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Criminal Charge Against Jefferies Trader Should Have Wall Street Quaking (Update2)

Tickers in this article: BAC C GS JEF JPM MS

(Updates to add comment from a law partner in the fourth-to-last paragraph.)

NEW YORK ( TheStreet) -- Imagine a scenario in which the government attempts to aid the free-falling housing market by way of a $22 billion investment, and Wall Street traders see an opportunity to boost their million-dollar bonuses using deceptive trading tactics at a cost to their clients.

That's the charge brought by the Securities and Exchange Commission and the U.S. attorney on Monday against former Jefferies(JEF) Managing Director Jesse Litvak, who is alleged to have committed fraud by misleading clients about the trading prices of complex mortgage securities during a taxpayer-supported program aimed at reviving the ailing housing market.

It also may not be that different from business as usual in one of Wall Street's most profitable trading markets -- and that should have the nation's top investment banks worried.

On Monday, the SEC and U.S. attorney charged Litvak, a senior trader in Jefferies' mortgage-trading unit, with 16 criminal counts including one TARP fraud charge, four counts of making false statements and 11 counts of securities fraud.

Litvak's offense, according to the SEC's complaint, was that the trader lied to his counterparties about the price and demand of mortgage-backed securities traded between 2009 and 2011, when the government was trying to revive a key engine of the housing market through the U.S. Department of Treasury's taxpayer-supported Public-Private Investment Program ("PPIP").

The sucker on the other side of Litvak's trade was often the U.S. taxpayer, according to the SEC's complaint

Litvak plead not guilty to the charges on Monday and was released from jail on a $1 million bond. Jefferies repaid $2.2 million to a client related to the trades, according to March settlement.

While the complaint may reveal to the casual Wall Street observer the extent of greed and manipulation that drives profits on trading desks -- akin to the scalping that occurred in gas stations in New York and New Jersey after Hurricane Sandy -- it also sheds light on what could be deemed illegal on Wall Street and eventually become a focus of regulators like the SEC.

The charge against the ex-Jefferies trader may expose another side of Wall Street trading profits the SEC is willing to go after, three years after the agency brought fraud charges against Goldman Sachs (GS) for structuring a complex mortgage security called the ABACUS 2007-AC1 collateralized debt obligation.

While the SEC has gone after banks for poor disclosure of what was contained in complex mortgage trades such as Abacus, the agency hasn't done as much legwork in investigating how products are traded in opaque debt markets known as over-the-counter trading.

That is, until Monday's charge against the former Jefferies trader.