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Project on Government Oversight

Did Education Department Officials Leak Market-Sensitive Info to Stock Traders?

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June 13, 2011

The Department of Education (DoED) in Washington has never been known as a hotbed for scandal. But now, following the widely-reported announcement of a new DoED rule governing companies in the lucrative, for-profit education sector, DoED Inspector General (IG) Kathleen Tighe will be the first and perhaps the only person to look into controversial claims that may implicate the office of Education Secretary Arne Duncan.

“I am confident that the independent audit we are conducting will address the issues that have been raised,” Tighe told POGO.

Among other things, Tighe will examine whether confidential DoED information and draft documents, including one produced by her own office, were transferred to Wall Street short-sellers seeking informational advantage in their bets on the future of the $35 billion for-profit education industry. Beyond the propriety of the Education Department's conduct, the phenomenon raises broader questions about the integrity of government decision-making in the face of relentless Wall Street scrutiny.

The case is also among the latest high-profile examples of Wall Street or individual investors trying to access non-public government information. Another involves a Food and Drug Administration chemist who in March was alleged to have misappropriated confidential agency information about drug tests to make $3.6 million in the stock market.

One sign of Wall Street’s strong interest in the government’s influence over for-profit education came at an invitation-only, $4,000-per-person investment conference held in Manhattan not long ago, where a pair of well-known stock gurus and short sellers highlighted the sector, one arguing that government regulation would boost its fortunes, the other predicting a crackdown by regulators that could spell financial ruin.

Publication of the new DoED rule granting for-profit education firms lighter regulation immediately drove up the stock price of certain companies, some by more than 25 percent, in one case adding up to $700 million in extra value to the giant Apollo Group, which owns Phoenix University.

That outcome reflected a setback for both short sellers—who profit when the stocks lose value—and for experts inside DoED who had been soliciting their advice in the apparent hope of tightening the rules that govern for-profit institutions.

In the end, last week’s rule announcement—the revision of a previous DoED rule deemed too harsh—established looser eligibility standards for students to receive hundreds of millions of dollars in federally guaranteed loans when they apply to for-profit universities. The regulation came at a time when for-profits have come in for criticism from many quarters. Last week, for example, the Senate heard expert testimony arguing that so-called "career colleges" had produced an alarming accumulation of student debt.

More important, last week’s new rule announcement also came after months of increasingly bizarre revelations about the written and personal interaction between some senior DoED officials and Wall Street short sellers. The portrait of that messy relationship began to emerge in recent months following the release of thousands of documents obtained from DoED under the Freedom of Information Act (FOIA)—pursuant to requests from for-profit industry groups, as well as from Citizens for Responsibility and Ethics in Washington (CREW), a non-profit watchdog that has been at the forefront of those seeking documentation. Both have turned over materials to the Securities and Exchange Commission (SEC) and called on the agency to conduct an independent investigation.

"Some people ought to be going to jail..."

While only a small number of the FOIA’d documents have so far been made public, the picture they paint is not a pretty one. Interest groups and Members of Congress have responded, asking for additional scrutiny of the issue. Grover Norquist, president of Americans for Tax Reform, recently called for an SEC investigation. Senators Joseph Lieberman (I-CT) and Michael Enzi (R-WY) have publicly expressed concerns about the role of short sellers, as has Thomas Coburn (R-OK), Ranking Member of the Senate’s Permanent Sub-Committee on Investigations. He called for the SEC to investigate whether DoED was “tipping hedge funds,” warning that, if proven, “some people ought to be going to jail in the Department of Education.”

Enter DoED IG Kathleen Tighe, a 50-something lawyer and 20-year veteran of the Inspector General community who previously served as Deputy IG in the Agriculture Department and before that as a trial lawyer in the Fraud Section of the Commercial Litigation Branch of the Department of Justice.

In an on-the-record session, POGO presented the IG with a few of the more unusual documents to pop out of the controversy. The documents offer apparent evidence of multiple leaks of confidential information from DoED officials to speculators, and at least one apparent leak of a market-sensitive, confidential audit generated by IG Tighe’s own office.

“I do not believe the leak involved anyone here [in the IG’s office],” Tighe told POGO.

Asked repeatedly if she would explore the possibility that members of Secretary of Education Arne Duncan’s staff might have been responsible, she offered no comment, saying only hat her broad-ranging inquiry—which also covers guidelines for contact between DoED personnel and outsiders—is expected to conclude over the summer.

