Inside Rick Lazio's Biggest Wall Street Deal—The Chummy E-Mails

Diverting nearly a billion in retiree benefits into subprime risk? Oh, just watch him work the e-mail.

Morgan isn't answering any questions about Lazio, not even on when his final day at the office was or whether it provided legal assistance for him during these probes. But Lazio has said he left in May, and he formed his campaign committee on May 22, two days after this explosive hearing. Even as he began his anti-Albany crusade, the U.S. Attorney for the Southern District, the PBGC IG, and the Senate Committee on Aging were launching inquiries into his conduct. Morgan finally delivered documents in response to Kohl's May letter on August 7. Requests to interview Lazio were rebuffed until Senate investigators threatened to depose him under oath. On September 30, nine days after Lazio formally announced his candidacy and months after he began his campaign, he finally talked for half an hour with Senate staffers.

On March 10, 2010, Batts wrote the four senators, telling them that her office and the Southern District had "concluded" their investigation of "Millard's contact with the companies and executives involved with the award" of the contracts and that "no charges will be filed." Two officials involved in the probes acknowledged that the primary reason why no charges were filed was because the companies, including Morgan, never got PBGC's assets, and the job-hunting efforts were derailed, ostensibly by the investigations.

What's most shocking about Lazio and Millard's determination to plunge ahead with this contract was that every outside observer was issuing warnings about PBGC's new alternative policy. Republican Senator Chuck Grassley, who ultimately signed the letter calling for the criminal probe, called the strategy potentially "disastrous" in August 2008, months before the contracts were awarded. As far back as April 24, the very day Lazio joined Morgan's asset management unit, the Congressional Budget Office did a report on the strategy and said it "increases the risk that PBGC will not have sufficient assets to cover retiree payments." Unconcerned, Millard then extended the proposed contracts from two to four years, trying to lock them in after he left.

Courtesy Michael Jagendorf

In July, the Government Accountability Office issued the report Millard anticipated at his conference at Morgan, concluding the policy as "carrying more risk than acknowledged." A GAO director later testified that the agency's "concern" at the time was that the PBGC board wasn't given "a balanced presentation" when it adopted the plan and "made a decision to go with the investment policy without having all the information" it needed, told only of the upside, not the risk.

That same month, Larry Kohn, a Morgan director, e-mailed Lazio with a copy of a brilliant piece in Institutional Investor filled with doubts about "Millard's gambit," including warnings from the Boston University professor who had crafted the earlier PBGC investment policy, Zvi Bodie, who said that the new strategy could accelerate the demise of traditional pensions. "I also have a paper on Zvi Bodie's point if interested," wrote Kohn, an offer that drew no response from Lazio.

In fact, PBGC lost more than $4 billion in 2008 prior to the award of the contracts. On October 24, 2008, the same day that Millard began his week of blackout period contacts with Lazio, he weathered an extraordinary barrage of questions from Congressman George Miller at a hearing of the House Education and Labor Committee he chairs. Millard claimed that the losses PBGC was taking were better than the devastated market, but Miller pointed out a 23 percent drop in equities, declaring it "a little disingenuous" for Millard to suggest "that the equity thing is going swimmingly." Miller forced Millard to concede that his new policy was chasing yield in securitized emerging market debt, large U.S. and European office properties, and junk bonds.

The O'Shea memo after the June meeting with Millard said he was "happy to have passive exposure, even for REITS," the already troubled real estate investment companies. "No HF's at this point," wrote O'Shea, suggesting that even hedge fund investments might come later.

When Miller pressed Millard about these alarming risks in an economy already imploding, Millard hid behind the wisdom of the managers he was about to pick. "The world is littered with institutions who relied on other people to make those choices for them," said the congressman. "They all hired the smartest people in the room." Millard went home that night and reached out for Rick Lazio, the person he was betting a billion in worker assets on, unhindered by Miller's warning.

The state Lazio now wants to lead has more than 4,000 plans with more than five million employees that are covered by PBGC.

It's true that Morgan had trimmed its mortgage security exposure and was better positioned than other firms in 2008. But it was still America's leading credit default swap player, with $81 trillion in what's called "notional" derivatives outstanding, a market that is little more than a "notion." Thirty-six percent of Morgan's $328 billion in prime, subprime, and home equity loans were "credit-impaired" at the end of 2008, just when this deal was done.

It is one thing that all of this risk was worth it to Millard, who will never be heard from again in public life.

It is quite another that a would-be governor, hungry for a deal and a bonus, cared so little.

Additional research assistance by Gavin Aronsen, Michael Cohen, Nicole Maffeo, Adam Schwartzman, and Jenny Tai

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