A Step Back on Insider Trading Law

Article excerpt

It appears that the rules on insider trading are about to change again, making it possible for smart professionals to escape liability even if caught.

Insider trading laws used to be for amateurs. Professional traders knew how to avoid being caught.

Then prosecutors changed the rules. They put wiretaps on traders' phones and won a series of convictions.

Now, however, it appears that the rules are about to change again, making it possible for smart professionals to escape liability, even if they are caught.

That change seems likely to be ordered by a three-judge panel of the United States Court of Appeals for the Second Circuit, which heard arguments this week on whether to reverse the convictions of two hedge fund managers, Todd Newman, a portfolio manager at Diamondback Capital Management, and Anthony Chiasson, a co-founder of Level Global Advisors.

The evidence on which they were convicted showed they had made millions of dollars trading on inside information in two companies, Dell Computer and Nvidia, and that they knew the information had come from company employees who breached their obligations to their employers. It showed that those employees had done so in return for receiving "things of value."

The managers were, in the words of one of their lawyers, "remote tippees," having heard the tips from analysts rather than from the original sources themselves, or even from the first people tipped by those insiders. The evidence showed that the managers were intensely concerned with being assured that the tips on quarterly earnings came from insiders who were in position to know. And it showed the tips were valuable because the shares moved sharply when the information became public.

Was that enough for a conviction?

Federal District Court Judge Richard J. Sullivan thought so. He refused to instruct the jury that the defendants could not be convicted unless they knew the leakers had received a benefit when they violated a "fiduciary duty or other relationship of trust and confidence" by providing the information. After they were convicted, Mr. Newman and Mr. Chiasson appealed, arguing the judge was wrong when he refused to give that instruction.

They received a sympathetic hearing from at least two of the three judges on the appellate court, who focused on Supreme Court rulings that have said that trading on inside information is legal unless it is obtained from someone who violates a duty to keep it secret and receives something of value. The ultimate hypothetical example of legal insider trading -- one that does not appear to have ever happened -- involves a secret merger plan that happens to blow out of a limousine window and is picked up by a passer-by.

The defendants argued that corporate leaks were common and that traders might not know which ones were improper. Mr. Chiasson's lawyer, Mark F. Pomerantz of Paul, Weiss, Rifkind, Wharton & Garrison, said "the record was replete" with evidence of authorized leaks from Dell to selected analysts.

Confidential information, he said, is "the coin of the realm in securities markets."

That struck me as a cynical view, one that called into question the basic integrity of the United States stock market. …