Shares of Bristol-Myers Squib have tanked in recent days thanks to a barrage of bad news including a federal probe into the recent settlement of a patent dispute and increased competition from a generic version of its popular Plavix blood thinner.

But now regulators are examining whether some investors may have improperly benefited from the company's recent misfortunes, CNBC has learned.

            At issue: A huge run up in "short interest" in the company's stock just prior to all the negative publicity that caused shares of Bristol-Myers to slide more than 19% in recent weeks.

Short interest is the amount of stock that is sold short, which allows investors to make money when stock craters. Following a complaint by the company, officials at the NYSE are now examining whether some investors may have had advanced warning of the company's problems when they made their bet, according to people with knowledge of the NYSE's activities.

            One thing is certain: The run-up in short interest in the stock is significant. Company officials confirm that short interest equaled 27 million shares on June 15, the last reporting date. By July 15, short interest more than doubled at 47 million shares. The next reporting date is Aug. 15 so the number might be larger, at the moment though, short interest amounts to a whopping 10% of the 2 billion shares outstanding in the company's stock.

More interesting is the timing of the ramp up. Bristol-Meyers recent misfortunes began circulating in the media in late July when the FBI raided its offices in a Justice Department probe of its patent deal with a generic drug maker over Plavix. That began a barrage of negative news for the company including announcements of declining profits, and most recently, an announcement by Apotex that it will indeed release a generic drug to compete with Plavix.

            In recent months, regulators have increased oversight of the once lightly regulated market for short selling. The NYSE, for instance, has launched a probe of Vonage's IPO, which sank from $17 a share to around $7 and whether short sellers improperly benefited. Allegedly improper short selling has attracted congressional scrutiny and the SEC has recently tightened rules on so call naked short selling.

            It's unclear whether the NYSE interest in the Bristol-Myers issue will lead to charges but one thing is certain, company officials believe someone had advanced knowledge of the problems based on the huge increase in short selling they've discovered just prior to the recent announcements. 

When the Securities and Exchange Commission closes a case without bringing charges, targets usually get a private, form letter from the agency alerting them that they've been cleared and the case is closed. But that all might change for two high-profile targets of the commission, Pequot Capital and Morgan Stanley CEO John Mack.

CNBC has learned that the commission is considering the unusual, and some would say, unprecedented move of not just officially alerting Pequot and Mack that they are cleared of possible insider trading charges, but also releasing all the evidence in the probe.

The move comes after a former SEC attorney Gary Aguirre went public with charges that he was fired from the SEC when he sought Mack's testimony in an insider trading case against Pequot. Aguirre said he had reason to believe that Mack gave Pequot an insider tip on a pending merger that allowed Pequot, a massive hedge fund run by Mack's good friend Arthur Samberg, make millions of dollars in profits. Both Mack and Pequot have denied the charges.

But people close to the case say the commission's investigation into Pequot and Mack is reaching its final stages. CNBC was first to report this morning that Mack gave his deposition in the case on Tuesday, and the entire matter could be concluded in the coming weeks. Though the investigation is still open, these people say the evidence that Mack offered an insider tip to Pequot is sketchy at best, leading some people at the commission to believe there is not enough evidence to bring charges against the Morgan Stanley CEO.

Of course anything is possible. It's unclear what Mack said during his deposition yesterday before the SEC. It is of course completely possible that Mack provided new details that may cause the SEC's enforcement staff to believe that Mack may have provided a tip to Samberg, which could result in the investigation continuing or at some point, formal charges being filed against Mack, Pequot or both.

But if that is not the case, the SEC enforcement staff is planning to ask the full commission to give the green light to release all the evidence in the case, which includes emails and other documents developed by Aguirre. There are two reasons why the SEC enforcement staff is pushing for a complete disclosure of the evidence. First, the enforcement staff wants to clear its own name from charges that it pulled punches to protect a high-ranking CEO with close political ties to the Bush administration, these people say (Mack, notably, had contributed to the president’s campaign). But also, some people in the commission believe that if there isn't enough evidence to charge Mack, he deserves to have his name cleared. These people say he was unfairly attacked when Aguirre went public before the Senate Judiciary Committee saying he had evidence that Mack gave an insider tip to Pequot but never once showed his cards. Aguirre has said that the SEC warned him not to disclose information from his work at the commission.

Charles Gasparino - CNBC

For almost three years, Wall Street has been anticipating a major courtroom showdown that would pit "The Enforcer," New York Attorney General Eliot Spitzer, against famed defense attorney Brendan Sullivan in the Dick Grasso over-compensation case. But CNBC has learned that one of the consequences of a recent ruling is that Grasso will lose Sullivan as his attorney once the trial begins sometime next month.

