Robert B. Reich: The coin of the realm
A few years ago, hedge fund Level Global Investors made $54 million selling Dell Inc. stock based on insider information provided by a Dell employee. When charged with insider trading, Level Global Investors co-founder Anthony Chiasson claimed he didn’t know where the tip originated.
The defense team for Chiasson and his co-defendant, Todd Newman of hedge fund Diamondback Capital Management LLC, argued that few traders on Wall Street ever know the true origin of the inside tips they use because confidential information is, in the words of Chiasson’s attorney, the “coin of the realm in securities markets.”
Last week, a court of appeals agreed. It overturned the convictions of Chiasson and Newman, citing lack of evidence that the two men had received the tip directly or that they knew insiders were leaking confidential information in exchange for some personal benefit.
The Securities and Exchange Act of 1934 banned insider trading but left it up to the Securities and Exchange Commission and the courts to define it. Which they have — in recent decades so broadly that confidential information is indeed the coin of the realm.
If a CEO tells his golf buddy that his company is being taken over, and his buddy makes a killing on that information, no problem. If his buddy leaks the information to a hedge fund manager and doesn’t say where it came from, the hedge fund manager can also use the information to make a bundle.
Major players on Wall Street have been making tons of money not because they’re particularly clever but because they happen to be in the “realm” where a lot of coins come their way.
Last year, the top 25 hedge fund managers took home, on average, almost $1 billion each, according to Forbes. Even run-of-the-mill portfolio managers at large hedge funds averaged $2.2 million each, according to the 2014 Glocap Hedge Fund Compensation report.
Another person likely to be exonerated by the ruling that overturned the Chiasson and Newman convictions is Michael Steinberg of the hedge fund SAC Capital Advisors, headed by Stephen A. Cohen.
In recent years, several of Cohen’s lieutenants have been convicted of insider trading. Last year, Cohen himself had to pay a stiff penalty and close down SAC because of the charges, after making several billion dollars.
SAC managed so much money that it handed over large commissions to banks on Wall Street. Those banks possessed lots of inside information of potential value to SAC Capital. This generated possibilities for lucrative deals.
According to a Bloomberg Businessweek story from 2003, SAC commissions “grease the super-powerful information machine that Cohen has built up” and “wins Cohen the clout that often makes him privy to trading and analyst information ahead of rivals.”
One analyst was quoted as saying: “I call Stevie personally when I have any insight or news tidbit on a company. I know he’ll put the info to use and actually trade off it.”
SAC’s credo, according to one of its former traders, was always to “try to get the information before anyone else.”
Insider trading has also become commonplace in corporate suites.
CEOs and other top executives, whose compensation includes piles of company stock, routinely use their own inside knowledge of when their companies will buy back large numbers of shares from the public — thereby pumping up share prices — in order to time their own personal stock transactions.
That didn’t used to be legal. Until 1981, the Securities and Exchange Commission required companies to publicly disclose the amount and timing of their buybacks. But Ronald Reagan’s SEC removed those restrictions.
Then, George W. Bush’s SEC allowed top executives, even though technically company “insiders” with knowledge of the timing of their company’s stock buybacks, to quietly cash in their stock options without public disclosure.
But now it’s normal practice. According to research by Professor William Lazonick of the University of Massachusetts Lowell, between 2003 and 2012 the chief executives of the 10 companies that repurchased the most stock (totaling $859 billion) received 58 percent of their total pay in stock options or stock awards.
In other words, many CEOs are making vast fortunes not because they’re good at managing their corporations but because they’re good as using insider information. It’s the coin of their realm, too.
None of this would be a problem if the only goal were economic efficiency. The faster financial markets adjust to all available information, confidential or not, the more efficient they become.
But the ability to profit off inside information that’s not available to average investors strikes many as unfair. The “coin of the realm” on Wall Street and in corporate boardrooms is contributing to the savage inequalities of American life.
If Congress and the SEC wanted to reverse this and remove one of the largest privileges of “the realm,” they could. But they won’t, because those who enjoy those privileges also have a great deal of political power.