Insider Trading Probe: Who’s Next?

The Security and Exchange Committee has a bounty out on hedge funds that have larger than average, consistently positive market gains. Question arises, who is going to be the next Raj Rajaratnam (the indicted head of hedge fund Galleon Group) to be prosecuted by the SEC?

Raj Rajaratnam thinking

Objective Evidence

Insider trading is the trading of a corporation’s stock or other securities (e.g. bonds or stock options) by individuals with potential access to material non-public information about the company. In the U.S., trading by corporate insiders such as officers, key employees, directors, and large shareholders may be legal if this trading is done in a way that does not take advantage of material non-public information (read more about definition of insider trading).

Nevertheless, it is a daunting task for SEC officials to convict a money manager of insider trading because of the difficulty finding objective evidence that coincides with daily tasks of investors.

Is it illegal to walk into a mall retail store and ask a manager if they are busier than prior years during that fiscal quarter? Is it insider trading when you sell the stock of a company you work for because contingent liabilities are present in the business sector and could potentially hurt your company?

SEC Propositions

In accordance with the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act), the Securities and Exchange Commission is proposing new rules under the Securities Exchange Act of 1934 governing the security-based swap data repository registration process, duties, and core principles (Read full SEC Document).

Mary Schapiro, Chair of U.S. Security and Exchange Commission, comments: “The Dodd-Frank Act mandates a number of new responsibilities for the SEC to protect investors, including new authority over hedge funds, private equity funds and venture capital funds. Fulfilling these responsibilities will require the SEC to expand and improve our examination and surveillance capabilities in order to provide the type of risk-focused regulatory oversight investors deserve.”

SEC Tactics

Chairman of the Committee on Financial Services, Barney Frank, is the regulator that is putting the most pressure on the financial community. Heavy emphasis is now being placed on the consultants that sell information to hedge funds. These consultants are being federally prosecuted in hopes that they will disclose names of people higher up the ladder for bigger, “Hollywood” style arrests. Public sentiment has received increasing support of making money managers a piñata.

Jay Dahya, an economic professor at the Zicklin School of Business at the City University of New York reaffirms, “They are now focusing on information transmission, how is it that some people seem to have an advantage over others, and how is this information getting to them?”

Bigger Fish

It is yet unclear who the SEC is going to target. It can be easily stated that any fund in the top 95th percentile will receive special attention, also among the typical accounting regularities that attain audits by the IRS will be in the mist.

It is public knowledge, for example, that SAC Capital, Janus Capital, and Wellington Management have received federal requests for information. Earlier this month, Bloomberg reported that at least one employee of Advanced Micro Devices (AMD) were arrested in connection with the insider trading probes. On December 10th, a Dell (DELL) employee plead guilty to conspiracy to commit securities fraud. Primary Global Research has also been involved in insider trading probe arrests. Currently, one executive of Level Global Advisors is providing information to the FBI. Loch Capital Management, one of the hedge funds raided last month, is closing its doors. Flextronics International (FLEX) employee Shimoon and Taiwan Semiconductor (TSM) employee Manosha Karunatilaka were both charged recently with conspiracy to commit securities fraud (read article in its entirety).

Lastly, Mr. Gasparino noted that “It is unclear if company officials — or possible “tippers” of allegedly illegal insider information — are actual targets of the burgeoning probe, but this person said they are clearly on the Department of Justice’s radar screen.”

( Read more: http://www.benzinga.com/life/hedge-funds/10/12/694967/insider-trading-pr… )

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