Crackdown on The Chicago Boys

By Christine Gorman

In the controlled chaos of Chicago's commodities pits, there is no time to reflect, only time to react, to buy when the market heads north, to sell the instant it flounders. Thus the busy traders never really stopped to wonder about the unusual behavior of several new colleagues who regularly lost thousands of dollars but kept coming back for more, day after day for two years. Tom Hicks, a trader on the Chicago Mercantile Exchange, remembers one in particular named Peter Vogel: "He was real clean-cut -- wing tips, clipped hair, tie always knotted tightly. He didn't dress like the rest of us. They called him 'the accountant.' "

The traders were right on one count: the man named Vogel was keeping tabs on everyone. Last week it was disclosed that several FBI undercover agents carrying hidden tape recorders had penetrated the pits as part of the largest criminal investigation ever to hit the Chicago commodities markets. The sting % operation, designed to catch unscrupulous commodities traders who were defrauding customers of millions of dollars, broke into the open when the Justice Department reportedly began issuing subpoenas to at least 40 people connected with the Chicago markets. By the time they finish gathering evidence in the next few weeks, federal prosecutors may be able to indict 100 or more commodities brokers and traders on felony charges of fraud and racketeering.

Word of the sting prompted widespread soul-searching on the normally ebullient trading floors of the Merc and the Chicago Board of Trade. "There's paranoia in the pits today," said a futures trader. "Nobody knows just how much the feds have got and against whom." Several panicky traders who reportedly had been subpoenaed sold their exchange seats, including one on the Merc that went for only $330,500, a sharp drop from the previous sale at $380,000 only a week earlier. Many traders worried about what the scandal might cost Chicago's booming markets in terms of lost prestige and new Government regulation. Says a broker: "It shows once and for all that we're not capable of regulating ourselves honestly."

On Wall Street some traders noted with satisfaction that the rival Chicago markets, which many New York investors blamed for aggravating the stock-market crash of '87, were getting a dose of the scrutiny that the stock markets have long endured. Said the president of a Big Board firm: "There is some quiet delight that the Chicago boys are finally getting their comeuppance."

Originally set up more than 70 years ago to help farmers hedge their bets on the future of their crops, the Merc and the Board of Trade grew explosively during the 1980s by offering futures contracts on everything from foreign currencies to precious metals. But for all their sophisticated new financial products, the exchanges still use the old-fashioned, face-to-face auction system of making trades. The leader of the investigation, Anton Valukas, the U.S. Attorney for the Northern District of Illinois, apparently decided that the system left plenty of room for rip-offs of commodities buyers.

Federal law requires that traders and brokers must try to get the best possible price for their customers when executing trades. But because the deals are conducted orally, illegal trades are difficult to catch. When four FBI agents masqueraded as commodities dealers, however, they were able to secretly tape-record the transactions taking place at the Board of Trade and ! the Mercantile Exchange.

One typical shady deal they are believed to have detected is the "bucket trade," in which a broker slices an extra profit margin by buying a contract from a confederate at a bit more than the going price in the pit, or selling one for a bit less. For example, if a customer asks the broker to sell a soybean contract of 5,000 bushels and the market price is $7.50 per bushel, the crooked broker may sell the contract to a colleague for $7.40. That gives the colleague a discount of 10 cents per bushel, or $500, some of which he kicks back to his partner. The customer probably cannot challenge the price because there is no record of precisely when the deal occurred.

The undercover agents recorded their information not just in the hurlyburly of the pits but on social occasions as well. Two feds working the Board of Trade solicited stories about illegal trades by throwing lavish parties in their high-rise apartments and by joining the posh East Bank Club, a gym popular with commodities brokers. One agent who called himself Richard Carlson claimed that he specialized in soybean contracts and was a native New Yorker; the other, who called himself Michael McLoughlin, said he worked the Treasury- bond pit and was from Florida. "Both were nice guys, pleasant, friendly," recalls a trader. "Now that I think of it, they asked an awful lot of questions, but I thought it was just eagerness to learn."

The biggest fear among law-abiding Chicago traders and brokers is that evidence of shady dealings will inspire Washington to clamp down on the freewheeling markets. Already Texas Democrat Kika de la Garza, chairman of the House Agriculture Committee, plans to investigate the Chicago exchanges. Congress could decide to beef up the relatively tiny agency that oversees the Chicago markets, the Commodity Futures Trading Commission, or transfer the authority to the Securities and Exchange Commission. "Figuratively speaking, at least," laments a futures broker, "there'll be police in the pits from now on."

With reporting by Lee Griggs/Chicago