It’s possible to look at the Security and Exchange Commission’s recent complaint against hedge fund legend Lee Cooperman, founder of Omega Capital, from several standpoints. But perhaps the most important is the strong tone and clear verbiage the SEC used in describing multiple counts against Cooperman.  Juxtapose this to the period in history when the alleged infractions occurred – 2010 – is to recognize a different attitude towards Wall Street crime investigations may be upon us.

Cooperman, for his part, “is highly disappointed” in the SEC filing charges, he told investors in a letter sent today and reviewed by ValueWalk.  He believes “information is not a crime,” and the timely additions to the portfolio – Cooperman was on the phone instructing subordinates to buy Atlas Pipeline Partners (APL) securities after learning about a recent company event – were, in part, nothing but portfolio re-adjustments for investors who were underweight the company’s stock, he said in the letter.

For background also see

see Leon Cooperman Updates Investors On SEC Subpoena

And more background here on the subpoena

Lee Cooperman A key issue Cooperman raises is relative to his exposure
A key issue Lee Cooperman raises is relative to his exposure

Lee Cooperman – SEC points to knowledge of inside information, trading on that information, informing others about his inside information and success with the trade

The SEC complaint against Lee Cooperman – released Wednesday – paints a damning picture.

On July 20, 2010 at 9:43 AM, the SEC alleges Cooperman had a conversation with an APL executive for nearly seven minutes. As soon as he hung up, his next call was at 9:50 to the Omega Consultant trading desk. He didn’t just say, “Buy APL,” he added color, telling the Omega Consultant that APL had just reached a deal to sell Elk City for $650 million. Knowledge of the deal was not yet public.

Lee Cooperman was giving orders for trade execution full throttle, ordering 3,800 out of the money call options purchased (representing 90% of the trade volume that day). He also purchased APL bonds directly for a family member and shares of stock.

The APL executive who provided Cooperman the information thought that they had an understanding that Cooperman would not trade on the information, the SEC alleged. “Unbeknownst to APL Executive 1, Cooperman and Omega used this information to trade and acquire APL securities in advance of the public announcement of the Elk City sale, which Cooperman understood would be beneficial for APL’s stock price,” the complaint read.

Lee Cooperman cooperman-9-21-position-exposure-2
Lee Cooperman

SEC says Lee Cooperman family member informed of “good news” then calls APL executive to fabricate story

That night Cooperman sent an email to a family member who is also a hedge fund, informing him of the “good news on APL.”

On July 28 the company finally went public. Cooperman emailed a family member, noting they “will be please to know the bond I bought the other day had risen 7% in price as the company just sold some assets…”

After Cooperman sent the “good news” email to a family member, saying he thought the stock was worth $15 per share, that person, assumed his hedge fund manager son, forwarded it to a colleague who said: “That explains the fishy $17 August calls, etc.” The family member ironically responded “Somebody should investigate that,” pointing to an investigation into Cooperman that would follow.

Cooperman’s family member also emailed APL about the suspicious trades: ““I also would like to make sure that the SEC looks into the shady options trades,” they wrote. “How do I become a whistle blower?”

Seventeen months following the incident, the SEC issued a subpoena to Cooperman. At this time, the SEC complaint says “Cooperman contacted APL Executive 1 and attempted to fabricate a story” in case the executive was questioned. The SEC also alleged “Cooperman violated the beneficial ownership reporting provisions of the federal securities laws over 40 times.”

Leon Cooperman
Image source: CNBC Video Screenshot

Lee Cooperman was just conducting “fundamental research” and regulators don’t understand his exposure

Lee Cooperman, in a letter to investors, defended his legacy. “We have done nothing improper and categorically deny the Commission’s allegations,” he wrote. He claimed he was conducting nothing more than “fundamental research” on APL, which includes face to face interactions. He then recommends some late summer reading:

We have done nothing improper and categorically deny the Commission’s allegations. As I wrote last year when we first received the subpoenas, I have throughout my fifty-year career in the securities business firmly believed in detailed, fundamental research. As I explained then, that approach has long contemplated direct, face-to-face interactions with company management. Such exchanges of information with company management are appropriate, well-established in the industry, and even necessary. As a Wall Street Journal op-ed put it just last year, “information is not a crime.” Although we don’t think it would be productive to state here our views on what we believe to be a seriously misguided effort by the authorities in these matters, we would refer anyone who is interested to Three Felonies a Day: How the Feds Target the Innocent by Harvey A. Silverglate and Licensed to Lie: Exposing Corruption in the Department of Justice by Sidney Powell, both of which provide fascinating insights into the machinations of our country’s criminal justice system.

While we cannot discuss all the specifics of these matters as they are ongoing, we believe it is important for us to provide you with some basic facts concerning the Commission’s charges.

As noted, the Commission’s charges relate to a single company, Atlas Pipeline, and concern trading during a three-week period more than six years ago. Atlas Pipeline was one of several companies controlled by the Cohen family, a number of whose members I had known for many years. Omega first invested in the company in June 2007 — more than three years before the events at issue in the Commission’s complaint — through a Private Investment in Public Equity (PIPE) transaction. (We had been investors in Atlas-related companies since 2002.) At that time, we acquired more than 1.9 million shares for about $44 per share, or more than $80 million worth of APL shares. We invested in the company based on the fundamental research, detailed analysis, and recommendation of a former Omega investment analyst who left the firm several years ago.

