Spitzer scandal mars legacy, but investment reforms live on

NEW YORK -- Investors everywhere are better off today because of Eliot Spitzer.

That may be hard to see now amid the news that the so-called moral crusader was caught on a wiretap after allegedly arranging a meeting with a prostitute. On Wednesday, he resigned as the governor of New York.

Whatever he might have done in his personal life, though, doesn't tarnish that he made the investment environment more open and friendly for individual shareholders. Before Spitzer got involved when he was New York's attorney general, no one knew of the conflicts that existed in stock research or that mutual funds were giving trading perks to wealthy investors and hedge funds.

"He took apart a closed circle that lived on favors and back-scratching," said Barry Ritholtz, chief executive officer and director of equity research at the investment firm Fusion IQ. "Spitzer wasn't coming after Wall Street. He was coming after the bad actors."

Plenty of those actors didn't like that Spitzer -- who jumped on any opportunity he could to build his national stature -- shined a bright light on their backroom dealings.

After the dot-com bubble had burst and companies long heralded as corporate America's finest were collapsing under the weight of scandal, Spitzer went into attack mode.

His first targets were the big investment firms that had made so much money during the stock market's surge in the late 1990s. Little did investors know that much of it was at their expense.

The public would soon learn that their game was fixed: Research analysts were recommending stocks so that their investment-banking colleagues could win more lucrative business from those same companies.

Spitzer subpoenaed e-mails from Wall Street firms and used those messages to build a solid case of how they misled investors.

The findings were shocking, especially for anyone who bought a high-flying Internet stock during the market boom.

One e-mail showed star Merrill Lynch & Co. analyst Henry Blodget describing InfoSpace Inc., one of the firm's highest-rated stocks, as "a piece of junk." Another exchange had Salomon Smith Barney telecommunications analyst Jack Grubman telling a friend that his recommendation of AT&T stock helped secure spots in an exclusive Manhattan nursery school for his twin daughters.

Ten Wall Street firms eventually agreed to a $1.4 billion settlement, and new rules were put in place that separated banking and research. Independent research was also made more available to investors, and the firms were required to disclose potential conflicts of interest.

"Sheriff" Eliot Spitzer had arrived.

Spitzer also began uncovering that mutual fund brokers had been giving special trading privileges to select clients. One was called "late trading," an illegal practice of accepting buy and sell orders at the 4 p.m. price long after the market closes. There were also issues of "market timing," which allowed short-term trading of funds intended to be longer-term investments. Market timing is largely legal, but many funds prohibit it because it gives the larger firms an advantage over smaller investors.

That meant some investors were profiting at the expense of others, and mutual fund boards had fallen down on the job by not protecting the interests of all their shareholders. The mutual funds, including Bank of America, Putnam and Janus, ended up paying multimillion-dollar fines and regulators enacted new reforms to eliminate the practices.

Spitzer kept finding new corners of the financial world to sniff out. He was still on the prowl after leaving the attorney general's office to become governor in 2007. Just last month, he testified before Congress about the financial woes facing bond insurers.

As his probes expanded the list of wrongdoing he uncovered, the criticism against him also grew. Spitzer's targets would talk of his heavy-handed role and bullying demands. Some called his attacks overzealous, nasty and personal, most notably in the case against former New York Stock Exchange Chairman Richard Grasso's $187.5 million pay package -- a case that still hasn't been resolved.

Many on Wall Street grew to fear and despise Spitzer. That's why there were cheers on trading floors when the news broke Monday that the 48-year-old father of three -- identified in court papers as "Client-9" -- spent thousands of dollars on a call girl at Washington's swanky Mayflower Hotel on the night before Valentine's Day.

"I'm deeply sorry that I did not live up to what was expected of me," Spitzer said during Wednesday's news conference when announcing his resignation.

At that moment, much of the good he did was tainted with the whiff of scandal.

"Because of what has happened to Spitzer now, people have begun to question all the reforms that he put into place, and they shouldn't," said Charles Elson, director of the Weinberg Center for Corporate Governance at University of Delaware. "No matter who the messenger was regarding reform, the message was right."

Whatever happened in the Mayflower Hotel on Feb. 13, it doesn't alter that plenty of people on Wall Street were cheating, and that Spitzer helped clean things up.

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Rachel Beck is the national business columnist for The Associated Press. Write to her at rbeck(at)ap.org