* Court begins hearing insider trading allegations
* Aurelius describes how it separated talks from trading
* Insider-trading claims could torpedo bankruptcy exit
(Updates to end of testimony on Monday)
By Tom Hals
WILMINGTON, Del., July 18 A hedge fund accused
of trading on confidential information gleaned from the
Washington Mutual Inc bankruptcy went so far as to sound-proof
an office to prevent the information from reaching its traders,
a managing director of the fund testified.
Aurelius Capital Management LP even hired a sound engineer
to test if traders could eavesdrop on confidential talks about
the bankruptcy led in part by the fund, managing director Dan
Gropper said in his defense in a bankruptcy court on Monday.
Washington Mutual shareholders have accused Aurelius and
three other funds of using their role in helping craft the
bankruptcy plan to generate huge trading profits on the
securities. The company and its creditors have dismissed the
allegations as a desperate attempt to torpedo the company's
reorganization plan, which likely will deny any money to
Gropper told the court that in addition to spending
$150,000 to sound-proof an office, Aurelius also hired its own
legal team to further assess what information could be used for
trading. "The consequence is quite severe if we get it wrong,"
If the insider trading accusations stick, it could derail
Washington Mutual's plan to exit bankruptcy and distribute $7
billion to creditors. (For details on the allegations, see
Washington Mutual began hearings last week to obtain court
approval for its reorganization, which essentially distributes
cash to creditors. A small mortgage reinsurance business would
be the only operation to emerge from bankruptcy.
The company has been in bankruptcy, and creditors have been
awaiting repayment, since September 2008, when its savings and
loan was seized by regulators in the biggest bank failure in
The seized bank was sold to JPMorgan Chase & Co (JPM.N) for
An attorney for shareholders began cross-examination of
Gropper late on Monday and tried to get him to acknowledge that
the scope of settlement talks were material and should have
been disclosed to the public or kept from his firm's traders.
For example, he asked Gropper if JPMorgan's offer to turn
over a disputed $4.1 billion to Washington Mutual in early
2009, even as JPMorgan filed court papers seeking to keep the
money, should have been disclosed.
Gropper replied that he did not believe that was material
information because he never doubted the deposit would be
turned over and various parties to the talks disagreed on
conditions for returning the money.
This is the company's second attempt to end its bankruptcy.
In January, U.S. Bankruptcy Judge Mary Walrath in Delaware
rejected their last plan, in part because an individual
investor accused four hedge funds of insider trading.
Since the last plan was rejected, the official committee of
shareholders has been investigating the funds, which also
include Owl Creek Asset Management LP, Appaloosa Management LP
and Centerbridge Partners LP.
Unlike recent high-profile government probes of hedge-fund
managers and insider trading, the funds in this case do not
face criminal penalties.
The judge could penalize the funds by cutting the amount of
interest they can collect on their Washington Mutual debt, or
she could even reject the reorganization plan if she finds it
was not negotiated in good faith.
The case is In re Washington Mutual, U.S. Bankruptcy Court,
District of Delaware, No. 08-12229.
(Reporting by Tom Hals)