The Death of Money (5 page)

By early 2003, the Prophesy team led by Tauss had reached out to Wall Street and other
government agencies and assembled teams to participate in targeted panels to flesh
out the practical details of Tauss’s theory. It was widely assumed that terrorists
would strike again in some spectacular way. Would there be information leakage? Would
a terrorist associate engage in insider trading? Could this trading be detected so
as to identify the trader and his target? Would there be time to react and stop the
attack? These were the problems Prophesy set out to solve.

*  *  *

My involvement with Project Prophesy began at the mountaintop Kaiser estate on the
island of St. Croix, a site exotic enough to make the final cut of a James Bond film.
The estate is a complex of three mansions connected by private roads on Recovery Hill
overlooking the town of Christiansted on the north shore of the island. The centerpiece
of the complex is the White House, a sprawling, multitiered, bleach-white International
Style home with a large outdoor pool trimmed with the obligatory steel-post-and-Kevlar
tenting reminiscent of the Denver Airport.

I was there in the winter of 2003 for a private gathering of top financiers from the
institutional, hedge fund, and private equity worlds to discuss the next big thing
in alternative investing—a project to blend hedge fund and private equity strategies
to optimize risk-adjusted returns.

As typically happens at such gatherings, there was downtime for drinks and getting
to know the other guests. During one such break, I chatted with the head of one of
the largest institutional portfolios in the world. He asked me about my career, and
I recounted my early days at Citibank on assignment in Karachi.

That had been in the 1980s, not long after the shah of Iran had been deposed in the
Iranian Revolution. Grand Ayatollah Khomeini became Supreme Leader and declared Iran
to be an Islamic Republic guided by principles of sharia
or Islamic law. This shift in Iranian governance placed pressure on Pakistan to burnish
its own Islamic credentials. Pakistani president Zia-ul-Haq issued religious ordinances,
including one that prohibited banks from charging interest on loans, something forbidden
by sharia.

Citibank had major operations in Pakistan. The idea of running the bank there without
charging interest came as a shock to management. I
was assigned to become expert in sharia and assist in the conversion of Citibank’s
operations from Western banking to Islamic banking.

I arrived in Karachi in February 1982 and went to work. Citibank’s country head, Shaukat
Aziz, later prime minister of Pakistan, would occasionally pick me up at my hotel.
In monsoon season, we would barrel through flooded Karachi streets choked with ubiquitous
decorated buses and three-wheeled jitneys, speeding past vendors spitting bright red
betel nuts they chewed for a buzz.

As I told these tales to the fund manager, I noticed his face became taut and his
stare serious. He motioned me to a corner of the deck away from the other guests.
He leaned forward and said sotto voce, ��Look, it seems you know a lot about Islamic
finance and you know your way around Pakistan.” My local knowledge was a little rusty
since these things had happened decades before; still, I replied, “Yeah, I worked
hard at that. I know Islamic banking.”

He leaned in and said, “I’m helping the CIA on a project related to terrorist finance.
They don’t have much expertise, and they’re doing some outreach. They’ve asked me
to source whatever talent I can. If someone from the agency contacted you, would you
take the call?” I said yes.

For those too young to recall 9/11 and the aftermath, it is difficult to describe
the mix of anger and patriotic fervor that gripped the nation, especially in the New
York area, where many people lost friends or family members or knew someone who did.
We all asked ourselves how we could help. The only advice we got from Washington was
“
get down to Disney World . . . take your families and enjoy life.” Here was the chance
for me to do more than go shopping.

A few days later the phone rang in my New York office. The caller introduced himself
as part of the CIA’s Office of Transnational Issues in the Directorate of Intelligence.
He asked if I would be willing to join a team looking at aspects of terrorist finance,
specifically insider trading ahead of major terrorist attacks. He would send me a
letter outlining the scope of the project. I agreed, the letter was soon received,
and by the early summer of 2003, I was on my way to CIA headquarters to meet the rest
of the Project Prophesy team.

