With ego too big to fail, Iowa broker admits 20yr fraud

CEDAR RAPIDS, Iowa/CHICAGO Sat Jul 14, 2012 6:55am IST

1 of 2. The building housing the PFGBest headquarters is seen in Chicago July 11, 2012.

Credit: Reuters/John Gress

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CEDAR RAPIDS, Iowa/CHICAGO (Reuters) - Russell Wasendorf Sr, arrested on Friday, confessed to a 20-year fraud at his now-bankrupt Iowa brokerage, saying business troubles and his "big" ego left him no choice: "So I cheated."

In the dramatic conclusion to a week-long saga that has shaken trader confidence in the trillion-dollar U.S. futures markets, authorities released parts of a detailed statement in which one of the industry's best-known veterans explained how he used little more than a rented P.O. Box, Photoshop and inkjet printers to dupe regulators in a more than $100 million scheme.

FBI agents arrested Wasendorf, 64, at the Iowa City hospital where he has been since trying to commit suicide on Monday. He was charged with making false statements to regulators, but prosecutors said they would seek more charges. He faces "decades in prison", Assistant U.S. Attorney Peter Deegan said.

In the signed statement, left along with a suicide note and released as part of the criminal complaint, Wasendorf said he began forging bank documents after the business he built from his basement risked failing without additional capital. The timeline suggests his deceit lasted almost the entire life of his brokerage.

"I was forced into a difficult decision: Should I go out of business or cheat?" he wrote.

"I guess my ego was too big to admit failure. So I cheated," the note said. It was discovered on Monday in his car outside the company's new Iowa headquarters, where Wasendorf had tried to kill himself by funneling in tailpipe exhaust.

The arrest ends much of the mystery that has enveloped the futures industry this week. But it will not ease the pain of betrayal in the small Iowa town that Wasendorf made his corporate home in 2009, nor the anger of a financial industry still smarting from the failure of rival brokerage MF Global.

"I have committed fraud," Wasendorf wrote in the note, the contents of which he later told authorities were true. "I feel constant and intense guilt."

Yet he also wrote in almost boastful detail about the "blunt authority" that allowed him to control the flow of documents into the company; how he used a simple post office box to trick "unquestioning" regulators; and his skill in turning out forged bank statements within hours that "no one suspected."

Wearing a blue polo shirt, jeans and a white hospital bracelet around his left wrist, Wasendorf shuffled into a Cedar Rapids courtroom with slumped shoulders hours after his arrest. He was handcuffed, chained at the waist, and his legs were shackled.

He did not enter a plea at the initial appearance, and told Magistrate Judge Jon Stuart Scoles that he was taking anti-depressants. He will be held at an undisclosed location at least until his next court appearance on Wednesday, Deegan said.

A spokeswoman for PFGBest, which had been one of the industry's 10 largest independently owned futures brokers before collapsing this week, could not be reached for comment. The company is now in Chapter 7 liquidation proceedings.

REGULATORY SHOCK

Wasendorf's downfall has shocked his family and colleagues and has shattered his image in his adopted hometown of Cedar Falls, Iowa, where he moved PFGBest's headquarters in 2009 after building an $18 million complex that included day-care, a four-star cafeteria and state of the art geothermal climate control.

With an unusual empire including a Romanian property company and a glossy magazine, Wasendorf's ego stood out even in the rough and tumble world of the Chicago futures industry.

He proudly underwrote big-name guest speakers at industry events and held private VIP receptions for them, and flashed a jeweled pinky ring. His favorite quote, according to his Facebook page, was, "If I wanted patience, I would buy it."

More widely, his fall also rattles investors' confidence in the pillars of the futures markets: brokers' safeguarding of client money, and, equally important, regulators' ability to police the industry.

The prolonged nature of the fraud is sharpening criticism of regulators like the National Futures Association, the industry group that had first-line responsibility for overseeing non-clearing brokers like PFGBest. MF Global, by contrast, is believed to have tapped into client funds during its final days in a desperate bid to keep itself afloat.

