In an interesting case that reads like a movie script, the Securities and Exchange Commission recently charged a managing clerk at a major top-of-the-line New York law firm for violating insider-trading laws. Very simply, if you have access to important information about a company that is publicly owned, you need to keep quiet about it.
The scheme seemed to have started innocently enough.
The law clerk was having drinks with friends in a bar in New York City in early February 2009.
After separating from the rest of group, the clerk and a friend I'll call "MM" talked about their stock investments.
MM was concerned that a stock he owned would decline, and worse, he was afraid the company would go bust.
The clerk knew that would not happen. At work, he had access to the law firm's computer system. He had seen documentation of an upcoming deal that would infuse $500 million into the ailing company.
When MM realized this information would be positive for the stock, instead of selling the stock, he called his broker to buy more.
The broker questioned the purchase, but MM told him that he wanted to buy based on information from a "reliable source," at the law firm. When the deal went through, the stock went up, MM made money, and the broker was impressed.
MM offered to pay the clerk $7,000 as a "thank you" for the information, but the clerk did not take the cash. Instead, he told MM to invest it on the next deal.
That was the start of a $5.6 million insider-trading scheme. But in the end, the clerk, the broker and MM were caught.
"Law firms are sanctuaries for the confidential treatment of client information, and this scheme victimized not only a law firm but also its corporate clients and ultimately the investors in those companies," said Daniel M. Hawke, chief of the SEC Enforcement Division's Market Abuse Unit. "We are continuing to combat serial insider-trading schemes, particularly by law-firm employees and other professionals who are entrusted with extremely sensitive market-moving information."
Because the clerk did not have direct contact with the broker who executed the trades, the three culprits assumed they could avoid the law. To pass information to each other, the clerk arranged meetings by cellphone with MM at a New York City coffee shop. MM then met the broker near the information booth in Grand Central Terminal. MM served as a middleman between the clerk and the broker.
MM wrote a ticker symbol on a napkin or a Post-it note, and showed it to the broker. To destroy the evidence, MM either chewed up or ate the napkin or Post-it note.
"People often try to cover their insider-trading tracks by using middlemen, destroying evidence and creating phony documents. They should learn that sham cover stories simply don't work and won't deter us from finding their schemes," said Robert A. Cohen, co-deputy chief of the SEC Enforcement Division's Market Abuse Unit.
To make it appear as if trades were based on research, the broker would return to his office and research the target company to create a paper trail to justify buying the target company. He then emailed MM with his "supposed thoughts about why buying the stock made sense," quoting from the SEC release about the case.
The broker bought the stock for himself, his family, the go-between and even 50 of his customers. He earned profits for himself and commissions on the trades he made for others. The brokerage firm he worked for rewarded him with bonuses based on his performance "driven in large part by the profits garnered through the insider-trading scheme."
"As the middleman, [MM] was the firewall between [the clerk] and [the stockbroker]. [The clerk] had the information, [the broker] did the trading, and [MM] kept them apart," said the SEC's Cohen. "But they were wrong in believing that this would stop the SEC from detecting their scheme."
Because tipping "undermine[s] the level playing field that is fundamental to the integrity and fair functioning of the capital markets," these cases are being pursued aggressively by the SEC.
If you are interested in reading about more SEC enforcement cases involving insider trading, go to www.sec.gov/spotlight/insidertrading/cases.shtml.
For more information on insider trading, go to the SEC's website at http://tinyurl.com/ybpzohq.
Julie Jason, JD, LLM, a personal money manager (Jackson, Grant of Stamford, Conn.) and award-winning author, welcomes your questions/ comments (readers@juliejason.com).