Insider Trading: The Next Generation

By: Ray Pellecchia

File Under: NYSE Regulation

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Wrongdoing seems to know no generational boundaries, it has a very short memory, and it never seems to learn from past mistakes. We are reminded of all this by a couple of articles in the last week.

The first -- a Reuters article -- reports that suspected insider-trading cases reached an all-time high last year:

NYSE Regulation, the Big Board's oversight body, referred 146 cases of suspected insider trading to the U.S. Securities and Exchange Commission in 2008, five more than in 2007, the previous record year, and more than twice as many as in 2004.

You might have assumed (as I had) that last year's downturn in mergers, acquisitions and public offerings would have correlated with a decline in insider trading because there was less deal-related information to be traded on or passed around in advance of public announcements. And of course, we know what happens when we assume. The article explains:

Insider trading spiked in the late 1980s, highlighted by the 1989 mass indictment for racketeering and securities fraud of U.S. financier Michael Milken, who was ultimately charged with lesser violations.

A sharp regulatory crackdown was followed by a quiet 1990s, but the number of cases has risen steadily over the last five years. [John] Malitzis, [executive VP of Market Surveillance for NYSE Regulation], 41, said the average trader working today "was probably in elementary school" during the late 1980s crackdown.

"When a new generation comes up that wasn't front row to the lessons of the late '80s, they think it's easy to do and no one's going to catch them," he said. "But the fact is it's very easy for us to catch these folks. And I think they're learning the hard way."

So for those too lazy or ignorant to go to school on Ivan Boesky and Dennis Levine, the School of Hard Knocks is always open to new students. Your trading records? Available to regulators. Your access to advance, material, non-public information, or to others who have it? Available as well. Put them together with some investigative work, and you have an excellent chance of getting caught, even if you're outside the securities industry:

"That's where we saw a shift in our referrals -- to the relative of a corporate insider ... or a colleague, or a member of a country club, or somebody in their inner circle," Malitzis told Reuters.

A historical thread also runs through It’s Hard To Believe There Are Still Pirates Among Us, written by longtime NYSE member Bernard McSherry for Advanced Trading magazine:

[The Madoff scandal] is not the first time that a captain of Wall Street has been accused of high crimes. In the late 1930's New York Stock Exchange Chairman Dick Whitney was convicted of embezzlement from the Exchange's widows and orphans fund and other accounts for which he served as a trustee. He was disgraced and served a brief period of time in prison, but many contemporary observers felt that he got off easy. Unfortunately, his sentence is all too common. The list of disgraced financiers is long, and few of them have faced serious punishment. Over the next months, as investigators sift through the detritus of our recent financial crisis, I suspect that a few more well-respected names may become notorious. Will they get off easy, too?

As we watch the Madoff story unfold, let's not be drawn into the temptation to view this as another harmless white collar example of the rich preying upon the rich. Lives have been ruined and charitable organizations have been gutted just as surely as if a cutlass was used to coerce the victims. Meanwhile, the alleged perpetrator is under house arrest in his luxury Park Avenue apartment and will surely be marshalling a flotilla of lawyers to minimize his punishment. ...

... As our own authorities belatedly move against the perpetrators of financial piracy, the public is understandably skeptical that the Madoff affair will turn out to be one more example of a powerful figure who perpetrated massive crimes and managed to escape serious prosecution. With public cynicism at an all time high, and in the wake of shaken investor confidence, it is vital that we prosecute financial misdeeds with appropriate zeal.

Cutlass, flotilla -- McSherry's got a way with metaphor. He's also got a good point. Looking at today's markets from a historical perspective, with investor confidence at low tide (to borrow McSherry's metaphor), vigorous enforcement and prosecution are more important than ever.