"It's stomach churning," said Lauren Nelson, director of communications for Attain Capital, an introducing broker specializing in managed futures in Chicago that had accounts at PFGBest. "It's unbelievable that this was able to be going on for so long without the regulators noticing."

The CME Group (CME.O), the leading futures exchange operator, sought to push forward one of the most radical ideas for restoring faith to the system: stripping brokers of the ability to be the guardians of their clients' collateral, one of the ways in which they have traditionally made money.

"Without question, the current system in which customer funds are held at the firm level must be reevaluated," CME, which also came under fire for failing to prevent the loss of up to $1.6 billion at MF Global, said in a statement.

The suggestion would likely mean shifting more capital to clearing houses like the one operated by CME itself.

"Everybody has the same problem, we have to restore confidence in the market. CME is speaking out with an idea to try to accomplish that," said industry newsletter publisher and well-known former broker John Lothian.

'WITHOUT QUESTION'

The federal complaint alleges that, from 2010 through July of 2012, Wasendorf made false statements to the U.S. Commodity Futures Trading Commission regarding the value of customer segregated funds held by Wasendorf's Iowa-based company.

But Wasendorf in the statement said the forgeries started "nearly twenty years ago," suggesting he was fooling regulators from the very beginning. Peregrine was first registered as a futures brokerage in 1992, according to its website.

The deceit evolved with the world, and Wasendorf "established rules and procedures as each new situation arose."

When auditors began contacting banks directly to verify brokers' balances, he opened a post office box in the name of Firstar Bank -- later U.S. Bank -- and intercepted the confidential forms, he said. He returned doctored statements that had been inflated by more than $200 million, more than half of PFGBest's total customer funds.

As he quickly learned how to falsify online bank statements amid the rise of Internet-based banking, Wasendorf wrote that "regulators accepted them without question."

Until now, apparently. The NFA started a new audit of PFGBest about two weeks ago, demanding for the first time that he allow its auditors an electronic, direct look at his bank accounts, NFA's non-executive chairman Chris Hehmeyer said.

"They are the ones that uncovered this whole thing," Hehmeyer said in an interview. "If they hadn't caught him, it could have gotten a lot bigger."

Wasendorf gave NFA the authority to do so on Sunday, Hehmeyer said.

The audit may have set off a series of unexpected events in the weeks before he tried to take his own life. Wasendorf flew to Las Vegas to marry his fiancee on June 30, more than a month before the wedding he had planned in Cedar Falls. He signed over power of attorney to his son, Russell Wasendorf Jr., on July 3.

Russell Jr., also the company's president, was in the dark about his father's alleged crimes, said his lawyer, Nicholas Iavarone, who represented PFGBest for 23 years. Wasendorf Jr. has been assisting authorities in the investigation, he added.

"Working on something as traumatic as this and as personally devastating, it's just been a very hard week," Iavarone said in an interview.

Separately in Washington, the Commodity Futures Trading Commission (CFTC) on Friday approved a new regulation called the "Corzine rule," designed to beef up the protection of customer funds after the collapse of MF Global, which is believed to have misused up to $1.6 billion of clients just before it collapsed.

SOLE CONTROL, INK-JET PRINTERS

The letter does not explain why Peregrine Financial Group needed capital. The brokerage industry is low-margin and can be cutthroat, particularly to newcomers like Wasendorf, who was an Iowa outsider scrapping to get a foothold in the clubby Chicago community.

Wasendorf said he had sole control over the U.S. Bank accounts and could make counterfeit statements within a few hours using a combination of Photoshop, Excel spreadsheets, scanner and both laser and ink-jet printers, according to the complaint.

He hid his fraud from others at PFGBest "with careful concealment and blunt authority," ordering that the bank statements should be delivered directly to him unopened and that bank employees should only speak to him, the complaint said.

"If anyone questioned my authority, I would simply point out that I was the sole shareholder."

Wasendorf's note said "no one else in the company" ever saw the real bank statements before he doctored them.

(Additional reporting by Ann Saphir in Chicago; writing by Jonathan Leff; editing by Gerald E. McCormick, Tim Dobbyn, Andre Grenon)

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