Trigger
Just watched the recently (1/7/2014) released Frontline documentary titled “Catch a trader”. It’s primarily about two hedge funds Galleon Group of Raj Rajaratnam fame and SAC Capital Advisors of Stephen Cohen fame.
Hedge funds are portrayed as insider trading entities therefore making exorbitant profits.
FBI Tactics
How do FBI agents approach a potential culprit or informant: Two agents would stand behind the person at his favorite coffee shop in NYC. When the time comes for the person to specify how he would like his coffee, the FBI agent standing behind him would answer for him and ask the person to leave and answer some questions. Can you imagine that the person was stunned. Is this intimidation?
Extensive Use Of Wiretaps
We learn in this documentary that the Fed’s were able to make their case because they used extensive wiretaps on various hedge fund figures (including e.g. Raj Rajaratnam) to an unprecedented extent.
The chilling effect of this drastic measure on the financial sector is clear. In the future, people in the financial sector would need to resort to secure, eavesdrop secure means of communication.
Video Excerpts From A Grand Jury Deposition Of Stephen Cohen
PBS was able to obtain footage from video recordings of a grand jury deposition of Stephen Cohen.
The excerpts appear to be intended to show a business owner who is oblivious and has a no responsibility/leave me alone attitude.
However, Mr. Cohen rightly pointed out that insider trading is vague.
One Investor Who Sued Over His Losses Is Paraded
Forgot the name of this man. If I remember correctly he invested more than one million dollar in one pharmaceutical company. Well, Raj Rajaratnam is reported to have obtained advanced non-public material information about that company before negative news was made public and sold his substantial holdings aggressively.
Subsequently, the man lost large amounts of money related to his investment in this pharmaceutical company.
First, it appears that this man invested way too much money in one company. That is a big no no.
Second, it appears that this man had no stop loss order placed to prevent large losses if something should go wrong. Another big no no.
Finally, and more important what would have been the difference in outcomes had the nonpublic material information not been released prematurely. I would say none. This investor would have had similar losses. So what is the point?
Insider Trading Hogwash
I have previously blogged about this subject here.
Is insider trading a crime? I doubt it.
So called insider trading is as ancient as human civilization. It is a driving force of human progress. Of course, everyone with common sense would invest in an opportunity if it presents itself or disinvest immediately if somewhat credible negative news or rumors are learnt.
There is a myth perpetuated that insider trading benefits only the rich. What if e.g. Mr. Buffet's secretary or chauffeur or landscaper learns something and invests accordingly? Why should a doctor or anyone else who learns early e.g. about the success or failure of a specific medication not trade on this information or pass it on. There is no guarantee that the early investor will really win.
We need more insider trading not less so that market prices are quickly adjusted. I am not sure whether more transparency (e.g. identified insiders like executive officers have to disclose their trading immediately) is helpful or desirable. Once so called insiders trade their information whatever it may be is made public.
In the U.S. apparently the earliest major insider trading relevant legal action refers to a U.S. Supreme Court decision of 1909 (i.e. STRONG v. REPIDE, 213 U.S. 419). It appears that this case even pertains to “... Code of Commerce of the Philippine Islands the directors are declared to be mandatories of the society, and that, by article 1459 of the Spanish Civil Code ...”. I am not sure whether this case is really relevant, e.g. “This "special facts or special circumstances" rule meant that although directors generally had no duty to disclose material facts when trading with shareholders, as the majority rule held, a duty might arise where there were special circumstances, such as concealment of the defendant-purchaser's identity (the corporate officer had used an agent go-between to avoid detection of his actions by the seller here) and a failure to disclose significant facts that materially affected the price of the stock.” (Source).
According to Wikipedia it was “Section 16(b) of the Securities Exchange Act of 1934 prohibits short-swing profits (from any purchases and sales within any six-month period) made by corporate directors, officers, or stockholders owning more than 10% of a firm's shares. Under Section 10(b) of the 1934 Act, SEC Rule 10b-5, prohibits fraud related to securities trading.” that really kicked it off. What is actually the fraud here?
Nonpublic Material Information
Have you ever read “17 CFR 240.10B5-1 - TRADING”? This is the rule that the PBS documentary referred to and which was subject of the interrogation of Mr. Cohen during the deposition.
You may want to read it. It is a convoluted mumble jumble of words indicating this is something contrived by lawyers for lawyers without any purpose. Or in other words, a waste of taxpayers' money. Or a pretense for ambitious attorney general’s to get famous for.
Preet Bharara: Insider Trading Is “Rampant” On Wall Street
Mr. Bharara is the federal attorney of the Southern District of New York behind the indictments featured at least once on the front page of Time Magazine (“This Man Is Busting Wall Street”). He was nominated by President Obama.
PBS introduces Mr. Bharara “[a]s U.S. attorney for the Southern District of New York, Preet Bharara has led one of the government’s most aggressive crackdowns on insider trading. Since 2009, his office has brought charges against 83 people and four entities and won 78 of those cases by either a guilty plea or at trial.” (Source).
In the PBS documentary he came across as a simple, naive mind “rules are rules, the law is the law”.
Excerpts from a PBS interview with him (Emphasis added):
- “When you’re talking about a particular breed, type of crime, insider trading, it’s as bad as we’ve seen as compared to other areas. You have, as I’ve said, people from all walks of the financial industry who have been involved in it. There has been, unfortunately I think, a kind of casualness and cavalierness to the behavior that [they] have engaged in.”
- “What we have seen for the first time I think in recent times [are] people who are parts of vast networks of insider trading, and they have in some cases not just one person to tip them at a company, but they have a backup tipper, and they have another backup tipper behind that backup tipper.” [Sounds to me like normal, everyday life. Some people talk about football games and their non-public secrets other people about publicly traded companies.]
- “It [insider trading] puts a black mark on the entire enterprise, and it’s not good for anybody and makes people lose faith in the enterprise and makes people, in this context, lose faith in the market.”
Why Are Hedge Funds NOT Sold To Everyone?
If some hedge funds indeed have exorbitant returns like SAC Capital Advisors year after year, why is average Joe and Jane not allowed to partake by investing in hedge funds?
Something that PBS or U.S. Attorney Preet Bharara, of course, never asked!
According to Wikipedia “Hedge funds are made available only to certain sophisticated or accredited investors and cannot be offered or sold to the general public.” I think this is the biggest problem! Period!
