Sense on Cents

Insider trading activity on Wall Street has often been connected to the above line shared by Gordon Gekko with his protege Bud Fox in the movie Wall Street (1987).

Is the insider trading probe currently occurring on Wall Street and entangling a number of firms within hedge fund and mutual fund circles just another case of those on the inside benefiting at the expense of America as a whole? Or is this investigation unfairly maligning those who view themselves as merely being industrious in unearthing corporate information? Rest assured, this posture will clearly be put forth as a defense by many implicated in this ongoing probe.

“Hey, LD, how often has Sense on Cents promoted diligence in collecting information and aren’t those who are ‘working harder’ to gain an edge supposed to benefit?” Yes and yes.

I have no doubt there will be serious questions as to the nature of the information captured in this probe, and the manner in which those implicated came to gain that information. Is the information both material and nonpublic? We shall see.

However, the real crux of this investigation–and the difference between the insider trading activity on Wall Street from the 1980s–has much more to do with the manner in which information is processed and then utilized. To address this point, we really see the difference in Wall Street circa 2010 versus Wall Street circa late 1980s.

Gordon Gekko –and Ivan Boesky–profited from inside information on prospective mergers. Those implicated in the insider trading scandals of the last few years have been entangled by the collusive manner in which information is shared and then traded upon.

“Hey, LD, you mean I can’t tell my friend what I may have learned? In similar fashion, I can’t lean on my friends to garner information from them? What are friends for?”

This probe goes a little deeper than that. Let’s navigate further. What exactly is collusion?

Collusion involves people cooperating or working together when they should be competing. In the stock market, collusion can take many forms. Traders participating in accommodation trading, where goods are exchanged for non-competitive prices, are involved in collusion. Colluding traders might share private information regarding upcoming takeovers, allowing them to benefit from insider trading. Price rigging also involves the collusion of sellers, who inflate the price of an asset to realize higher profits.

Are groups of traders–that is, rings–working in unison to move markets? That is the case the government is putting forth. Let’s learn more as Reuters highlights, Regulators Zero In on Insider Trading Rings:

Regulators have shifted their focus on insider trading to repetitive patterns and hedge fund trading rings from one-time tip-offs, a top U.S. Securities and Exchange Commission official said on Monday.

After uncovering some of the biggest insider trading rings over the past three years, federal authorities are considering bringing charges against yet another ring of traders who may have been profiting from nonpublic information, people familiar with the matter told Reuters over the weekend.

But the series of high-profile cases in this area are no accident, Scott Friestad, associate director of the SEC’s division of enforcement, said on Monday.

“What we’ve found through these and some other investigations is that there are a lot more patterns and serial insider trading that’s going on than I think we previously thought had occurred,” Friestad said in comments to a Practising Law Institute conference on hedge fund regulation in New York on Monday.

“Our traditional approach to insider trading was really focused on one-off transactions. If there was a particular merger and acquisition, we would look at the trading around that event, and sometimes we would bring a case.”

However, he noted those cases could sometimes be difficult to prove due to circumstantial evidence. Now the SEC looks for odd, repetitive patterns in trading data.

“What these kinds of cases have shown us is that many of these players had access to inside information and engaged in insider trading over and over again,” Friestad said. “By identifying those patterns, it’s a lot easier from an enforcement perspective to bring those cases.”

“Over and over again…” Wow!

How many counts may be lodged against selected individuals? To the extent that individual traders at hedge funds are implicated, might all the partners of the hedge fund be held liable and be forced to repay past income earned based on the fact that profits were generated illegally? Oh, boy! This investigation may take us places we never imagined. Are some of these partners getting nervous, even if they individually had nothing to do with the actual trading? Think some of these individuals are rereading their partnership agreements and calling their attorneys?

Let’s navigate further as Reuters continues:

“(The Galleon case) taught us important lessons about the way information is shared, and the types of things that have made us better and smarter,” said Friestad, who oversees the SEC’s national enforcement program, including insider trading and fraud cases.

While Friestad did not comment directly on the possibility of pending charges, he said the SEC continues to look at such insider trading rings. Federal authorities may, in a matter of weeks, file a series of insider trading cases against hedge fund traders, consultants and Wall Street bankers, several lawyers familiar with the situation told Reuters over the weekend.

Information is everything. Working hard to capture information in a legal manner is the essence of competitiveness and capitalism. I love the markets and healthy competition. I applaud those who compete.

I detest the scumbags who would collude and share information illegally. They abuse capitalism.

Carl Fox, the father of Gekko’s protege, was correct in the wisdom he shared with his son:

Stop going for the easy buck and start producing something with your life. Create, instead of living off the buying and selling of others.

Here’s to due process.

Here’s also to those who love capitalism and integrity in our markets.

Larry Doyle

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I have no affiliation or business interest with any entity referenced in this commentary. As President of Greenwich Investment Management, an SEC regulated privately held registered investment adviser, I am merely a proponent of real transparency within our markets so that investor confidence and investor protection can be achieved.