Galleon defendants hadn't cited any statutes requiring that discretion.

No Statute Bars Sharing

On the other hand, the Second Circuit had previously shown its commitment to protecting the privacy of wiretapped communications, as noted in a friend of the court brief, by holding that wiretaps had to be treated in a way that minimized disclosure for privacy reasons, so much so that breaking the "minimization" rule could result in otherwise legal wiretaps being suppressed.

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In vacating Judge Rakoff's order to give the SEC the wiretaps, the Second Circuit acknowledged that no statute barred the information sharing, and even agreed that the SEC had a right to get the wiretapped information, because if the wiretaps are relevant to the SEC's case, the defense now has access to important information the SEC doesn't. However, the court said, that right had to be balanced against the privacy interests at stake, something Rakoff had failed to do. On the current record -- that is, with the legality of the wiretaps still in doubt and the relevancy of the wiretaps unclear -- the court found the privacy interests outweighed the SEC's right of access.

This ruling is a slap to Rakoff for two reasons. For starters, the court decided it didn't have the jurisdiction as a normal matter to review Rakoff's decision at this stage of the case. But it found the need to draw this line so important, it used a special procedure, mandamus, to order the judge to reverse his decision. Second, in order to undo the decision, the court had to decide that Rakoff "abused his discretion," a very hard standard to meet. Given that the finding essentially says Rakoff was really out of line with his order, there are undoubtedly defense lawyers for banks and white-collar defendants out there somewhere snickering gleefully.

That glee could be short-lived, however: As the SEC has noted, the Second Circuit's decision doesn't mean it can never get the wiretaps. If the wiretaps are legal, and an effort is made to turn over only relevant ones, the SEC will be able to get its hands on the evidence it wants.