From Cooperman’s point of view, he was just adjusting the portfolio to accommodate new investors and APL was a small percentage of Omega’s overall portfolio:

Significantly, the stock purchases by Omega cited in the Commission’s complaint were made for only two managed accounts — one of which was new to the firm at the time — that were underweighted in Atlas Pipeline stock compared with Omega’s other managed accounts. Specifically, prior to the July 13 purchases, these two accounts had 0.9% and 0.0%, respectively, of their net asset values invested in APL stock. By contrast, the other seven accounts managed by Omega at that time had between 1.4% and 1.6% of their respective net asset values invested in APL stock. As a general matter, to the extent that multiple accounts have substantially the same investment mandate, we try to manage them pari passu, subject to capital availability, market prices and similar factors.

Despite calling APL a “shi#ty business,” according to the SEC complaint, Cooperman, extols the firm’s virtues in a letter to investors:

Omega did not purchase Atlas Pipeline shares in July 2010 for any of the Omega funds in which I had my own capital invested. Moreover, the shares that were purchased for two of the firm’s clients in July 2010 represented an insignificant investment for Omega. Specifically, from July 13, 2010 until July 19, 2010, Omega purchased a total of 343,600 APL shares for these two clients, at an average price of less than $11 per share, for a total investment of $3.8 million. Omega’s $3.8 million investment in Atlas Pipeline in July 2010 represented less than 0.08% of Omega’s assets under management at the time. In addition, Omega already had purchased approximately $152 million in APL stock prior to July 2010, so the additional investment of $3.8 million represented only a 2.5% increase in Omega’s cumulative investment in Atlas Pipeline at the time.

Critically, following the announcement on July 28, 2010 that Atlas Pipeline had sold the plant at issue, Omega sold no shares in the company. In fact, Omega sold absolutely no APL shares for more than one year after the announcement. Instead, we continued to build our position, buying more than 100,000 additional shares of the company’s stock in August and September 2010, resulting in holdings of more than four million shares. When we finally did sell some stock, we sold only 6,100 shares in August 2011, and maintained a net long position — even as the stock price fell into the single digits — until we sold out of our position just last year.

The Commission’s allegations are also based on stock trades in my personal and deferred compensation accounts, and on bond and options trades in those accounts and by Omega, but we have complete defenses to those allegations, too.

In regards to the options positions, Lee Cooperman  notes that he sold calls, not purchased calls:

The allegations based on trades in APL call options in July 2010 are equally unfounded. Between February and May 2010, Omega sold 11,230 APL call options for premiums totaling approximately $1,160,000. The options had strike prices of $15.00 and $17.50, and expiration dates of August and November 2010, respectively. Thus, Omega was selling to the purchasers of those call options the right to buy Atlas Pipeline stock before expiration at prices of $15.00 or $17.50. The holders of those call options would have a financial incentive to exercise them if, before expiration, APL’s stock price rose above the option strike price.

That remained Omega’s position in APL call options at the start of July 2010. If Omega had done nothing further with its Atlas Pipeline options position in July 2010, then, following the Elk City announcement, when APL’s stock price rose from a July low of $9.16 to $16.22, the holders of the $15.00 call options presumably would have exercised them. At that point, Omega would have sold some of its Atlas Pipeline stock to the option holders for the strike price of $15.00 per share, thereby realizing (lawfully, and without taking any additional steps) more than 90% of APL’s stock price following the Elk City announcement.

But Omega didn’t do that. Instead, in July 2010, as the price of the August $15.00 options declined to as low as $0.05 per option, Omega purchased the exact number of APL $15.00 call options it had sold earlier in the year, which offset its existing APL options position. As a result of flattening out its options position, Omega didn’t realize any gain from the increase in Atlas Pipeline’s stock price following the Elk City announcement. It is illogical, and defies common sense, that the SEC would bring an insider trading case based on that trading pattern.

Additionally, there was an independent economic reason for Omega to purchase call options that July. Selling call options while long the underlying stock (“writing a covered call”) is a common, income-generating strategy, reaping the seller the premium received from the sale of the options. In July 2010, the $15.00 options that Omega had sold for $1.32 in February and March 2010 were trading for as little as $0.05, generally the lowest possible quoted price for an exchange-traded option.

On July 7, 2010, the day after Atlas Pipeline’s stock fell to its lowest closing price of the year, Omega began purchasing those $15.00 call options at a price of just $0.05 per option. Between July 7 and July 13, Omega flattened out its position in the August $15.00 options for an average price of $0.07 per option. Thus, Omega was able to flatten out its position while giving up only $0.07 (or 5%) of the $1.32 premium it had received per option.

Significantly, because its APL options purchases in July offset all of Omega’s earlier sales of the same options, Omega was never long any Atlas Pipeline calls prior to the Elk City announcement. If Omega had established a long position in APL call options at $0.05 rather than flattening out its position, it would have stood to make a substantial profit from the increase in the stock price following the announcement. Omega didn’t do that.

With regards to providing his son nonpublic information regarding the deal, he notes they had a difference of opinion on the stock:

It also bears mention that I was at the time the largest investor in Cobalt Capital, the hedge fund run by my son, Wayne. In July 2010, Cobalt was short APL stock. As such, Cobalt (and by extension, I) stood to lose money if APL’s stock price rose. But, as my son is prepared to testify if need be, I didn’t share with him any information concerning the Elk City transaction or even know what position Cobalt had in APL securities at the time.

He wasn’t positioned positively to capture opportunity on APL stock, is Cooperman’s central claim:

In short, none of the APL trading at issue is indicative of someone trying to position themselves ahead of an anticipated market-moving announcement, or to reap profits from inside information. Our approximately eight-year investment in Atlas Pipeline was based on fundamental research, rigorous analysis, and insight — not inside information.

Lee Cooperman was scheduled to have a conference call at 4:15 today to discuss the issues in detail.