Grassley: Why Did SEC Drop Bear Stearns Probe in '05?

April 3, 2008— -- A curtailed fraud probe of failed financial giant Bear Stearns has led one senior lawmaker to question the Securities and Exchange Commission's ability to do its job.

Three years ago, the SEC investigated allegations Bear Stearns may have fraudulently priced mortgage-related investments -- some of the very products whose plummeting value led to the firm's meltdown last month. But it declined to file suit against the firm, even though some of its own employees thought it was advisable.

Bear Stearns announced the SEC probe in public filings in July 2005, as well as its decision to set aside $100 million in legal reserves to handle the investigation and possible litigation.

One SEC office reportedly planned to recommend civil charges against the firm for allegedly inflating the value of certain mortage-related securities.

But by December 2005, the SEC had informed Bear Stearns it had closed the investigation and would bring no charges, according to a December 2007 article in the Wall Street Journal. Another 2005 probe of the firm, by then-New York Attorney General Eliot Spitzer, also reportedly ended without prosecution.

"Given the later collapse and federally-backed bailout of Bear Stearns, Congress needs to understand more about this case and why the SEC ultimately sought no enforcement action," Sen. Charles Grassley, R-Iowa, wrote SEC Inspector General David Kotz on Tuesday, asking him to investigate.

Grassley implied the SEC may have gone easy on Bear Stearns because of the firm's perceived clout. He cited a congressional probe from last fall which found that SEC investigators treated Morgan Stanley CEO John Mack with "undue deference" because of his "Wall Street prominence and ability to hire prestigious counsel."

At the time, SEC Chairman Christopher Cox said he would follow up on the report's recommendations "with energy and urgency." The probe, which Grassley helped lead, found no evidence Mack had directly intervened to obtain preferential treatment by investigators.