This past week, six top financial investors, including one billionaire, were arrested and charged with fraud and conspiracy for having illegal information before making their trades, bringing them riches that they didn’t deserve. They were accused of making millions of dollars from this information over the course of 3 years.
Most people don’t understand this kind of crime at all, or why it’s a crime. The idea that most people have is that everyone looks for information on something to try to get ahead of the game. Indeed, one of the reasons the NFL has in wanting every team to disclose when players are injured and what kind of injuries they have is to ward off gamblers learning that certain key players might have undisclosed injuries, and thus be able to hedge their bets either for or against a team, and make money off that knowledge.
In general terms, there are two laws against insider trading, and both are federal laws. The first is the Securities Exchange Act of 1934 and the second is the Insider Trading Sanctions Act of 1984. The purpose of these laws was to restrict the ability of people from making money, or losing money, based on information that wasn’t being shared with everyone else. The initial purpose of these laws were to prevent those people working at these companies from doing things that would bring them profits at the determent of their own company or the company’s investors. As we’ve seen, however, this is also to stop others from learning of this information, then acting upon it. It’s this law that sent Martha Stewart to prison some years ago.
A portion of a quote from the 1984 act tells us why they believe this is unfair: insider trading threatens “markets by undermining the public’s expectations of honest and fair securities markets where all participants play by the same rules.” In other words, those with this information get a boosted benefit and have more opportunity to game the system than those of us without that information.
The thing that’s confusing about this law is that most people think it’s just the way business works. In other words, any of us who are investing in a company could just pick up the phone, call a company, and start asking questions. Where the problem comes in is that not everyone knows everything that’s going on in a company. If you get to talk to either the CEO or CFO and they tell you something that they’re not going to tell anyone else, you now have an advantage that could make you a lot of money that no one could have made. And, it’s possible that either of these people could be convinced to share this information with you for a percentage of the profits that are made. The acts were meant to eliminate these possibilities.
Obviously it’s still happening, and it will be interesting to see how things shake out for these defendants. As it is, the wealthiest of the group, a man named Raj Rajaratnam, was being held in lieu of $100 million bail; that’s more than the worst murderers. You don’t play with the money and get away with it in America.
List of other Relevant Articles
Judge Orders Trial in SEC’s Case Versus Galleon’s Rajaratnam
Rajaratnam: Relentless Pursuit of Data
Insider Trading Prevention Videos