The move comes after State Supreme Court Judge Charles Ramos moved up the trial date of the case to September 5 from October 30, putting what will likely be a six-week courtroom battle in the middle of another case Sullivan is already committed to: The third retrial of former Cendant chairman Walter Forbes by the US Attorney's office in New Jersey.

Grasso is being charged by Spitzer of violating the state not-for-profit law after being awarded a $140 million pay package that led to his resignation as Chairman and CEO of the New York Stock Exchange back in 2003. The law states that the compensation of officials who work at not-for-profits must be reasonable and commensurate with duties performed. Spitzer wants Grasso to return as much as $100 million to the stock exchange, which was a not-for-profit entity before it became a public company earlier this year. The Attorney General also charged former NYSE compensation committee chairman Ken Langone with deceiving the NYSE board on a chunk of Grasso's pay package.

Both Grasso and Langone have mounted a vigorous defense in the case, claiming they've done nothing wrong and that Grasso's pay was fully disclosed to the NYSE board. In fact, Grasso told CNBC that he will be well-represented in the case by one of Sullivan's partners at his firm Williams & Connolly, Gerson Zweifach, who has been handling much of the nitty-gritty of the case including taking depositions and appearing at pre-trial hearings.

In fact, one of the ironies of the ruling last week is that while Langone and Grasso said they have no problem with the new court date, the attorney general's office said the new date may pose problems. Spitzer's lead attorney in the case, Avi Schick, told Judge Ramos that the new date doesn't give the attorney general's office enough time to prepare for what's going to be one of the most closely watched cases on Wall Street in years. Nearly every major Wall Street CEO has served on the board of the stock exchange, and many are expected to be called as witnesses, including former Goldman Sachs CEO and current Treasury Secretary Hank Paulson.

But there may be another reason why Spitzer wants a delay in the trial date; the September 5^th court date comes just days before the Democratic campaign for governor. The expected six-week trial will take place during the height of the New York State gubernatorial race to be decided on election day, November 7. At least for now, Spitzer is considered the front-runner, so the last thing he needs is a high profile defeat in the middle of the campaign. 

Spitzer's political priorities could be one reason why Grasso says he isn’t concerned about losing Sullivan and having Zweifach as his lead attorney. "They wont face Cy Young," Grasso told CNBC, "but they will face Warren Spahn, who by the way had a better winning percentage".

Charles Gasparino - CNBC

Senate Judiciary Committee Chairman Arlen Specter is ramping up
his investigation of hedge funds by calling on SEC Chairman Christopher Cox for a private meeting to discuss what he believes is the agency's poor record in cracking down on fraud and abuse in the business, CNBC has learned.

The meeting, which could take place as early as next week, comes after a former SEC investigator, Gary Aguirre, said he was fired from the commission when he tried to take testimony from Morgan Stanley CEO John Mack in an investigation of possible insider tradingby the large hedge fund Pequot Capital. Aguirre has said that Mack was the possible leaker of insider information to Pequot, a charge that Mack denies, and one that at least initially the commission didn't take seriously.

But the SEC recently did an about-face, and has now called Mack to give a deposition in the Pequot case. CNBC has learned that Mack will give his testimony next week, and according to people close to the case, the SEC is concluding its investigation into Pequot. Mack's testimony will be one of the final official acts before the commission decides whether to drop the case or file charges, these sources add.

Specter is expected to question Cox on a number of issues involving Aguirre's investigation, but also the broader issue of how well the commission investigates hedge funds, according to people close to the matter. These people say that while Aguirre doesn't appear to have a smoking gun that points to Mack violating insider trading laws, Specter believes that the agency erred in not taking Mack's testimony earlier, and will likely point that out during the meeting.

One interesting point: Specter's foray into hedge fund regulation could set up a nasty political battle between the Senate Judiciary Committee and the Senate Banking Committee, which has direct oversight of the SEC.

Charles Gasparino - CNBC

Lawyers for former Brocade Communications CEO Greg Reyes are working overtime to prevent their client from being the first casualty of the burgeoning federal investigation into backdating stock options. CNBC has learned that just last Thursday they made a detailed power-point presentation to the US Attorney’s Office in the Northern District of California which laid out key points in their defense, including their contention that Reyes didn't personally benefit from the backdating and their opinion that Reyes is "a good guy."

