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THE CDO MACHINE
CDOs, and leverage, Cioffi’s funds earned healthy returns for a time: the High-Grade
fund had returns of in , in , and in after fees. Cioffi and
Tannin made millions before the hedge funds collapsed in . Cioffi was rewarded
with total compensation worth more than million from to . In ,
the year the two hedge funds filed for bankruptcy, Cioffi made more than . mil-
lion in total compensation. Matt Tannin, his lead manager, was awarded compensa-
tion of more than . million from to . Both managers invested some of
their own money in the funds, and used this as a selling point when pitching the
funds to others.
But when house prices fell and investors started to question the value of mort-
gage-backed securities in , the same short-term leverage that had inflated Cioffi’s
returns would amplify losses and quickly put his two hedge funds out of business.
CITIGROUP’S LIQUIDITY PUTS:
“A POTENTIAL CONFLICT OF INTEREST”
By the middle of the decade, Citigroup was a market leader in selling CDOs, often
using its depositor-based commercial bank to provide liquidity support. For much of
this period, the company was in various types of trouble with its regulators, and
then-CEO Charles Prince told the FCIC that dealing with those troubles took up
more than half his time. After paying the million fine related to subprime mort-
gage lending, Citigroup again got into trouble, charged with helping Enron—before
that company filed for bankruptcy in —use structured finance transactions to
manipulate its financial statements. In July , Citigroup agreed to pay the SEC
million to settle these allegations and also agreed, under formal enforcement
actions by the Federal Reserve and Office of the Comptroller of the Currency, to
overhaul its risk management practices.
By March , the Fed had seen enough: it banned Citigroup from making any
more major acquisitions until it improved its governance and legal compliance. Ac-
cording to Prince, he had already decided to turn “the company’s focus from an ac-
quisition-driven strategy to more of a balanced strategy involving organic growth.”
Robert Rubin, a former treasury secretary and former Goldman Sachs co-CEO who
was at that time chairman of the Executive Committee of Citigroup’s board of direc-
tors, recommended that Citigroup increase its risk taking—assuming, he told the
FCIC, that the firm managed those risks properly.
Citigroup’s investment bank subsidiary was a natural area for growth after the Fed
and then Congress had done away with restrictions on activities that could be pur-
sued by investment banks affiliated with commercial banks. One opportunity among
many was the CDO business, which was just then taking off amid the booming mort-
gage market.
In , Citi’s CDO desk was a tiny unit in the company’s investment banking
arm, “eight guys and a Bloomberg” terminal, in the words of Nestor Dominguez,
then co-head of the desk. Nevertheless, this tiny operation under the command of