*  *  *

Joining a project in midstream is never easy, because the rhythm and culture of the
team are already established. But I fit right in because I had been on Wall Street
longer than many of the volunteers and had more international experience than all
but a few. Within months I became a co–project manager under Tauss’s direction.

My first contribution was to point out that the CIA’s objective was already being
pursued every day by hedge funds, but for a different reason. The CIA was trying to
spot terrorist traders, while hedge funds were trying to spot unannounced takeovers.
But the big-data techniques applied to trading patterns were the same.

Spotting suspicious trading is a three-step process. Step one is to establish a baseline
for normal trading, using metrics like volatility, average daily volume, put-call
ratios, short interest, and momentum. Step two is to monitor trading and spot anomalies
relative to the baseline. Step three is to see if there is any public information
to explain the move. If a stock spikes because Warren Buffett bought a large position,
that’s not an anomaly; it is to be expected. The intriguing case is when a stock spikes
on no news. The logical inference is that someone knows something you don’t. A hedge
fund might not care about the origin of the hidden information—it can just piggyback
on the trade. For the CIA, the observation became a clue. And the stakes were higher.

Like any development project, Prophesy had its geek squad of programmers and systems
administrators to design protocols for security, interconnectivity, and the user interface.
The team combined the joy of a Silicon Valley garage start-up with the can-do culture
of the CIA in a unique effort to preempt terrorism using the same information that
viewers see every day on Bloomberg TV.

The climax of Project Prophesy was a red team exercise in September 2003. Red teaming
is a classic way of testing hypotheses and models by recruiting a group of experts
as the “enemy,” then asking them to role-play scenarios designed to expose flaws in
the original assumptions.

Our red team membership was like a Pro Bowl squad, with all-star traders from the
biggest banks, hedge funds, and institutional investors in the world along with some
noted academics. In addition to John Mulheren, the team included Steve Levitt, a professor
at the University of Chicago and an author of
Freakonomics;
Dave “Davos” Nolan, a hedge
fund billionaire;
and senior figures from Morgan Stanley, Deutsche Bank, and Goldman Sachs. In the somber
days after 9/11, it was inspiring to see the private sector respond to requests for
help. Hundreds of calls went out for expert advice, and no one ever refused. There
was an awkward moment when one Wall Street CEO asked if he could travel to the CIA
by private helicopter and land on the grounds at Langley, but he was politely informed
this would not be possible.

The red team was given a terror scenario and asked to think like terrorists and devise
a way to trade on the inside information. We wanted to anticipate which markets they
would trade in, how long before the attack they would execute the trades, the size
they would trade, and how they planned to get away with the money. All this real-world
expertise would be lined up against the theoretical results of Project Prophesy to
see if we were on the right track and whether our proposed systems could catch what
our designated bad guys were actually plotting.

The assignments and plans were handled individually outside the agency like a take-home
exam. The results were debriefed in a group session at CIA headquarters on a crisp
day in late September 2003. The debriefing lasted all day. The investment mavens relished
their chance to be bad guys and attack our models and assumptions.

The most out-of-the-box approach came from John Mulheren. He said he would not trade
before
the attack but would wait until the moment of the attack and begin his insider trading
after
. He knew markets can be slow to react and that breaking news is often misreported
or sketchy. This produces a window of thirty minutes or so after the attack when the
terrorist could engage in insider trading while markets struggled to comprehend events
taking place around them. The beauty of trading after the attack was there would be
no telltale tape. Authorities might not even investigate that part of the time line.
This approach closely mirrored what Mulheren had actually done on 9/11, as he later
told us.

Notwithstanding such creativity, the actions of the red team “terrorists” tended to
confirm the Prophesy team’s own thinking regarding how real terrorists would behave.
We had modeled terrorist trading from start to finish, anticipating that the insider
traders would be not the terrorists themselves but rather members of the terrorist
social network. We also concluded the insider trade was likely to be executed in the
options
market less than seventy-two hours before the attack to minimize risk of detection.