As CNBC was first to report, Reyes is likely to face civil charges by the Securities and Exchange Commission in its investigation of stock-options back dating. The SEC's enforcement division has issued a Wells Notice to Reyes informing him that the staff has recommended to the full commission that he should be charged in the matter. While the full commission may decide not to bring charges, such moves are rare, and even attorneys for Reyes concede that the SEC will likely file a civil case in days or weeks.

The big question is whether Reyes, who resigned from Brocade more than a year ago, will be charged criminally by the US Attorney's office. Lawyers and representatives for Reyes say that last week they made a last-ditch attempt to get prosecutors to back off during a lengthy power-point presentation made to the US Attorney in San Francisco. According to people with direct knowledge of the presentation, Reyes' lawyers argued that he had little accounting knowledge - he was predominantly a salesman, and even though he had control over the granting of options, Reyes wasn’t conscious of the fact that he was doing something potentially illegal. Further, his attorneys claimed that Reyes relied on the accounting expertise of the company’s CFO and audit committee to serve as a check in his options granting practices.

Reyes’s attorneys pointed to the Board of Directors at Brocade - which was notably advised by legendary Silicon Valley attorney Larry Sonsini - which gave their client wide authority to grant options and provided no guidelines as to how to grant the options. Mr. Sonsini was not available for comment. Though the company was forced to restate its earnings due to faulty accounting of options, his attorneys claimed that “backdating” was only a marginal portion of the restatement.

Meanwhile, attorneys for Reyes called their client "a good guy," as well as a "well liked, respected young CEO" who would make a "sympathetic defendant”. They cited his many charitable donations, which included what they described as an anonymous donation of $1 million to a Brocade fund for victims of September 11.

In an interview with CNBC, representatives of Reyes said that since the enactment of the Federal Securities Act of 1933, there has never been a prosecution, let alone a conviction of a defendant who did not profit from wrongdoing; financial gain is always the motive in securities fraud cases. Reyes’s attorneys claim that there is no allegation of self-enrichment or self-dealing.

Attorneys for Reyes are cautiously optimistic about their chances to stave off an indictment. The US Attorney's office won't comment on the matter, but one thing is certain: CNBC has confirmed that federal officials will bring their first backdating case within a month, and the Reyes case is at the top of their list.

Charles Gasparino - CNBC

    The Securities and Exchange Commission is ready to pull the trigger on its first stock-option backdating case, CNBC has learned.

       People at the SEC as well as several defense attorneys representing targets of the wide-ranging probe say that the commission will file its first case within a month. Although there are around 400 cases of backdated stock options that have caught the SEC’s attention, and about 60 under more intense scrutiny, these same people say one case is at the top of the SEC’s list. That case involves Greg Reyes the former high-flying CEO of technology company Brocade Communications.

Reyes resigned from Brocade more than a year ago, after the company announced an earnings restatement stemming from how it accounted for stock options. Since then he has received what’s known as a “Wells Notice” from the SEC, meaning that the commission’s staff is recommending that the agency file civil fraud charges against him over backdating of options. The full-commission must approve the staff’s recommendation before charges are filed, but attorneys working for Reyes believe that a civil case against Reyes is extremely likely given the tenor of some recent meetings with the SEC.

A bigger question is whether Reyes will face a criminal indictment as well. The US Attorney’s office has joined the SEC in a joint investigation of Reyes’ actions, and Reyes’ attorney, according to people with knowledge of the matter, recently met with prosecutors from the US Attorney’s office from the Northern District of California to stave off an indictment of their client.

How did they do? People close to the Reyes defense team say they are cautiously optimistic that the US Attorneys office may back off from brining a criminal case even if the SEC files a civil case against Reyes, as is expected in the coming weeks.

The controversy surrounding backdating of stock options has been at the top of the SEC’s enforcement agenda for more than six months. Stock options are designed to align the compensation of employees with their company’s performance. They give the holder the ability to purchase stock at a strike price at some future date. A lower strike price allows the employee to make more money if and when shares of the company’s stock rise. The strike price is usually set at the date the stock option is granted.

But if an executive can change the date of the strike price - move it back to a day when the shares are actually lower -- the benefits could be tremendous. The SEC and the Justice Department are investigating whether companies and their top executives committed civil and possibly criminal securities fraud by manipulating these dates.