“In a general terms, it would cause me a lot of concern if a report were disclosed prior to its final issuance,” she said, declining to address the issue more directly in the midst of her ongoing investigation. But she also made clear that if she finds evidence that confidential, market-sensitive reports or information from DoED did reach short sellers, she would not hesitate to open a separate “investigation” within her own IG office, and, if warranted, refer the matter for to the Securities and Exchange Commission or even to the Justice Department.

As she put it: “If we came to believe that insiders had traded on confidential information, we could refer it.”

Education officials email with short sellers

The first of the series of FOIA documents showed to IG Tighe demonstrates the apparent prevalence of leaks at DoED. It begins with an April 7, 2010, email from Ann Manheimer, DoED’s Director of Workforce Development, to Antal Desai, the head of CPMG, a Houston-based short selling firm.

At issue: DoED’s proposed rule (issued last week and usually referred to as the “gainful employment” rule) which established criteria permitting for-profit universities and their students to benefit from hundreds of millions of dollars in federal loan guarantees. The issue was crucial to for-profits, because nearly all their students seek loan guarantees in order to enroll. (Wall Street firms and speculators were paying close attention to the DoED rule, because a tougher rule would mean some for-profits would not qualify for loan guarantees, strangling their earnings.)

“Nice to speak with you today,” Manheimer’s emailed the short seller, who has no credentials in the field of education. “Suggest you send me your concepts [on the proposed new regulation]—by mid April if possible.” (Other FOIA’d documents show extensive consultation between DoED officials and short sellers, as the two sides shared opinions and discussed policy issues.)

Manheimer next informs Desai that the “The latest timing for the NPRM [Notice of Proposed Rule Making] is May (2010)—that is where there will be specific language to respond to during the comment period—subject to change, of course, Thx—Ann.”

Apart from the propriety of Manheimer’s communication with a Wall Street speculator, a week later, some of the same information she gave him showed up in a Morgan Stanley investment report.

On April 14, 2010, Desai sent Manheimer a just-released analyst’s report from Morgan Stanley, a report focused on DoED’s proposed rule-making for for-profit education firms.

Desai asked Manheimer: “Is this reporting correct?”

The Morgan Stanley report detailed what it said were the contents and internal DoED deliberations involving the proposed rule, some of which it says had been forwarded to the Office of Management and Budget (OMB).

The Morgan Stanley report concluded:

We await confirmation of these developments in the Notice of Proposed Rulemaking (NPRM), following review by the OMB, where the leak is said to have originated. Separately, another source informs us that the NPRM may be released in mid-May, earlier than our former expectation of June. (Emphasis added)

In her emailed reply, Manheimer refused to give Desai any guidance on the accuracy of the Morgan Stanley report, saying such guidance would be “inappropriate”—despite the fact that she herself had earlier emailed Desai some of the same information (on the timing of the Department’s proposed rule-making).

Several days after that, in another string of emails, Manheimer was offering to arrange a meeting and then a conference call involving Desai and David Bergeron, a senior DoED policy official involved in the new rulemaking.

Asked if Manheimer’s disclosures to Desai involved confidential, market-sensitive information, and if that information that could have been a source for Morgan Stanley’s investment report, IG Tighe offered no comment, and cautioned against jumping to conclusions in advance of the completion of her own report.

Asked whether the emails appeared to document an overly cozy relationship with short sellers and inappropriate disclosures of protected information by a DoED official, the IG had no comment.

Short seller demands changes to audit that would negatively impact for-profit's bottom line

Another series of documents shows that in April 2010, Manuel Asensio, a short seller banned by U.S. regulators from the banking industry, got in touch with DoED. His apparent goal: to offer the Department and the IG advice on regulating for-profit education firms and, especially, to get changed a then-confidential IG report on Iowa-based Ashford University, owned by publicly-traded Bridgepoint Education, Inc.

A partially redacted email shows that Asensio (or someone in his office) wrote to DoED:

I am from AES [Asensio’s non-profit, the Alliance for Economic Stability]… I called to provide you information about facts you have not discovered and the laws that have been broken… I called you to tell you that the methods you used at bridgepoint are deficient… The information you have provided is incomplete and grossly underestimates the severity and frequency of bridgepoint’s violations… thus oig’s report is adverse to the interest of taxpayers … Bridgepoint is as a matter of law and fact stealing millions of dollars from taxpayer [sic] every business day, and harming students in the process. Please call me at [phone number redacted]. Thank you.

