There’s a very old legal maxim that we Yankees adopted from the British. It’s so old it even has a Latin name: Rex non potest peccare. It means “the King can do no wrong.” This concept of sovereign immunity remains and it is nearly impossible to sue the government for something. Must have been fun for the old British monarchs. Some former US Presidents thought they were immune too. That didn’t work out too well. In any event, there’s an exception. If, for example, the guy waxing the floor at the Pentagon doesn’t warn people and someone slips and falls and breaks their collar bone, you can sue the government for that. So if they are negligent in carrying our their function, you can sue. But you cannot sue them for making policy, declaring war, things like that.

So sure enough two victims of the Bernard Madoff $65 billion Ponzi scheme (as an aside, prosecutors now estimate losses much lower, at around $13 billion, though of course still huge!), Phyllis Molchatsky and Steven Schneider, are suing the SEC for negligence and asking for $2.4 million that they lost. They say the SEC missed countless opportunities (including at least 6 formal complaints) that they should have followed up on to get this guy. They cite an internal SEC report that essentially admits this. The SEC says it’s a meritless case. Everyone acknowledges that mistakes were made on this one. But merely as a legal observer it will be interesting to see whether the court lets this go forward. Was the decision not to follow-up essentially a policy decision of some sort, or was it merely implementing an existing policy? I’ll keep an eye on this one for you guys.

Remember that really tan guy appearing on all the cable news shows when the credit crunch began? That was Angelo Mozilo, head of one of the biggest lenders of subprime mortgages in its day, Countrywide Financial. Reuters has now confirmed that Mozilo is under SEC investigation for civil fraud apparently resulting from alleged insider trading and filing misleading reports to their shareholders and the public. Bank of America, which bought Countrywide last month for about $2.5 billion, confirmed the report.

In October 2006, as things were beginning to get bad, Mozilo changed an otherwise legitimate pre-arranged stock selling program to increase the amount of shares being sold. The question is whether that decision was based on material nonpublic information. Mozilo denies insider trading. Question is whether he will become a poster child of the subprime meltdown. We shall see.

Yesterday, in a somewhat unusual move, the SEC proposed five different possible ways to limit short selling, where an investor bets on a stock going down, sometimes causing the very result simply by making the bet. Folks will have two months to put in comments on the proposals. Note: the SEC really really does look at comments and typically feels obligated to report in its final release what the commenters said. So don’t hesitate if you are interested in this topic.

One key proposal involves a return of one of a number of possible versions of the “uptick rule” which was eliminated in 2007 following studies that basically showed the rule didn’t really work, and additional rules put in such as a requirement for hedge funds to report all their shorting activity.  The uptick rule says you can’t short a stock if the last trade was at a higher price than the one before, or if it is sold short at a price higher than the last sale price. The rule went into place way back in 1938. The original purpose was to stop fraudsters who pooled their money to short a stock for the sole purpose of driving down its price so they can win their bet.

The Democrats now control the SEC with three votes, and the two Republicans on the Commission expressed concern about the return of uptick. Other proposals offered for comment would stop shorting only if a stock drops a certain amount (they are suggesting 10%). Regardless of some skepticism, SEC Chair Mary Schapiro feels pressure to deal with this, telling the hearing that they’ve got more emails and calls about short selling than anything else since she took office in January.

See my last entry on this the other day for my thoughts on short sellers, some of whom indeed serve an important purpose. Don’t ever complain about government action unless you participate in the process. If you have thoughts on this, let the SEC know. You can submit a comment easily online at www.sec.gov under “proposed rules.”