U.S. SECURITIES AND EXCHANGE COMMISSION

Litigation Release No. 19329 / August 8, 2005

SECURITIES AND EXCHANGE COMMISSION v. KENNETH D. PASTERNAK AND JOHN P. LEIGHTON, No. 05-3905 (JAP) (D.N.J.)

SEC FILES FRAUD CHARGES AGAINST KNIGHT SECURITIES' FORMER CEO AND INSTITUTIONAL SALES DESK MANAGER

The Securities and Exchange Commission today filed a civil fraud action in the United States District Court for the District of New Jersey against Kenneth D. Pasternak ("Pasternak"), the former Chief Executive Officer and Head of the Trading Desk of Knight Securities, L.P., now known as Knight Equity Markets, L.P. ("Knight" or "Firm"), and John P. Leighton ("John Leighton"), the former head of the Institutional Sales Desk at Knight, for their role in the "best execution" scheme that defrauded Knight's institutional customers.

The Commission's complaint alleges in part, that:

• The defendants among others at Knight engaged in a fraudulent scheme designed to conceal from their institutional customers the manner in which they were working their orders. In doing so, the defendants failed to provide best execution to their customers resulting in profits for Knight, and the defendants personally, that far exceeded the industry norm.
   
• John Leighton and Kenneth Pasternak, as senior executives at Knight, reviewed Knight reports and data which disclosed, among other things, the manner in which Knight was working institutional customer orders and the extraordinary profits that Knight was generating from these institutional orders. John Leighton and Pasternak therefore knew or were reckless in not knowing that customers were being fraudulently deprived of best execution, but permitted Knight's traders, including John Leighton's brother Joseph Leighton, to continue the unlawful trading practices while both John Leighton and Pasternak were receiving millions of dollars in compensation directly generated from the lucrative trading. At the same time that Pasternak and John Leighton knew, or were reckless in not knowing, that Knight was fraudulently depriving its customers of "best execution", Pasternak made material misstatements in Knight's Commission filings, including Knight's Form 10-K, and John Leighton made statements to Knight's institutional customers all concerning Knight's execution quality.
   
• John Leighton and Pasternak were responsible for supervising Knight's institutional sales traders. By reviewing institutional trade and exception reports, John Leighton and Pasternak knew or were reckless in not knowing that the sales traders systematically misused Automated Confirmation Transaction Service ("ACT") trade modifiers, causing the untimely reporting of trades to the ACT. The trade modifier misuse enabled the sales traders to record inaccurate execution times on the Firm's books and records, compromised the ability of the customers to determine the quality of the executions they were receiving, and allowed certain Knight employees to circumvent limit order protection protocols at the Firm. Despite the systematic misuse of the ACT modifiers, John Leighton and Pasternak did not take effective remedial action, and the sales traders continued to misuse the trade modifiers until November 2002.
   

The Commission alleges in its complaint that Pasternak and John Leighton violated Section 17(a) of the Securities Act of 1933 ("Securities Act"), Section 10(b) of the Securities Exchange Act of 1934 ("Exchange Act"), and Rule 10b-5 thereunder. The Commission also alleges that Pasternak and John Leighton aided and abetted Knight's violations of Sections 15(c)(1), 10(b) and 17(a) of the Exchange Act and Rules 10b-5 and 17a-3 thereunder. The Commission also alleges that Pasternak is liable as a control person, under Section 20(a) of the Exchange Act, for Knight's violations of Sections 15(c)(1) and 17(a) of the Exchange Act and Rule 17a-3 thereunder. In its action, the Commission is seeking against each defendant a permanent injunction, disgorgement of all ill-gotten gains plus pre-judgment interest and civil penalties.

In December 2004, the Commission and the NASD brought settled enforcement actions against Knight. The enforcement actions resulted in payments of over $79 million in disgorgement, civil penalties and fines. In Knight's settlement with the Commission, the firm consented to the issuance of an administrative order, without admitting or denying the findings therein, that found that Knight (i) willfully violated the broker-dealer antifraud provisions of the Exchange Act (Section 15(c)(1)(A)) and multiple provisions of the books and records provisions of the Exchange Act (Exchange Act Section 17(a) and Rules 17a-3(a)(1), 17a-3(a)(7), 17a-4(b)(1) and 17a-4(b)(4) thereunder), and (ii) failed reasonably to supervise pursuant to Section 15(b)(4)(E) of the Exchange Act with a view to preventing violations of Sections 15(c)(1) and 17(a) of the Exchange Act and Rule 17a-3(a)(1) thereunder. For further information, see In the Matter of Knight Securities, L.P., Securities Exchange Act of 1934 Rel. No. 50867 (December 16, 2004).

Additionally, in April 2005, the Commission and the NASD brought and settled enforcement actions against Joseph Leighton. In that settlement, Joseph Leighton, without admitting or denying the Commission's allegations, consented to the entry of a judgment that (i) permanently enjoined him from future violations of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Exchange Act Rule 10b-5, and (ii) ordered him to pay $1,939,264 in disgorgement of ill-gotten gains, $660,282.78 in prejudgment interest and $750,000 in civil penalties. Joseph Leighton also consented, without admitting or denying the findings, to the entry of a Commission Order that permanently barred him from association with any broker or dealer pursuant to Section 15(b)(6) of the Exchange Act. For further information, see Securities and Exchange Commission v. Joseph W. Leighton, Litigation Release No. 19193 (April 20, 2005) and In the Matter of Joseph W. Leighton, Securities Exchange Act of 1934 Rel. No. 51699 (May 17, 2005).

The Commission acknowledges the assistance of the NASD in this matter.

SEC Complaint in this matter

http://www.sec.gov/litigation/litreleases/lr19329.htm