Holman Jenkins comments on the SEC's investigation of hedge fund guru Steven Cohen. First, the background:
During his heyday in the 1980s and '90s, billionaire hedge-fund manager Steven Cohen never would have had these problems. He was famed as a "tape reader," buying and selling purely in response to numbers dancing on a screen.
Only later, when he began taking an interest in company fundamentals, did he risk collision with the government's Procrustean attempts to regulate the information in share prices via insider-trading law, now threatening to engulf his $14 billion fund, SAC Capital. ...
... Mr. Cohen has not been charged or even publicly named in the legal controversy now brewing up over his firm's Elan trades. A former SAC trader, Mathew Martoma, was officially charged this week with corrupting a doctor involved in the Alzheimer's study to obtain an illegal heads-up. One and all assume, though, that Mr. Cohen is the government's ultimate target.
Next Jenkins makes an observation with which I wish to associate myself fully:
Mercifully absent in the proceedings so far have been the usual claims from prosecutors that the average investor was hurt by SAC's alleged actions. Whoever was a buyer when SAC was selling would have been a buyer anyway, whether SAC's motive in selling was inside information or the maundering of an astrologer.
Secondly, a real wrong can be discerned here even by those immune to the government's usual cant on insider trading. That wrong was the alleged corruption and betrayal of trust by a fiduciary involved in the drug study.
This is vastly preferable to the thrust of much enforcement in the past two decades, when government went further and further afield to convict people who acted on tips they supposedly should have known they shouldn't have known. A nadir was the 2010 arrest of two rail-yard workers who saw suits browsing among the flatcars and deduced their company was for sale.
Damned straight. I wrote of that 2010 case that:
First, there is no inside information here. Inside information long has been defined as " information intended to be available only for a corporate purpose and not for the personal benefit of anyone." SEC v. Texas Gulf Sulphur Co., 401 F.2d 833 (C.A.2 1968). What you have here are educated guesses derived from observations of events. There's nothing to suggest secrecy nor is there anything to suggest a communication conveying knowledge.
The Texas Gulf Sulphur case made clear that: " An insider is not, of course, always foreclosed from investing in his own company merely because he may be more familiar with company operations than are outside investors. ... Nor is an insider obligated to confer upon outside investors the benefit of his superior financial or other expert analysis by disclosing his educated guesses or predictions." No need to disclose educated guesses based on familiarity with company operations, which is exactly what we have here.
Second, the SEC is bootstrapping the trades to prove materiality. Granted, a footnote in the Supreme Court’s Basic v, Levinson opinion flatly stated that “trading and profit making by insiders can serve as an indication of materiality.” But Basic was not an insider trading case. Hence, there remains a legitimate question as to whether the allegedly illegal insider trading behavior can serve as proof that the facts on which the insider traded were material. The problem, of course, is the potential for bootstrapping: if the allegedly illegal trade proves that the information is material, the materiality requirement becomes meaningless—all information in the defendant’s possession when he or she traded would be material. Which would suit the SEC just fine, but is damned hard justify, especially in light of the draconian penalties for insider trading.
Third, the Supreme Court has held that plaintiff’s prima facie case must include proof defendant acted with scienter, which the court defined as a mental state embracing an intent to deceive, manipulate or defraud. Here the SEC is trying to conflate materiality and scienter, arguing that if the information is material they must have intended to defraud. This grossly compounds the SEC's effort to endrun the materiality element. they basically want the fact of the trade to prove two elements of the offense.
The SEC has long tried to fudge and finesse the insider trading law. But this case is an especially egregious example of how the SEC seeks to stretch the law beyond any reasonable stopping point. This case should be dismissed and the SEC ought to be sanctioned for having brought it.
If the SEC has really learned its lesson, that would be a great thing. But I'm not holding my breath.
