Insider Trading and Public Perception [UPDATED]

In August, I noted the increased frequency of high-profile insider trading cases (click here for details). Today, The Wall Street Journal reports on a "vast insider trading probe" examining whether...

"...nonpublic information was passed along by independent analysts and consultants who work for companies that provide "expert network" services to hedge funds and mutual funds. These companies set up meetings and calls with current and former managers from hundreds of companies for traders seeking an investing edge."

Some of the firms mentioned in the Journal article include small, specialized analysts and consultants with names like Primary Global Research LLC and Broadband Research LLC, along with top hedge funds such as SAC Capital Advisors LP and Citadel Asset Management, and mutual-fund firms like Janus Capital Group, Wellington Management Co. and MFS Investment Management. And of course, Goldman Sachs... it would hardly be a financial news story without 'em.

Looks like WSJ did an amazing job breaking this story, which is likely to dominate business news in coming days. One interesting point is that, according to the Journal, the alleged insider trading ring "reaped illegal profits totaling tens of millions of dollars." While tens of millions are nothing to sneeze at, in the context of our multi-billion dollar (if not multi-trillion dollar) financial system, these profits are by no means "vast." Makes you wonder what else is out there...

But the enormity of the alleged insider trading is not the point, particularly for our purposes. Rather it's the fact that "insider trading" is hot right now... and when an issue moves to the front-burner of public consciousness, regulators and prosecutors inevitably follow.

As I stated in my August blog post:

Extrajudicial forces exert enormous influence on legal matters, be they civil or criminal... the actions of regulators are inevitably intertwined with what is considered important, meaningful or otherwise "hot" at a given moment in time.

In the white collar criminal context, therefore, what gets investigated and who gets charged -- with what and when -- are to a large extent dependent on what's considered important from a public or political standpoint. Equal application of the law it is not.

Here's what is really happening, I think: having missed out on some of the more sophisticated frauds of the past decade -- including the Madoff Ponzi scheme, of course, but also some of the CDO-style financial engineering that occurred -- regulators are now looking to score points with some "low hanging fruit." And that leads directly to good old-fashioned insider trading. Unlike a fraud in the marketing of some arcane synthetic credit instrument, insider trading is easy for the public -- and regulators -- to understand: (1) I get inside information; (2) I trade on it before it becomes public; (3) I make profits I shouldn't have. An easy story, and an irresistible story for a regulator or prosecutor (perhaps with a Guiliani-esqe perp-walk for the cameras to boot).

One problem: in the media age, when we are all awash in information, what exactly is "inside information?" The line is becoming blurrier -- we no longer have Wall Street's Bud Fox posing as a cleaning man.

And where the line is blurred, decisions regarding what, and whom, to pursue can be based as much on the "court of public opinion" as the court of law. As I wrote in my book, In The Court of Public Opinion (2d Edition, ABA Books, 2009), "prosecutors are not just building a case, they're building their careers. They tend to gravitate towards the targets that offer the best chance to score points publicly, and shy away from defendants who prove they can play the PR game as deftly as they do."