Federal and state authorities joined Tuesday to bring civil and criminal actions against a former trader for the Bank of Montreal (BMO), his supervisor and three executives at a brokerage firm of the bank for deceiving and defrauding the bank about the true value of its natural gas options book.

Bringing complaints and charges against ex-natural gas traders for BMO, the fourth largest bank in Montreal, and Optionable Inc., a former brokerage firm for the bank, were the Manhattan District Attorney Office and the U.S. Attorney for the Southern District of New York, the Commodity Futures Trading Commission (CFTC), the Securities and Exchange Commission (SEC) and the Federal Reserve Board.

A grand jury for the U.S. District Court for the Southern District of New York Tuesday returned a multi-count indictment charging former Optionable CEO Kevin Cassidy with criminal counts of wire fraud, making false statements to a bank, making false and misleading statements to the SEC and securities fraud. If found guilty Cassidy would, among other things, be required to forfeit all property from his allegedly illegal transactions.

The indictment accuses Cassidy of providing a fake name and social security number to conceal his criminal record during negotiations with Atlanta-based IntercontinentalExchange to purchase an interest in Valhalla, NY-based Optionable, which operates an electronic trading system. BMO was Optionable's biggest customer until the bank suffered more than $400 million in trading losses and pulled the plug on doing any more business with Optionable. Cassidy left the company in May 2007, shortly after the trading losses were discovered.

"Kevin Cassidy, the defendant, helped [former BMO gas trader] David Lee conceal the inflated value of Lee's positions as a way of [providing an incentive for] Lee to use Optionable to execute Lee's commission-generating trades," the indictment said. "Cassidy...stood to profit, and in fact profited, from increases in the amount of trading business that Lee sent to Optionable." Lee is not named as a defendant in the indictment, but he was at the center of the CFTC's complaint that also was filed in federal court for the southern district of New York.

The CFTC's five-count complaint cited BMO's Lee; Robert B. Moore, Lee's former supervisor; and Cassidy and Edward O'Connor, former president of Optionable, with deceptive and fraudulent trading practices.

Lee is accused of mis-marking and mis-valuing natural gas options positions, thus inflating the value of his book so it would appear to BMO that his trading was more profitable than it really was. As a result of Lee's activities, the BMO gas book was unlawfully inflated by approximately C$221.87 million as of Jan. 31, 2007 and C$257.8 million as of March 30, 2007, the CFTC said.

After the scheme was discovered, BMO restated its financial results by reducing net income for the first quarter of its 2007 fiscal year by approximately C$237 million (US$204 million), which reflected a 68% overstatement of BMO's net income for that quarter (see Daily GPI, May 21, 2007).

Beginning in 2003, the CFTC said Lee and several BMO brokers, including O'Connor and Cassidy, knowingly deceived and defrauded the BMO employees who verified the value of Lee's natural gas book.

Cassidy has had a checkered past, according to the CFTC. He was charged with credit card fraud and money laundering in Florida in 1993. In 1996, he pleaded guilty to the two felony counts and was sentenced to prison, where he served three years. Cassidy also was convicted of tax evasion in New York in 1993 and sent to prison for six months, which was followed by three years of probation. And in 1987, he was charged with wire fraud in Massachusetts and sentenced to a year's probation and ordered to make restitution.

Lee's former supervisor, Moore, was BMO's commodity products group executive managing director. The complaint alleges that Moore violated the Commodity Exchange Act by failing to implement an adequate level of supervision over Lee and failing to act in good faith as Lee's controlling person.

The SEC complaint accused four parties -- Cassidy, O'Connor, Lee and Scott Connor, a commodity broker at Optionable until May 2007 -- of scheming to overvalue the commodity derivatives trading portfolio of BMO and thereby inflating BMO's reported financial results. This activity went on for more than four years, according to the agency.

Lee colluded with the Optionable executives and traders to have Optionable simply "rubber-stamp" whatever inflated values Lee recorded, the SEC said.

The agency further alleged that Cassidy and O'Connor defrauded Optionable's public shareholders by concealing Optionable's role in the scheme. It also said Cassidy and O'Connor defrauded the New York Mercantile Exchange (Nymex) by selling more than $10 million of their own Optionable stock to Nymex in April 2007. Both men represented to Nymex that Optionable's periodic reports were materially accurate, but they never disclosed anything about their scheme with Lee to defraud shareholders of BMO, the SEC said.

On May 9, 2007, one day after BMO placed Lee on leave and suspended its business relationship with Optionable, Optionable issued an announcement saying the suspension would have an adverse effect on its business, Optionable's stock price fell almost 40% that day, from $4.64 to $2.91, and dropped to below 50 cents/share one week later after Cassidy's prior criminal record was revealed (see Daily GPI, May 15, 2007).

The SEC complaint seeks a permanent injunction against future violations, disgorgement of ill-gotten gains plus prejudgment interest and civil monetary penalties. It also seeks an order barring Cassidy and O'Connor from acting as officers or directors of a public company.

Lee already has pleaded guilty to parallel criminal charges brought by the U.S. Attorney's Office for the Southern District of New York and the New York County District Attorney's Office. He has agreed to settle the SEC charges by consenting, without admitting or denying the SEC's allegations, to the entry of a permanent injunction against future violations of various provisions of the federal securities law. The SEC's claims for disgorgement and civil penalties against Lee remain pending.

The SEC said its investigation is continuing.

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