While Reyes’ actions have clearly caught the eye of civil and criminal authorities, his actions also show that many of these cases are far from cut-and-dry. In a recent meeting with officials from the US Attorney’s office, his lawyers made several compelling points. First, that whatever actions Reyes took, he did not do so for self-enrichment, as has been alleged in other cases. They told prosecutors that Reyes’ action benefited company employees, “including low-employees, staff and secretaries,” according to one person with direct knowledge of the meeting. Because of this, they argued, there is scant evidence that Reyes’s actions showed criminal “intent,” a necessary element of any prosecution.

Reyes, they argued had wide discretion to set the date of the option to any point he wanted.

 Charles Gasparino - CNBC

The SEC lawyer who is at the center of an investigation into possible insider trading at the prominent hedge fund Pequot Capital has agreed to appear as at witness during Senate Judiciary Committee hearings that are focusing on the secretive hedge-fund business, CNBC has learned.

         Former SEC attorney Gary J. Aguirre, (pronounced a-GEER-ray) headed SEC's investigation and then criticized the agency's handling of the case after the commission fired him. Aguirre has agreed to testify in the hearings, scheduled to take place Wednesday in Washington, according to a preliminary witness list obtained by CNBC and a person with knowledge of the committee's activities. Other witnesses include a representative of the Department of Justice as well as Connecticut Attorney General Richard Blumenthal, the chief law enforcement official of the state where most hedge funds reside. Committee Chairman Arlen Specter may also ask a representative of the SEC to appear at the hearings.

       Aguirre's testimony would mark his first public comments since

news of a letter he sent members of Congress leaked last week that

rocked the massive and growing hedge-fund business. In an 18 page

letter, Aguirre alleges that he was fired from the SEC as he was

investigating possible insider trading violations at Pequot and

preparing to depose Morgan Stanley CEO John Mack as a witness. Before taking the Morgan Stanley post, Mack was the vice chairman of the hedge fund, but more importantly for the investigation, he was the CEO of Credit Suisse when the firm was serving as a banker in a deal that has come under scrutiny during Aguirre's insider trading probe. Both Pequot and officials at Morgan Stanley say they've done nothing wrong.

      According to people with knowledge of the committee's activities, Specter believes Aguirre could provide what has since been missing from the witness list as he gears up for the hearings: A genuine, inside look into the secretive world of hedge funds and some indication if the business needs closer scrutiny from regulators at the SEC and the Department of Justice.

People with knowledge of Specter's activities say the Senator may also use the hearings as a springboard to introduce legislation that would increase hedge fund regulation. Just last week a federal appeals court says the SEC doesn't have the authority to enhance its regulation of the hedge fund business.

     All the congressional activity won't be good news for the hedge

fund business, which for years operated on the periphery of Wall Street, catering to the super rich. More recently, hedge funds

have grown in popularity with more mainstream investors, and as a

result, they've caught the eye of regulators.

     CNBC has learned that the committee's interest in the hedge fund business stemmed in large part from the complaints of Overstock.com's CEO Patrick Byrne, who convinced Utah senator Orin Hatch, a ranking member of the judiciary committee, to take a

close look at hedge funds, short selling and the use of research to drive down stock prices. Overstock is located in Utah, and Byrne has waged a  public campaign attacking short sellers for using potentially illegal tactics to drive the stock.

     But Specter, the committee chairman, chose not to focus on

Overstock and include Byrne as a witness because he feared the

hearings would turn into a spectacle given some of Byrne's recent

comments, and instead began to focus on larger issues involving hedge funds, namely whether the Justice Department and other regulators like the SEC has done enough to crack down on hedge-fund fraud.

      People with knowledge of the committee's activities say he

believes Aguirre would make a perfect witness given his inside

knowledge of both hedge funds and regulatory attempts top crack downon the business. These people also say that Specter and the committee will examine why Aguirre was fired.

Charles Gasparino - CNBC

The regulatory pressure on short sellers is mounting as the Senate Judiciary Committee has launched its own inquiry into whether improper short selling helped sink shares of
Vonage after its disastrous IPO.

The committee which is planning hold hearings on hedge funds, independent research and short selling on Wednesday of next week, has contacted Vonage about the possibility of testifying as well as the New York Stock Exchange, which has already launched its own investigation on the matter.

Shares of Vonage have declined sharply since its IPO in May.  The stock was  priced at $17 a share, but quickly sank to under $9 a share.  A spokeswoman for Vonage says the company is not planning to testify, though that may change if it is subpoenaed. A spokesman for the NYSE had no comment.  

The Judiciary Committee's interest shouldn't be taken lightly.  While the committee doesn't have oversight of stock regulators like the SEC, it has direct oversight of the U.S. Justice Department, which has stepped up its scrutiny of Wall Street and white-collar offenses. People on the committee tell me that representative of the Justice Department will be present at the hearing.