Asensio also wrote several letters to Secretary Duncan, some calling attention to Tighe’s IG report. One letter dated July 1, 2010, told Duncan: “If the Inspector General’s … audit is not properly designed and executed … [it] will only embolden BPI’s [Bridgepoint Education, Inc.’s] peers to violate the law.”

The changes Asensio was demanding would have had a predictable negative impact on the for-profit’s bottom line and, presumably, its stock price.

Asensio seems to have created the Alliance for Economic Stability in late 2009, around the time that short seller interest in Bridgepoint reached nearly 40 percent of its stock market valuation. The Alliance for Economic Stability co-located its offices on New York’s Park Avenue with two financial companies controlled by Asensio and another financial firm that Asensio unsuccessfully petitioned the SEC to allow him to work for, following a previous ban on some of his investment activities.

Most of the Alliance for Economic Stability’s actions seem to have involved attempts to discredit non-profit education firms. In 2006, FINRA, the securities industry self-regulatory authority, banned Asensio from investment banking for life and, in 2010, both FINRA and the Securities and Exchange Commission denied his request to participate in the operations of an investment company. FINRA explained its decision, saying, “his re-entry into the securities industry at this time would pose a serious risk to the investing public.”

A subsequent Asensio email addresses Edgar Meyes, who serves as “director” of Duncan’s “Correspondence and Communications Control Unit,” according to the DoED website, which lists the unit as part of Duncan’s “Executive Secretariat.” Asensio’s email thanks Director Meyes for having spoken to him, and says the short seller is “still waiting for a response.”

In an apparent follow-up a few days later, a staffer in DoED’s IG office emails a colleague noting that Secretary Duncan’s staff has forwarded Asensio’s complaints to the IG. The email reads:

Today I was given a controlled document from the Office of the Secretary (OS) transmitting a complaint from [Asensio’s group] Alliance for Economic Stability, Inc. [AES]. The complainant requests an investigation of Bridgepoint Education, Inc., operator of Ashford University.

“Have you received the complaint?” the email asks. “If not, I would like to forward a copy to you for review and referral recommendation. The due date is June 1st.”

On May 27, 2010, a few weeks after the apparent leak of the IG’s confidential report to a short seller, documents show that Senator Thomas Harkin (D-IA), Chairman of the Health, Education, Labor and Pensions Committee, requested a copy of the sensitive IG audit. A Harkin staffer was told via email that she could see it, but only after Ashford’s parent company, Bridgepoint Education Inc., had exercised its right to comment on the report’s balance and accuracy. Harkin’s staff apparently accepted the delay, seemingly unaware that a short seller had already obtained detailed knowledge of the audit. Beyond expressing general concern (see above) and confirming her belief that the leak did not come from her own IG’s office, Tighe had no further comment.

Another noted short seller reaches out to the Department

In an email dated July 19, 2010 and sent at 9:45 a.m., noted short seller Steven Eisman emailed David Bergeron, DoED’s Budget Development Staff Director, a senior official involved in DoED’s approval process for the proposed new rule. The date of the email falls one week before DoED publicly released a version of the NPRM (now made final last week).

“I know you cannot respond,” read the subject-line of Eisman’s email. (Eisman was already famous for making millions of dollars betting against the sub-prime mortgage market during America’s recent financial collapse.) “But just fyi,” his email continued, “Education stocks are running [going up] because people are hearing DoED is backing down on gainful employment [the proposed rule].”

The text of the email, and response of DoED officials, appears to indicate they fully grasped the weight markets attached to the timing of their proposed rule making as well as their own internal deliberations, even as they handed out tips to short sellers.

Minutes later, Bergeron forwarded the short seller’s email to James Kvaal, a special advisor to the Undersecretary of Education. Minutes after that, Kvaal emailed Phil Martin, a confidential assistant to Secretary of Education Arnie Duncan. His message: “Let’s discuss.”

Eisman, who attacked for-profit education firms in testimony before Congress last June, heads a short-sale operation at FrontPoint Financial Services Fund that has targeted for-profit education stocks. FrontPoint is currently in reorganization amid charges of insider trading—none of which involve Eisman specifically. FrontPoint is owned by Morgan Stanley, whose analyst (see above) was paying close attention to DoED’s proposed rule, and had reported its likely timing in an analyst’s report. Inspector General Tighe had no comment.

Founded in 1981, the Project On Government Oversight (POGO) is a nonpartisan independent watchdog that champions good government reforms. POGO’s investigations into corruption, misconduct, and conflicts of interest achieve a more effective, accountable, open, and ethical federal government.

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