We conceived an alarm system, too, compiling a list of the four hundred most likely
target stocks. Baseline stock behavior was programmed so that anomalies were well
defined. We created an automated threat board interface that broke the markets into
sectors and displayed tickers with red, amber, and green lights, indicating the probability
of insider trading. The system was complete, from the terrorist order entry to agents
breaking down the terrorist’s door with a warrant in hand.

By late 2003, we were nearing the end of the strategic study. It was a bit melancholy
because our Wall Street brain trust would be breaking up. Due to the number of people
involved and the degree of talent, it seemed unlikely there would be any such group
assembling at the CIA for some time to come. The complete records of the red team
exercise were compiled and added to our main Project Prophesy archives.

Our job wasn’t quite finished, as by early 2004, Project Prophesy was ready to build
a prototype watch center. When integrated with other classified sources, the system,
ideally, would have the capability of interpreting, say, a scrap of pocket litter
picked up from a suspected terrorist in Pakistan. The words
cruise ship
scrawled on it would be integrated with a red signal from the watch center on a public
company such as Carnival Cruise Lines to bolster the case for a planned attack on
a Carnival vessel. Either clue is revealing, but the combination is exponentially
more telling.

We found our project’s angel investor in one of the more unusual corners of the CIA’s
universe. A firm called In-Q-Tel had been organized in 1999 to allow the CIA to tap
into cutting-edge technology incubated in start-ups in Silicon Valley. There’s no
faster way to be on the inside of innovation than to show up with a checkbook ready
to back the next big thing. In-Q-Tel was conceived as an independent, early-stage
venture capital firm—which just happened to be funded by the CIA.

■
MARKINT

With In-Q-Tel funding a scaled-down team, Project Prophesy formally ended, and our
group launched into a new phase called MARKINT, for market intelligence. This was
a new branch of intelligence gathering to go along with human intelligence (HUMINT),
signals intelligence (SIGINT), and a short list of other -
INT
s. MARKINT was a new milestone in the long history of intelligence collections.

Over the course of 2004 and 2005, the team refined its behavioral models and created
the code and network needed for a working prototype. In addition to the CIA’s Randy
Tauss, our partners were Lenny Raymond, a visionary technologist, and Chris Ray, a
brilliant applied mathematician and causal inference theorist.

My role was to provide the market expertise, behavioral modeling, and target selection.
Chris designed the algorithms and the signal engine. Lenny would weave it all together
with a cool user interface. Randy ran the traps inside the agency and made sure we
got funding and support. Together we had our own capital markets skunk works, after
the famous black site in California where highly classified spy planes were designed
and built. By early 2006, the system was running, and signals started coming in.

The system performed beyond our expectations. We routinely picked up signals that
indicated insider trading. These signals were from regular market players; there was
nothing yet to indicate that the insider trading was terror related. Our project had
no legal enforcement powers, so we simply referred these cases to the SEC and otherwise
ignored them. We called this our catch-and-release policy. We were hunting terrorists
and would leave ordinary Wall Street crooks to others.

On Monday, August 7, 2006, the system flashed red on American Airlines at the open
of trading. A red light was a way to spot a signal in a sea of sectors on the threat
board. The metrics behind the signal showed this one was extremely powerful, something
like an 8.0 earthquake on the Richter scale. A quick scan of the news showed absolutely
nothing on American Airlines. There was no reason for the stock to behave the way
it was—a sure sign of insider trading on news not yet public.

Chris Ray was operating the signal engine that day and sent me an
e-mail that said, “There’s a possible terrorist-related event today. We did get a
red signal on the open in AMR (American Airlines).” Chris and I were careful to document
and time-stamp the signals and analyses in real time. We both knew that if a terror
event occurred, it would not be very credible to look at the tape in hindsight and
find something suggestive. We wanted to see things in advance and record them to prove
the value of the signal engine.