Before Rudy Giuliani became the Mayor of New York City, he was the hard-charging U.S. Attorney for the Southern District of Manhattan. His legacy as US Attorney continues to be his efforts to hold individuals responsible for crimes committed on Wall Street. He arrested and convicted many well-known traders and financiers of the time. In fact, by 1988, Giuliani had brought five times as many insider-trading cases as had ever been brought before in his district.

However, Giuliani’s legacy is also tarnished by numerous examples of forcing Wall Street executives to make well-publicized perp walks and then never bringing charges against them. At the time, defense lawyers complained of his heavy-handed tactics and the cases that were brought with minimal evidence. In 1991, the US Court of Appeals overturned a stock manipulation conviction of a stock trader for lack of evidence. Now, similar convictions are being overturned for cases that have been brought by the current US Attorney for the Southern District, Preet Bharara, who has also built his reputation on attacking Wall Street wrongdoing.

Since taking office, Bharara has arrested over 90 people who have either been convicted of, or pleaded guilty to, insider trading. However, Bharara, like Giuliani, has occasionally been overzealous in the cases he has brought.

A few weeks ago, two hedge fund execs had their convictions overturned for not being supported by the evidence. In a scathing opinion from the US Court of Appeals for the Second Circuit, the Court reversed the convictions “with prejudice,” meaning that Bharara won’t be able to retry the men.

What this case reveals is that there is a dirty little secret to insider trading: It’s not always illegal. In fact, there is actually no law on the books that bans the practice!

Instead, the ban comes under the general umbrella of securities fraud, and while prosecutors for the Securities and Exchange Commission (SEC) have attempted to expand what constitutes insider trading, courts have ruled that an insider trade is only against the law if the tippee knew that the tipper got a personal benefit from his leak.

What is baffling is that in many of these cases, the tipper was never prosecuted. Additionally, in the most recent case, the hedge-funders received the tips third-or-fourth hand, and so, had no idea who the tippers were or even if they had done anything corrupt.

So, while these traders surely were not pillars of virtue, and could have very well known they were trading on inside information, they were free to trade on it under the Court’s narrow definition of insider trading. This decision will certainly limit the government’s ability to prosecute people who trade on leaked information.


Source: The New York Times

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