One person who wont be at the hearings is Patrick Byrne the head of Overstock.com, who is probably the person most responsible for the growing interest of stock regulators and now Congress into the issues surrounding short selling and a practice known as "naked short selling" where short positions are created without taking physical delivery of the stock. Keep in mind that ranking Judiciary Committee member Orin Hatch represents Utah, the home of Overstock.The committee, from what I understand, also plans to call representatives from the hedge fund business, academics, and I may be asked to entertain questions because of my book, "Blood on the Street," which investigated research practices on Wall Street.

Hank Paulson may be leaving Goldman Sachs for the U.S. Treasury Department, but that doesn't mean he can escape testifying in the Dick Grasso pay package trail scheduled for October 30th of this year.

        CNBC has learned that last week, Grasso, the former Chairman and CEO of the New York Stock Exchange, sent out 20 so-called "trial subpoenas" to various Wall Street executives who also served on the NYSE board involved in the dispute over his $140 million pay package, which is the subject of a civil suit by N.Y. Attorney General Eliot Spitzer. 

        Among those receiving the subpoenas was former Merrill CEO Dave Komansky, and a host of other CEOs even though his trial isn’t scheduled to begin for months. But Grasso's real target, according to people close to the case, is Paulson, who once  confirmed, will be the new Treasury Secretary replacing John Snow.

        Grasso's legal team, headed by prominent attorney Brendan Sullivan, is afraid that Paulson will claim some kind of privilege if they subpoena him after he's confirmed as Treasury Secretary. By subpoenaing him now, they believe it makes it virtually impossible for him to skip the trial.

        Paulson figures to will be a key witness for Grasso. Spitzer is seeking the return of around $100 million of the $140 million Grasso received before he was ousted as stock exchange chairman in Sept., 2003. Spitzer says the pay package violated a New York State law that says the compensation of officials at non-profits (at the time the NYSE was a non-profit corporation) must be reasonable.

        Even though Paulson led the charge to get rid of Grasso back in the summer of 2003 when the pay package first became news, in his depositions he has said good things about the former NYSE chief. He called him an A-plus CEO, and has said separately that the main reason why wanted Grasso out was because of all the bad publicity, not because Grasso was doing a bad job.

        A spokesman for Paulson had no comment on the matter, other than to say that his boss has bigger things on his plate these days, like his upcoming confirmation hearings.

Charles Gasparino - CNBC

With the markets in turmoil, now might not be the best time to start a new investment banking boutique, but don't tell that to Joe Perella. Barring some last minute snafu, Perella plans to open his new boutique for business this week, possibly as early as Thursday, CNBC has learned.

            Perella's new venture is one of the most closely watched issues on Wall Street in recent months. He left Morgan Stanley last year, protesting the leadership of then CEO Phil Purcell. When Purcell was replaced by John Mack, many people at the firm thought Perella would return. After all, he and Mack were friends and colleagues for years, and Mack was willing to give Perella a major role in the new management team.

            Perella decided to go out on his own and create his own investment banking boutique with a substantial private equity arm. He came out the gates strong, raising $1.1 billion and stealing many top bankers from Morgan and elsewhere, including Morgan Stanley capital markets star Jon Anda. Perella's aggressive tactics also caused somewhat of a rift with his old friend Mack, who was forced to stem the exodus of bankers.

            But Perella's new venture hit a snag last week when Anda did an about face, returning to Morgan. My sources at Morgan say he balked at signing a long-term non compete contract of five years given the fact that market conditions have soured. These same sources said that Perella was having difficulty getting many of the other top bankers he poached from other firms to sign the contracts as well.

             Perella, according to people with knowledge of the matter, was to officially open his firm for business by doing a high profile deal.

            People at Perella's firm say they won't announce the new business through a deal--just a simple press release. They say, however, that all the firm's partners have signed long-term agreements, though not the five-year deals initially offered. As for business, the firm is working on about a half dozen undisclosed deals that should hit the market in the not too distant future.

            Perella, it must be said, is not someone to be taken lightly. He may be the best investment banker on Wall Street with ability to call many of the top CEOs in the country. Meanwhile his partner, Terry Meguid, is about as good of a No. 2 as you can get. But some of the firm's recent problems shouldn't be taken lightly either. My opinion is that the reason why Perella won't be making a bigger splash when opens is because business conditions, in a word, stink.

            One thing that won't stink about the new firm will be the name. From what I hear it will have the word "Perella" in it.

Charles Gasparino -CNBC